On October 11, 2016, the State Administration of Taxation (“SAT”) released Announcement  No. 64 on improving the administration of advance pricing arrangements (“APAs”) (“Announcement 64”), which becomes effective on December 1, 2016.
Announcement 64 replaces the original rules on APAs in chapter 6 of the Provisional Implementing Measures on Special Tax Adjustments (Circular Guo Shui Fa  No. 2, “Circular 2”), effective since January 1, 2008. This marks another milestone in SAT’s effort to improve transfer pricing rules and put OECD’s BEPS action plans into effect in China. It also gives better guidance for local tax authorities and companies based on accumulated experience from practice.
According to the most recent 2014 APA Annual Report, almost nine years after the first unilateral APA was signed, the Chinese tax authorities have now signed 70 unilateral APAs and 43 bilateral APAs. Pending APAs show a significant trend of multinational companies moving towards bilateral APAs.
Highlights of Announcement 64
1. Main changes
a) Level of tax authorities is lower
Under Announcement 64, the local tax authorities in charge of special tax adjustment will now process applications for unilateral APAs; for bilateral and multilateral APAs, the application must be proposed to the local tax authorities and SAT.
b) Signing stages are adjusted
Circular 2 had provided a six-stage signing procedure, including pre-filing meeting, formal application, examination and evaluation, negotiation, signing, and implementation and monitoring.
Announcement 64 adjusted the six-stage signing procedure to (i) pre-filing meeting, (ii) submission of a letter of intent, (iii) analysis and evaluation, (iv) formal application, (v) negotiation and signing, and (vi) implementation and monitoring.
Changes in new procedure:
- It includes a new stage involving the submission of the signing plan. If the applicant and the tax authorities reach an agreement in the pre-filing meeting, the tax authorities will issue a notice on the submission of a letter of intent, and the applicant will submit its draft application.
- The analysis and evaluation stage comes before the formal application, the work and threshold for the applicant to make formal application. At the analysis and evaluation stage, the tax authorities and applicant can discuss the draft application and make any adjustments, which means this stage will involve more proactive participation and cooperation from the applicants.
- Negotiation and signing stages are merged to shorten the timeframe.
c) Amended application conditions
Qualified applicants must have carried out related party transactions of over RMB 40 million in the three years before submitting the notice of letter of intent.
If one of the following situations occurs, the tax authorities can reject an applicant’s letter of intent:
- The applicant is involved in an ongoing tax inspection.
- The applicant has not filed the annual related party reporting forms in the past.
- The applicant has not prepared, kept and provided transfer pricing documentation properly in the past.
- The tax authorities and the applicant did not reach an agreement during the pre-filing meeting.
d) Amended applicable periods
APAs apply to related party transactions conducted in three to five consecutive years from the year the letter of intention to sign is submitted.
Announcement 64 also specifies that, once approved by the tax authorities, APAs can be used to assess and adjust previous years’ related party transactions for up to 10 previous years.
e) Extended annual reporting period
Announcement 64 extends the annual reporting period on APAs’ implementation status to six months following year end, and extends checks on the implementation of APAs to yearly.
f) Stricter monitoring standard
APAs will adopt the quartile method to determine the price and profit level. If during the APA implementing period, a company’s operation results are outside the interquartile range, the tax authorities will be entitled to adjust the operation results to the median of the range.
During the APA implementation period, if a company’s weighted average of operation results is lower than the median level and is not adjusted, the tax authorities will not renew it.
2. Application documents
Announcement 64 makes numerous references to information on value chain or supply chain analysis and geographical advantages relating to cost saving and market premium, which clearly shows SAT’s interest in this information.
One of the tax authorities’ evaluations focuses on assessing whether (i) the applicants’ analysis of value chain or supply chain is complete and clear, (ii) the applicants fully consider their geographical advantages, and (iii) the applicants fully consider local companies’ contributions to value creation.
3. Prioritized cases
Announcement 64 does not give a time frame for the tax authorities to process each stage of the APA application procedures. Therefore, due to the increasing number of cases each year, applicants are advised to proactively cooperate with the tax authorities to get their cases accepted as prioritized cases.
Under Announcement 64, the tax authorities can prioritize cases meeting any one of the following conditions:
- Applicant’s annual related party reporting and transfer pricing documentation is complete and reasonable, and fully discloses relevant information.
- Applicant's corporate tax credit level is Grade A.
- Tax authorities had launched a special tax adjustment inspection in the past and the case was closed.
- Applicant is renewing a previous APA and the relevant facts and operation circumstances have not changed substantially.
- Applicant provides complete application documents, with clear and sufficient analysis of value chain or supply chain, and fully considers its geographical advantages and the transfer pricing methods that will be adopted are reasonable.
- Applicant proactively cooperates with the tax authorities during the process.
- The tax authority of the other contracting state involved in a bilateral or multilateral APA has a particular interest in signing the APA and attaches high importance to the application.
- Other factors that favor signing APAs.
4. Internal exchange of information
Following the minimum requirement under the BEPS action plan, under Announcement 64, unilateral APAs signed after April 1, 2016, will be included in the compulsory information exchange framework and SAT will exchange this information regularly with other contracting states.
Date of issue: October 11, 2016. Effective date: December 1, 2016