Foreign companies operating in China may find themselves in a situation that forces them to either increase or decrease their registered capital. Changing the amount of registered capital is a complex procedure that requires compliance with certain mandatory protocols and changes in business registration.
There are certain circumstances when it is beneficial or even necessary for companies to go through the process. If a company has either underestimated the registered capital needed, leading to a cash crunch, or overestimated it, leading to idle capital, changing the registered capital may be the best choice.
The registered capital refers to the total amount of equity or capital contributions to be paid fully by the shareholders when incorporating a foreign-invested enterprise (FIE), be it a joint venture or a wholly foreign-owned enterprise (WFOE). This is generally a tax-free contribution which can be paid as either cash (foreign currency or RMB) or contributed in technology, machinery, and/or other assets.
It is important to determine an adequate amount of registered capital when establishing an FIE. This amount will sustain the company’s operations during the initial investment phase, normally one to two years, until it generates enough revenue to cover expenses.
Changing of Registered Capital
A foreign investor should contribute the right amount of registered capital, not too much nor too little. This amount must be fully used for the purposes of the company as established in the business scope, and it is nearly impossible to lower the amount of registered capital.
However, when the registered capital amount is no longer aligned with the company’s business plan, it can possibly either increase or decrease -although the process is relatively time consuming.
Under China’s Company Law, the registered capital is written on a company’s business license, articles of association (AoA), and the capital contribution certificate issued to shareholders after the company’s establishment.
Any changes to the information included on the company’s business license must be registered and a new business license must be issued by the authorities.
The amount of capital contributions subscribed by all shareholders (which constitutes the registered capital) must be guaranteed when establishing a company and should comply with the registered provisions of the company’s AoA.
Increased registered capital
A liquidity issue is usually the reason why the registered capital needs to be increased. When establishing the company, underestimating the amount of money needed initially can lead to this situation.
For many companies, the amount of registered capital is directly linked to the amount of foreign debt they can take on (under the total assets to registered capital ratio system). Increasing the registered capital amount may also become necessary to secure another loan for purposes such as ongoing operations, new projects, or expansion.
Other strategic reasons may push companies to increase the registered capital amount. A higher registered capital base is also one of the key indicators of a company’s size. Increasing the company’s registered capital can influence customers’ and investors’ trust and improve the company’s overall image.
When expanding their business scope, companies may be legally required to increase their registered capital. Doing so may also be required to meet certain qualification needs, such as criteria to bid on a project or applying for a loan, among other things.
The procedures for increasing registered capital in China are relatively straightforward. The company will need to prepare an application with the State Administration of Market Regulation (SAMR) together with a legal resolution by the shareholders, revised articles of association and other supporting documents. Often a capital verification report will also be required to prove the amount of capital that has already been contributed.
Once the increase in registered capital is processed by the SAMR, a new business license will be issued. Subsequently, the company will need to update its records and business license with other authorities as well, including the bank and tax bureau.
After the registered capital has been increased with the AMR, the company can transfer the additional capital to the foreign capital account and proceed with capital injection and conversion to start using the funds.
Decreased registered capital
Excess of capital is one of the most common reasons for reducing registered capital. A company may have registered a large amount of capital and only later realizes that it does not need as much as initially anticipated.
When shareholders fail to pay their subscribed capital within the prescribed time limit, and the company has no way of retrieving it, a company may choose to reduce registered capital. This may occur when a shareholder commits to installments of subscribed capital during the company’s establishment but later is either unable or unwilling to pay the installments.
A company may also need to reduce registered capital when it needs to make a lump sum payment for accumulated debt. If a company accumulates operating losses over several years, which also cannot be made good from profits over the next few years, then it will need to reduce the registered capital to make up for the accumulated losses.
Reducing registered capital can help to increase dividends since they are distributed based on the amount of capital profit. This can happen in tandem with the one-time repayment of accumulated debt, allowing it to wipe out losses and resume dividends as soon as possible.
Additionally, when a company repurchases its shareholders’ equity, it must simultaneously reduce its registered capital and paid-in capital.
In the event of a de-merger and a certain department is spun off as a separate entity, the assets are also separated, which will mean a reduction in registered capital for the company.
Change of registered capital
The Foreign Investment Law, the Company Law, the Measures on Reporting of Foreign Investment Information, the Administrative Regulation on the Registration of Market Entities, and other relevant laws and regulations dictate the process for changing the registered capital of FIEs.
In general, increasing registered capital is easier than decreasing registered capital, which requires additional steps.
Step 1: Resolution to increase or decrease registered capital
Under the Company Law, the decision to change the amount of registered capital must be approved by shareholders representing more than two-thirds of the voting rights. The board of directors is then responsible for formulating plans for the company to increase or reduce its registered capital.
The shareholders’ meeting should revise the AoA accordingly to ensure the registered capital amount is consistent with the shareholders’ subscribed capital.
When reducing the registered capital, the amount of deducted capital that can be remitted overseas or reinvested domestically is generally limited to the paid-in registered capital of foreign investors, excluding equity such as capital reserves, surplus reserves, undistributed profits, and so on.
If the capital reduction proceeds are used to make up losses on the book or to reduce the foreign party’s contribution obligations, the amount of capital reduction proceeds shall be set at zero, unless otherwise stipulated.
Step 2: Preparing balance sheet and inventory of assets and notifying creditors (for decrease only)
After making a resolution to reduce the registered capital, the company must prepare the balance sheet and inventory of assets.
It must also notify its creditors within 10 days from the date of making the resolution and publish it in a dedicated newspaper within 30 days. Alternatively, companies can log in to the National Enterprise Credit Information Publicity System and publish capital reduction announcements through the information announcement section. The publication period is 45 days.
Creditors have the right to require the company to pay off debts or provide corresponding guarantees within 30 days of receiving the notice, or within 45 days from the date of the public announcement.
Step 3: Change of registration and application for a new business license
For both increasing and decreasing the registered capital, companies must apply for a change of registration and for a new business license at the local branch of the SAMR. However, to increase registered capital, the company must apply for the change of registration within 30 days of the resolution, while to decrease registered capital, the company can only apply for the change of registration after 45 days.
Step 4: Foreign investment information reporting
According to the Measures on Reporting of Foreign Investment Information, where there is a change in the information in the initial report and it involves a change of registration with the local SAMR, the FIE shall submit a change report through the enterprise registration system when applying for a change of registration.
Step 5: Updates with the bank
In addition to filing the changes to the registered capital amount with the local SAMR, companies must also apply for the corresponding changes in the bank at the place of registration.
After the bank completes the change, it should endorse the registration items, registration amount, and date, stamp the special banking business seal on the original tax voucher, and keep a copy with the endorsement and special business seal.
Step 6: Changing foreign exchange registration
FIEs that increase or decrease their registered capital also need to apply to the local branch of the State Administration of Foreign Exchange (SAFE) for a change of foreign exchange registration.
Another important consideration regarding the registered capital is profit repatriation. The amount of paid-up capital may affect the company’s ability to pay out dividends.
Furthermore, firms are obliged to put 10% of the after-CIT profit in a company reserve fund. This process continues until the amount of reserves within the fund reaches 50% of the registered capital of the firm. Therefore, if the registered capital is set too high, it may take the company a long time to reach this amount, which cannot be sent back to the shareholders.
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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.