[Handling Attorney] Zhang Linlin

[Keywords] Civil Law / Private Lending / Single-Member Limited Liability Company / Joint and Several Liability of Shareholders

【Key Points of the Ruling】

A legally valid loan agreement and a loan interest rate that does not exceed the upper limit prescribed by law shall be upheld. The shareholder of a single-member limited liability company bears the burden of proving that the company’s assets are separate from the shareholder’s own personal assets. If the shareholder fails to provide such proof, they shall bear joint and several liability for the company’s debts.

[Basic Facts of the Case]

In March 2012, June 2012, and December 2012, Mr. Song lent principal amounts of RMB 3 million, RMB 1 million, and RMB 1 million respectively to Company A Limited. The parties agreed on a monthly interest rate of 2 fen. They signed a “Loan Agreement” and provided records of the corresponding bank transfers. Starting from April 1, 2014, Company A Limited ceased paying interest to Mr. Song. Company B Limited is the sole shareholder of Company A Limited, and Company C Limited is the sole shareholder of Company B Limited. Due to Company A Limited’s failure to repay the principal and interest on the loans, in 2016, Mr. Song brought a lawsuit against Company A Limited, Company B Limited, and Company C Limited, making the following claims: 1. Requesting the court to order Company A Limited to repay Mr. Song the principal amount of RMB 5 million; 2. Requesting the court to order Company A Limited to pay Mr. Song interest on the loan at a monthly rate of 2% from April 1, 2014, until the full repayment of both principal and interest; 3. Requesting the court to hold Company B Limited and Company C Limited jointly and severally liable for the repayment of the principal and interest on the loan mentioned above; 4. Requesting the court to order all three defendants to bear the entire cost of the litigation.

Company A responded in its defense as follows: The loan transaction is indeed true, and the loan was used for the company’s business operations. However, due to operational difficulties, the company currently lacks the financial capacity to repay the loan. Our company is an independent legal entity with the requisite standing to assume external liabilities. This loan was a business activity undertaken by our company itself and is entirely unrelated to Company B and Company C.

Company B responded in its defense, stating: “The loan is unrelated to our company. Our company has a complete and independent accounting department, a dedicated bank account, and a separate office space. Our assets are entirely segregated, and there is no commingling of assets between our company and Companies A and C. Our financial condition, operating results, and cash flows have all been subject to annual audits. Our assets are completely independent, and therefore our company should not be held jointly liable for the debts of Company A.”

Company C responded in its defense, stating: “The loan in this case is unrelated to our company. Our company is not the borrower. Both our company and Companies A and B are independent legal entities, each possessing its own separate assets. There is no commingling of assets among us, and therefore we should not be held jointly and severally liable.”

The evidence submitted by the plaintiff, Mr. Song, includes the loan agreement, bank transfer records, a statement of circumstances, the business registration information of Company A Limited, and the company registration information of Company B Limited.

The evidence submitted by the defendants, Company A Limited, Company B Limited, and Company C Limited, includes the audit reports for the years 2013, 2014, and 2015 of the three companies.

【Judgment Result】

The judgment is as follows: First, Defendant A Co., Ltd. shall, within ten days from the date on which this judgment becomes legally effective, repay to Plaintiff Song the principal amount of RMB 5 million together with interest (calculated at a monthly interest rate of 2% from April 1, 2014, until the date specified in this judgment for payment); Second, Defendants B Co., Ltd. and C Co., Ltd. shall jointly and severally bear the liability for repaying the aforementioned principal and interest owed by Defendant A Co., Ltd.; Third, the Plaintiff’s other claims are dismissed.

【Reasons for the Ruling】

The Loan Agreement between Mr. Song and Company A is lawful and valid. It is indeed true that Company A has defaulted on its repayment of the loan amount of 5 million yuan to Mr. Song, and therefore Company A should repay this debt. The parties agreed upon a monthly interest rate of 2 fen, which does not violate any applicable legal provisions. Consequently, Mr. Song’s claim for Company A to repay both the principal and interest on the loan is hereby upheld.

Regarding Song’s request that Company B and Company C jointly and severally assume liability for the loan owed by Company A, Article 63 of the Company Law provides: “If a shareholder of a single-member limited liability company cannot prove that the company’s assets are separate from the shareholder’s own assets, the shareholder shall bear joint and several liability for the company’s debts.” As the sole shareholder of Company B, and Company B being the sole shareholder of Company A, Company C bears the burden of proving that its subsidiary’s assets are independent from those of its shareholders. In this case, there is a contradiction between the audit reports submitted by Company B and Company A; specifically, the same loan transaction between Company B and Company A is recorded inconsistently in these reports. The audit reports fail to establish financial independence between the two companies. Moreover, during the trial, it was established that Company B and Company A share the same office staff and address, and also use the same office premises. In 2012, Company C entered into a loan agreement with Company A for an amount of 3 million yuan, which has remained unpaid ever since. This loan is reflected in Company A’s audit report but does not appear in Company C’s audit reports for 2013 and 2014. Therefore, the audit reports provided by Company C cannot substantiate that there is no commingling of assets between itself and Company A. In light of the foregoing, although the court does not dispute the authenticity of the audit reports, the information contained therein is inconsistent, and the content of the audit reports does not fully and accurately reflect the objective facts. Consequently, the court reasonably doubts the probative value of these audit reports with regard to the facts at issue. Based on the existing evidence, it is insufficient to establish that the assets of the shareholder and the company are completely separate. Therefore, Companies B and C should jointly and severally bear responsibility for repaying the loan owed by Company A.

[Relevant Statutes]

Article 20 of the Company Law: Shareholders of a company shall comply with laws, administrative regulations, and the articles of association of the company, exercise their shareholder rights in accordance with the law, and shall not abuse their shareholder rights to harm the interests of the company or other shareholders; nor shall they abuse the company’s legal personality and the limited liability of shareholders to harm the interests of the company’s creditors.

If a company’s shareholders abuse their shareholder rights and thereby cause losses to the company or other shareholders, they shall bear compensation liability in accordance with the law.

If a company’s shareholders abuse the company’s legal personality and their limited liability as shareholders to evade debts, thereby seriously harming the interests of the company’s creditors, they shall bear joint and several liability for the company’s debts.

Article 63 of the Company Law: If a shareholder of a single-member limited liability company cannot prove that the company’s assets are separate from the shareholder’s own assets, the shareholder shall bear joint and several liability for the company’s debts.

[Lawyer’s Perspective]

According to Article 63 of the Company Law, the defendants, B Co., Ltd. and C Co., Ltd., as shareholders of the single-member limited liability companies A Co., Ltd. and B Co., Ltd., respectively, bear the burden of proof regarding the independence of shareholders’ property from the company’s assets—that is, B Co., Ltd.’s property is independent from A Co., Ltd.’s property, and C Co., Ltd.’s property is independent from B Co., Ltd.’s property. In this case, the three companies provided their annual audit reports to demonstrate that their shareholders’ property is separate from the companies’ assets, thereby proving their independence and the absence of commingling of assets among the three companies. Although non-financial professionals such as lawyers may not fully understand the lengthy financial statements in the audit reports, there is a section in each report titled “Notes to the Financial Statements” or “Notes on Major Items of the Financial Statements.” This section uses text and simple tables to explain the company’s financial condition over the year and is generally easy to comprehend. It typically includes information on cash holdings, accounts receivable, prepaid expenses, accounts payable, and transactions with related parties. By comparing the audit reports of the three companies for the same year and by comparing the audit reports of the same company over consecutive years, it is possible to identify inconsistencies and potential issues. In this case, it was precisely through such comparisons—both between the companies and across different years—that contradictions and problems were discovered in the audit reports. The audit reports submitted by the defendants failed to establish the independence of their respective properties, thus undermining the evidentiary value of the defendants’ submissions and enabling the court to grant all of the plaintiff’s claims.