The internationalization of the renminbi was noticeably accelerated recently in light of the currency’s possible acceptance by the International Monetary Fund as reserve assets, known as special drawing rights (SDR).
China has stated that it will ramp up its efforts to establish a qualified domestic individual investor system (QDII2), as it relates specifically to the management of individual foreign exchange.
Following implementation of the US$50,000 annual quota on individual foreign exchange purchases in 2007, China is finally prepared to effectuate significant reform of individual foreign exchange management of capital accounts.
Beginning earlier this year, the government expressed its intention to relax individual foreign exchange management of capital accounts in many of its published documents. On 8 May, the State Council issued the Notice on Approving and Transmitting the Opinions of the National Development and Reform Commission (NDRC) on Priorities for Deepening the Reform of the Economic System in 2015. The NDRC’s opinions indicated a plan to: “… gradually promote the convertibility of renminbi capital accounts, expand cross-border renminbi usage, seek opportunities for launching QDII2 overseas investment pilot programmes, further improve the Shanghai-Hong Kong Stock Connect Pilot Programme and initiate the Shenzhen-Hong Kong Stock Connect Pilot Programme in due time.”
In its Renminbi Internationalization Report 2015 issued 11 June, the People’s Bank of China also proposed to “open the individual cross-border investment channels and consider launching a pilot QDII2 overseas investment programme”.
Reports from myriad financial media state that regulations on the implementation of QDII2 have been submitted to the Standing Committee of the State Council for deliberation. They are expected to be promulgated in the near future.
Critical focus areas
QDII2 refers to an institutional arrangement that allows for overseas investment conducted by qualified domestic individual investors on the condition of the inconvertibility of renminbi from capital accounts. Although relevant regulations regarding the implementation of QDII2 have not yet been promulgated, based on the provisions revealed by the media, several areas should be noted.
Pilot programmes: QDII2 will first have a pilot run in Shanghai, Tianjin, Chongqing, Wuhan, Shenzhen and Wenzhou before being implemented across the entire country. Shanghai, Tianjin and Wenzhou have served as pilot cities for experimental reforms of individual foreign exchange since 2007.
Qualifications: Persons intending to participate in the QDII2 programme must be residents of the pilot cities as well as satisfy several conditions. They must be at least 18 years of age and maintain daily net financial assets of no less than RMB1 million (US$157,000) during the prior three months. They must also pass an overseas investment and risk control ability test and have a clean record with no history of serious bad acts or outstanding court-ordered debt.
The investment threshold is deemed to be moderate. If it is implemented, it will sufficiently evidence the determination for reform.
Permitted areas of investment: Several areas are allowed for investment by qualified domestic individual investors as set out below.
- International financial investments, e.g. stocks, bonds, funds, insurance, foreign exchanges and derivatives;
- International industrial investments, e.g. green field, M&A and joint investments; and
- International real estate investments, e.g. real estate.
Under the present qualified domestic individual investor system (QDII), QDII business qualifications must be granted by regulators to financial institutions, which are primarily commercial banks and fund management companies. Individuals wishing to invest overseas thus may only purchase overseas investment products issued by QDII-qualified financial institutions. Yet these individuals lack access to capital accounts.
QDII2 is expected to largely expand the allowable areas of individual investment. Qualified investors will also be permitted to open capital accounts. These reforms will encourage globalization of asset allocation and promote risk diversification with specific regard to exchange rates and investment.
Quota restrictions: It remains unclear whether regulators will impose restrictions on the total amount of QDII2 investments allowed per year. It is likely that the quota for individual overseas investments will be no more than 50% of an individual investor’s total net financial assets.
Examination and account opening: Commercial banks will play a pivotal role in examining QDII2 businesses in the future. Individual investors may complete the examination process with commercial banks directly holding relevant documentation. A special account for direct overseas investment will be opened post-examination for the receipt, payment, settlement and sales of the investor’s overseas investment foreign exchange capital.
Individual overseas investment normally requires opening an individual account with a foreign banking institution. However, opening foreign bank accounts and being issued foreign bank cards within the territory of China is prohibited at present. In practice, Chinese citizens may only open a foreign bank account by travelling abroad to the bank in person. The People’s Bank of China may need to clarify whether individuals approved for overseas investment will be required to travel abroad to open a foreign bank account in the future.
QDII2’s pending implementation and the loosening of restrictions on domestic individual investment in financial products and real estate are creating historic opportunities for Chinese investment consulting companies and real estate enterprises with the capacity to run overseas businesses.
They will be able to use the rising wave of global distribution of personal assets set off by QDII2 to launch abroad comprehensively. In the meantime, regulators and enterprises are faced with new challenges in educating investors of their risks, and preventing cross-border money laundering.
QDII2 is an important move by China to relax individual foreign exchange management of capital accounts. It is expected that QDII2 will set off far-reaching effects on the internationalization of the renminbi and which vehicles high net-worth individuals choose for their investments. Enterprises and individuals are recommended to pay close attention to how legislation in this area develops.
Zhang Jida and Owen Yang are partners in the Beijing office of DaHui Lawyers
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