On March 7, 2014, the State Council released its Opinion on Further Optimizing the Market Environment for Corporate Merger and Restructuring (Guo Fa [2014] No. 14, “Circular 14”), to improve the institutional mechanisms and policies that encourage corporate mergers and restructuring. Circular 14 gives overall guidance on special treatments for merger and corporate restructuring transactions with regard to enterprise income tax (“EIT”), land value-added tax, value-added tax and business tax.

In response to Circular 14, on December 25, 2014, the Ministry of Finance (“MoF”) and the State Administration of Taxation (“SAT”) jointly released Caishui [2014] No. 109 (“Circular 109”) to expand the scope of the EIT tax deferral treatment.

To date, the EIT tax deferral treatment for corporate restructuring transactions has been regulated under Caishui [2009] No.59 (“Circular 59”), which establishes the special conditions merger and corporate restructuring transactions must meet to qualify for it. Because of the difficulty of satisfying all the conditions, specifically the one related to having a 75% minimum percentage in the target company’s equity (or assets), many corporate restructuring transactions did not benefit from the EIT tax deferral treatment.

Circular 109 relaxes EIT restructuring rules, lowering the 75% threshold and introducing a new type of qualified transaction. This is expected to result in a new surge of corporate restructuring in China.

Circular 109’s main highlights are as follows:

  • For equity acquisition transactions, the minimum equity acquisition percentage needed to benefit from the EIT tax deferral treatment is lowered from 75% to 50%. The other requirements and procedures established under Circular 59 still apply.
  • For asset acquisition transactions, the minimum asset acquisition percentage needed to benefit from the EIT tax deferral treatment is lowered from 75% to 50%. The other requirements and procedures established under Circular 59 still apply.
  • Circular 109 introduces transfer of equity or assets within a group as a new type of transaction eligible for the EIT tax deferral treatment, establishing the following requirements:
  1. Eligible group transfers are those made (i) between resident enterprises, when one directly holds 100% of the other’s shares, or (ii) between resident enterprises that are 100% directly owned by the same enterprise(s).
  2. The transfer price must be equal to the net book value of the equity or assets transferred.
  3. The transfer has a reasonable business purpose and is not carried out to reduce, avoid or delay tax payments.
  4. The original business activities of the company whose equity or assets are transferred must not be changed in the 12-month period following the transfer.
  5. The transferor and the transferee must not recognize a profit or loss for accounting purposes.

The tax deferral treatment will mean:

  1. the transferor and the transferee do not recognize income for the transfer;
  2. the transferee recognizes the original net book value of the equity or assets as their tax basis; and
  3. the transferee uses the original net book value of the equity or assets to calculate their depreciation.

There are no other requirements, which gives a different treatment to fully domestic intergroup corporate restructuring transactions (to which other restrictions under Circular 59 do not apply).

Circular 109 became effective retroactively on January 1, 2014. Taxpayers may now reassess the completed or pending corporate restructuring transactions previously not eligible for the EIT tax deferral treatment that have not yet been settled.

Further developments in land value-added tax, value-added tax and business tax concerning corporate restructuring transactions are expected soon, implementing Circular 14.

Date of issue: December 25, 2014. Effective date: January 1, 2014.