The Draft of Export Control Law for the second reading (the “2nd Reading Draft”) by the National People’s Congress (“NPC”) maintains the scheme of Controlled Name List for those importers and end-users (“Controlled Names”) who potentially endanger national security, and creates a new provision of legal liabilities on the part of those overseas organizations and individuals who actually endanger national security or interest of China.
The Controlled Name List functions like the US "BIS Entity List", which is in essence the Unreliable Entity List that MOFCOM frequently related last year when multinational companies refused to sell US controlled items to Chinese companies on the BIS Entity List.
Since the “potential endangerment of national security” is one of the reasons for the Controlled Names, the concept of national security is quite ambiguous, and there are legal penalties on all parties if endangering national security or interest of China, the 2nd Reading Draft poses significant compliance difficulties and risks on the part of foreign companies.
We suggest that multinational companies take compliance control measures as soon as possible so as to avoid potential serious penalties or sanctions under the export control law of China which may be mostly likely passed in 2020.
The 2nd Reading Draft was publicized by NPC at the end of June 2020 on its website to solicit comments from the public. Previously the NPC publicized the 1st Reading Draft on December 28, 2019. It has been more than three years since the Ministry of Commerce made public its first draft of export control law on June 16, 2017. This article summarizes and comments on the major changes as contained in the 2nd Reading Draft.
1. Inspection of end-users and end uses
The State Export Control Administrative Department (“SECAD”) will establish a risk management system for end-users and end uses of the Controlled Items under the law. SECAD can proactively conduct evaluation and inspection on the end-users and end uses, apart from relying on submission of documents and reports from the export business operator (“EBO”).
The 2nd Reading Draft: Article 17 The SECAD establishes a risk management system for end-users and end uses of Controlled Items, evaluates, verifies and inspects end-users and end-uses of Controlled Items, and implements a strict management of end-users and end-uses.
2. Controlled Name List
The 2nd Reading Draft clearly provides that the prohibitive or restrictive measures against Controlled Names are confined to items subject to export control. In other words, the Chinese EBO will be banned or restricted from trading such controlled items with the Controlled Names.
Given that there is no concept equivalent to EAR 99 under Chinese law, the Chinese EBO literally can still export non-controlled items to such Controlled Names, which seemingly does not violate the draft law, thus to reduce the negative market impact on Chinese exporters.
The 2nd Reading Draft: Article 18 The SECAD shall establish a controlled name list for importers and end-users that:
(1) violate the requirements regarding the management of end-users and end uses
(2) may endanger national security; or
(3) use Controlled Items for terrorist purposes.
For importers and end users that are included in the controlled name list, the SECAD may take necessary measures such as prohibiting or restricting the related deals relating to Controlled Items, ordering suspension of export of the related Controlled Items, and withholding export licensing facilitation measures.
Export operators shall not in violation of legal provisions enter into any transactions with any importer or end-user that is included in the controlled name list.
3. Legal liabilities for violations by “any organization or individual”
Article 44 imposes legal liabilities on any organization or individual for some given violations. These parties subject to this liability imposition go beyond the foreign importers and end-users to include any organization or individual outside the territory of China. However, what are the legal liabilities is not clearly specified and remains uncertain, and probably will be specified with reference to the same liabilities of the EBO in the next draft.
The 2nd Reading Draft: Article 44 An organization or individual outside the territory of the People’s Republic of China that violates the provisions of this Law in relation to administration of export control, hinders the performance of non-proliferation and other international obligations, or endangers the national security or interest of the People’s Republic of China, shall be subject to investigation and legal liability in accordance with the law.
(a) Violation of export control administrative provisions
This is the first reason for imposing the legal liabilities, and the “administrative provisions” is a general term which is not clearly cut.
(b) Hinderance in performing non-proliferation and other international obligations
A foreign company or an individual may raise many questions about the meaning of this second reason for incurrence of these liabilities. What is “hinderance in performing international non-proliferation obligations”? Whose international obligations? Of the Chinese government or the foreign government or the foreign company or individual? Why does the violation of an international obligation directly attract legal liabilities under the domestic export control law? Given the ambiguity in meaning of this reason, we expect amendment to this provision.
(c) Endangering national security or interest
This reason for incurring legal liabilities has nothing to do with export control of Controlled Items or foreign importers or end-users. It imposes liabilities on all persons and entities in a foreign territory who are “endangering the national security or interest of China”. This requirement is problematic as foreign companies or individuals cannot complete ensure avoidance of such liability risk.
The risk lies in the difficulty in judging what activities may endanger national security or interest of China from the perspectives of foreign companies or individuals. By virtue of Article 2 of the National Security Law of China, national security refers to “the state power, sovereignty, unity and territorial integrity, people's well-being, sustainable economic and social development and other major interests of the state, which are relatively free from risks and threats from both inside and outside, and the capability to ensure a state of sustainable security”. Thus, national security includes broad macro issues such as political, sovereign, economic, social and other major interests of China. Obviously, this concept of national security is designed for the governmental authorities to determine the above relativity issue and whether the capability exists to ensure a state of sustainable security and sustainable security. The foreign companies or individuals are not in a position to determine such macro and relativity issues. It is doubtful whether such a liability imposition can be implemented in a real world.
Accordingly, it is impractical for “organizations or individuals” in a foreign country to make their own sensible pre-judgment over whether their activities are against the national security or interest of China, and it is difficult for overseas enterprises or individuals to control the probability of igniting this risk.
We expect that the next draft would confine such liabilities to the knowledge of such endangerment of national security or interest, which seems more reasonable than an absolute liability on the part of foreign companies and individuals.
4. Information provision to overseas is also controlled
Under Article 32, “any organization or individual” in China shall not provide export control-related information to overseas against the law. This provision most probably would mean to control such information transfer if as a Controlled Item under the law. Otherwise, this provision would mean control any information disclosed to overseas if related to export control. A lawyer making an on-line speech on export control to a foreign audience would also mean disclosing export control related information, the control of which is obviously unreasonable. We expect amendment to this provision as well.
Sub-section 2 of this same article prohibits provision of information if such provision may possibly endanger the national security of China. It is still unclear from the provision whether the prohibition applies to information relevant to export control only or to all sort of information. Again, beyond the Lists of Controlled Items and the overriding control scheme based on knowledge, the companies or individuals in China are unable to determine whether their provision of information to overseas parties may possibly endanger the national security of China. Does a company or an individual need to clear with MOFCOM, for instance, the national security issue before it provides any information to overseas, whether it is export control related or not? We expect clarification in the next amended draft.
The 2nd Reading Draft: Article 32 The SECAD shall cooperate and communicate with the other countries or regions and international organizations and so forth on export control in accordance with the international treaties concluded or ratified by China or on the basis of principles of equality and reciprocity.
Any provision of export control-related information by an organization or individual within the territory of the People’s Republic of China to those outside the territory of the People’s Republic of China shall be made according to laws; in case of any possibility of endangering the national security, such provision of information is prohibited.
5. Assist to export control violations
Apart from EBO, any other party who knowingly assists in violations of export control on the part of EBO will be subject to penalty. Literally such assisting party may include a foreign party.
The 2nd Reading Draft: Article 36 If any person provides any agency, shipping, delivery, customs clearance, third-party e-commerce trading platform, financial, and other services for any export operator in the circumstances of knowing such operator’s engagement in export control violations, [the authorities shall] issue a warning, order that the violation be stopped, confiscate any illegal income, and impose a fine that is greater than three times of and smaller than five times of the illegal turnover if the illegal turnover is more than RMB 100,000, or a fine that is greater than RMB 100,000 and smaller than RMB 500,000 if there is no illegal turnover or the illegal turnover is less than RMB 100,000.
6. Criminal consequence
EBO who commits criminal violation shall be prosecuted for criminal liability. Under criminal law and prosecution practices in China, any foreign party who knowingly collaborates with criminal violation of export control law would be criminally prosecuted as well.
The 2nd Reading Draft: Article 43 If any violation of this Law constitutes a crime, who commits such violation shall be prosecuted for criminal liability in accordance with the law.
7. Conclusions and trade compliance strategies
Given that the Export Control Law is likely to be passed in 2020, there will be severe penalty provisions for violation of the same law on the part of both a subsidiary in China as EBO and its parent company in a foreign county, whether as an importer or end-user or otherwise. We also predict that the Controlled Items under the export control regime will most probably not be substantially adjusted after passing of the export control law. We therefore suggest that multinational companies take compliance control measures as soon as possible so as to avoid serious consequences of penalties or sanctions by the law.
(a) Subsidiary (EBO) in China
For subsidiaries in China, they must carefully examine whether their export items are subject to the Lists of Controlled Items. As the customs in China monitor export control according to the tariff codes, the subsidiaries must (a) ensure tariff code compliance; (b) if the tariff code is within the controlled lists as a reference item, determine whether the descriptions in the Controlled Lists are not consistent with the actual exported items. If not consistent, the subsidiary must apply for a classification of the exported item in advance before clearance of the export shipment. The subsidiary EBO is also to establish internal screening and due diligence mechanism for importers and end users.
(b) Parent or other overseas companies
If as importers and end users, they need to ensure that the Controlled Items under the law must meet the end-use and end-use requirements and restrictions, otherwise, they may be subject to the inclusion into the Controlled Name List.
Foreign or overseas companies need to be cautious about the issue of national security of China. Given the somewhat mysterious and ambiguous definition of national security, overseas companies need to watch out for the touchy or sensitive political issues relevant to China's national sovereignty, territorial integrity, national unity, political party system and so forth. A negative public comment or publication or label on the product may trigger such sensitive issues and may be deemed as detrimental to national security of China, with a consequence of entry into the Controlled Name List, and/or even administrative or criminal penalties.