In recent years, authorities in China have used the charge of "illegal business activity" to crack down on activists and civil society groups who are working on sensitive political or social issues. In January, Guo Yushan, an activist and founder of the Transition Institute, a think tank that aims to, “facilitate China’s transformation into a country characterized by liberal democracy, strong civil society, and free markets,” was arrested on the charge and indicted in April. Last year, documentary filmmaker Shen Yongping was sentenced to a year in prison on the same charge after making a documentary about China's constitution.
On China Change, AIDS activist Wan Yanhai gives a brief overview of the development of China's civil society in recent decades and explains the reasons why many groups are forced to register as businesses, thereby leaving them open to the charge of "illegal business activity" if their activities are deemed unwelcome by authorities:
As the 21st century began, driven by the trend of global issues and collaboration, such as environmental protection, poverty alleviation, AIDS prevention and treatment, and gender equality, international funders thronged to China, and there was an explosive growth of independent civil society groups. The government was also looking forward to the capital, technology and vigor that foreign funders and civil society participation would bring.
Since the development of civil society organizations had been severely restricted in China, many independent civil society groups registered as businesses, while conducting for the most part nonprofit activities in the public interest. Well-known examples include the Beijing Red Maple Hotline for Women and the China branch office of Green Peace.
[...] When Chinese civil society groups receive foreign funds, their purpose is to serve the Chinese people; they are only forced to accept and to rely upon these funds in the face of the twin hurdle of zero government funding and restrictions on domestic fundraising. When grant agreements changed to business contracts, it inadvertently ran up the legal risk for these groups on both economic and political fronts. Some groups received donations through individuals in the group, which likewise posed legal risks.
In recent years, the Chinese government opened up registration to civil society groups, encouraging public interest groups to register with civil affairs agencies, and supporting their development through government procurement of NGO services. However, it still limits the registration of groups that work on political and legal issues. [Source]
Non-profit groups in China are facing further restrictions under a proposed law that would limit the activities of foreign NGOs, which provide funding and other crucial support to China's civil society groups.
Update, Thursday 21:00 PST: A ChinaFile discussion compiles various viewpoints of the proposed Foreign NGO law and its potential impact for civil society groups in China. Lawyer Teng Biao explains that the law poses yet one more layer of obstruction for domestic NGOs in carrying out their work:
Not only does the draft bill give the police power, it also crudely enlarges that power to encompass supervision of every aspect of foreign NGOs’ work, from registration, permitting, annual inspections, and investigations to seizing data, sealing offices, and freezing assets, and this is on top of the pubic security organs’ existing power to investigate, detain, etc. One can imagine what a disaster this will be for foreign NGOs. It’s also an embodiment of the way the authorities seem to be reverting to class struggle as the lens through which they view civil society. From this perspective any non-governmental organization becomes an anti-government organization, an instrument of West's hostility and determination to subjugate us, a tool for fomenting Color Revolution.
Despite the critical reaction the draft law's naked agenda has sparked, there should be little suspense about whether it will pass. The attitudes it espouses and projects are not an aberration.
The authorities have never let down their guard toward NGOs, whether they’re foreign or domestic. When it comes to registering, receiving funding, and carrying out their work, NGOs in China have always faced layer upon layer of obstruction. Many of the leading Chinese NGOs were never able to register officially with the Ministry of Civil Affairs and instead have been forced to set themselves up as businesses. Many more exist only thanks to gray areas in the law. And many foreign NGOs don’t know where to turn either. [Source]
Read more about NGOs in China, via CDT.