Latest relaxations in the qualified foreign institutional investor (“QFII”) and renminbi qualified foreign institutional investor (“RQFII”) regimes

Authors: Richard Mazzochi, Minny Siu, Stanley Zhou, Stella Wang and David Mu

On 5 May 2020, the People's Bank of China ("PBOC") and the State Administration of Foreign Exchange ("SAFE") issued the Regulations on Fund Administration for Domestic Securities and Futures Investments by Foreign Institutional Investors ("New Regulation", as supplemented with the FAQs published by SAFE[1]), introducing the latest round of reforms to the QFII and RQFII schemes – China's two major inbound investment systems. The New Regulation will take effect on 6 June 2020.

This article summarises what you need to know about the QFII and RQFII regimes, the key changes under the New Regulation, and what they mean for overseas institutions.

PRIOR to the New Regulation: what are the existing features of the QFII and RQFII regimes?

The QFII and RQFII schemes were introduced in 2002 and 2011 respectively to encourage foreign participation in its financial markets. Below is a snapshot of the key features of the two schemes prior to the introduction of the New Regulation:

kwm-rqfii-reforms-15052020-1a

Key changes under the New Regulation starting in June 2020

The New Regulation introduces a number of key changes:

Key changes	Description
Removal of quota restrictions	Removal of investment quota restriction. Foreign institutions will no longer need to file with or seek approval from SAFE for any investment quota. Instead, after obtaining relevant qualifications to become QFIIs / RQFIIs from the CSRC, they are now only required to engage their onshore custodian to register with SAFE before opening a custodian account for cross-border investments transactions. There is a long-standing policy restriction against quota transfer or sale by a QFII/RQFII to a third party. The New Regulation is silent on this issue. Notwithstanding the removal of quota restriction, we believe QFIIs/ RQFIIs should retain control over its investment decision under its license, and not to offer non-discretionary investment management services for its clients using the QFII/ RQFII channel.
Multiple currencies allowed	QFII / RQFII may choose different options for its currency remittance into China for its capital investments, and the timing for such remittance: Remitting only foreign currency ("FX"): it must open a FX special account and its corresponding RMB special deposit account ("RMB Account 1"); Remitting only RMB: it must open a RMB special deposit account ("RMB Account 2"); Remitting both FX and RMB: it must open all the accounts described under (1) and (2) above. Under scenario (3), RMB must not flow between RMB Account 1 and RMB Account 2.
Easier and streamlined repatriation of funds	QFIIs / RQFIIs only need to execute a tax payment commitment letter for repatriation of capital and profits. Normal repatriation of investment principal and profit will be handled by the onshore custodian upon QFII/RQFII's instruction, as supported by the QFII/RQFII's undertaking for tax clearance. No audit report is required. An audit report and tax filing form are only required for final repatriation of capital and profits when the open-ended QFII / RQFII fund is wound up. No arbitrage between FX and RMB is allowed, so the types of currency to be repatriated should be consistent with the currencies injected. The streamlined and simplified fund repatriation requirements should substantially speed up the process of remitting investment proceeds by QFIIs/ RQFIIs.
More than one onshore custodian allowed	QFIIs may entrust multiple onshore custodians, provided that one principal reporting custodian is designated for their QFII investments.
Broader hedging allowed	Derivatives transactions by QFIIs / RQFIIs extend to a broader range of financial derivatives for hedging purposes generally[2]. The exposure hedged by derivatives transactions should reasonably correlate with the risk exposure of the underlying onshore securities investment.

Implications

The New Regulation follows the launch of a number of new channels for foreign investors to participate in China's financial markets without quota limits (including the Stock Connect and Bond Connect) and a series of opening-up policies in futures, securities and mutual fund sectors in China.
This development furthers China's policy of welcoming medium to long term overseas funds into the Chinese capital market.
Offshore financial institutions and fund managers may take advantage of the lift in the investment quota and repatriation process to steadily increase their holdings of onshore assets, and better take advantage of the opportunities in the Chinese market.

What's next for QFIIs and RQFIIs?

Down the track, it is anticipated that China's regulators will further expand the scope of permissible investments of QFIIs and RQFIIs to include private securities investment funds, shares traded on National Equities Exchange and Quotations, commodities futures and options, initial public offerings and secondary stock offerings. The relevant consultation is not yet finalised by the CSRC.
For further details on this topic, please refer to our article dated 19 September 2019.

King & Wood Mallesons has dedicated teams advising on issues relating to the QFII / RQFII schemes, applications for QFII/RQFII status, appointment of custodians, cash repatriation, offshore fund-raising structures (including DIMA) and complex cross-border transactions involving QFII/RQFII assets. We look forward to working with our clients on these exciting projects. Please speak to us if you have any questions.

[1] The FAQs for the New Regulation can be accessed at http://www.pbc.gov.cn/goutongjiaoliu/113456/113469/4019498/index.html

[2] Under the current rules, QFIIs /RQFIIs are permitted to use interest rate forwards, interest rate swaps (IRS) and bond forwards, as well as stock index futures for hedging purposes.