Current rules and regulations for foreign investment in real estate

How may the foreign investors operate in the Chinese property market ? There are three entry channels.

Direct investment by foreign individuals

Foreign individuals and some foreign investors directly purchase property without any separate legal entity in China. In other words, they just buy and sell after the property has appreciated in price ? it is estimated that some USD10bn has entered the market in this way in recent years. The Chinese government has realised that this can be harmful to the industry?s healthy development, and such speculation is regarded by the local media and public as one cause of recently rising property prices. The government is also concerned about the possible loss of tax revenues if too many people use this method of investment.

Local shareholdings

Alternatively, foreign investors could simply become a shareholder in a reputable Chinese developer.

Foreign Direct Investment

Under this model, foreign investors either set up a WFOE as a property development company, property management company, property sale company or property brokerage company, or setup a JV with local developers. It is estimated that some USD6bn has entered the market by this route in recent years, and it is now the government?s preferred option.

Real estate investments made by foreign investors have recently been further regulated by the Circular Jianzhufang 2006, Opinions and Regulating the Entry into and the Administration of Foreign Investment in Real Estate Market, the so-called Circular No.171 issued on 24 July 2006. Foreign investors wishing to enter the Chinese real estate business now have to establish an onshore legal entity in China. This must be either a joint venture with a domestic company that has an appropriate business licence, or establish a WFOE.

The choice will depend on what type of development is involved ? the ?development and construction of ordinary residential houses? falls under the ?encouraged? category for FDI, under the terms of the Catalogue for the Guidance of Foreign Investment Industries, and thus a WFOE is allowed. However, other types of development, notably ?construction and operation of high-ranking hotels, villas, high-class office buildings and international exhibition centres? and ?development of pieces of land? are in the ?restricted? category and require a JV.

The rules also state that foreign property investors have to prove their financial suitability to the authorities and those with a troubled past might be forbidden to engage in real estate activities. This is not unreasonable ! Standards of scrutiny may vary from area to area, however. In addition, local governments are forbidden from offering new incentives to foreign real estate investors and any current illegal incentives have to be corrected.

The new regulation does not allow a ?fixed return? clause in the Articles of Association or JV contract for this kind of enterprise. This provision has already had an impact on a number of projects in China and has reduced values on assets previously offering fixed returns. In addition, if a foreign investor acquires an equity stake of a Chinese real estate enterprise, the purchase price must be paid in full, that is not out of borrowed funds.

Real estate WFOEs have to respect some thresholds regarding minimum capitalisation. When the total investment is lower than USD10m, the WFOE has to be capitalised for at least 50%-70% of total estimated costs of the property investment, whilst the threshold is 50% for higher investments. Until the minimum registered capital is fully paid, Chinese banks cannot issue RMB loans. In addition, the WFOE cannot convert foreign currency loans into RMB. However, despite regulations, foreign companies will probably set up alternative structures in order to avoid such borrowing restraints.

Next :
Barriers to entry

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