Exploring the Regulations on Personal Bankruptcy in the Shenzhen Special Economic Zone
By Sean Lee (Singapore Global Restructuring Initiative)
On 19 July 2021, former business owner Liang Wenjin received a ruling from the Shenzhen Intermediate People's Court that his personal bankruptcy reorganization plan was approved by the court. This made Mr Liang the first person to have a personal reorganization plan approved since the establishment of the People’s Republic of China (“PRC”) – which did not have any formal personal insolvency legislation until March 2021.
The absence of personal bankruptcy laws in China
Prior to the establishment of the PRC, the Chinese Nationalist government had drafted and promulgated a bankruptcy code based on comparative study of the foreign legislative experiences. However, with the founding of the PRC in 1949, under the leadership of the Chinese Communist Party, the communist regime set up ex novo a socialist legislation based on the model of Soviet Union’s laws.
For almost 40 years, China did not have any form of formal bankruptcy rules, whether for enterprises or individuals. However, with state-owned enterprises being provided more autonomy after the opening-up policy in 1979, China finally approved the Enterprise Bankruptcy Law in 1986, which provided formal insolvency regulations, albeit only for state-owned enterprises. It would take another 20 years before China overhauled its bankruptcy laws to provide a unified corporate bankruptcy regime for all enterprises – though personal bankruptcy (at that time) remained out of reach.
Part of China’s delay could be attributable to the view of bankruptcy being a “typical capitalist legal institution based on the principal of private autonomy and free competition economy”. To quote Frank Borman, “Capitalism without bankruptcy is like Christianity without hell”. From the lens of a Chinese legislator in the early days of the PRC, any suggestion of bankruptcy legislation would likely be seen as promoting Western agendas and the conception of individual rights, which are antithetical to the traditional Chinese concept of primacy of the group, as opposed to the individual.
However, there is also reason to understand the absence of personal bankruptcy laws from a moralistic, rather than political, perspective. Frugality is often seen as a trait of the Chinese national identity – look no further from the fact that one of the terms for frugality is also used to mean honest or moral to reinforce the nation of frugality being a manifestation of morality. Furthermore, in the eyes of the Chinese, bankruptcy is often just a business matter, and the notion of a person going bankrupt is one which could only happen overseas.
Shenzhen and the introduction of the Regulations on Personal Bankruptcy in the Shenzhen Special Economic Zone
As one of the initial five “special economic zones” of China, Shenzhen is a well-developed and mature region of China. Often viewed as the “Silicon Valley of China”, Shenzhen is China’s technology and innovation field, headquartering prominent Chinese tech giants like Huawei and Tencent.
As an entrepreneur hub, Shenzhen appears to have imported more than the business-oriented attitudes of the West. In 2020, the Chinese government announced that Shenzhen will also develop China’s first personal bankruptcy legislation since 1949, with the Regulations on Personal Bankruptcy in the Shenzhen Special Economic Zone (“Shenzhen Regulations”) entering into force on March 1, 2021.
The Shenzhen Regulations represent a comprehensive adaptation of modern (and possibly western) ideals of bankruptcy procedure. In essence, there are three main regimes available to the bankrupt individual under the Shenzhen Regulations: personal bankruptcy liquidation, reorganisation, and settlement.
The procedure for bankruptcy liquidation appears the most typical – upon the court’s acceptable of the bankruptcy application, the debtor is assigned an administrator, who shall call for a creditor’s meeting to adopt a plan for property distribution. Meanwhile, the debtor’s behaviour is restricted for a period of at least three years. Thereafter and upon the expiration of an inspection period, the debtor may apply to the court to exempt the outstanding debts. Nevertheless, the introduction of the concept of debt forgiveness of an individual in a country historically founded on the ideals of communism is significant.
Several other elements of the Shenzhen Regulations stand out. Under the settlement procedure, mediation is wholeheartedly embraced as a legitimate insolvency strategy, and any settlement agreement resulting from the debtor and all creditors may be approved by the court. Debt forgiveness is also allowed upon the completion of the settlement agreement. Additionally, the Shenzhen Regulations include articles allowing for a summary procedure for debtors meeting certain conditions to expedite the hearing of bankruptcy cases.
Even with the Shenzhen Regulations embracing the standard ideals of bankruptcy procedure, they remain uniquely Chinese. First, the Shenzhen Regulations currently only apply to natural persons living in the Shenzhen Special Economic Zone and have participated in Shenzhen’s social insurance for three consecutive years; evidently, these regulations target the honest but unfortunate Chinese entrepreneur who has made contributions to Chinese social and economic environment. Furthermore, while it is normal for bankruptcy legislation to impose restrictions on a bankrupt (including but not limited to restrictions to travel, and serving on boards or taking management positions), the Shenzhen Regulations also impose statutory restrictions on conspicuous consumption habits, legislating the behaviours of a bankrupt regarding travel (i.e. restriction on first-class or business-class travel), in entertainment (i.e. consumption in nightclubs, golf courses, hotels). Finally, in comparing the language of the Shenzhen Regulations with its previous drafts, Professor Kilborn noted the terminology used regarding the discharge of debt was neutralised from “excusing someone from duty” to “a sterile, redundant notion of simply removing (technical) liability”. Evidently, the traditional notions of primacy of the group and moral frugality remain embedded even in this piece of modern legislation.
Conclusion
Mr Liang is unlikely going to remain China’s only “success” story under the Shenzhen Regulations; there is data showing that the Shenzhen Intermediate People's Court has received more than 600 individual bankruptcy applications and there appear to be plans to improve bankruptcy protections nationwide. Is this a sign of China’s embrace of traditionally western ideals of capitalism? Perhaps, but the more defensible argument is that the Shenzhen Regulations showcase Chinese pragmatism as its primary orthodoxy. By granting Chinese entrepreneurs a complete exit for to start afresh, the Shenzhen Regulations represent a step forward in making the Chinese business environment a more competitive one and further promote entrepreneurship.