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Private Equity Investment by China's Insurance Companies: Analysis on the Legal and Tax Environment, Supervision and Implementation


By Tian Hui, Research Institute of Finance, the DRC

Research Report No 91, 2009

I. China's Relevant Laws, Regulations and Policies Governing Equity Investment by Insurance Companies

Before 2006, China had quickened its pace in broadening the channel for utilization of insurance funds. However, the funds mainly focused on securities investment, including expanding the proportion and category of bond investment and allowing insurance funds to directly invest in the stock market. In practice, the investment portfolios of insurance companies focused on the securities investment as well, with investment in fixed deposit, bonds, stocks and mutual funds accounting for approximately 90% of total investment. The government also prohibited insurance companies from being engaged in non-securities investment.

In March 2006, China Insurance Regulatory Commission (CIRC) promulgated the Pilot Administrative Measures for Indirect Investment of Insurance Funds in Infrastructure Projects, allowing insurance funds to indirectly invest in infrastructure projects by purchasing the investment plans established by specialized institutions and entrusting the investment management to such institutions. Since then, insurance funds have entered the fields related to industrial investment. Not long after that, the State Council promulgated Proposals on the Reform and Development of the Insurance Industry, encouraging insurance funds to invest in real estate and venture capital enterprises on a trial basis. This policy has for the first time allowed insurance institutions to enter into equity investment business. In July, four insurance companies, namely Ping An Insurance Company, China Life Insurance Company, the People's Insurance Company of China and Taikang Insurance Co., Ltd, were first allowed to invest RMB12 billion in infrastructure projects on a trial basis. In September, CIRC issued the Notice on Equity Investment in Commercial Banks by Insurance Institutions, first lifting the ban on insurance companies' investment in the equities of unlisted commercial banks. However, so far the CIRC has not released similar regulations on insurance companies' investment in the unlisted equities of non-bank enterprises. It only approved some of such investments on a trial basis one by one. In practice, there were some cases of such investments, for example, four insurance asset management companies, including China Ping An, jointly invested in the project Beijing-Shanghai high-speed railway, and China Life Insurance invested Bohai Industrial Investment Fund.

The spreading and impact of the financial crisis has propelled the regulatory authority to further ease the restriction on insurance companies' equity investment. To be specific, there are two driving forces. First, the government expects insurance funds to play a more important role in the difficult times. Second, since the financial crisis is eroding its profit proceeds from securities investment, the insurance industry has a desire to increase private equity (PE) investment in a bid to seek new source of profit growth, diversify the risk arising from high concentration of investment field, and improve the asset-liability matching. At the end of 2008, the State Council allowed insurance companies to utilize at most 8% of their insurance funds to invest in unlisted equities, mainly including infrastructure investment and investment in the equities of unlisted enterprises, with a total amount of approximately RMB200 billion yuan. The equity investment in infrastructure and in other areas each accounted for RMB100 billion yuan1. That means the legal and policy conditions have become basically mature for China's insurance companies to move into PE investment.

II. Analysis of Relevant Legal and Tax Environment

Legal and tax environment is of particular importance to the development of PE market in any country. Though China's PE market achieved a rapid development and related legal and tax environment was improved in recent years, there were still some tangible problems. In this part , the author evaluated the legal and tax environment for the development of China's PE market using the EVCA system2. Two points of time, i.e. July 1, 2008 and July 1, 2009, were selected to make comparison with Europe and reflect the latest progress. See the table below for the results.

Evaluation of Tax and Legal Environment of China and Europe for PE/VC Market Development


Tax and legal environment for limited partnership enterprise and fund management companies

Tax and legal environment for investees

Tax and legal environment for retaining the talented people of investees and fund management companies

Comprehensive score

Pension fund

Insurance companies

Fund structure

Tax incentive

Average score

Company incentive

Fiscal R&D incentive

Average score

Talent retention

Average score

European average (July 1, 2008)












China(July 1, 2008)












China(July 1, 2009)












Judging from the evaluation results, the major legal and tax barrier that stands in the way of PE investment has been basically dismantled in China, and the preferential treatment provided by the country in respect of legal and tax environment is not obviously less than the European average. Major points are illustrated as follows.

1. China's legal and tax environment for PE market development is improving

According to the evaluation of China by EVCA system, China's legal and tax environment for PE market development achieved a score of 1.99 on July 1, 2008, which was below the average of European countries. Since the second half of 2008, however, driven by many new policies (for example, the rules allowing insurance companies to invest in the equities of unlisted enterprises, and some rules on deduction of R&D expenses before tax), China's score increased slightly to 1.89, which was close to the average (1.85) of European counties in mid-2008.

2. In some key areas, China still has much room for improvement related to the legal and tax environment for PE market development

To further analyze the score of each item, it could be found that China was obviously less than the European average in terms of some key indicators, mainly including:

First, policies governing insurance companies and other institutional investors. In the international market, insurance funds are an important source for PE investment. Though the State Council had already allowed insurance companies to invest in the equities of unlisted enterprises at the end of 2008 ., mainly including infrastructure investment and equities of unlisted enterprises, there are stricter restrictions on the proportion, projects and regions of investment than the average level of European countries.

Second, the organization structure of PE funds. A diversified fund organization structure can meet different needs of domestic and foreign investors. Though China has diversified forms of organization (including offshore funds, corporate system, limited partnership system and trust system) legally available for investors to select, there are many issues in relation to operation. For example, the limited partnership system avoids double taxation, however, the tax regulations are not transparent for domestic and foreign investors in practice for the lack of specific guidance and rules on operational process. Furthermore, the approval and investment activities of existing industrial investment funds are often subject to administrative mandate and decisions of local governments, thus preventing the fund managers from making decisions fully from the angle of investors. It could be said that China's PE fund organization structure is inferior to European average in meeting the needs of domestic and foreign investors.

Third, tax incentives to attract and retain talented people. Whether in the eyes of investees or fund management companies, talented people are vital to the prosperity of PE market, and tax laws should play an important part in attracting and retaining talented people. Compared with the average of European countries, China had some weaknesses in this regard. For example, China's personal income tax rate has an upper limit of 45%, higher than European average of 39.6%. China's tax laws have no explicit provisions on whether carried interest of PE investment should be recognized as capital gain or business income in tax payment.

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1However, relevant equity investment rules had not been promulgated by June 30, 2009.

2Since 2003, European Private Equity and Venture Capital Association (EVCA), which represented the PE industry of Europe, selected some key factors of PE capital raising and investment to create a set of system for assessment of legal and tax environment of PE market, and evaluate European countries. So far EVCA has released four evaluation reports respectively in 2003, 2004, 2006 and 2008.