Recently, Ping An Bank offered the first family trust product while China Merchants Bank launched the country's first private-banking family trust, which well reflected market trend and expectations. The scenario has set a stage for family trust to declare roots and expand in China. However, we cannot be blindly optimistic about the development of family trusts in China at the current stage.
In China, there are four business sectors in financial industry: banking, trust, securities and insurance. From international experience, trust is an inevitable tool for financial institutions to develop off-balance-sheet asset management business. It should not be separated from the other three major financial businesses.
From a historical perspective, China's Commercial Bank Law, Insurance Law and Securities Law are part of a single-industry law while Trust Law is a special act under the Civil Law. In addition, the so-called "trust industry" is separated from banking, securities and insurance industries in China. Under such a scenario, the institutional features and business scope only apply to trust companies instead of forming standardized rules for the whole trust industry. It makes Chinese trust feature endogenous defects compared with internationally recognized trust business. The businesses conducted by Chinese trust companies are actually running commercial banking and investment banking services. They do not have basic features of a family trust. The definition of trust in China's Trust Law avoids change of a property ownership, which is a clear evidence of its deviation from traditional trusts in offshore jurisdictions.
Trust Law in China has not yet clearly defined the term "family trust", though the structure of it (with settler aiming to manage, pass on and protect family wealth and family members as beneficiaries) doesn't violate the related provisions of Trust Law. There are no rules or regulations in China that prohibit family trust. However, it doesn't mean family trust faces no challenges in domestic market. In fact, family trust will inevitably face a negative impact of "inefficiency" and "weakened taxation advantages" under trust regime.
Speaking of its effectiveness, as Trust Law has yet to clarify on detailed situations for necessity of registration under relevant laws and administrative regulations, registration of trust assets lacks of standardized procedure, which significantly affected the use of family trusts in China.
The boom of family trusts in overseas markets resulted from their effectiveness to avoid high inheritance tax. Although China is expected to impose inheritance tax, there are no details on how and when the tax will be applied. The taxation planning and tax saving features of trusts have yet to be fully reflected in China, making Chinese residents not so keen on setting up family trusts. With mainland Chinese wealthy families in need of trusts, we come to the conclusion that offshore trusts are "favored" in China when considering asset allocation, gross tax burden, industry trends and trust resources.
First of all, assets of affluent Chinese (funds, equities, real estate, personal property, etc.) are no longer limited to mainland China after thirty years of reform and opening up. Therefore, trust activities could occur either in the mainland China or overseas countries or regions.
Secondly, economic department under Ministry of Finance issued "Analysis and Recommendation Report for Economy Industrial Operation for First Half of 2013", showing that the taxation and fee burden of Chinese enterprises (including taxes, governmental funds, various fees and charges and social security payments, etc) accounted for 40 percent of profit, exceeding the average level of OECE countries. As China's macro tax burden is higher, real economic benefits that could be enjoyed by Chinese residents stage a decreasing trend. Data show that China's nominal per capita income of urban households posted the average growth rate of 11% while those for rural households registering a 9 percent growth during the period from 1997 to 2012. Income growth was apparently lower than the increase of taxation using narrowest parameter (11% for 1994, 15% for 2003 and 20% for 2012). The so-called "forced emigration" (including nationality and assets) is not just a joke.
Thirdly, Chinese family businesses have contributed more than half of China's GDP while their employee accounted for 75% of the total employment. In the mainland China, 84.5% of private enterprises are family businesses and three-fourths of them will face succession issue in next 5 to 10 years. But only 18% of second-generation of successful entrepreneurs are willing to take the rein of family businesses since most of them prefer Internet, e-commerce, VC and PE. Therefore, we come to a conclusion that there is a "rigid demand" from Chinese family businesses to combat the fate of "richness being unable to be extended beyond three generations".
Finally, ever since the No. 698 Circular of China's State Administration of Taxation was issued, families that have set up offshore trusts ahead are taking full advantage by changing of beneficiaries only so as to arrange indirect transfers of equities owned by Chinese citizens. It helped them by tax avoidance or optimization in China. Such successful stories have been widely spread and highlighted convenience and confidentiality of offshore trusts, by playing a positive role in promoting offshore trusts among Chinese wealthy families for asset succession. China unveiled the Law of Application for Foreign-related Civil Relations on April 1, 2011, which stipulates that "parties concerned may choose the laws applicable to trust by agreement. If the parties decide not to choose, local trust laws or laws of conclusion of fiduciary relation shall apply." It provides solid legal infrastructure for Chinese wealthy families to set up offshore family trusts due to autonomy of will.
From the above analysis of systems and phenomena, it is believable that offshore family trusts will be the preferred option among Chinese in terms of asset succession. After all, if China is not wise or open-minded enough in acknowledging and borrowing internationally recognized concepts during the reform of domestic trust system, or fails to address the hardcore of infrastructure planning, policy support and financial innovation, offshore trusts advantageous position, which have been accumulated from its long time practice, through prioritizing the contract in promoting autonomy of will, setting up a talent pool, offering tax incentives and providing a variety of services, is still difficult to be overthrown.
