Multinational corporations within China are ever more concerned about the process of repatriating dividends and profits from China to their home countries, which is a strategic pivot —— a response to the evolving dynamics, with some entities contemplating the relocation of manufacturing operations to burgeoning markets such as Vietnam or India （markets that are deemed more “friendly” to the West）.

Within this context, this article delves into the legal complexities surrounding fund repatriation, offering a legal roadmap for General Counsels navigating the intricate legal terrain. This exploration serves as a guide for multinational corporations, offering a thorough understanding of the legal procedures governing dividends within PRC LLCs and the nuanced tax treatments applicable to diverse shareholder categories.

Eligibility for Dividends

In a PRC LLC, shareholders typically have an equal entitlement to dividends in proportion to their actually paid-in contribution to the registered capital. However, the articles of association can diverge from this principle, allowing unanimous shareholder agreement to stipulate different arrangements. For instance, the articles or unanimous consent can establish a disproportionate dividend distribution or designate a specific shareholder to receive all dividends.

Determining a company's eligibility to pay dividends involves a structured process, particularly in the context of a Chinese Limited Liability Company. The following steps outline the criteria and procedures:

Distributable Profits Requirement

To pay dividends, a company, especially a PRC LLC, must have distributable profits, precluding those with accumulated losses.

Financial Reporting and Audit

After each financial year, a PRC LLC is obligated to prepare a financial report, audited by a registered PRC accounting firm.

Profit Distribution Planning

The board of directors of a PRC LLC formulates profit distribution and loss recovery plans. These plans are then presented to the shareholders’ meeting or the sole shareholder for approval. This approval, unless otherwise stated in the articles of association, requires a simple majority vote.

Statutory Reserve Allocation

After-tax profits must be allocated to the mandatory statutory reserve fund. A PRC LLC should allocate at least 10% of after-tax profits to this reserve. Further allocation is not required if the cumulative statutory reserve reaches 50% of the LLC’s registered capital.

Loss Recovery

If the statutory reserve does not cover accumulated losses by the end of a financial year, profits must first be used to cover the loss. If remaining profits are positive, at least 10% must be allocated to the statutory reserve until it reaches 50% of the registered capital.

Profit Distribution After Loss Recovery

Once losses are covered, and statutory reserve requirements are met, remaining profits may be distributed to shareholders, based on decisions aligned with the PRC LLC’s articles of association and applicable law.

Rectification for Violations

Distribution of profits in violation of the specified rules requires the return of distributed profits to the company. The company cannot distribute profits to itself through shares it owns.

Cash Dividend Limitation

If dividends are paid in cash, the distributable amount should not surpass the disposable cash of the PRC LLC.

Decision to Distribute Dividends

Declaring a dividend in a PRC LLC involves a structured process, with key considerations and authorities:

Declaration Authority

The declaration of dividends, unless delegated to the board of directors, typically rests with the PRC LLC’s shareholders’ meeting or sole shareholder.

Shareholder Approval

The PRC LLC’s shareholders’ meeting or sole shareholder, with a simple majority vote unless stated otherwise in the articles of association, is competent to deliberate on and approve profit distribution plans and loss recovery plans.

Decision on Dividend Amount

The shareholders should decide on the dividend amount based on the proportion of the actually paid-in capital contribution of each shareholder. Flexibility exists if all shareholders agree on an alternative distribution basis.

Board of Directors' Role

The board of directors formulates profit distribution and loss recovery plans. While approval of these plans and the decision to pay dividends generally falls under the shareholders’ meeting or sole shareholder, the board plays a crucial role in their formulation.

Payment to Specified Bank Accounts

After declaration, dividends are paid to bank accounts specified by the shareholders.

Distribution Capacity Limitation

The declared dividend amount must not exceed the distribution capacity, calculated as the lower of the PRC LLC’s undistributed profits and its disposable cash, assuming cash payment of dividends.

Delegating Authority to the Board

While the shareholders’ meeting or sole shareholder has the authority to decide and declare dividends, this power can be delegated to the board of directors if specified in the articles of association. However, such delegation is not commonly practiced.

This procedural framework ensures that the declaration of dividends in a PRC LLC aligns with legal requirements, shareholder agreements, and the company’s financial standing, providing a transparent and legally sound process for the distribution of profits.

Senior Management Liabilities

Directors, supervisors, or senior managers failing to adhere to the PRC LLC’s articles on dividend distribution, resulting in company losses, may be held accountable. However, it's noteworthy that such liabilities concerning dividend distribution are infrequent in practice.

Directors could face criminal liability under Article 161 of the PRC Criminal Law 2020 if they present false financial accounts concealing material facts to shareholders, causing significant harm to their interests. Criminal prosecution typically requires that the act occurred within the director's area of responsibility, with demonstrated fault and at least gross negligence. Nevertheless, criminal proceedings against company organs of PRC LLCs in such cases are rare.

Prior to declaring dividends, a thorough examination of the PRC LLC’s articles of association and any applicable shareholders’ agreement is essential. These documents often contain specific provisions regarding dividends, such as authorizing another corporate body to declare dividends, obligations or restrictions on dividend payments, weighted voting and quorum requirements for resolutions, special rights of certain shareholders, and cumulative preferential rights for dividends. Directors should meticulously review these provisions to ensure compliance and mitigate potential liabilities.

Distribution Procedures

Dividends distributed to domestic shareholders must be in RMB due to the onshore transaction nature. For foreign shareholders, dividends can be distributed in RMB or another currency. If in a foreign currency, the exchange rate on the day of payment request, as quoted by the bank handling the transaction, is utilized for converting RMB into the foreign currency.

Chinese banks typically maintain mark-to-market foreign exchange rates for mainstream currencies, and the PRC LLC can remit amounts in foreign currencies with established exchange rates. Articles of association or a shareholders’ agreement may specify details, such as payments being made to the bank account specified by each shareholder in their country's currency, and remittance service charges borne by the PRC LLC.

Payments to foreign shareholders are subject to foreign exchange administration and require filing with the State Administration of Foreign Exchange, usually facilitated by the respective bank. Banks, as per foreign exchange regulations, verify the correctness and reasonableness of outbound payment requests. This involves scrutinizing audit reports and resolutions on dividend distribution to ensure compliance, with rejection of requests in exceptional situations, such as dividend distribution during loss-making periods or remittance to an overseas entity not registered as the PRC LLC’s shareholder.

Taxation

The tax treatments differ from diverse taxation scenarios applicable to different types of shareholders receiving dividends from a PRC LLC, taking into account their residency status and the presence of double taxation treaties or arrangements. Specifically, in the context of tax treatment for dividends distributed by a PRC LLC:

Dividends distributed to a PRC tax resident corporate shareholder are exempt from PRC Corporate Income Tax (CIT).

Dividends distributed to a PRC individual shareholder are subject to a 20% PRC Individual Income Tax (IIT). This tax is withheld from the gross dividends by the company and paid to the PRC tax authorities in the shareholder’s name.

Dividends distributed to a non-PRC tax resident corporate shareholder are subject to a 10% PRC Withholding Tax (WHT). However, this rate may be reduced by the applicable bilateral double taxation treaty or arrangement between Mainland China and the relevant foreign jurisdiction. The PRC LLC withholds from the gross dividends and pays WHT to the Chinese tax authorities in the shareholder’s name.

Dividends distributed to a foreign individual shareholder are currently exempt from PRC Individual Income Tax (IIT).

PureLaws Advice

Whether the journey leads to the familiar shores of home or the promising expanses of new manufacturing hubs, our commitment to providing insightful legal counsel remains steadfast. Through this legal lens, we empower General Counsels to navigate the complexities seamlessly, ensuring that the symphony of repatriation resonates in harmony with the stringent legal requirements defining the cross-border business landscape. By navigating the complex legal procedures and comprehending the varied tax treatments, multinational corporations can ensure legal compliance and fortify their financial strategies within the intricate legal framework of the People’s Republic of China. We stand ready to continue providing expert legal counsel as our clients navigate the complexities within this jurisdiction.

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