The Lending and Secured Finance Review: China


The loan market in the People's Republic of China (China)2 grows steadily. However, growth has been slowed down under the deleverage policy by regulators. Pursuant to the statistics published by the People's Bank of China (PBOC), new loans given by financial institutions in 2019 reached 16.81 trillion yuan. Among them, more than half were provided to corporate borrowers.

Commercial banks are the main providers of corporate lending in China. Other institutions such as trust companies, securities firms and credit companies are also important players in the lending market. However, new loans given by such non-bank institutions have been reduced by 93.3 billion as a result of strict regulations on shadow banking.

Real estate is still the key sector that obtains loans from financial institutions, although growth has slightly declined. According to PBOC statistics, around 40 per cent of new loans granted by financial institutions in 2019 went into real estate. Individual mortgage loans accounted for around two-thirds of the total loans in the real estate sector. Loans provided to the development of social housing increased steadily with 29.5 per cent growth. Loans for commercial real estate development decreased because of macromanagement of the real estate industry.

Large banks are very active in key infrastructure and energy projects, both in China and in countries that joined the Belt and Road Initiative. Loans provided to such projects are always long-term over 10 years. Banks are becoming more and more sophisticated in structuring project finance. Several years ago, banks simply relied on the parent guarantee or the guarantee from the sponsor. Now, banks often require security over assets of, and cash flows from, the projects.

Legal and regulatory developments

i Inspections and sanctions

China, as a member of the Financial Action Task Force, is devoted to fighting against money laundering. One recent development in this regard is the issuance of the Interpretation on Several Issues concerning the Application of Laws in the Handling of Criminal Cases Involving Illegal Fund Payment and Settlement Business and Illegal Foreign Exchange Trading (the Interpretation) by the Supreme People's Court (SPC) and the Supreme People's Procuratorate, to combat criminal activities involving underground banks, which by their nature, have largely facilitated money laundering.

Due to changes to the economic landscape in China, some people are trying to transfer their funds out of China illegally. This is a severe threat to financial stability and national security. The Interpretation was released to fight against illegal money transfer and other money laundering activities. It addresses several issues concerning the application of laws in handling criminal cases involving illegal fund payment and settlement business, and illegal foreign exchange trading.

ii Opening up the financial market

On 20 July 2019, the Financial Stability and Development Committee (FSDC) issued 11 measures to further open up China's financial sector. As a follow-up, on 15 October 2019, the State Council released amendments (the Amendments) to the Regulations on the Administration of Foreign-Invested Banks and the Regulations on the Administration of Foreign-Invested Insurance Companies. The Amendments liberalise the requirements on investors of foreign-invested banks in China, expand their business scope and further ease their operation. The Amendments also relax market access for foreign investors in the insurance sector in China by removing certain requirements on the investors such as 30 years' operation.

iii Basel III – capital adequacy requirements

China implemented Basel III on 1 January 2013, pursuant to the Pilot Rules on Capital Management of Commercial Banks issued by the China Banking Regulatory Commission (CBRC). Capital requirements in China are 11.5 per cent for systemically important financial institutions (SIFIs) and 10.5 per cent for non-SIFIs.

Tax considerations

i Stamp duty

Parties to a loan agreement executed within the territory of China shall pay stamp tax at a rate of 0.005 per cent of the loan amount. If a loan agreement is executed outside China but will be used in China (e.g., for governmental registration or court enforcement), stamp duty will also be applicable.

ii Income tax

Interests received by a lender will be subject to income tax. The tax rate for a resident lender (which is incorporated in China or considered as a permanent entity in China) is 25 per cent.

A non-resident lender will be subject to a tax rate of 10 per cent, which shall be withheld by the borrower when making payment of the interest. This income tax rate may be reduced pursuant to a tax treaty between China and the country or region of tax residence of the foreign lender. For instance, pursuant to the Arrangement between the Mainland of China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income, promulgated in 2006, the income tax rate for a Hong Kong lender is reduced to 7 per cent.

iii VAT

Interest under a loan agreement is subject to value added tax (VAT) after the VAT reform in 2016. The VAT reform aimed to replace business tax by VAT in all industries, including the financial services sector. Pursuant to the Notice of the Ministry of Finance and the State Administration of Taxation on Overall Implementation of the Pilot Programme of Replacing Business Tax with Value-added Tax, which took effect on 1 May 2016, financial services, including providing a loan facility within China, are subject to VAT at a rate of 6 per cent.


China implemented the Foreign Account Tax Compliance Act (FATCA) Model 2 intergovernmental agreement. China has reached agreement in substance with the United States,3 although the formal intergovernmental agreement has not been released or come into effect to date.

In most cross-border loan transactions involving China, FATCA provisions are inserted into the facility agreement. These provisions require that, when the borrower is obliged to make a FATCA deduction, the amount of the payment due from the borrower to the lender shall be increased to an amount that (after making any FATCA deduction) leaves an amount equal to the payment that would have been due if no FATCA deduction had been made.

v The Common Reporting Standard

To fulfil the obligations under the Convention on Mutual Administrative Assistance in Tax Matters and the Multilateral Competent Authority Agreement on Automatic Exchange of Financial Account Information, the government issued Administrative Measures for the Due Diligence Investigation of the Tax-related Information of Non-resident Financial Accounts, effective from 1 July 2017. A financial institution incorporated in China has the obligation to distinguish accounts of different types to understand the tax resident status of their respective account holders or relevant controllers; identify non-resident financial accounts; and collect and submit account-related information to tax authorities and financial regulators. Banks have revised their accounts documents to comply with these due diligence and reporting requirements, but so far loan agreements have not been affected.

Credit support and subordination

i Security

The legal framework for taking security in China was first established in 1995 by the Security Law, supplemented by the Judicial Interpretation of the SPC on Certain Issues Concerning the Application of the Security Law. In 2007, the Property Law came into effect, which improved the security law regime by allowing more types of assets for security and simplifying the process for perfection and enforcement of security. Both the Security Law and the Property Law will be replaced by the Civil Code, which was passed on 28 May 2020 and will be effective on 1 January 2021. There will be some minor changes, but the framework will not change. There are three types of securities in China:

  1. Mortgages: can be created on either immovable or movable properties, including land, buildings, aircraft, ships, cars, raw materials and finished products. A mortgage must be evidenced in writing. The mortgaged property remains in the mortgagor's possession. The mortgagee enjoys priority over the mortgaged property in the event of the mortgagor's insolvency, but ownership of the mortgaged property will not be transferred to the mortgagee.
  2. Pledges: can be created in respect of movable properties or rights. Rights that can be pledged are limited to proprietary rights, including bills, certificates of bonds, certificates of deposit, warehouse receipts, bills of lading, fund units, shares, proprietary rights under intellectual properties or receivables. To create a pledge, a written contract must be signed and the pledgor needs to transfer to the pledgee possession of the pledged movables or title documents representing the rights. If the rights are not evidenced by title documents but by registration at a relevant authority, such as for fund units, shares and intellectual property, the pledge must be registered at the same registration authority.
  3. Liens: are created by law under limited situations. The beneficiary of the lien must take possession of the property in a lawful manner, otherwise it will not be entitled to the security rights over the property.

Real estate

Security over real estate is created by way of a mortgage. Real estate that can be mortgaged refers to buildings and other fixed objects on the land; land use rights; and buildings under construction.

Chinese law distinguishes between the ownership of land and the right to use land. All land in China is either state-owned or collectively owned. Land ownership cannot be mortgaged. A land use right is granted by the state to entitle a person to the exclusive use of a piece of land for a specified purpose within a specified term. The maximum term that can be granted for the right to use a piece of land varies from 40 to 70 years.

Security interests created over the real estate shall become effective upon completion of the mortgage registration. Registration of the mortgaged real property shall be made with the real estate registration authority at or above county level.

Tangible movable properties

Security over tangible movable properties can be created by way of either a mortgage or a pledge.

Pursuant to Article 180 of the Property Law, movable property that can be mortgaged includes machinery, equipment, raw materials, semi-products and products that the mortgagor is legally entitled to dispose of. Article 181 of the Property Law further provides that by entering into a written contract an enterprise a mortgagor may create a mortgage over its existing and future acquired machinery, equipment, raw materials, semi-products and products. To perfect the mortgage, it shall be registered with the company registration authority. In the absence of the mortgage registration, the security interest so created cannot defend against competing claims of a bona fide third party.

Machinery, equipment, raw materials, semi-products and products as movable properties can also be pledged. To create an effective pledge, the movable properties shall be transferred to the pledgee's possession. Possession can be either physical or constructive. As banks will not take physical possession of movable properties, a pledge is usually created by a collateral management agreement to be entered into with a warehouse keeper.


Security over shares is created by way of a pledge. The perfection procedure will be different between shares of listed companies and non-listed companies. Listed companies are registered and cleared at the securities register – the China Securities Depository and Clearing Corporation Limited (CD&S). The pledge of listed shares shall therefore be registered with the CD&S. A pledge of non-listed company shares shall be registered at the company registration authority.

Financial instruments

Security can be created over the bill of exchange and the promissory note by way of a pledge. The Negotiable Instruments Law defines a bill of exchange as an instrument signed by the issuer to order the payer to unconditionally pay a fixed sum to the payee or the bearer of the instrument at sight or at the specified date. A promissory note is defined as an instrument signed by a bank undertaking to unconditionally pay a fixed sum to the payee or the bearer of the instrument at sight.

An endorsement with remarks of the pledge must be made on the bill of exchange or promissory note to perfect the security interest. In the absence of this endorsement, the pledge created over the bill of exchange or promissory note cannot defend against the competing claim from a bona fide third party.


Security over receivables is created by way of a pledge. A receivable is defined as the right to request a payment arising out of the provision of goods, services or facilities, including the right to claim present or future monetary payment and interest thereof. Typical forms of receivables that can be pledged are as follows:

  1. claims arising from sales, including the sale of goods, the supply of water, electricity, gas and heating, and the licence to use intellectual property;
  2. claims arising from a lease, including that of movable assets or real properties;
  3. claims arising from the provision of services;
  4. toll rights arising from real properties, including highways, bridges and tunnels; and
  5. claims arising out of loans or other credit facilities.

The Property Law authorises the PBOC to register a receivables pledge. The PBOC launched an online registration system to enable the pledgee to conduct the registration.

No security can be created over any contractual rights except for the pledge of receivables.

Intellectual property rights

Security can be created over intellectual property rights by way of a pledge. Intellectual property rights include patents, trademarks and copyright. A pledge over intellectual property rights shall be registered at the National Intellectual Property Administration.

Cash deposits

Cash is in general characterised as a special type of movable asset under Chinese law. According to the judicial interpretation issued by the SPC, cash may be delivered to the creditor as security and the creditor shall have priority in applying this cash towards the satisfaction of an obligation owed to the creditor, provided that the cash is 'fixed' in the form of special accounts, sealed deposits or security deposits.

An alternative practice is to create a pledge over a certificate of deposit, which is issued by the deposit-taking bank. The certificate of deposit shall be transferred to the pledgee's possession to perfect the pledge.

Other than a pledge over a cash deposit or a certificate of deposit, no security can be created on a bank account.


Security can be created over a vessel by way of a mortgage, even if the vessel is still under construction. Mortgage over a vessel that is in excess of 20 tons shall be registered with the vessel registration authority at the vessel's nationality port.


Security can be created over a civil aircraft by way of a mortgage. The mortgage shall be registered with the Civil Aviation Administration. In the absence of registration of the mortgage, the security interest so created cannot prevail against competing claims to which a bona fide third party is entitled.

ii Guarantees and other forms of credit support


A guarantee refers to an agreement between the guarantor and the creditor that when the debtor fails to perform its obligation under the loan agreement, the guarantor will take the responsibility of repayment. There are two types of guarantees: a general guarantee and a guarantee with joint and several liability.

A general guarantee will require the beneficiary first to exhaust available remedies against the debtor, to the extent of obtaining a judgment or an arbitral award.

A guarantee with joint and several liability is not conditional on obtaining a judgment or an arbitral award against the obligor. When the obligor fails to perform his or her obligations, the beneficiary may require the guarantor to perform the obligations.

Both forms permit the guarantor to enjoy the obligor's rights of dispute under the underlying contract. That means that they are not independent guarantees.

Independent guarantees

The SPC issued Provisions on Certain Issues involving Trials of Independent Guarantee Disputes, effective from 1 December 2016, to acknowledge the increasing use of independent guarantees by Chinese banks and other financial institutions in China-related transactions.

This is the first set of rules governing the issue, operation and enforcement of independent guarantees under Chinese law. It defines an independent guarantee as a written commitment of a bank or a non-bank financial institution to pay a specified or capped amount to a beneficiary upon a demand for payment, and the presentation of certain documents that satisfies the requirements specified in the guarantee. This follows the general principles in the Uniform Rules for Demand Guarantees (International Chamber of Commerce publication No. 758).


Quasi-security is uncommon, although the following alternative structures have been used frequently in practice:

  1. security assignment: this is not formally recognised by PRC law but in practice it is common to see lenders require assignment of shares as security. Courts are now starting to recognise this practice to protect lenders' interest;
  2. factoring: banks use factoring to facilitate financing certain assets or commodity-based transactions;
  3. hire purchase: banks use hire purchase to finance leasing transactions over equipment or ships;
  4. certain assets or commodity-based transactions: banks may use retention of title as a credit support; and
  5. a separate negative undertaking letter: although uncommon, in some bilateral loans, banks may require a negative pledge provision in the loan agreement.

Credit insurance

Credit insurance is frequently used nowadays, in particular, in project finance under the Belt and Road Initiative. The China Export & Credit Insurance Corporation is the key provider of credit insurance in China and it has been very active in cross-border finance transactions.

iii Priorities and subordination

Contractual subordination

Contractual subordination of debt is possible. However, its validity is questionable because, according to a basic statutory principle, all unsecured creditors are treated equally (pari passu) on the debtor's insolvency. It is therefore probable that during the bankruptcy proceedings, courts will not uphold a contractual subordination.

Intercreditor arrangements

In a syndicated loan, the lenders may enter into an intercreditor agreement to govern the relationship between lenders, such as mechanisms for the provision of loans and the voting procedures for deciding key issues. However, in practice, an intercreditor agreement is uncommon in China. It is more common for the provisions governing the relationship between the lenders to be directly set out in the syndicated loan agreement.

Legal reservations and opinions practice

i Legal reservations

A legal opinion is usually qualified by various reservations. Under Chine law, corporate benefit and financial assistance are not issues. The most common reservations in China are the following.


An enforceability opinion is subject to all applicable bankruptcy, insolvency, reorganisation or similar laws affecting creditors' rights generally.

Registration or perfection of security

Certain finance documents shall be filed with the relevant government authority. For example, a loan by a Chinese borrower from a foreign lender shall be registered with the State Administration of Foreign Exchange (SAFE), and a share pledge shall be registered with the company registration authority.

Choice of foreign law

Pursuant to the Law on the Application of Laws to Foreign-Related Civil Relations, a party in a cross-border transaction may choose foreign law as the governing law.

Enforcement of foreign courts' judgments

Except where a bilateral treaty has been signed between China and the relevant jurisdiction, a foreign court judgment will not be recognised and enforced in China unless (1) there is a reciprocity mechanism established between China and the relevant jurisdiction for mutual recognition and enforcement of court judgments; and (2) the Chinese court confirms it neither contradicts the primary principles of Chinese law nor violates sovereignty, security, or social and public interest of China.

Limit on certain provisions

A legal opinion will include a provision setting out which clauses of the finance documents have limits on their efficacy. For example, effectiveness of terms that seek to exclude or limit a liability or duty owed may be limited by law.

Issues not covered by legal opinions

A legal opinion will not cover those areas that lawyers are unfamiliar with; for example, financial and accounting matters or taxation consequences.

ii Legal opinion practice

Domestic transactions

In a purely domestic transaction or a finance deal arranged by non-bank institutions, delivering a legal opinion is uncommon. Depending on the lenders' internal risk control, some banks may require a law firm to issue a legal opinion. For regulatory compliance purposes, a legal opinion may also be required in some transactions, such as a trust company loan using funds raised from individual clients.

In most cases, there is only one law firm engaged by the lender so the legal opinion will be issued by the lender's counsel. For bond issue deals, the issuer will engage a law firm and a legal opinion will be issued to the issuer, whereas banks as underwriters do not engage law firms.

Legal opinions for domestic transactions are different from international practice. In addition to due incorporation of the borrower and legal validity of the transaction documents, a legal opinion may also be required to cover compliance with law by the borrower in all its business, satisfaction of legal and regulatory requirements applicable for the transaction, etc.

Cross-border transactions

In cross-border finance transactions, legal opinion letters are very common. A legal opinion will include sections on background, documents reviewed, assumptions, opinions, qualifications and reliance. Legal opinions are usually given by the lender's legal counsel.

Choice of foreign law is valid and binding, and would be given effect by Chinese courts except to the extent that it would be manifestly incompatible with public policy or that the choice of law was made with the intention of evading Chinese law, which, in the absence of the stated choice of law, would have invalidated such obligations.

A foreign court judgment may be enforced in China if there is a treaty or an established reciprocity mechanism between China and the jurisdiction of the foreign court. China is a member of the New York Convention, so an arbitration award will be enforceable in China.

Loan trading

Trading of bilateral loans used to be popular among banks, particularly before 2015 when there was a loan-to-deposit ratio that did not exceed 75 per cent. This ratio was repealed by an amendment to the Commercial Banking Law in 2015. Therefore, trading of bilateral loans is less common now. When trading bilateral loans, banks are required to comply with the principle of authenticity and complete transfer. Parties should not circumvent regulation by way of signing repurchase agreements, spotting buyout options or signing forward repurchase agreements. Regulators specifically focus on the transfer of credit assets between banks and trust companies to avoid regulatory restrictions.

There is no concept of novation under Chinese law. For an assignment of outstanding loans without the commitment of new loans, a notice to the obligor will be sufficient. For transfer of commitment, the transferee shall sign a new agreement with the borrower.

As the primary market of syndicated loans is yet to be promoted, it will take time to develop the secondary market of syndicated loans. Regulatory authorities together with industry associations are actively promoting the development of the syndicated loans market. The China Banking Association has set up rules and issued standard documents to facilitate trading of syndicated loans.

The transfer of non-performing loans is now vigorously promoted by Chinese authorities, which is based on China's supply-side reform and mainly aimed at reducing the leverage ratio. There are several different methods, among which debt-to-equity swap is highly recommended. Owing to the restrictions of the Commercial Banking Law, debt-to-equity swap of credit assets must be carried out through implementing agencies, which are usually set up by a commercial bank or local government.

Other issues

i Limits on interest rate

Limits on the lending interest rate are set up by the SPC through a judicial interpretation. The upper limit is 36 per cent per annum. Any interest exceeding the upper limit is not valid and the court will uphold the borrower's requests to refund any interest exceeding the upper limit (if it has been paid). In addition, there is an alarm rate, which is 24 per cent per annum. For interest exceeding 24 per cent but below the upper rate of 36 per cent, the court will uphold neither a lender's claim of payment by the borrower if it has not been paid, nor a borrower's claim of refund if it has been paid.

ii Non-performing loans

As China's economic growth slows down, non-performing loans (NPLs) continue to rise. According to the regulatory indicators released by the banking regulator, the China Banking and Insurance Regulatory

Commission (CBIRC), the balance of commercial banks' NPLs reached 2.41 trillion yuan by the end of 2019, accounting for 1.86 per cent of the total loans. The CBIRC urges Chinese banks to make greater efforts to manage and dispose of their NPLs. Supportive policies have been consecutively enacted by the government in recent years so that more investors are given opportunities to participate in China's NPLs market.

iii Fake equity investment

Fake equity investment is an innovative method of investment, which makes debt in the name of equity investment. It is typically structured by a repurchase agreement, which promises a guaranteed redemption. This makes equity investment essentially a fixed-income debt finance. Fake equity investment is commonly used by trust companies, private equity funds and insurance companies, etc., particularly in real estate and infrastructure sectors to evade regulatory restrictions. Considering the characteristics and risks of the fake equity investment, regulators have taken measures to restrict it.

iv Foreign exchange control

The yuan is not fully convertible into foreign currency at present. Payments in foreign currency from China to offshore and the receiving of foreign currency from offshore fall under the supervision of SAFE.

Foreign debt

Foreign debt means debt owed by a domestic institution to a non-resident in the form of foreign currency. Borrowing foreign debt by a Chinese company is subject to administration by the National Development and Reform Commission (NDRC) and SAFE. NDRC filing is comparatively complicated and therefore most Chinese borrowers borrow short-term loans (with a tenor less than one year), which are subject to SAFE registration only. There is a limit for borrowing foreign debt for a Chinese borrower. Currently, the limit is twice a borrower's net assets or (for a foreign-invested company) the difference between its total investment and registered capital.

Cross-border securities and guarantees

Provision of security by a Chinese entity in favour of a foreign lender (outbound security) is subject to SAFE's administration. SAFE appealed quota for outbound security in 2014, but a non-financial entity shall register the outbound security at SAFE within 15 business days of the security document being executed. If there is any previous outbound security that has been enforced before the offshore obligor indemnified the Chinese security provider, the Chinese entity will not be allowed to provide any new outbound security unless otherwise approved by SAFE.

Outlook and conclusions

Further deleveraging and the opening-up of the financial industry are two key themes of 2019 in China's banking sector. Owing to the efforts carried out by regulators, the overall enterprise debt ratio has been decreased so as to mitigate overall financial risks. While reducing the leverage ratio and monitoring risks in the debt market, regulators emphasise and take measures to ensure that funds will flow to the real economy.

As for further opening-up of the financial market, lots of the measures proposed by the Chinese government in recent years were implemented in 2019. It is also expected that more opening-up measures will be issued and more diversified products will be available in the lending market.



1 Gulong Ren is a partner at AnJie Law Firm.

2 This chapter does not cover Hong Kong, Macao or Taiwan.

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