Chinese Regulator Ready to Roll out New Rules for P2P Lending, Sources Say

05.30.2014 16:04

Regulator Ready to Roll out New Rules for P2P Lending, Sources Say

Discussions over new regulations focused on giving P2P lending services enough room to work without breaking existing laws, one company’s boss says

By staff reporters Wang Shenlu and Liu Ran

(Beijing) – The banking regulator is working on the country’s first regulations for the peer-to-peer (P2P) loan industry by treating it as a type of private lending, sources with knowledge of the matter say.

That means P2P lending websites will not be regulated as financial institutions. The new rules are expected to be introduced by the end of the year, a source close to the regulator said.

Experts hope it can clear up some of the legal ambiguity surrounding the operations of P2P lending websites, including the danger that their executives are accused of illegal fundraising, a crime punishable by death in China.

The China Banking Regulatory Commission (CBRC) held two meetings in May with scholars, lawyers and industry experts to hear their opinions regarding how P2P lending should be regulated.

The discussions were focused on creating ample space for P2P lending services to work without running afoul of existing laws and regulations, said Guo Yuhang, CEO of Dianrong.com, a P2P website. He was present at the meetings.

Guo and several other meeting attendants said the regulator has decided to classify P2P loans as private lending and the websites that match lenders with borrowers as non-financial institutions. This means the website operators will not be required to get financial licenses, but it also limits the range of their operations.

The Supreme People’s Court, the country’s top judicial body, defines private loans as those between individuals and non-financial institutions, meaning organizations that do not have the regulators’ permission to take deposits and extend loans.

“In legal terms, private lending belongs in the realm of civil affairs, so it does not have to follow all the rules and restrictions under financial laws,” said Wang Xinrui, a senior partner at Anli Partners law firm in Beijing. “As long as (P2P lending websites) stick to being only an information intermediary, they will not need to get a license from the regulator.

“But if they start providing loan guarantees, pooling funds and taking in deposits from the public, they will be treated as running a financial business, and the law requires them to be regulated more strictly.”

New Legal Definition

The idea of P2P lending started in Britain and arrived in China in 2006. It allows people with spare cash to lend to strangers and companies needing money, skipping banks and other credit intermediaries. A typical P2P loan could see a college graduate borrowing 5,000 yuan to pay off a student loan or a small company borrowing 50,000 yuan to smooth fluctuations in liquidity.

The model took off in China in 2009 as the central bank tightened liquidity. No one in the country was responsible for supervising and regulating the industry until the CBRC took charge this year.

Many P2P websites have reportedly engaged in risky practices that border on financial crimes. Drawing a line between what they can do and what they cannot is the challenge facing the CBRC, and not all experts think it can solve the problem with the coming regulations alone.

Under the top court’s interpretation of the Criminal Law, if a person borrows money from his or her friends or family members, it is considered a private loan. If the money came from strangers, a judge will probably rule the loan unlawful and the borrower guilty of illegal fundraising. The worst type of illegal fundraising, which involves fraud, is punishable by death.

Analysts say that technically this means all P2P websites in the country have violated the law. They could also face charges of illegally taking deposits from the public, a business that only a financial institution with a license can do.

A key factor in determining whether a person or an organization has illegally taken deposits from the public is whether they spent the money on consumption and normal business operations. Wang said the top court has distinguished normal business operations from others, such as re-lending and investment, but critics say the line is blurry.

This may soon change. The court has been working to redefine the legal boundaries of private lending in a way that gives as much support to the practice as possible, a source with knowledge of the matter said. A new legal interpretation may feature a different set of criteria for judging whether a private loan is legal or not, the source said.

This will have implications on P2P loans, and the banking regulator will incorporate the court’s changes into its regulation, Wang said. “It needs to restate with emphasis what is not permitted, breaking regulations or even financial laws.”

Risky Business

Experts are also concerned about how the new rules will address the issue of investor money parked in P2P website companies’ accounts.

“The financial regulators have not yet reached a consensus among themselves over the issue of capital pools,” a source close to the situation said. “It will probably make an example of those that are particularly risky,” he said, citing capital pools that are formed by taking lenders’ money before finding a borrower.

The practice of taking investments, storing the funds and then lending them out when opportunities come would be a blatant violation of regulation, analysts say.

But many other practices may require a more nuanced approach. Renrendai.com, for example, runs a service allowing investors to make a booking when there are too many lenders but not enough borrowers. The service requires them to deposit 1 percent of the money they plan to lend with the company, said Yang Yifu, a co-founder of the website.

Whether practices like this are legal or not is a matter that people hope the CBRC’s new rules clear up, a lawyer focusing on Internet finance issues said. “After all, it still results in a pool of capital.”

Wang said the CBRC’s rules will not be able to address every type of capital pool. “What it can do is require every website to match lenders and borrowers as clearly as possible and establish a good information disclosure system,” he said.

Some experts at the meetings also proposed that the regulator establish criteria for gauging whether an investor can tolerate a loss should a P2P loan turn sour. This is important because many investors flocked to P2P websites simply because of the high yields, they say. Without thinking through the risk, many would find it hard to swallow a loss when a default happens.

One way to prevent this is to require that they put at most half of their disposable income into P2P loans, Yang said.

But Wang doubted whether this could be implemented. There is hardly any incentive for P2P website companies to assess investors’ financial strength, he said, and even if they wanted to, many still could not.

 

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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