China M&A: Should You Use an SPV to Acquire a Chinese Company?
Most foreign buyers should not add a special purpose vehicle to a China acquisition unless they can say what it does. A single corporate buyer that expects to hold the business for years and does not plan to bring in outside investors can often own the Chinese target directly. Every extra entity costs money to form and maintain, and time to explain to Chinese regulators and Chinese banks. The useful question is what problem the SPV solves.
Use an SPV to Solve an Investor Problem
The clearest case for an SPV is more than one investor. We had a client acquire a Guangdong electronics manufacturer with four investors on the buy side, two of whom said in the first call that they wanted out within five years. Putting all four on the Chinese company's register would have meant negotiating governance under Chinese law and, every time someone sold, going back to the company registration authority and filing the foreign investment reports that go with the change. We put a Hong Kong company on top instead. The investors hold Hong Kong shares, the Hong Kong company owns the target, and governance, distributions, transfer restrictions and drag-along rights sit in a shareholders agreement the investors and their own lawyers could read. Hong Kong transfers are not free either, since they require transfer instruments and stamp duty. What the structure bought was stability on the Chinese side, because the target's registered shareholder no longer had to change when the investor group did.
Tax can also justify an SPV, but the benefit is narrower than many buyers assume. Dividends out of China generally carry 10% withholding, and the US-China treaty rate is also 10%, so an American corporate shareholder ordinarily gets no lower dividend rate from the treaty. The Mainland-Hong Kong arrangement cuts the rate to 5% where a Hong Kong resident company directly owns at least 25% of the Chinese company's capital and qualifies as the beneficial owner of the dividend. The 5% rate requires direct ownership, and Chinese tax rules also look at whether the qualifying ownership threshold has been maintained for the required 12-month period. A buyer planning a distribution soon after closing should confirm the rate before building it into the economics of the deal.
Substance requires more care. Announcement 9 treats the absence of substantive business activity as a negative factor in determining beneficial ownership, though genuine investment holding and management can qualify. Inserting a Hong Kong company between the buyer and the Chinese target does not produce a 5% withholding rate by itself.
Do Not Expect an SPV to Hide Ownership
An offshore holding company puts a legal entity between the foreign parent and the Chinese target. It does not keep the beneficial owners from the Chinese government. Since November 1, 2024, Chinese companies have had to report the natural persons who directly or indirectly hold 25% or more of their equity, receive 25% or more of their profits or voting rights, or otherwise exercise ultimate control. Layering does not defeat the test; the analysis runs up through the layers until it reaches a person.
The ownership analysis also needs to identify any PRC-resident investors. Where a PRC resident individual establishes or controls an offshore SPV that will invest back into China, Circular 37 and the related foreign exchange rules need to be handled at the outset. A missed registration often surfaces later, when the structure needs to move money across the border and the registration problem has to be fixed first. Ask who your investors are before you decide where to form the vehicle.
Check the Target's Unpaid Registered Capital
Article 47 of China's 2023 Company Law requires subscribed capital in a newly formed limited liability company to be paid in within five years of formation. Companies formed before July 1, 2024 are subject to transitional rules. Where the remaining contribution period would extend more than five years beyond July 1, 2027, the company generally must shorten that period by June 30, 2027, putting June 30, 2032 at the outside of the adjusted timetable.
Because most acquisition targets are existing companies, China transaction due diligence should focus hard on Article 88. Where equity carrying an unexpired contribution obligation changes hands, the transferee takes on the obligation to pay, with the transferor bearing supplementary liability if the transferee fails to do so. Where the contribution was already overdue or deficient, the transferor and a transferee that knew or should have known of the problem can face joint and several liability. A buyer acquiring a target with a large unpaid subscription is buying a funding obligation with a date attached, and no offshore holding company changes that.
Article 23 comes up in structuring conversations more often than it should. It codifies horizontal veil piercing, so companies under common control can be held jointly liable where their owner has used them to evade debts and seriously harm creditors. It does not make sister companies answerable for each other merely because they share a parent, and it is neither a reason to add an offshore layer nor a reason to avoid one. Before adding a layer for liability reasons, name the specific risk you are trying to isolate.
Structure the Exit Before You Close
Selling an offshore holding company can be easier than selling the equity of a Chinese operating company, particularly when the investor arrangements already sit offshore. An offshore sale does not remove the transaction from China's tax system. Under Bulletin 7, the tax authorities can recharacterize the sale of an offshore company as a direct transfer of Chinese taxable property where the arrangement lacks reasonable commercial purpose. For a nonresident corporate seller, the resulting Chinese-source equity gain is generally subject to 10% enterprise income tax.
Economic substance matters, but it is only one part of Bulletin 7's reasonable-commercial-purpose analysis. The purchaser can also be the Chinese withholding agent where tax is due, and failure to withhold can create separate exposure. That is why the sale documents need to address withholding, tax indemnities and, where appropriate, a holdback. Bulletin 7 belongs in the analysis when the acquisition and eventual exit structure is designed.
The vehicle is one piece of the China M&A analysis. You still need to know whether the target sits in a restricted sector under China's Foreign Investment Negative List and whether the deal triggers merger control or national security review. U.S. buyers of Chinese businesses involving semiconductors, quantum technologies, or certain AI systems also need to check the U.S. outbound investment rules. An offshore vehicle does not change those rules.
If the SPV does not solve a concrete problem before closing, it probably does not belong in the deal.
