The China (Shanghai) Pilot Free Trade Zone (PFTZ) officially launched on September 29th, granting 25 Chinese and overseas companies licenses to register in the PFTZ on its first day. The General Plan for the PFTZ was announced on September 27th, with implementation rules and specific regulations to come in October. It was first approved on August 22nd, 2013 by the State Council, promising favorable currency, tax, interest rate, and other policies that will promote business activity in Shanghai and Greater China, particularly in finance, shipping, trade, logistics, and real estate industries. The PFTZ covers a total of 28 km2, encompassing four existing bonded zones in Shanghai- Yangshan Free Trade Port, Waigaoqiao Free Trade Zone, Waigaoqiao Bonded Logistics Zone and Pudong Airport Comprehensive Free Trade Zone.

In the works since early 2013, the PFTZ represents an unprecedented effort by local authorities and the central government to open China to foreign investment and trade through liberalization and reform. Its formation may also play a crucial role in negotiating China’s participation in the Trans-Pacific Partnership Agreement (TPP). It was no mistake that Shanghai was chosen as the testing ground for new policies that may be extended to all of China in a few years. As the financial center of mainland China, Shanghai has been in the frontline for experimental policies and reform and is the home to many international and domestic companies. The existing four bonded zones serve as solid foundation for the policy reforms to come.

The General Plan sets out reform in four main areas: finance regulations, investment sectors, government administration and tax, each of which is briefly summarized below. Specific policies in these areas will be announced in October. As a pilot area, authorities may consider experimental implementation of policies before sanctioning them in legislation or supplementing with implementation rules.

Finance

PFTZ will be a testing ground for free RMB convertibility, including the capital account. It will also allow the market securitization of financial assets and liberalization of interest rates for the financial market. Chinese banks in the PFTZ will be able to engage in offshore financial services, competing for business with Hong Kong. Within the PFTZ, wholly foreign-owned banks will be permitted to provide services restricted outside of the PFTZ. Multinationals will be encouraged to set up capital management centers in the zone. Overall, foreign investment will be made easier in the PFTZ with fewer governmental approvals and a simplified registration process.

Opening Up Investment Sectors

As a substitute for the Industry Catalog, in which foreign investment is restricted or prohibited in certain industries, FPTA will launch the “negative list approach”. Under the negative list approach, foreign investment will be allowed in every industry except those explicitly identified in the list. So far, the authorities have set out a list of industries that will be open to foreign investment in the General Plan. Education companies, financial institutions, travel agencies and human resources agencies may be Sino-foreign joint ventures. Rumor has it that Sino-foreign joint ventures between PRC and foreign law firms will be permitted. Wholly owned foreign enterprises (WOFEs) may establish medical institutions, specialized medical insurance institutions and entertainment venues. WOFEs may also do business in value-added telecommunications, international shipping management, game console production and sale, investment management and performance brokerage. Current restrictions on foreign investment in certain industries will be relaxed, including construction services, engineering design, financial leasing, ocean cargo transportation, and human resource agencies.

Government Administration

Within the PFTZ, the government will take on a role that supervises mid-event and post-event, instead of granting prior approval. State Council announced on August 30th that as support for the negative list policy, some government approval procedures, such as setting up and making changes to joint venture enterprises and WOFEs, will be suspended within the PFTZ for three years beginning October 1st, 2013. Taking the place of government approvals may be an electronic filing and reporting system, which will be a one step process to register and amend certain foreign invested business entities. These policies are expected to lower costs and clear up uncertainties in foreign investment in specific industries.

Additionally, a system of supervision and enforcement will be implemented for technical supervision, intellectual property, industrial and commercial supervision, tax and food and drug supervision. An intellectual property dispute resolution and assistance system will be set up. Investor rights will be protected through policy reforms that enhance fair competition, administrative transparency, and allowing foreign investors to remit investment gains freely.

Tax

PFTZ may introduce an internationally competitive tax regime. It is rumored that certain eligible corporations may qualify for a 15% corporate income tax.

Further regulations will be announced in the coming weeks. Because of its nature as a pilot project, the authorities are still seeking operational and regulatory input from industry advisors. It is likely that the first available regulations will be high level guidance with more to come as the pilot area develops.