On Regulation Of Dormant Investment In Limited Liability Company

From the earlier Commonda Contract, to dormant partnership?up to currentdormant shareholders, dormant investment has triggered numerous legalcontroversies and disputes. There has existed two different opinions about dormantinvestment whether it should be abandoned or recognized. However, it does notmake any difference whether one refutes it or approves it, the indisputable andinescapable fact is that dormant investment has extensively existed to variousdegrees in China's foreign-invested enterprises, limited liability companies,companies limited by shares and partnerships and various enterprises. In recent years,along with China's reform and opening to the outside world, various disputes causedby dormant investment have been on the increase, among which, foreign-investedenterprises and limited liability companies are more involved.In legal practice, dormant investment disputes are mainly found in thefollowing circumstances: dormant investment contract, financial contribution faults,confirmation of equity, transfer of equity, and ownership of investment interests, etc.Currently, both China's Company Law and Contract Law lack clarity in stipulation.Only two judicial interpretations involve dormant investment:“Provisions of theSupreme People's Court on Various Issues Concerning the Trial of Cases involvingDisputes Relating to Foreign-invested Enterprises (1)”(Judicial Interpretation [2010]No.9) and “Provisions of the Supreme People's Court on Certain Issues Concerningthe Application of the ‘Company Law of the People's Republic of China'(III)”(Judicial Interpretation [2011] No.3). The former is applicable for settling dormantinvestment disputes in foreign-invested enterprises; while the latter, on the otherhand, is mainly suitable for settling dormant investment disputes for companies.The enactment and implementation of the two above-mentioned judicialinterpretations have provided uniform standard and played a positive role in judgingdormant investment disputes in legal practice. However, due to the fact that the twojudicial interpretations do not mean to aim pointedly at the issue of dormantinvestment, therefore they lack overall framework and systematic design in legalsystem towards dormant investment. As for the issue of dormant investment, theregulations display roughness, simplicity and thoughtlessness. There even existsmutual contradiction and conflicts. In other words, from the point of view ofjuridical practice, there is still objective need to carry out systematic research on legal regulations of dormant investment.Theoretically, dormant investment not only conflicts with the collaboration ofshareholders in limited liability companies, but also goes against moderncommercial law representation and the principle of public notice and public trust forcompany registration. It even threatens the company's basic legal system, such ascompany's independent personality, shareholder's limited liability and legal-persongovernance structure. It would be of great importance to make use of the existinglegal theories and institutions to prevent the negative influence of dormantinvestment towards basic corporate legal system and realize the harmoniouscoordination of the legal system.The research into dormant investment involves the following legal issues:legal nature of dormant investment;the main content of a dormant investment contract and its force of law;confirmation of shareholder's qualification in dormant investment;legal relationship of dormant investor and nominal shareholder vs. companyand other shareholders;distribution mechanism over rights and liabilities between the dormant investorand nominal shareholder;the responsibility for dormant investment capital faults;the legal responsibility of the dormant investor under the circumstances ofdisregard of corporate personality;interest protection for company creditors or any third person, etc.Of all the issues above-mentioned, the research on dormant investmentcontracts may serve as the basis, cognition of the legal nature of dormant investmentmay serve as a bridge, but the key is the research into confirmation of shareholder'squalification in dormant investment. This is because, by looking at the procedure ofdormant investment, there are two layers of legal relations in dormant investment.The first layer is the contract legal relationship between the dormant investor andnominal shareholder through signing the dormant investment contract, which issuitable to be adjusted by Contract Law. The second layer is the legal relationship ofinvestment by the dormant investor's capital contribution to a company through anominal shareholder, which is suitable to be adjusted by Company Law. Due to thefact that the second layer of investment legal relationship of Company Law is builton the basis of the first layer of contract legal relationship, therefore, the way to dealwith the first layer of contract legal relationship will affect the distribution of rights and liabilities of relevant principals as well as corresponding legal responsibilities.Meanwhile, the second layer of legal relationship is relatively independent, with itsown legal characteristics, regulations and requirements.This paper takes up agreement-type dormant investment in limited liabilitycompanies as its research target, and takes the argument whether the dormantinvestment should exist or be abolished as its logic starting point. Then it analysesthe legal relationship nature of the dormant investment, the content and validity ofthe dormant investment contract, with an effort to discuss the confirmation standardsfor shareholders' qualification and specific confirmation of shareholder'squalification under different circumstances of dormant investment. Finally byfocusing on the responsibility of dormant investment capital contribution faults,piercing the dual-veil of the dormant investors and the mechanism designing ofequity trust of domant investment, the paper then puts forward propositions tosystematically establishing legal regulatory system for China's dormant investment.This paper is divided into6chapters with the following as the main contents.Chapter1IntroductionFirst of all, the chapter starts from legal disputes cause by dormant investment.On the basis of analyzing the key disputes concerning the validity of dormantinvestment contracts, confirmation of shareholder qualification, protection of theinterests of corporate creditors and other third party in good faith, it lists China'scurrent legal regulations about dormant investment, analyses the inadequacies inChina's laws of dormant investment and it goes on to explain the theory studied bythe paper and its contemporary significance.Secondly, having reviewed comprehensively the relevant data and literature ondormant investment research published both in China and abroad, the chapter gives abrief comment on the current status of studies on dormant investment. It points outthat the key problem existed in the research achievement lies in the fact that thescope of research does not appear to be extensive enough, that lacks overallsystematic framework, some specific subject research has not been carried outthoroughly and rationality, and some regulation designing is not wholly practical.Thirdly, the chapter defines the research scope and has chosen agreement-typedormant investment in limited liability company as the key research area.Finally, having identified the basic path of research, the chapter decides on thefollowing as its research methods–value analysis, normative analysis, empirical analysis, comparative study, the chapter finalizes its basic research style frompractical issue analysis to discussion of theoretic system, and then to perfection oflegal rule and regulations.Chapter2Existence or Abolition: Theoretical basis on regulations of dormant investmentThis chapter starts with the background and history of dormant investment.Based on the overall review of the main reasons, through objective dialecticalanalysis of dormant investment and through research on the two main types as“entire dormant investment and partial dormant investment” and “agreement-typedormant investment and non-agreement-type dormant investment”, the chapter holdsthe opinion that dormant investment–the socio-economic phenomenon–hashistoric inevitability and practical social needs. It's not as simple an issue as let it beor not to be. The issue should be dealt with according to each case. The chapterpoints out that those dormant investments maliciously avoiding being punished bylaw, seriously harming the nation's interest, public interest or third party legalinterest, must be banned according to law. At the same time, relevant doers should beheld responsible for civil, administrative and criminal responsibilities. Thosedormant investments that do not harm the country's interest, public interest and thethird party interest should be guided and governed through the perfection of the lawand innovation of regulations.The chapter finally points out that various types of dormant investments in reallife should be guided into legal channels in the spirit of commercial law of freedomof investment by system innovation and perfection of law, and dormant investmentshould be legalized according to the principle of freedom of contract and investment.To advocate the benefits of dormant investment, get rid of negative side of dormantinvestment, effectively make use of dormant investment as a flexible means ofinvestment to boost the economic development of China.Chapter3On Contract: Structure of Dormant Investment ContractDormant investment contract lies as the basis in dormant investment legalrelationship. The legal nature and effectiveness of dormant investment contract donot only affect the rights and liabilities of the dormant investor and nominalshareholder, but they also affect the interest of the company, other shareholders and company creditors, etc. Therefore, on the basis of defining the concept of dormantinvestment contract, the chapter also carries out discussion on the legal nature,content and legal validity of the dormant investment contract.The chapter holds the opinion that since China has not come up with specificregulations with regard to dormant investments, references should be made intorelevant legal rules of the current typical contract. It draws an analogicalinterpretation of the legal nature of dormant investment contract according to thespecific terms with regard to investment profit attribution, sharing of investmentrisks and execution of shareholder's right. As for the content of dormant investmentcontract, emphasis is placed on analyzing the main contents such as capitalcontribution, equities, investment profits, risks and responsibility of breachingcontract.Then the chapter discusses the key elements of effectiveness of dormantinvestment contract from three aspects: the subject of the contract, the content of thecontract, the format of the contract. It puts forward two basic principles: priority ofeffectiveness, comparison of legal interest. By applying these two principles, thechapter specifically analyzes the validity of5types of dormant investment contracts:evasion of limitation on investment identity, evasion of application formalities,evasion of restriction on the number of shareholders, evasion of restriction on equitytransfer and illegal acquisition of tax preferential treatment.Chapter4On Qualification: Confirmation of Shareholder in Dormant InvestmentShareholder's qualification is the basis and precondition for the investor to gainand execute shareholder's rights, materialize their investment profits and shouldershareholder's obligations and relevant responsibilities. According to Company Law,the legal relationship between the shareholder and company, shareholder andshareholder, shareholder and various sections of the company originates from theconfirmation of shareholder qualification.This chapter, starting with discussion of the meaning of shareholderqualification, comprehensively analyzes the three aspects of shareholderqualification–capacity, condition and identity. And it then explains the practicalsignificance of the shareholder qualification confirmation to the investor him/herself,other shareholders of the company, company creditors and equity assignees, etc. Onthe basis of introducing and commenting on the three major viewpoints–theory of substantive, theory of formalism, theory of distinction. In confirmation ofshareholder qualification, the chapter explicitly points out that the key element inconfirmation of shareholder qualification is the “mutual consensus” between thecompany and the investor.This chapter also sets up the mono-standard of formative exception by registerof shareholders, on the basis of specific analysis of all kinds of evidence ofshareholder qualification and taking reference to the methodology in the relativecountries, followed by exploring its content, operation and perfection. It also pointsout that, in case of dormant investments, the confirmation of a shareholderqualification should be guided by principles of the consensus from free minds of theparties, the externalization of publicity and distinction. Still on this basis, this articlefurther explores the ascertaining of shareholder qualification by a false or bogusname in dormant investments with execution of rights, without execution of rights,or non-agreement type. It holds that the core element of consent between thecorporation and the investors should justify the nominal shareholder its qualificationin agreement-type dormant investments without execution of rights and indirectexecution of rights. As for the agreement-type dormant investments with directexecution of rights, the shareholder qualification of the dormant investor should beconfirmed on internal affairs and the nominal shareholder's qualification withexternal affairs. As for the non-agreement-type dormant investment, such as aninvestment in other person's name but without permission or an investment in avirtual person's name, the shareholder qualification should be confirmed to thedormant investor.Chapter5On perfection: Legal rules and regulations for dormant investmentFirst of all, the chapter reviews all China's current legal rules and regulationsabout dormant investment. On the one hand it affirms the effectiveness andachievements obtained in the current legal rules and regulations. On the other, itpoints out the flaws and inadequacies in China's current laws about dormantinvestment. It proposes basic idea and overall principle to perfect legal rules andregulations about dormant investment.The chapter points out, perfection of legal rule and regulations about dormantinvestment should be based on the actual situation of China's current existing legalsystem and dormant investment in companies. Adhering to forward-looking attitude and systematic design, overall plan, entire framework, perfect China's relevant legalsystem, i.e. Company law, Contract law, Trust Law, General Principles of the CivilLaw and apply them comprehensively built the system of legal rules and regulationsystematically about dormant investment. On such basis, the chapter highlights theexplanation of3specific framework or system–the obligation to contribute capitalof the dormant investor and the nominal shareholder; the responsibility of faults incapital contribution; the rules of piercing dormant investor's dual veils.Finally, by applying to Trust Law, in the process of outlining the rights andobligations between the trustor and trustee, notarization of equity investment trustcontract, perfection of record system, etc, the chapter draws up a specific design ofequity investment trust for dormant investment.Chapter6ConclusionThis chapter makes a brief summary of the major viewpoints formed in thethesis and the main systems to be constructed. And it also proposes special areas anddirections deserving further research on legal regulations of dormant investment.