Member Article

The National People’s Congress of the People’s Republic of China issued a draft Property Rights Law in July 2005 for public consultation. The Law is expected to be enacted in March 2006. The Law will be a pillar of the Chinese legal system. It is said that legal property ownership and rights are a novel concept in China. This may sound surprising, but is actually not when one considers that under the Chinese socialist system where there was only public ownership, private dealings and transactions were not legally recognised, and there was no room or, indeed, need for property rights. It was only in March 2004 that the right to private property was written into the PRC Constitution. There have of course been laws and administrative regulations that refer to and use the concept of property rights. However as a law that defines and systematically regulates property rights generally, this will be a first. Assets may be tangible or intangible. Under Chinese legal concepts, property rights refer to rights to tangible assets. The Law would primarily deal with rights to immovable property (e.g., land) and movable property (e.g., machinery). Intangible rights, such as right to receivables or under a contract, which are an essential part of the modern financial system, would be covered only to a limited extent. The draft Law contains 268 articles. It is intended to address 3 main issues: 1. Ownership; 2. What rights one has over one’s property? What obligations are assumed by other persons in respect of the property? 3. How to protect property rights? What legal remedies are available if property rights are infringed? The legislative aims are (a) to resolve disputes and maintain social order, by determining ownership and strengthening property protection, and (b) to maximise utilisation, to encourage people to create and accumulate wealth, by regulating property rights and obligations, and by providing a sound legal environment. On the one hand, the whole PRC society and economy are in a transitional stage, and the question “who owns what?” is often a matter of controversy. On the other, market economy cannot develop well, without clarifying who owns what, and without clear rules to ensure the safety of normal transactions. Outline The Law would uphold public ownership as the main form of ownership, and provide for other forms of ownership. The Law would protect the ownership rights of the state, the collective and private persons. “Private persons” would be defined to include citizens, sole proprietors, foreigners, persons without nationality, enterprises owned by a single person, and foreign-invested enterprises. The Law would apply to all natural persons, whether Chinese citizens or foreigners. It would apply to all legal entities, whether corporations established in China or foreign ones. No distinction is made between nationals and foreigners, and the same protection and treatment is to be accorded to all. Perhaps unsurprising, a newspaper survey found that one half of the respondents did not believe that public and private property would enjoy equal rights. The Law would be divided into 5 parts: 1. general principles, including rules on the establishment, change, transfer and termination of property rights; 2. ownership; 3. ”rights to use and benefit”, i.e., rights to hold, use and receive the income arising from immovable property owned by another person. An example would be the familiar Chinese land use right; 4. security rights: mortgage of immovable and movable property, pledge of movable property and rights, and lien; 5. possession (which would be defined as actual control of immovable or movable property). Ownership There are 2 fundamental, related issues: (a) Who is the owner of the property and what rights does he enjoy over the property and, importantly, against others? (b) How can a purchaser safely acquire ownership? A basic principle would be that the person registered on the government registry as the owner of an immovable property will be regarded as the owner in law. As for movable property, he who is in possession will be regarded as the owner in law. Both cases, however, are subject to challenge by “contrary evidence”. The certificate of ownership of immovable property issued by the government registry is evidence of ownership. However, if its content differs from that on the registry, the entry in the registry prevails. As mentioned above, the registry itself is not conclusive, and can be rebutted by contrary evidence. Land Registry The intention is to move to a single registry. It is said that there are now 6 to 7 registries for immovable properties. To achieve a single registry will involve reform of the existing registries and will therefore be left to future regulations. Until then, the parties can apply to register both land use right and building ownership at either the building registry or the land registry in the same city. These registries are required to share information. The registration authority should not require valuation of the immovable property, or the parties to attend to repeated registration on account of annual examination or any other reasons. Registration fees should not be related to the size or value of the immovable property. Interestingly, the Law would require the registration authority to be responsible for paying compensation, if it has made an error in registration and caused damage to others. The Law would require the government registry to allow inspection of the register by the holders of the rights and also affected (or interested) persons, without defining who they are. It would also require the registry to protect state secret, commercial secret and privacy. Commentators ask why any information on the land register should be regarded as commercial secret or private data that should be withheld from public inspection? The Law would say that the owner of an immovable property as registered on the government registry shall be protected by law, unless he knew or ought to have known at the time of acquiring his rights that those rights were defective. It is said that if a purchaser buys from the registered owner, believing that he has title by reason of the registration of his rights, then the purchaser will be protected and will acquire good title to the property, even if it transpires that the registration was defective. The basic principle for movable property is that ownership is transferred only when the property is delivered to the purchaser. However, rights over vessel, aircraft and vehicles that have not been registered cannot be set up against a third party acting in good faith. An important aspect of the protection of private property concerns the question of government requisition. The Law would say that the people’s government above the county level may compulsorily acquire or use the immovable or movable property of any unit or individual, if it is necessary in the public interests. Compensation shall be paid according to government regulations. If there is no such regulation, reasonable compensation shall be paid. Details are to be left to another law. The safety of purchases An important provision would deal with the safety of transactions - will a purchaser acquire good title, and under what conditions? The Law would provide that, in the cases both of immovable and movable property, a purchaser will acquire a title that is good against the original or true owner where: 1. the purchaser did not know ”or” (the intended meaning is presumably “and”) ought not to have known that the seller had no right to sell the property; 2. the purchase was for a reasonable price; 3. if the purchase is required by law to be registered, it has been registered; if registration is not required, the purchaser has taken delivery of the property; 4. the sale and purchase contract was valid. In such a case, the original owner can only claim against the person who has sold the property without his authority. This claim would in reality be worthless in many cases. However, a further provision would say that, in the case of movable property, the owner has the right to recover property that has been stolen, taken by robbery or lost. The original owner is entitled to demand return of the movable property from a purchaser within 2 years after the original owner knew or ought to have known about the loss of the property. Where the purchaser has purchased the property by auction or from an operator or business which is qualified to operate or do business, the original owner is required to pay the purchaser his expenses. An example given by commentator is a department store. These provisions would however be subject to any contrary provisions in other laws. The provisions protecting purchases may not apply to benefit a creditor taking a security. For example, the Law would say that properties that may be mortgaged are those that the mortgagor has the right to dispose of or deal with. Security rights An innovation of the Law would be to: • permit the mortgage of buildings, vessel and aircraft, while they are in the course of construction; • allow enterprises to mortgage existing and future movable properties; • specify that both raw materials and finished products can be mortgaged. According to the research bureau of the People’s Bank of China, PRC enterprises hold some RMB 1.1 trillion worth of stock and account receivables. To require the company to hand over stock in order to establish a good security will not work, since the company needs to do work on them and to sell them to obtain cash flow. It will be cumbersome for the creditor, e.g., a bank, if he is required to take possession of the stock and therefore to provide for their storage. Companies need to hold onto and deal with stock and, at the same time, to be able to use them as security for financing. The permission to mortgage future property would address the issue for stock, and would also provide what is in effect a floating charge over those movable properties that can be mortgaged, i.e., machinery and transportation vehicles, in addition to those mentioned above. The Law would provide that a mortgage of future properties cannot be set up against a purchaser who in the normal course of business has paid the price and taken delivery of the mortgaged property. The requirement to have taken delivery would prejudice the purchaser who has paid before taking the goods. This may follow from the principle that rights to movable property depend on possession, but does not seem fair or necessary in this context. The new Law could raise another problem, by reason of its insistence that the rights to movable property belong to the person who actually controls the property, subject only to proof to the contrary. A mortgage is an efficient, convenient form of security precisely because the creditor is not required to hold the mortgaged property. However if whoever holds the mortgaged property is regarded at law to be its owner, would the creditor lose its security under a valid mortgage to a purchaser who has taken the property? It is not clear what amounts to contrary proof against the purchaser in this case. The interaction with registration, where this is provided for in the case of the property in question, is also unclear. The Law would not deal with account receivables, other than to permit a pledge of the right to collect toll from a road, and to collect fees from an electricity grid. The right, e.g., to operate and manage the toll road, is however not included. The Law would not clarify whether other intangible rights, such as rights to trade receivables or under a contract generally, can be pledged. Another concern is that under the existing laws, creditors are not able to enforce their security in an efficient manner upon default by the borrower, since to take possession of mortgaged property and to sell it both take a long time and are costly. Unfortunately, the draft Law says nothing in this regard. A mortgage will be discharged, if it has not been enforced within the limitation period during which a legal action can be brought to recover the debt. The limitation period under PRC civil law is generally 2 years. Debts secured by both guarantee and mortgage The 1995 Security Law provided that where a debt is secured both by a guarantee given by a person and a mortgage over property, the guarantor is only liable for any part of the debt which exceeds the value of the mortgaged property. If the creditor gives up the mortgage, the guarantor’s liability is released to the extent of the value of the mortgaged property given up. Creditors will try to obtain as much protection as possible, by taking guarantees and, if available, security over assets. The availability of good security not only reduces the risks of default to the creditor, but also lowers the interest rate on account of the reduced risks, to the benefit of the borrower. The new Law would say that where there are both a guarantee and a mortgage, the creditor can enforce them in accordance with the agreement between the parties. In the absence of agreement, if the mortgage is provided by the borrower, the creditor shall enforce the mortgage first. If the mortgage is provided by a third party, the creditor can enforce both guarantee and mortgage. It is not clear if the new Law merely sets out the order in which guarantee and mortgage can be enforced, or in effect says that the guarantor is liable for the full debt. Can the mortgagor sell? The 1995 Security Law said that a mortgagor who wishes to sell the mortgaged property should inform the creditor and, if the price is manifestly lower than the value of the mortgaged property, the creditor can demand additional mortgage. The mortgagor cannot sell, if he does not provide additional mortgage. It follows therefore that the mortgagor can generally sell the mortgaged property without the creditor’s consent. The new Law would correct this and say that a sale without the creditor’s consent has no effect. However, does this mean that an innocent purchaser or mortgagee will not acquire good rights? Share pledge The 1995 Security Law provided for registration of a pledge of the unlisted shares of a limited liability company at the company’s shareholders’ register. It is said that in practice, third parties cannot know if the shares have been pledged, and sometimes the management of the company refuses to register the pledge. What sometimes happens is that a note of the pledge on a piece of paper is all that could be done to try to satisfy the requirement to register at the shareholders’ register which is non-existent. The new Law would rectify these problems, by providing for registration at the state administration of industry and commerce. Adjoining owners The Law would have a chapter dealing with neighbours’ legal rights and obligations. It would say that buildings should not be constructed so as to interfere with the ventilation of, and sunlight on, adjoining buildings. It would say that building construction, laying of pipes and other installation works should not endanger the normal use and safety of adjoining buildings. The adjoining owners are entitled to demand the owner on whose behalf the works are being undertaken to provide security. Further, an owner is required to compensate the adjoining owners for any harm caused by its use and disposal of water, passage through the adjoining property, laying pipes running through the adjoining property and apparently other actions affecting the adjoining owners. For these purposes, owners include users and occupiers. How these provisions will work out in practice will remain to be seen. High-rise multi-storey buildings The Law would stipulate that the ownership of clubhouse and car parking spaces is to be agreed between the parties. In the absence of clear agreement, they belong to the co-owners, unless the developer can prove that they belong to it. The co-owners may hold owners’ meetings and elect an owners’ committee. The co-owners may change the building management company appointed by the developer. The owners’ meeting may sue in respect of acts that harm the joint interest of the owners, or a breach of contract by the building management company, if two-thirds of the owners agree. An owner may also sue in his own name. Other innovations Effects of a contract The existing laws say that a contract regarding immovable property has no legal effect, until and unless the contract has been registered at the relevant registry. One can understand that an unregistered contract has no effect over the land. However, there is no reason why the contract, which has been agreed and signed between the parties, should not have legal effect as between them. The strange result seems to follow that one party can refuse to perform a signed contract, by simply refusing to attend to registration. The Law would clarify that the contract is valid as between the parties, although it would not affect the land before it has been registered. The emphasis on registration will however mean that a transaction affecting land cannot be regarded by the purchaser or financier as completed on signing of the contract, but only when registration has been effected. One practical reason is because PRC registries require both the vendor and the purchaser (and mortgagor and mortgagee) to attend to the procedures to register the contract, e.g., under the Shanghai building and land registration regulations (amended April 2004). The purchaser himself would not be able to obtain registration. Moreover, one acts at one’s risks to regard registration with a government body in the PRC as a simple procedural issue or forgone conclusion. If the vendor sells again before he completes the registration of the first contract, and the second purchaser with the vendor’s help obtains registration, it would be the second purchaser who obtains a good title. Registration of objection The Law would provide for registration of an objection to the content of the registry by an affected (or interested) person. The registry shall register the objection, if the registered owner agrees (commentators have pointed out that this will be extremely unlikely to happen in practice) or if the people’s court gives an order to register the objection. Within 3 months of the registered owner’s agreement to register the objection or within 15 days of the court’s order to register the objection, the objecting party must bring proceedings in the court or apply to correct the registration; otherwise the registered objection ceases to have effect. The objecting party is required to compensate the owner, if wrongful registration of an objection causes damage to the owner. Construction land use rights The Law would introduce a new term “construction land use rights”, to distinguish land on which residential, commercial and other buildings and structures may be erected from agricultural land and unutilised land. Construction land use rights are all granted for a limited term, e.g., not more than 70 years for residential use. The Law would clarify that if the user wishes to continue to use the land, he should apply for renewal one year before the expiry date of the term. The draft Law is silent on the period for which a renewal may be granted. It is also silent about what will happen to the buildings erected on the land if no renewal is granted or applied for. It says that the government should agree to renew, unless it is necessary to repossess the land for public interest reasons. Transfer or sale fees would be payable on renewal. It would seem to be clear that the Law, when promulgated, would be an important source of legal rights in the ever-expanding PRC economy.