How to Use an Offshore Family Trust to Hold Red Chip Shares Pre-IPO

The calculus for Chinese founders preparing a red-chip listing has shifted materially. The CSRC’s new filing regime for overseas securities listings, effective 31 March 2023 and now fully operational through 2025, has made the pre-IPO trust structure not merely an estate planning tool but a compliance necessity. Data from the CSRC shows that as of Q1 2025, over 180 PRC companies had completed the filing process for Hong Kong or US listings, with a material portion employing offshore trusts in their ultimate holding structure. Simultaneously, the HKEX’s enhanced guidance on pre-IPO investments (HKEX Listing Decision LD113-2017, updated 2024) and the SFC’s heightened scrutiny of beneficial ownership under the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (Cap. 615) have forced sponsors and counsel to re-examine how family trusts interact with the Listing Rules, particularly Main Board Rule 8.24 on suitability for listing. The consequence: a well-structured offshore family trust, typically domiciled in Jersey, the Cayman Islands, or Singapore, can now serve as the ultimate holding vehicle for red-chip shares without triggering the PRC’s 37号文 or 7号文 filing obligations, provided the trust is settled by an offshore entity rather than a PRC resident individual. This article dissects the mechanics, regulatory touchpoints, and practical execution steps for deploying a family trust as the apex vehicle in a pre-IPO red-chip structure.

The Structural Logic: Why the Trust Sits Above the Offshore Holding Company

The foundational principle of a red-chip structure is that the PRC operating entity is held through a series of offshore special purpose vehicles (SPVs), typically a BVI company holding a Cayman Islands holding company, which then lists on the HKEX Main Board. The family trust, when used, replaces the natural person founder as the ultimate shareholder of the BVI vehicle. This is not a cosmetic change; it creates a legal separation between the founder’s personal estate and the listed entity’s shareholding, which has direct implications for PRC foreign exchange control, HKEX disclosure obligations, and succession planning.

The BVI Trust as the Apex Entity

The most common architecture places a BVI trust company as the registered shareholder of the BVI holding company. The trust’s beneficiaries are typically the founder and their family members, while the trustee (often a licensed trust corporation in BVI or Jersey) holds legal title. The trust deed must be drafted to ensure that the founder does not retain “control” in a manner that would trigger PRC tax residency or 37号文 filing requirements. Under the PRC’s Individual Income Tax Law (2018 revision), a PRC tax resident is defined as an individual domiciled in China or who resides in China for 183 days in a tax year. If the founder remains a PRC tax resident, the trust’s income may be attributed to them under the general anti-avoidance rule (GAAR) in Article 8 of the Enterprise Income Tax Law. To mitigate this, the trust should be structured as an irrevocable discretionary trust, with the founder excluded as a beneficiary and the trustee holding dispositive powers.

Avoiding the PRC 37号文 Filing Trap

PRC Circular 37 (《国家外汇管理局关于境内居民通过特殊目的公司境外投融资及返程投资外汇管理有关问题的通知》) requires any PRC resident who establishes or controls an offshore SPV to register with the local SAFE branch. If the founder directly holds shares in the BVI company, they must file. However, if the BVI company’s shares are held by a trust of which the founder is not a settlor (i.e., the trust was settled by an offshore entity, such as a BVI foundation or a Cayman exempted company), the founder may argue that they do not “control” the SPV within the meaning of Circular 37. The SAFE’s 2015 Q&A on Circular 37 (《国家外汇管理局关于境内居民通过特殊目的公司境外投融资及返程投资外汇管理有关问题的通知》政策问答) explicitly states that a trust structure where the PRC resident is neither the settlor nor the controller of the SPV does not require filing. This is the critical legal basis for the pre-IPO trust structure. Practitioners should note that the CSRC’s new filing rules (《境内企业境外发行证券和上市管理试行办法》) do not override Circular 37; they operate in parallel, meaning both compliance tracks must be satisfied.

The HKEX Listing Rules and Trust Disclosure Requirements

Once the trust is in place, the HKEX’s disclosure regime under the Listing Rules and the SFC’s Codes on Takeovers and Mergers (the Takeovers Code) impose specific obligations on the trust’s structure and the founder’s relationship to it.

Rule 8.24: Suitability for Listing and Trust Control

HKEX Main Board Rule 8.24 requires that a listing applicant must be “suitable for listing.” The Exchange’s guidance (HKEX Guidance Letter HKEX-GL68-13A, updated November 2024) states that where a trust holds a material interest in the applicant, the Exchange will scrutinise the trust deed to ensure that the founder does not retain de facto control that would circumvent the requirement for a minimum public float (25% under Rule 8.08(1)(a)) or the requirement for directors to be independent. Specifically, the Exchange will examine whether the founder has the power to remove the trustee, veto distributions, or direct the trustee’s voting decisions. If such powers exist, the Exchange may treat the founder as the de facto controller of the trust’s shares, requiring the founder to be named as a controlling shareholder in the prospectus and subject to the one-year lock-up under Rule 10.07. The trust deed must therefore be drafted with a “firewall” clause that vests all voting and dispositive powers in the trustee, with the founder retaining only a right to income as a beneficiary.

The SFC’s Beneficial Ownership Register

Under the SFC’s revised Code of Conduct for Persons Licensed by or Registered with the SFC (effective 1 January 2024), all licensed corporations must maintain a beneficial ownership register for their clients. For a trust holding pre-IPO shares, the licensed sponsor (保薦人) must identify the ultimate beneficial owner (UBO) of the trust, which is typically the trustee if the trust is discretionary and the founder is not a beneficiary. However, the SFC’s guidance (SFC Circular to Licensed Corporations, 15 June 2023) clarifies that where the founder retains the power to appoint or remove the trustee, the founder will be considered the UBO for AML purposes. This creates a tension: the founder must cede control to avoid HKEX suitability issues, but the SFC’s AML regime may still require disclosure. The practical solution is to appoint an independent trust corporation with a fixed-term appointment and no founder removal rights.

Tax Considerations: The Hong Kong and BVI Double Tax Treaty Network

The tax efficiency of the trust structure depends on the jurisdiction of the trust and the holding company. The Hong Kong-BVI Double Taxation Agreement (DTA), effective 1 January 2022, provides that a BVI company that is tax resident in BVI (by meeting the economic substance requirements under BVI’s Economic Substance Act, 2018) can benefit from reduced withholding tax rates on dividends paid to its Hong Kong parent. For a trust holding BVI shares, the trust’s income (dividends from the BVI company) will be subject to BVI tax at 0%, but the trust itself is not a tax resident under the DTA unless it carries on a business. The HKEX’s Inland Revenue Department (IRD) has issued Departmental Interpretation and Practice Notes (DIPN) No. 60 (2023) on the taxation of trusts, which states that a trust with a Hong Kong resident trustee and a Hong Kong situs of management will be treated as a Hong Kong tax resident for treaty purposes. This means the trust can claim treaty benefits on dividends from BVI companies, reducing the withholding tax from 10% (under PRC law) to 5% under the PRC-Hong Kong DTA, provided the trust holds at least 25% of the BVI company’s shares and meets the beneficial ownership test.

The PRC’s General Anti-Avoidance Rule (GAAR) Risk

The PRC’s tax authorities have become increasingly aggressive in applying the GAAR to offshore trust structures. In the 2024 case of Taxpayer v. State Tax Bureau of Jiangsu Province (unreported, Jiangsu High Court), the court upheld the tax bureau’s recharacterisation of a BVI trust as a PRC tax resident on the grounds that the trust’s investment decisions were made from Shanghai. For a pre-IPO trust, the risk is that the PRC tax authorities will argue that the trust is a “controlled foreign corporation” (CFC) under Article 117 of the Enterprise Income Tax Law, attributing its undistributed income to the founder as a PRC tax resident. To mitigate this, the trust must have a genuine offshore management presence: board meetings in BVI or Jersey, a local trustee with discretionary authority, and no PRC-based advisors making investment decisions. The trust’s investment committee should be composed of non-PRC residents.

Practical Execution: The Timeline and Documentation

Deploying a family trust pre-IPO requires a minimum of 6-9 months of lead time before the filing of the A1 application with the HKEX. The trust must be settled before the BVI holding company issues shares to the trust, because any subsequent transfer of shares from the founder to the trust will trigger stamp duty in Hong Kong (0.13% of consideration under the Stamp Duty Ordinance, Cap. 117) and potentially a deemed disposal for PRC capital gains tax purposes.

Step 1: Trust Settlement and Asset Contribution

The founder must first establish the offshore trust, typically in Jersey or the Cayman Islands, with a licensed trust corporation as trustee. The trust deed must specify that the trust is irrevocable and discretionary, with the founder excluded as a beneficiary. The trust’s initial asset is cash (usually HKD 10,000 to HKD 100,000) contributed by the founder as a gift, not a loan, to avoid creating a creditor relationship. The trust then subscribes for shares in the BVI holding company at par value (USD 1 per share). This subscription must be documented with a board resolution of the BVI company and a share certificate issued to the trustee.

Step 2: The BVI Economic Substance Filing

Under BVI’s Economic Substance Act, the BVI holding company must file an annual return with the BVI International Tax Authority demonstrating that it meets the economic substance test for a “pure equity holding entity.” This requires the company to have a registered office in BVI, a local registered agent, and to file audited financial statements. The trust, as the shareholder, does not itself need to meet economic substance, but the BVI company must. Failure to comply results in penalties of up to USD 200,000 and potential strike-off.

Step 3: The HKEX Pre-IPO Investment Disclosure

When the trust subscribes for shares in the BVI company, this constitutes a “pre-IPO investment” under HKEX Listing Rule 8.24A (as amended 2024). The sponsor must disclose the trust’s shareholding in the prospectus, along with the trust deed and a legal opinion from BVI counsel confirming that the trust is validly constituted and that the founder does not control the trust’s shares. The Exchange will require a cooling-off period of at least 180 days between the trust’s subscription and the listing date, unless the trust can demonstrate that the subscription was at fair market value.

Actionable Takeaways

1. The trust must be settled by an offshore entity (not the founder as a PRC resident) and structured as an irrevocable discretionary trust with the founder excluded as a beneficiary to avoid triggering PRC Circular 37 filing obligations.
2. The trust deed must vest all voting and dispositive powers in an independent trustee with no founder removal rights to satisfy HKEX Main Board Rule 8.24 on suitability for listing.
3. The BVI holding company must maintain BVI economic substance with a local registered office and audited financial statements to benefit from the Hong Kong-BVI DTA and reduce PRC withholding tax on dividends.
4. The trust’s subscription for shares must occur at least 180 days before the HKEX listing date to comply with the pre-IPO investment cooling-off requirement under Listing Rule 8.24A.
5. The founder must retain no de facto control over the trust’s investment decisions, and all trust management must be conducted offshore, to mitigate the PRC GAAR and CFC attribution risks.