The Minutes of the National Court Meeting on Hearing and Deciding Civil and Commercial Cases (usually called “Ninth Civil Meeting Minutes”) published by the Supreme People’s Court in August 2019 shows negative attitudes to early payment of capital contributions.In addition to this general provision, Ninth Civil Meeting Minutes specifies that in case of malicious extension of the capital contribution period with the intention to avoid the capital contribution obligation shareholders may be required to make early payment for their capital contributions.

We represented a client in a share transfer case in 2017. We argued that as the defendant was a company with no ability to pay debts the two shareholders should be liable for paying debts owed and unpaid by the company within the limitation of their subscribed capital contributions and the court accepted it. We finally protected our client’s benefits by studying special features of the case in the background of judicial disapproval for shareholder obligation of early payment of their capital contributions.

Brief description of the case facts

The plaintiff MND Group Ltd. and the defendant Shanghai ZY Water Treatment Equipment Ltd. (“Shanghai ZY Company”) signed a Share Transfer Agreement on 15 April 2015 to transfer the plaintiff’s 53% shares in MND Group (Shanghai) Water Purification Technology Ltd. to the defendant Shanghai ZY Company at the price of RMB 11,500,000 by paying RMB 2,870,500 before 14 April 2015, RMB 2,870,500 before 14 October 2015 and RMB 5,750,000 before 14 April 2016 in addition to default penalty of 1% per delayed day. After the signing of the agreement, the plaintiff reminded the defendant Shanghai ZY Company of paying these amounts several times and received no response.

Before filing the action, we found out Shanghai ZY Company had lost the ability to pay debts. Further investigation showed that the defendant ZY Company changed its registered capital from RMB 1,000,000 to RMB 20,000,000 on 3 April 2014. According to Articles of Association of the defendant’s company, shareholder Ye contributed RMB 12,400,000 and held 62% shares and shareholder Lin contributed RMB 760,000 and held 38% shares, with the RMB 19,000,000 capital increase to be paid for before 14 November 2015. Shanghai ZY Company amended its Articles of Association on 2 December 2015. According to the amended Articles of Association,the capital contribution payment period was due on 1 November 2035 and the business term was changed to 30 years.

As of the date when the action was brought, neither of the shareholders Ye and Lin paid for the RMB 19,000,000 capital increase, of which Lin owed RMB 11,780,000 and Ye owed RMB 7,220,000. Therefore, we included Lin and Ye in the defendant group and claimed that both of them should be liable for paying debts owed and unpaid by the company within the limitation of their subscribed registered capital.

Key issues

Key issues that were argued about during the hearing were whether the shareholders of Shanghai ZY Company should be liable for paying debts owed and unpaid by the company within the limitation of their unpaid capital contributions and whether they should make early payment of their capital contributions.

During the hearing as the defendant’s lawyer we argued on its behalf that as Articles of Association of Shanghai ZY Company dated 3 April 2014 stated that the capital contribution payment period was due before 14 November 2015, debts of RMB 11,500,000 owed by Shanghai ZY Company to the plaintiff MND Group began to accrue on 15 April 2014 and Shanghai ZY Company changed the capital contribution payment period on 2 December 2015 so that debts of Shanghai ZY Company owed to the plaintiff began to accrue before the change of the capital contribution payment period, in which case shareholders should be liable in civil law for paying debts owed and unpaid by the company within the limitation of their capital contributions and interests as set out in Articles 13, 19 and 20 of the Regulations (III) of the Supreme People’s Court on Several Issues Relating to the Application of the Company Law.

For creditors shareholders’ failure to pay for their capital contributions due but unpaid is a default that is objective and unchangeable regardless of amendment of the company’s Articles of Association or extension of the capital contribution payment period because agreement between shareholders is not against outside third parties. Therefore, outside creditors could not have lost their right to hold shareholders liable for paying debts owed and unpaid by the company only because the shareholders amended the company’s Articles of Association, or otherwise it is unfair to the creditors. Based on the above we believe that the plaintiff MND Group as creditor had the right to hold the two shareholders of Shanghai ZY Company liable in the Legal Interpretation III of the Company Law for debts that began to accrue before the amended Article of Association was filed with the recordation authority. 

Court decision

Shanghai Songjiang District Court supported all the plaintiff’s claims in the first trial, deciding that Shanghai ZY Company should fully pay the share transfer price to the plaintiff MND Group and the two shareholders should be liable for paying debts owed and unpaid by the company within the limitation of the capital contributions they had not paid for. The defendant didn’t appeal against the first-trial court decision.

What’s more

In a speech on 24 December 2015 Yang Linping, head of the civil court 2 of the Supreme People’s Court disagreed that in the registered capital subscription system shareholders have the obligation of early payment of their capital contributions. She noted that “courts should explain to parties involved that creditors have the right to commence the bankruptcy process against companies that cannot pay their debts by fund raising or their shareholders making early payment of capital contributions”. Accordingly, in the (2014) Z.S.F.M.2.C.Z.No.243 judgement delivered by the People’s Court of Shifeng District, Zhuzhou City, Hunan Province and the (2013) H.M.2.C.Z.No.00060 judgement delivered by the Intermediate People’s Court of Haozhou, Anhui Province, the courts found that creditors could not hold shareholders liable for paying debts owed and unpaid by the company before payment of their capital contributions were due.

In similar cases shareholders of a company with debts owed and unpaid cannot be held liable for early payment of their capital contributions until the bankruptcy process is commenced or there is proof of shareholder’s malicious extension of the capital contribution payment period with the intention to avoid their obligation to pay capital contributions.