The integration of the factoring contract into the newly promulgated PRC Civil Code can be regarded as a milestone in the factoring industry. Although factoring contracts are deemed relatively unpopular compared to sales contracts, loan contracts, lease contracts and other typical contracts, the PRC Civil Code not only establishes the basic principles for the settlement of legal problems and disputes for factoring, but it is also a big sign from the government’s eagerness to solve the problem of the financing of enterprises at the legal level.

A factoring contract has been previously defined in the International Factoring Convention 1998 and the regulatory provisions issued by the State Banking Regulatory Commission. However, Article 761 of PRC Civil Code defines a factoring contract clearly for the first time at the legislation level, as outlined, ” A factoring contract refers to a contract whereby the obligee of accounts receivable assigns its existing or future accounts receivable to a factor, who provides services such as financial accommodation, management or collection of accounts receivable, and guarantees for payment by obligors of accounts receivable. “.

According to the definition in the PRC Civil Code, the essence of a factoring contract can be simply understood by adhering to the following formula:

A factoring contract = 1 fixed element (assignment of creditor’s rights) + 1 or more random element(s) (one or any of the following elements: financing accommodation / creditor’s rights management / debt collection / payment guarantee)

Applying this formula, we may use a simple case to briefly explain what factoring is, for example:

A car trader, Company A, has a cooperation with a car seller, Company B, in which Company A will provide 50 million worth of new cars to Company B; However, Company B requires to pay the full amount within 6 months after signing the contract. In order to carry out the sales contract smoothly and protect its own interests to the maximum extent, Company A signs an agreement of the assignment of accounts receivable to a factoring company, Company C. Company C pays the payment in advance to Company A, and Company A transfers the creditor’s rights to Company C. If Company B fails to pay after six months, then Company C has the right to claim creditor’s rights against Company B. In this way, Company C becomes the factor of this auto transaction, providing the financial guarantee for the transaction between Company A and B.

The above case is a simple example which involves the assignment of account receivable plus debt collection, actually, a factoring contract can be understood as a mixed contract composed of the assignment of creditor’s rights and financing accommodation and/or creditor’s rights management and/or debt collection and/or payment guarantee. Thus, a factoring contract can be applied with the typical contract theories found within a loan contract, entrustment contract or guarantee contract, therefore, the pivotal point for a factoring contract is to standardize the assignment of creditor’s rights. In addition, within the provisions of the PRC Civil Code, the content and form of a factoring contract, the legal consequences of fictitious creditor’s rights or trade background, factoring with recourse and non-recourse factoring, and the handling of multiple claims transfer are all further outlined.

It is true that there are still some flaws and vague stipulations for this type of typical contract that have been newly incorporated into the PRC Civil Code, which needs to be further improved via future legislation. However, it is of great significance to integrate the factoring contracts into the Contract Part of the PRC Civil Code, as it can attract more financial institutions and market funds to participate in the factoring business, expand financing channels for small and medium-sized enterprises, and solve the problem of single financing channels for enterprises. It helps to change the long-term financing structure of enterprises relying on bank loans, thus attempting to solve the financing difficulties of small enterprises, and provides a clear and sufficient basis for judicial organs and arbitration institutions to deal with disputes in this field. If you have any questions or would like to seek our professional advice in this field, please send email to info@dandreapartners.com to contact us.