US Tightens Rules on Outbound Investments to China

The Facts -

• The Treasury issued final rules for US investments in China from 2025.
• These rules create obligations for US entities investing in certain tech areas.
• Violations may lead to penalties; disclosures can mitigate them.

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What Happened

On October 28, 2024, the US Department of Treasury (Treasury) Office of Investment Security released the final Outbound Investment Rules to enforce Executive Order 14105. These rules regulate certain US investments into China's technology sectors like semiconductors, quantum information, and AI. Following the June 2024 Notice of Proposed Rulemaking and August 2023 Advanced Notice of Proposed Rulemaking, these rules will be effective January 2, 2025.

The Bottom Line

The new rules closely follow the NPRM and create a national security program by Treasury to control US outbound investment. Companies with tech investments in China should examine the Outbound Investment Rules for evolving compliance needs. Investments in China or with Chinese ties require thorough diligence for compliance with these rules.

The Full Story

On August 9, 2023, President Biden directed Treasury to regulate US investments in China's tech sectors through the Outbound Investment Order. Treasury issued an ANPRM that day seeking public input. Further details on the NPRM are available in our summary. Treasury released NPRM insights on June 21, 2024, clarifying regulation aspects of the order. For more on NPRM, check our coverage.

The Outbound Investment Order covers two transaction classes: (1) “notifiable transactions,” requiring US persons to notify Treasury, and (2) “prohibited transactions,” which US persons cannot engage in.

The Outbound Investment Rules don't demand case-by-case review or establish a licensing process for transactions. The US person must determine if a transaction is prohibited, notifiable, or exempt under these rules. The framework mirrors US sanctions compliance but lacks a formal licensing process.

Key Provisions

Obligations for US Persons

The rules apply from January 2, 2025, to any US person, including citizens, lawful residents, US-based entities, and anyone in the US.

Knowledge Standard

Outbound Investment Rules include a knowledge standard, defining "knowledge" as actual or inferred awareness of a fact at the time of transaction based on public or diligent inquiry. A US person's knowledge of a covered transaction with a foreign person triggers notification or abstention obligations.

Treasury assesses knowledge based on reasonable inquiry. The rules outline factors for determining diligence efforts, including:

1. Inquiries made at transaction time;
2. Contractual representations from counterparties;
3. Efforts to access non-public data;
4. Review of public information;
5. Avoidance of seeking relevant data;
6. Warning signs during inquiries;
7. Use of databases for verification.

Companies should perform due diligence and use representations to comply with these rules.

Covered Transactions

Rules apply to certain transactions like acquiring equity, providing loans with equity characteristics, or starting joint ventures with covered foreign persons.

Covered Foreign Persons

The rules apply when a US person deals with foreign persons from countries of concern engaged in national security technologies. Criteria include citizenship, organizational laws, or ownership by concerned nationals.

Exceptions

Exclusions exist for transactions like public securities, low-threshold LP investments, full buy-outs, or grandfathered transactions before January 2, 2025.

Notification Obligation

Notifications for notifiable transactions must be filed within 30 days after completion or upon acquiring knowledge post-completion.

Covered Activities

Outbound Investment Rules focus on national security technologies:

• Semiconductors: Includes prohibited and notifiable transactions related to advanced technologies.
• Quantum Information: Prohibits transactions in developing quantum technologies.
• Artificial Intelligence: Prohibits transactions on AI systems designed for specific uses or with high computing power.

Penalties for Violations

Violations incur fines under the IEEPA, up to $368,136 or twice the transaction value. Treasury may also void prohibited transactions. Voluntary self-disclosure can impact enforcement decisions.

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The Hunton Andrews Kurth LLP team will continue to monitor these regulations and assist companies in understanding and implementing compliance measures ahead of the January 2, 2025, effective date.

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