Unlike western countries, a business entity in China doing most kinds of transactions, ranging from contracts to bank transactions and tax payments, needs to use a physical seal rather than a signature. There are a half dozen different types of seals with their own legal effect. Moreover, electronic signature laws have introduced digital seals that have their own rules. Since anyone who gets their hands on the seal can easily execute documents on behalf of the company, this also creates a significant fraud risk that requires careful management. In this article, we will walk you through what the several kinds of seals are, what the theft risks are, and how to control those risks.
Contents
Types of Company Seals in China
Electronic Seals are as Effective as Physical Seals
Stolen Seals can be Used to Bind the Company
Who Should be in Control of the Company’s Seals
Controlling the Seal Means Controlling the Company—Sometimes
Types of Company Seals in China
In China, a company’s seal is used for transacting with third parties in activities ranging from business deals to lawsuits; affixing it establishes legal rights. The types of seals are the corporate seal which represents its entire legal personality, and three important lesser seals: the financial seal, contract seal, and tax receipt seal. When forming a business entity in China, you will need to file a copy of each with the business registrar. The stamp of each represents the corporate personality and has a legal effect.
The corporate seal has paramount authority over all the seals because it stands for the corporate personality. There are a few statutory exceptions, such as the tax receipt seal. Under Chinese legislation and caselaw, the corporate seal is dispositive in establishing the entity’s intent to enter into a transaction. The corporate seal may in itself be used to execute documents in the company’s name, such as letters, memos, contracts, and certificates.
The statutory representative’s seal is used for certain specific purposes such as making tax filings or payments. Under Chinese law, affixing a seal is an official act on behalf of the company and not an individual act made through an individual’s signature. Entrusting the seal to the care of another person legally grants authority to bind the corporation to that individual and create liability under the manifestation of intent represented by the stamp.
The financial seal authenticates accounting documents and banking transactions. The tax receipt seal authenticates tax receipts; the contract seal may be used to enter into contracts that bind the company, as an alternative to the corporate seal. The contracts and corporate seals are treated similarly in practice and in the caselaw, both having legal authority to bind the company in a contract to a third party. China Supreme Court rules provide that the organization itself is liable to pay damages if an individual bad actor defrauds a third party by stealing an organization’s letterhead, form contracts, or seal to execute contracts under false pretenses. The perpetrator is criminally liable.
The only defense to paying damages is if the third party was aware the bad actor misappropriated the seal to execute the contract; here, both the contract seal and corporate seal have equal legal effect. Seals inappropriate to business contracts, such as the financial seal, may be held by Chinese courts to show the entity’s intent to be bound, if a litigant can provide enough circumstantial evidence. Similarly, courts hold that certain individuals’ signatures, particularly the statutory representative, show the organization’s intent to be bound.
Electronic Seals are as Effective as Physical Seals
China law regards electronic seals as a reliable digital signature method to generate images of the seal, backed by cryptographic technology: digital certificates, pin numbers, and images of the seal. They are used to authenticate many kinds of documents and can be used defend against parties that disclaim the effectiveness of a digital signature.
Under the China Digital Signatures Act, an electronic seal is an embodiment of an electronic signature made in data format, specifically a “data message.” Electronic seals and signatures must comply with specific requirements of the Act to have equivalent legal status to physical seals.
The eligible documents for an electronic seal are defined in the Act Section 3(a) as being any civil law activities for contracts, certification, and other legal instruments where the parties agree on using electronic signatures and data messages. Thus, the Act’s initial intention was apparently to govern e-sign in the private sector, and gives the parties a choice in whether to use it. There are differences of interpretation in Chinese courts as to whether the civil law activities in the Act extends to just contracts or also other documents and certificates, but the Act nonetheless does not prohibit it.
Consequently, consent is implied under the China Digital Signatures Act where the government or users accept the digital seal, providing grounds for use in government services.
An important caveat is the Act §3(c) will prohibit their use for certain sensitive documents. §14 provides a reliably produced digital signature is the legal equal of a handwritten signature or affixed seal, which requires satisfying four legal elements:
- The data used to create the signature belongs to the person signing;
- The person signing has sole control over such data;
- Subsequent alteration of the signature can be detected;
- Subsequent alteration to the data message can be detected.
Aside from the above, the parties retain freedom of contract to opt in to an e-sign method with different standards
Digital Seal Risks
Digital seals involve some risks despite their ease of use, as they can be unlawfully used by bad actors much like how physical signatures can be forged. Below we’ll go over some of the main risks.
Identity verification fraud can occur where a bad actor B makes a request using a seal formally belonging to A. The bad actor B can pass identity verification tests and illegally use the seal simply by stealing a SIM card and debit card. Signature verification fraud can occur where B steals A’s cellphone and knows their password, thus are able to log into the platform, get a verification code, and use a digital seal to sign a contract.
In a worst-case scenario, officials working at the government agency responsible for verification conspire to falsify a digital seal and use it to forge digital signatures. Aside from this worst-case scenario, the other risks can be mitigated by following some precautions: avoid sharing passwords and verification codes or reusing passwords, thus preventing identify theft or unauthorized access to your devices.
If the device or password is lost, report it immediately. Doing so will protect your legal rights by showing the seal is not under your control, with the result the law considers it “compromised,” and depriving it of legal effect.
Stolen Seals can be Used to Bind the Company
Companies have separate legal personality under the law, but cannot physically act, rather its intentions are manifested through a signature or seal. Chinese society considers a corporate seal more unique and authoritative, thus ensuring that the interests of third parties are better protected and helps avoid commingling the legal personality with that of an individual.
Shareholder disputes often revolve around the corporate seal, because it is a manifestation of the company’s intent and defines its obligations. Misuse of the seal or forgery by insiders such as the board of directors can cause third parties to be misled about what the company’s true intentions are, which is a defective expression of corporate intent, something which Chinese law considers an unacceptable threat to transaction security.
The corporate seal carries such weight in Chinese culture because it represents the company’s singular legal personality and has significant evidential weight. Affixing a seal is an offer or promise under contract law, and it defines when and where a contract was entered into. The corporate seal is binding on corporate stakeholders including shareholders, directors, supervisors, and executives.
Under Chinese law, affixing a seal nonetheless does not in itself create a contract, rather merely established an inference of intent to be bound. More importantly, does not establish the seal was under the control of an authorized person, as full affirmation of the company’s intent to be bound requires both affixing the seal and a signature of the statutory representative. For example, the revised China Companies Act §128 requires that new share issues bear both the seal and signature of the statutory representative. Absence of the statutory representative’s signature can cause defects in the contract effectiveness.
A contract affixed with the corporate seal but lacking statutory representative signature are usually given effect by the courts. Furthermore, a company seal used fraudulently can be used by a third party to enforce a contract under the Ninth Judicial Conference Report §41(c); a contract entered into in the name of a principal by an agent who has obtained authority is enforceable.
Chinese trial courts must reject attempts by principals to repudiate the contract by claiming authority was withdrawn, the seal is forged, or that the seal does not match the one on file with the government. They will hold in favor of a third party who reasonably relies on the company’s authority documents and the seal, especially if internal disagreement at the company led to confusion about the agent’s authority. Notwithstanding, the authority documents are subject to close judicial scrutiny, and must bear both the corporate seal and statutory representative’s signature.
Contracts with only Statutory Representative Signature but no Seal are Usually Effective
In the Zhou v. Zhejiang Renovations LLC contracts dispute, Zhou signed a contract with Zhejiang Renovations where that company had only provided the statutory representative’s signature and not the corporate seal. The company then reneged on the contract, saying that the lack of a seal renders the contract void. The court rejected the company’s claim. In Civil Appeal 896 (China Supreme Court, 2017), the Supreme Court held that a contract is valid if either the corporate seal or the statutory representative signature is on the document. They do not need to be simultaneously provided.
In Appeal No. 209 (China Supreme Court, 2018), the court endorsed previous lower court jurisprudence to establish the effectiveness of a contract that is not affixed with the corporate seal, but has been signed by the statutory representative or an authorized representative. The court also carved out an exception to the rule, where the parties already agreed that their contracts must be affixed with a seal. To summarize these complex law cases, if a counterparty to a contract knows a statutory representative lacks authority to sign on behalf of their company and does not provide a seal, the contract will nonetheless lack legal effect.
Who Should be in Control of the Company’s Seals
In China, the statutory representative by default takes possession of the corporate seal, but this is otherwise an internal governance matter. Since the corporate seal holds too much power to put in the hands of numerous managers, many companies have alternative seals, such as the contract seal or project approval seal, which have the same legal effect as the corporate seal. Quite frequently, individuals will either make an unauthorized copy of a seal or make a forgery of one to bind the company in a contract, which is a serious crime under the China Criminal Law Act and can cause legal trouble for the company.
Chinese judicial precedents have consistently held that the legal effect of a forged seal on a contract can be determined based on the nature of the signer’s position with the company (see Civil Appeal No. 561 (Supreme Court, 2019)). A signer with an authoritative status such as the statutory representative or an authorized agent for the company holding a letter of authorization in these circumstances can bind the company. Courts ruling as such, reason that signing constituted an act within the agent’s official capacity.
The Ninth Judicial Conference Report §1(c) also announces that judge made rules for cases involving forgery or unauthorized copy of seals. The effectiveness of a contract in these contexts is determined by the apparent authority of the signer, and in general the judge must give the individual’s authority greater weight than the seal’s.
Controlling the Seal Means Controlling the Company—Sometimes
Generally, the company’s seal or statutory representative signature are a manifestation of corporate intent, as required by the Report; judges must generally give effect to contracts if the agent had apparent authority to bind the company. The exception to the rule is where the counterparty failed to closely verify the apparent authority shown in the agent’s authorization letters, and sought the signature of the statutory representative and the seal to be affixed.
Additionally, the China Companies Act and Articles of Association may require a shareholders’ meeting decision or board of directors resolution to approve some acts, and the company cannot otherwise be bound even with the statutory representative’s signature and corporate seal.
For example, in Nanjing Construction Management LLC v. Director Yan, Ningbo Appeal No. 100 (2002) involved claims of damaging the corporate interest amidst disagreement among the shareholders. The identity of the statutory representative was changed, and the effectiveness of two of the company’s seals was called into question.
In this case, the court looked at the shareholder meeting decisions and found that it in itself showed the company’s intent to be bound notwithstanding these other issues. A key underlying reason is that in China, the shareholder’s meeting is the supreme authority within a company.
An essential takeaway from this case is while the corporate seal is evidence of the company’s intent to be bound, it does not control the corporate intent. In general, however, while the corporate seal is not equated with control over the company, in most cases it will provide power to make decisions on behalf of the company.