In China, there are three ways to resolve a commercial dispute: mediation, arbitration, and litigation. Foreign companies should be aware that the increasing levels of uncertainty in the country may result in a bigger number of disputes, driven by the international economic slowdown and COVID-19 related challenges.
Many Chinese companies are facing difficult times and may not be able or willing to fulfill their contractual responsibilities. This could represent a serious business disruption, with consequences for both parties.
In the past few years, mediation has become an alternative dispute resolution (ADR) method as well as online dispute resolution (ODR) – in both litigation and arbitration.
Simple negotiation between the parties is usually the best method of dispute resolution. It is the least expensive and it can preserve the working relationship. In fact, most business contracts in China include a clause stipulating that negotiation should be employed before other dispute settlement mechanisms are pursued.
When a foreign firm has trouble in directly negotiating a solution with its Chinese partner, companies sometimes seek assistance from Chinese government officials who can encourage the Chinese party to honor the terms of the contract. Companies should specify a time limit for this process. Unfortunately, negotiations do not always lead to resolution.
Mediation and arbitration are the most popular forms of ADR. However, some dispute resolution may involve a cross-interaction of the three systems, such as judicial enforcement of arbitration and mediation combined with arbitration or litigation.
As a voluntary and confidential resolution method, mediation requires a neutral person (mediator), whose main job is to assist the parties involved in negotiating a settlement agreement. A mediator cannot impose or force an agreement among the parties.
In China, mediation is not used as much as arbitration, despite being recognized as having the potential to resolve disputes in a quick, cheap, and confidential way. In the near future, this preference may change as the need for speedy resolutions is growing.
In general, companies are encouraged to use a combination of mediation with litigation or arbitration. The mediation agreement reached by the parties and confirmed by the court or arbitration tribunal is legally binding.
Arbitration is one of the most commonly used methods. It is similar to a court case decided by a judge, except that it is presided by one or several individuals that can make a biding decision about the dispute after receiving evidence and hearing arguments. It does not take place in a court room, and it is not open to the public.
In an arbitration, the arbitrator investigates the legal aspects of a dispute and arrives to a conclusion. The arbitrator’s final decision is binding on both parties, whether they agree with it or not. This is the difference between arbitration and non-judicial mediation.
Updated in 2017, the Civil Code and the Arbitration Law of the People’s Republic of China (the Arbitration Law) is the legislation that governs arbitration in the country. Some special type of arbitrations, such as labor, follow different regulations.
According to the Arbitration Law, only contractual disputes and disputes concerning property rights and obligations can be subject to arbitration.
Unless the parties can agree on arbitration after the dispute has arisen (which is often difficult), the underlying contract or separate agreement must indicate that disputes will be resolved through arbitration. Agreements to arbitrate usually specify a choice of arbitration body, which may be in China or abroad, and a choice of law to govern the dispute.
An arbitration agreement should specify in writing the expression of an application for arbitration, items for arbitration, and the chosen arbitration commission.
The court will not accept a case if there is a valid arbitration agreement, and only one party applies to the court for litigation. If the other party provides the arbitration agreement prior to the beginning of the hearing – the court shall dismiss the case. If they fail to do that, the arbitration agreement will be considered forfeited, and the court shall continue the hearing.
Arbitration awards are final. The parties cannot reapply for arbitration or request a hearing before the court upon the same matter. Both sides must implement the award. Where one party does not implement it, the other may request the court for enforcement.
A party can also apply for the cancellation of an arbitration award within six months of its receipt. Where the court has, in accordance with the law, ordered an arbitration award to be dismissed or not carried out, the disputing parties may apply for arbitration if they have reached a further arbitration agreement, or apply to have the case heard before a court.
As of September 2021, over 270 arbitration institutions operate across China. Among them, the China International Economic and Trade Arbitration Commission (CIETAC), the Beijing Arbitration Commission (BAC), and the Shenzhen Court of International Arbitration (SCIA). In 2021, over 415,000 disputes were filed for arbitration, with the total subject matter amounting to RMB 859.3 billion (US$123.8 billion).
Litigation is another dispute resolution method in China, which is handled by Chinese courts. Based on the civil law system, the litigation process in China is generally an inquisitorial one, during which the judge is actively involved in fact finding by questioning the parties.
Civil procedures are mostly governed by the Civil Code of People’s Republic of China (the Civil Code), effective since January 2021, and the Civil Procedure Law of the People’s Republic of China (the Civil Procedure Law), amended in 2021.
According to the Civil Code, three years is the general limitation period to request the court for protection of civil rights (including commercial). For example, the limitation period for bringing a suit or applying for arbitration in disputes over contracts for international sale of goods and for technology import and export is four years.
The limitation period can be suspended by certain circumstances out of the party’s control such as force majeure, but only if the circumstance happens during the last six months of the limitation period. The limitation period shall expire after six months from the date on which the causes of suspension of the limitation period are eliminated.
Businesses are advised to actively protect their rights within the limitation period.
In China, there are four levels of courts: basic level, intermediate, high, and supreme court. The country also has several specialized courts, such as military, maritime, transportation, intellectual property, and finance courts, among others. These are considered intermediate level courts.
Most civil cases of the first stance must be brought to the basic-level court. However, some civil and commercial cases with significant socio-economic impact could be brought to the intermediate or even the high court.
The Civil Procedure Law also stipulates the location of the court where the case should be brought to. Generally, the civil case should be presented before the court at the location of domicile (for individual and organization defendant) or the habitual residence (for individual defendant) of the defendant, unless otherwise stipulated.
The parties of a contract dispute or other property rights dispute may agree in writing on the selection of the court at the location of the defendant’s domicile, place of performance of contract, place of execution of contract, address of the plaintiff, location of the subject matter, or other venue that has an actual connection with the dispute – to be the court that has jurisdiction.
The plaintiff can only file with one court for the resolution of the dispute, even if two or more courts have jurisdiction.
The litigation process starts when the plaintiff can file the case with the court that has jurisdiction. The court will file the case within seven days if it meets the filing conditions. If not, the court will rule to reject or dismiss the suit. If the parties refuse to accept the rulings, they can appeal within 10 days. The court will serve a copy of the pleading on the defendant within five days after the case is accepted.
In most cases, the court will organize a mediation procedure before the hearing. If the mediation is successful, the documents are signed by the judge, the court clerk, and the relevant parties, and affixed with the court seal, and have the same effect as the judgment.
If mediation fails, the proceedings continue. The defendant shall file a reply within 15 days of receiving the copy of the pleading. Many defendants do not file a reply, which does not affect trial of the lawsuit by the court.
The judge makes a judgment after the end of the trial and the parties can appeal within 15 days. If no appeal is filed, the judgment becomes effective.
For cases that apply general procedures, the trial shall be completed within six months, from the date of the establishment of the case to the date the judgement is made. For cases applying summary procedures, the trial takes about three months. Where it is necessary to extend the time limit under special circumstances, it may be extended by one month upon approval of the president of the court.
A foreign party without residence in China can hire a lawyer or any other person in China to participate in proceedings or they can submit a power of attorney, which must be notarized by a notary in that country and have the authentication by the Chinese embassy or consulate.
Litigation and arbitration have their advantages and disadvantages. In general, the disputing parties may prefer arbitration because arbitration awards are easier to be implemented outside of China. China is a member of the United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention).
As of September 6, 2022, the number of member states to the New York Convention reached 170, covering almost all countries and regions with active commercial activities. Under this agreement, arbitral awards made in member states may be mutually recognized and enforced in those contracting states.
Arbitration procedures are more flexible, confidential and time efficient. The parties have greater autonomy and can decide on arbitration institution, place, language, and the law applicable to the arbitration procedure. They can choose the arbitrators they trust. Litigation needs to follow rules regarding jurisdiction, proceeding procedures, and applicable laws. The arbitration award is final.
In some scenarios, the disputing parties may prefer litigation. In litigation, the parties can apply for the court to investigate and collect evidence, but in arbitration, it is difficult to apply for the arbitration commission to investigate and collect evidence.
In litigation, parties that are not happy with the judgement of the first stance can appeal to the higher level of court. The arbitration award is final.
China has been exploring online dispute resolution since 2017, when the Hangzhou Internet Court was established to deal with internet-related cases through an online case administration system.
Since the COVID-19 pandemic affected the mobility of people, the Ministry of Justice (MOJ) and the Supreme People’s Court (SPC) have encouraged the court system to go digital.
In June 2021, the SPC released the Rules on Online Litigation of the People’s Court of China, which explain the applicable scope and conditions of online litigation and provides detail guidelines on each process. The Civil Procedure Law states that civil litigation can be conducted online, and online litigation activities have the same legal effect as offline.
To learn more about our services in China, contact our Head of Business Advisory - Ms. Kristina Koehler-Coluccia at kristina@woodburnglobal.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.