In-kind rebates and commercial bribery risks

Greenberg Traurig
George Qi
[email protected]

In-kind rebates are discounts in the form of goods delivered free of charge. They are commonly used in China to promote sales. A typical example is an equipment seller that gives free spare parts to buyers or a seller that provides free goods to its distributor as volume rebates at the end of a year.

Failure to comply with certain legal requirements may turn in-kind rebates into commercial bribery under Chinese law. This is what happened in the Shanghai Heting Trading v Shanghai Administration of Industry and Commerce (Xuhui Branch) case. Heting is a trading company in Shanghai that distributed imported medical devices and consumables. The local Administration of Industry and Commerce (AIC) found that, among other things, the trading company gave consumables to some of its customers free of charge. The AIC imposed a penalty upon the trading company for commercial bribery. Heting appealed the AIC's penalty decision to the local court, which upheld the AIC's decision, because the trading company never issued a fapiao (receipt) for the free consumables or booked them as sales.

Legal position

According to Article 2 of the Provisional Measures on Prohibiting Commercial Bribery (关于禁止商业贿赂行为的暂行规定), commercial bribery is defined as the act of a business operator providing bribes that consist of money, property or other means for the purpose of selling or purchasing goods or services. Any kickback provided off the books by a business operator to its business counterparts or their staff constitutes a bribe. A kickback is a portion of the purchase price returned by a business operator off the books, in the form of cash, property or other means, to its business counterparts or staff (Article 5). The phrase “off the books” refers to income not being accurately and honestly recorded in the books of a business operator in accordance with accounting principles, being recorded in the wrong books or making false accounts. A “discount” is a price concession provided by a business operator to its counterparts expressly and honestly recorded in its books (Article 6). The phrase “Expressly and honestly recorded in the books” means consistency with the amount and payment terms provided by a contract and accurately recorded in the books of a business operator in accordance with accounting principles. A business operator should not provide gifts in the form of cash or property to its counterparts or staff in its business dealings other than promotional gifts of small value, according to its business practices (Article 8).

The definition of commercial bribery under Chinese law is vague, circular and sometimes self-contradictory. Compared with criminal commercial bribery, commercial bribery under these laws and regulations does not require intent to bribe. Fortunately, Chinese law provides two comparatively better-defined safe harbours, promotional gifts of small value and discounts. It makes sense to rely on these two safe harbours, rather than the muddy definition of commercial bribery.

Promotional gifts of small value

The first safe harbour is promotional gifts of small value in accordance with business practice. There is no further guidance under Chinese law as to what constitutes “small value” or “business practice”. It is generally acknowledged that non-cash gifts of nominal or minimal value for promotional purposes would safely fall into the safe harbour definition. However, this definition is not helpful in most cases because of the nominal or minimal value requirement.

Discounts

Discounts under Chinese law must be in an express form and accurately recorded in a business operator's books, in accordance with accounting principles. In practice, with respect to in-kind rebates, AICs generally require the following:

• Sales contracts must expressly provide in-kind rebates.
• Sellers must accurately reflect in-kind rebates in their books. Sellers must book revenues equivalent to the market value of the in-kind rebates and sales discounts of the same amount. Do not book in-kind rebates under expense accounts like marketing expense or promotional expense. Some AICs even require that buyers' books accurately reflect in-kind rebates, but this position is controversial because sellers have no control over buyers' book-keeping.
• Sellers must issue a fapiao for the in-kind rebates even if they are provided free of charge.

Companies in China should review their in-kind rebate programmes to make sure they fulfil the requirements of either of the safe harbours discussed above. In practice, companies should also consider that this legal analysis does not apply when in-kind rebates are provided to individual consumers. They should also consider that AICs would pay particular attention when in-kind rebates are not related to the goods sold in the underlying transactions.