Burden of proof for one-person company assets

The new Company Law has strengthened the regulation of one-person limited liability companies (OPCs), particularly by establishing stricter rules for determining shareholder liability. OPCs, favoured by small and medium-sized investors for their simplified governance structure and single shareholder model, also present significant legal risks.

Judicial practice reveals that more than 60% of cases involving OPCs result in shareholders being held jointly and severally liable due to the commingling of personal and company assets. This article analyses the core risks faced by the sole shareholder of an OPC under the new Company Law, referencing typical cases, and provides systematic recommendations for risk prevention.

Key legal risks

Risk of joint and several liability due to commingling of assets. Under article 63 of the Company Law, shareholders of a one-person company must prove the independence of the company’s assets from their personal assets. Otherwise, they will bear joint and several liability for the company’s debts. The reversal of the burden of proof is the core source of this risk. In practice, shareholders are often found liable for commingling in the following scenarios:

1. 1. Incomplete financial records. Annual audit reports that are either not prepared as required by law or are formally compliant but fail to reflect actual financial flows;
   2. Mixing of personal and company accounts. Use of company funds for personal expenses, or unclear boundaries between family and company assets, such as in “mom and pop” businesses; and
   3. Improper related-party transactions. Lack of contracts or invoices to support financial transactions between the shareholder and the company, making it difficult to establish the nature of such transactions.

In the case of Kema Yinxiang Industries v Liu Wujun (2023), the court held that submitting annual audit reports alone was insufficient to prove asset independence. Shareholders were required to provide additional evidence, such as contracts and bank statements, to substantiate the legitimacy of financial transactions. Failure to do so resulted in joint and several liability.

Decision-making risks due to governance defects. One-person companies, which do not establish the shareholders’ meeting, lack checks and balances for major decisions. This often leads to procedural flaws and abuse of control. Failure to document shareholder decisions in writing can result in challenges to the validity of resolutions. Unilateral control by shareholders over company affairs, if detrimental to creditors’ interests, may also trigger the application of the “disregard of corporate personality” doctrine.

Liability risks following share transfers. Even after transferring their shares, original shareholders remain jointly and severally liable for debts incurred during their ownership if asset commingling occurred. Some shareholders attempt to evade debts by transferring shares to third parties without repayment capacity, but courts can still hold the original shareholders accountable.

Standards and judicial reasoning

In judicial practice, courts are increasingly stringent in examining the independence of assets, typically assessing formal, substantive and continuity-based evidence. Formal requirements include annual audit reports, complete financial records and tax payment certificates.

Substantive requirements focus on the reasonableness of financial transactions, such as ensuring related-party transactions have commercial substance, and the clarity of asset ownership, such as patents being registered under the company’s name. A single annual audit report is insufficient to demonstrate long-term independence, necessitating a consistent multi-year evidence chain.

In the Kema Yinxiang Industries case, the court, in its retrial judgment, emphasised that audit reports only reflect annual financial conditions and cannot prove the absence of commingling between shareholder and company funds. The court required supplementary evidence such as contracts and transaction records, underscoring the importance of substantive review.

Compliance pathways

Establishing independent financial and audit systems. Companies should strictly separate accounts by setting up independent corporate accounts and prohibiting their use for personal or family transactions. Audit systems must be improved, with annual financial reports audited by accounting firms to ensure accuracy and completeness. Related-party transactions should be formalised through written contracts and invoiced, avoiding cash transactions, while transaction records must be properly retained.

Standardising corporate governance and decision-making procedures. A written resolution system should be implemented requiring all major decisions such as investments and guarantees to be documented, signed by shareholders, and archived. External oversight should be introduced by appointing independent directors or supervisors, or establishing advisory committees to balance shareholder power.

Optimising shareholding structures to mitigate risks. Strategic investors should be introduced to convert one-person companies into standard limited liability companies, diversifying shareholding to reduce joint liability risks. Corporate shareholders such as holding companies can be established as shareholders of one-person companies to isolate personal asset risks.

Leveraging legal technology to enhance compliance. Blockchain technology can be used to record key information such as financial data and contracts, ensuring the integrity of evidence chains. Smart compliance systems powered by AI tools can monitor fund flows and issue warnings against the misuse of personal and corporate accounts.

The new Company Law provisions on one-person companies reflect a legislative balance between encouraging investment and protecting creditors. For shareholders, compliance focuses on demonstrating the independence of assets and standardising governance procedures.

Only by establishing a risk control system integrating financial segregation, governance checks and evidence retention can joint liability risks be mitigated, ensuring stable corporate development.

In the future, as ESG (environmental, social and governance) requirements deepen, one-person companies must explore ways to align social responsibility with shareholder interests within the compliance framework to navigate increasingly complex legal and regulatory environments.

Liu Xin is a partner at DOCVIT Law Firm