China reinforces personal liability of business executives
China’s economic growth and its increased tendency to use technology, have pushed local authorities to review and update laws to be able to reflect the greater complexity of its economy. In recent years, there has been a structural change of approach towards liability issues that emphasizes personal accountability of executives.
The government’s intentions to change the “anything goes” culture that prevailed in the business community, left many foreign and domestic professionals at risk in their daily operations.
The General Principles of Civil Law states that “a company shall assume civil liability for the business activities of its legal representatives and other employees”. This is known as vicarious liability.
Liabilities which arise from operational activities shall be generally assumed by the company, and by extension the legal representatives or senior officers of the company.
Chinese lawmakers have been hard at work, updating laws and regulations which have imposed a series of new obligations upon companies and by extension their executives.
Some of the areas that have been highly regulated and have introduced new sources of personal liability for corporate officers are privacy, cybersecurity, environmental protection, e-commerce regulation and foreign investment.
One example is the adoption of the Environmental Protection Law (2018) and related implementing regulations, which establish that companies can be more self-regulated and are not required to apply before qualified institutions. However, post-event supervision, such as onsite inspections, are imposed by local authorities which can decide the penalties to be given.
Food safety and enforcement of custom rules have generated numerous examples of Chinese and foreign executives arrested and sentenced to prison for period exceeding 10 years, even in cases where no victims suffered from the alleged illegal operations.
The Cybersecurity Law of the People’s Republic of China (2017) and related regulations created a special cybersecurity obligation on operators of a critical information infrastructure, who shall set up a security management body and designate a person in charge of safety in the company.
Security background checks must be conducted on the person in charge and other key security management personnel.
Several criminal and administrative liabilities have been established to enforce this new set of laws, most notably under the Personal Information Protection Law (PIPL), whereby the Data Protection Officer (DPO) will be held jointly liable along with the firm and its senior officers for any breaches due to negligence.
Similar actions are included in the newly revised Environmental Protection Law (2018) and Work Place Safety Law (2018).
Recently, due to the COVID-19 pandemic, regulations to fight the virus outbreak have generated significant liabilities for managers, including criminal ones.
In China, personal liability can be divided into civil, administrative, and criminal liability.
Civil Liability: The Company Law stipulates that a director or member of “senior management” that fail to fulfil their obligations as established in the articles of association or by law, shall compensate the resulting damages caused to the company.
Administrative Liability: Article 49 of the General Principles of Civil Law states that when a company commits serious wrongdoings, the legal representative may personally be subject to fines, administrative sanctions, and/or criminal sanctions.
Criminal liability: if the company is in breach of the Criminal Law, the “person in charge” and the “person directly responsible” may also be subject to criminal sentences, as the “Double-Penalty” principle is applied to most of corporate crimes.
During corporate investigations there are several enforcement measures that are likely to be imposed by the authorities depending on the case and the individuals involved. These could include administrative detention, international travel bans, restrictions on high consumption (flights/fast train), and/or, restrictions on serving as legal representative or management positions.
The General Principle of Civil Law states that when the company commits serious wrongdoings, the legal representative may personally be subject to penalties.
According to the Company Law, “where any circumstance, in violation of the provisions of this Law, constitutes a crime, the criminal liability of the legal representative shall be investigated”.
Such personal liability is due to the fact that the legal representative is invested with the power of representation of the company towards third parties and allegedly acts on its behalf.
Directors and board members may also be held liable for the actions of a company. Only in such circumstance, if a director is not the chairman of the board, an executive director and/or they are not recognized as the person in charge, may their liability be limited, and it is likely only to be waived following judicial proceedings.
Any employee who is the actual decision maker or who could stop the wrongdoings is also held responsible by many sector-specific laws in China, including without limitation the Criminal Law, PIPL, Food Safety and Environmental Protection Law.
The shareholder who does not directly control the operations of the company by serving any corporate positions may also be recognized as the person in charge if he or she retains an effective control over the company through contractual arrangements, such as an investment agreement.
In order to minimize risks, companies should evaluate their strategies, and review and update their corporate structure. Rethinking the organization chart and the chain of responsibilities is necessary to put in place healthy reporting.
At the individual level, executives should examine their actual powers and responsibilities as defined by power of attorneys, board resolutions, internal documentation and employment contracts.
Another important step is to develop a contingency plan to ensure continuity of operations in the event that local management is under investigation. A culture of compliance should be promoted and implemented by managers to ensure the company’s future and integrity.
To learn more about our services in China, contact our Head of Business Advisory - Ms. Kristina Koehler-Coluccia at email@example.com.
DISCLAIMER: All information in this article is verified to the best of our ability and is assumed to be correct at time of release; however, Woodburn Accountants & Advisors does not accept responsibility for any losses arising from reliance on the information provided within. The information provided is for general guidance and does not replace specialized advice.