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Cross-Border Forex Cash Pooling in the Shanghai FTZ

Trade Advice

One often overlooked feature of the Shanghai FTZ is the unique advantages it affords foreign investors for transferring funds between their China domestic and overseas entities via two-way cash pooling. This refers to a transaction in which banks facilitate multi-national companies in moving capital between their onshore subsidiaries to an offshore headquarters (or vice versa) via inter-company loans. Companies use cash pooling for a variety of purposes, such as to deploy greater liquidity, more efficiently manage finances, or obtain a better deposit rate than in the revenue’s country of origin.

Cross-border forex cash pooling only recently became possible in China with the lifting of the ban on such activity in the Shanghai FTZ in February of this year. While the People’s Bank of China has announced that cross-border RMB cash pooling will soon be available nationwide, the FTZ retains the unique ability to offer forex cash pooling.

The following are the basic requirements for setting up a cross-border cash pool:

•    All companies involved must have positive equity.
•    The participating company must be part of the same parent company (i.e., cannot be in a Sino-foreign JV). If the overseas company has multiple subsidiaries in China, only one may be identified as the cash pool header.
•    The cash pool header must be an enterprise registered in the FTZ
•    Funds transferred into China via the cash pool must be used for the company’s working capital.

In one of the first high-profile cases of a foreign company successfully establishing a cash pool in the FTZ, French electronics distributor Sonepar made its first cross-border RMB transfer in June, after only a little more than a week’s time between the final mandate to the initial transfer.

Companies established in the Zone specially benefit from relaxed restrictions on the percentage of their shareholder equity which may be loaned to their offshore entities (50 percent inside the Zone, as opposed to 30 percent outside of it). This refers to the balance between the total amount of investment and registered capital minus the balance of outstanding loans taken out from abroad. The cap on forex transfers is raised for funds to be invested in the FTZ itself or outside of China.

The interest rate on the loan may be freely negotiated between the lender and the borrower, but must be based on the arms-length principle. Enterprises are advised to consult with their local tax bureau to obtain more information on market interest rates.

A WFOE can use cash pooling to remit undistributed profits to a foreign related company with which it has an equity relationship. The WFOE’s interest income will be subject to 25 percent CIT and 5.6 percent BT, although the CIT paid in China may later be used to offset income tax liability incurred in the foreign country if there is a DTA in place. Additional costs include a stamp duty charged on the initial bank agreement signed by the enterprise at a rate of 0.005 percent of the contract, as well as a bank commission.

Establishing a Cash Pool in the Shanghai FTZ

The procedure for establishing a cash pool differs between RMB and foreign exchange denominated transfers. In both cases, the participating enterprise must sign a contract with a bank in China stipulating the terms of the inter-company loan and describing the enterprise’s size, revenue, and the purpose of the loan. While a term limit of one year applies, this may be extended with permission from the bank. To obtain this agreement, the company will need to submit a copy of its business license and a board resolution in favor of establishing the cash pool.

(1) RMB cash pooling
An agreement must be signed between the cash pool header and a bank in China, through which the participating enterprise may open a special “domestic header account” for RMB cash pooling. The funds used in the cash pool can only be obtained from business operations and industry investment (e.g. dividends), rather than financing. The cash pooling arrangement must then then recorded with the People’s Bank of China Shanghai, following which funds may be freely transferred. The participating enterprise will be asked to sign an agreement on obligations/liabilities in relation to money laundering, counter-terrorism financing and anti-tax evasion.

(2) Foreign exchange cash pooling
Foreign exchange cash pooling may only be completed by a company registered in the Shanghai FTZ and must be filed in advance with the State Administration of Foreign Exchange (SAFE), in addition to the bank agreement as required for RMB cash pooling. The participating enterprise must open two special bank accounts: a domestic header account and an international header account. During a cash pool transfer, funds must first be placed in the domestic account, then transferred into the international account pending SAFE approval.

This article was first published on China Briefing.

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By Matthew Zito, DezanShira & Associates