China Tax Monthly
Beijing/Hong Kong/Shanghai
In this issue of the China Tax Monthly, we will discuss the following tax developments in China:
1.
Base Erosion and Profit Shifting: a China Perspective
2.
Regulation on Voluntary Special Tax Adjustments Published
3.
Shaanxi Case: China’s First Tax Litigation Case on Cross-border Share Transfers
4.
Jinzhou Case: Taxation of Foreign Invested Partnership Clarified
5.
Qidong Case: Taxes Paid in Prior Indirect Transfers Recognized
6.
Ningbo Case: Tax Treaties Apply in Indirect Transfers
7.
Qinghai Case: Denial of Treaty Rate for Dividend Withholding
8.
New Rules on VAT Exemption for Exported Services
9.
Catalogue of Encouraged Industries in Western Region Released
1.
Base Erosion and Profit Shifting: a China Perspective
On September 16, 2014, the Organization for Economic Cooperation and Development (“OECD”) released its first set of reports and recommendations (“2014 Deliverables”)1 for changing international tax rules and domestic tax rules to combat base erosion and profit shifting (“BEPS”) by multinational enterprises (“MNEs”). The 2014 Deliverables address 7 of the 15 actions listed in the BEPS Action Plan2 published in July 2013 by the OECD. The 15 actions in the BEPS Action Plan will be finalized in three phases: September 2014, September 2015 and December 2015.
On September 17, 2014, China’s State Administration of Taxation (“SAT”) released its views on BEPS and provided the Chinese translation of the 2014 Deliverables on its official website3.
1 http://www.oecd.org/ctp/beps-2014-deliverables.htm.
2 http://www.keepeek.com/Digital-Asset-Management/oecd/taxation/action-plan-on-base-erosion-and-profit-shifting_9789264202719-en.
3 http://www.chinatax.gov.cn/n2735/n2834/n2835/c784400/content.html.
September & October 2014
China Tax Monthly is a monthly publication of Baker & McKenzie’s China Tax Group.
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2 China Tax Monthly | September & October 2014
Background of the BEPS Project4
On February 12, 2013, the OECD released a detailed report titled “Addressing Base Erosion and Profit Shifting” (“BEPS Report”)5 in response to the growing concerns expressed at the 2012 G20 meeting over MNEs artificially shifting profits to low tax jurisdictions. Five months later in July 2013, the OECD launched the BEPS Action Plan, which was fully endorsed by the G20 and identified 15 specific actions to address the BEPS challenge. The principal object of the BEPS Action Plan is to ensure “profits should be taxed in the jurisdiction where economic activities occur and value is created”. The 2014 Deliverables recommend modifying domestic laws and tax treaties to:
•
Address the tax challenges of the digital economy (Action 1);
•
Neutralize the effect of hybrid mismatch arrangements (Action 2);
•
Counter harmful tax practices (Action 5);
•
Prevent the abuse of tax treaties (Action 6);
•
Address transfer pricing issues in the key area of intangibles (Action 8);
•
Improve transparency for tax administration through improved transfer pricing documentation and a template for country-by-country reporting (Action 13); and
•
Develop a multilateral instrument to amend bilateral tax treaties (Action 15).
SAT’s Position on BEPS
Overall, the SAT has shown strong support for the BEPS project. The SAT has established a BEPS task force to systematically study, develop and implement the BEPS initiatives and turn them into anti-avoidance legislation and practice in China. Moreover, all local tax authorities have been instructed by the SAT to study the BEPS initiatives and actively counter tax avoidance.
SAT’s Response to BEPS
As part of the SAT’s response to BEPS, on July 29, 2014, the SAT issued Notice 146 to require PRC tax authorities at all levels to participate in a nationwide search for and investigation of all large payments of service fees or royalties from Chinese resident enterprises to their offshore related parties. For a detailed discussion of Notice 146, please refer to the August 2014 issue of our Tax Client Alert. In the SAT’s April 2014 letter6 to the United Nations working group on transfer pricing issues, the SAT also took a firm stance on intragroup service payments, calling for scrutiny of their benefits to the Chinese recipients. In a meeting held by the SAT on October 10, 2014 in Beijing, the SAT emphasized that it will take this opportunity to improve China’s domestic rules and international tax administration capabilities by:
4 http://www.oecd.org/ctp/beps.htm.
5 http://www.keepeek.com/Digital-Asset-Management/oecd/taxation/addressing-base-erosion-and-profit-shifting_9789264192744-en#page1.
6 http://www.un.org/esa/ffd/tax/TransferPricing/CommentsPRC.
China Tax Monthly | September & October 2014 3
•
Revising the Implementing Measures for Special Tax Adjustments (Circular 2), which comprise the majority of Chinese transfer pricing rules, by the end of 2015;
•
Releasing administrative guidelines on general anti-avoidance rules by the end of 2014;
•
Releasing new regulations on indirect share transfers by the end of 2014;
•
Revising the Tax Administrative and Collection Law to permit PRC tax authorities to collect more information from taxpayers so that they can effectively counter aggressive tax planning;
•
Establishing automatic information exchanges with more than 45 countries by the end of 2018.
In the meeting, the SAT also mentioned 15 unacceptable practices by MNEs. These unacceptable practices7 include claiming losses incurred by single-function entities of foreign companies, abuse of tax treaties, unreasonably high pricing of intangibles, disregarding the particularity of the Chinese market, engaging in aggressive tax planning, establishing structures without substantive economic activities, etc.
Observations
In the context of BEPS, it is no surprise that MNEs have been challenged more often by Chinese tax authorities in recent years. Examples of these challenges include: taxation of indirect transfers of Chinese-resident enterprises; denial of tax treaty benefits for dividends, interest, royalties and capital gains; denial of tax deductions claimed for intragroup payments such as royalties and service fees; and transfer pricing methodologies that favour higher levels of source-country taxation. According to the People’s Daily8, Chinese tax authorities collected RMB46.9 billion in enterprise income tax (“EIT”) for tax anti-avoidance in 2013. The individual liabilities that make up this total have also been quite high. Ten foreign-invested enterprises (“FIEs”) each paid more than RMB100 million in EIT in 2013.
Now that the SAT has officially endorsed the BEPS project, we can anticipate that Chinese tax authorities will become more willing to counter aggressive tax planning. MNEs should prepare documentation to support their positions and examine their current tax planning structure in the context of BEPS. In addition, MNEs should also be aware of their home country’s tax rules and adopt strategies to avoid double taxation. In case of disputes, MNEs must prepare defense strategies, stand firm during negotiations with tax bureaus, and be prepared to enter formal proceedings such as administrative review and litigation.
7 http://shiju.tax861.gov.cn/ssxc/tpxw/display.asp?id=10407.
8 http://news.xinhuanet.com/fortune/2014-10/13/c_127089666.htm.
4 China Tax Monthly | September & October 2014
2.
Regulation on Voluntary Special Tax Adjustments Published
On August 29, 2014, the SAT issued SAT Bulletin [2014] No. 549 (“Bulletin 54”) to provide further guidance on voluntary special tax adjustments.
As background, Chinese tax anti-avoidance mechanisms include: (i) administrative mechanisms (e.g., prompted but voluntary special tax adjustments by taxpayers); (ii) service mechanisms (e.g., advance pricing arrangements) and (iii) investigative mechanisms (e.g., transfer pricing audits and Notice 698 investigations). In recent years, local Chinese tax authorities have used voluntary special tax adjustments to address tax anti-avoidance issues in real time and have effectively encouraged companies to make voluntary increases in taxes paid. Special tax adjustments refer to various Chinese anti-avoidance measures, such as transfer pricing, advance pricing arrangements, cost sharing agreements, controlled foreign enterprises, thin capitalization, and general anti-avoidance rules.
Although voluntary special tax adjustment policies have already been in place, their implementation varies in different localities. The different implementation can affect whether and how interest charges are levied for tax payments made as a voluntary adjustment. Bulletin 54 aims to formalize these voluntary adjustment practices. Some noteworthy aspects of Bulletin 54 are:
•
A taxpayer identified as having special tax adjustment risks (e.g., transfer pricing is not at arm’s length) will receive a “Notice of Tax Matters” (“Notice”) from the tax authorities and be encouraged to voluntarily adjust its income tax upward. Previously, tax authorities made this request orally.
•
Voluntary tax adjustments have no binding effect on the tax authorities. Even if a taxpayer has made a voluntary adjustment and paid additional taxes, the tax authorities may still conduct a tax audit and make additional special tax adjustments (e.g., transfer pricing adjustments). Even if requested by the taxpayer, the tax authorities may not directly confirm the adequacy of a proposed voluntary tax adjustment. When such request is made, however, the tax authorities are instructed to initiate a special tax adjustment investigation to determine a reasonable adjustment approach and implement the tax adjustment.
•
Upon serving the Notice, tax authorities should request the taxpayer to provide transfer pricing documentation or other relevant documents within 20 days. If the taxpayer submits the requested documents on time, the additional five percent interest penalty stipulated by the Implementing Regulations of Enterprise Income Tax Law will not be charged on any voluntary adjustment that results; however, interest will be charged on voluntary adjustments based on benchmark interest rate published by the People’s Bank of China.
9 Bulletin of the State Administration of Taxation on Monitoring and Management of Special Tax Adjustments, August 29, 2014.
China Tax Monthly | September & October 2014 5
Because voluntary adjustments and additional tax payments do not protect a taxpayer from future challenge by the tax authorities, it is important that the taxpayer engage a competent tax adviser to deal with any voluntary adjustment requests from the tax authorities.
3.
Shaanxi Case: China’s First Tax Litigation Case on Cross-border Share Transfers
Earlier this year, a Chinese appellate court in Shaanxi ruled10 that the funds transferred by a buyer to a target company, which used the funds to discharge a counter guarantee made by the seller’s parent company on a loan, constitute share transfer income for the non-resident seller. This case is China’s first tax litigation case on cross-border share transfers.
Facts
In May 2012, a French company named Cimfra (China) Ltd (“Offshore Seller”) transferred its 100% share in Shaanxi Fuping Cement Co. Ltd (“PRC Target Company”) to a Hong Kong company named Faithful Alliance Ltd. (“Offshore Buyer”) in exchange for 284.2 million shares of stock issued by West China Cement Ltd, the Offshore Buyer’s parent company. According to the share transfer agreement, the 284.2 million shares of West China Cement Ltd constituted the total consideration for the transfer of the PRC Target Company’s shares worth RMB504 million.
Before the share transfer in April 2012, the Offshore Seller’s parent company, Ciments Francais, had issued a counter guarantee to UniCredit Banca S.p.A, which provided a guarantee to its Shanghai branch on the loan made by the Shanghai branch to the PRC Target company. According to the share transfer agreement, the Offshore Buyer had an obligation to discharge Ciments Francais’ counter guarantee within three months following the closing of the share transfer transaction. In September 2012, the PRC subsidiary company of the Offshore Buyer, Yaobai Special Cement Group Co. Ltd (“Yaobai”), transferred a set of funds to the PRC Target Company, and then the PRC Target Company used the funds to pay off the bank loan and related interest of RMB296.05 million owed by it in order to discharge Ciments Francais’ counter guarantee.
The Pucheng State Tax Bureau (“PSTB”), however, deemed the RMB504 million and the RMB296.05 million as gross income derived by the Offshore Seller for selling shares in the PRC Target Company and collected RMB22.6 million of EIT from the Offshore Seller. The Offshore Seller appealed the portion of the decision that said the RMB296.05 million should be considered part of the share transfer income it derived.
The corporate structure of this case is depicted in Diagram One below.
10. Full text of the judgment is available (in Chinese) at http://www.court.gov.cn/zgcpwsw/shanxi/sxswnszjrmfy/xz/201408/t20140814_2510951.htm.
6 China Tax Monthly | September & October 2014
Diagram One: Corporate Structure in Shaanxi Case
Ciments Francais
(FR)
UniCredit Banca
West Cement
(JE)
HK Buyer
(Faithful Alliance)
Yaobai Cement
French Seller Shanghai Branch
(Cimfra China)
PRC Target
(Fupiing Cement}
counter guarantee
guarantee
transferred RMB296.05 million
Capital, loan or
what else ?
Holding and Ruling
The key substantive issue of this case on appeal was whether the
RMB296.05 million should be considered as part of the share transfer
income derived by the Offshore Seller.
The appellate court held that (i) the Offshore Buyer’s obligation to get the
counter guarantee discharged was one of the main provisions of the share
transfer agreement; (ii) the RMB296.05 million transferred by Yaobai to
the PRC Target Company was used to perform the discharge obligation;
(iii) the RMB296.05 million were consideration paid by the Offshore Buyer
or its related parties to perform the discharge obligation; and (iv) the
RMB296.05 million should be considered as part of the share transfer
income derived by the Offshore Seller.
Observations
This decision has been widely criticized by Chinese tax professionals.
Other than the RMB504 million share transfer consideration, the Offshore
Seller never received or derived directly or indirectly any income in any
form from the Offshore Buyer, the Offshore Buyer’s related parties, or
any other parties. Since the counter guarantee had not yet become a debt
of the Offshore Seller’s parent company, the discharge of the counter
guarantee did not constitute the cancellation of indebtedness income for
the Offshore Seller or its related parties. In fact, the RMB296.05 million
should be owed by the PRC Target Company to Yaobai.
Oddly, in an identical case reported in China Taxation News in its
December 5 2012 issue, the tax bureau adjusted the share transfer price
based on the general anti-avoidance rule under the Enterprise Income
Tax Law. For more discussion of the case, please refer to the January
& February 2013 issue of our China Tax Monthly. It is unclear why the
application of the general anti-avoidance rule was not raised in this case
on appeal.
Nonetheless, this case provides a cautionary example of how a poorly
drafted share transfer agreement can result in unexpected tax costs.
Therefore, it is imperative for the negotiation/drafting team and the tax
China Tax Monthly | September & October 2014 7
team to work together to ensure that all transactional documents are drafted properly.
4.
Jinzhou Case: Taxation of Foreign Invested Partnership Clarified
On September 24, 2014, China Taxation News11 reported that a foreign corporation acting as a limited liability partner in a foreign invested partnership (“FIP”) established in Jinzhou, Liaoning province, was subject to 25% EIT because the FIP’s fixed place of business was deemed to be the limited liability partner’s permanent establishment (“PE”) in China.
The FIP had two partners: a Hong Kong investment company as limited liability partner with a 99 percent partnership interest in the FIP and a Shanghai consulting company as general partner with a 1 percent partnership interest. Both partners had the same parent company in Taiwan.
According to the China Taxation News report, the FIP distributed RMB1.12 million in profits to the limited liability partner in 2013. The limited liability partner claimed that the profits it received from the FIP should be characterized as dividends and enjoy the 5 percent preferential withholding rate provided by the China-Hong Kong Double Taxation Arrangement (“DTA”). The tax bureau, however, concluded that the profits the limited liability partner received should be characterized as business profits rather than dividends because the FIP was not a corporate entity but a tax pass-through entity.
Even though the profits were deemed to be business profits, the limited liability partner argued that these profits should still be exempt from EIT under the China-Hong Kong DTA because the limited liability partner did not have a PE in China. The limited liability partner argued that the partnership’s fixed place of business was exclusively owned by the FIP and the limited liability partner did not have a fixed place of business in China. However, the tax bureau took the view that the FIP was not an EIT taxpayer and the FIP’s fixed place of business should be deemed as the limited liability partner’s fixed place of business in China.
Observations:
China does not yet have any law or comprehensive set of rules regarding the taxation of partnerships. Some general guidance is available under Circular 159, which establishes that partnership profits are first allocated to the partners, who are subject to individual income tax (“IIT”) or EIT depending on whether they are individuals or enterprises. However, China does not have any clear rules on how to tax a foreign partner in an FIP.
This decision clarifies that the FIP’s fixed place of business will be deemed as the foreign limited liability partner’s PE in China. Although this decision is not binding on future cases, it does provide some general guidance that might be considered persuasive by Chinese tax authorities in the future.
11. http://www.ctaxnews.net.cn/images/2014-09/24/11/zgswb2014092411_b.jpg .
8 China Tax Monthly | September & October 2014
5.
Qidong Case: Taxes Paid in Prior Indirect Transfers Recognized
On August 27, 2014, China Taxation News12 reported that the Qidong State Tax Bureau (“QSTB”) of Jiangsu province collected RMB30 million of EIT on the indirect transfer of two Chinese resident enterprises in Qidong city of Jiangsu province. Tax officials became interested in the indirect transfer when the deal was disclosed to the public by the buyer’s listed parent company (“ListCo”).
The target company (“BVI Target”) wholly owned a Hong Kong company (“HK Co.”), which in turn had 100 percent direct ownership interests in the two Chinese resident enterprises. Before the indirect transfer deal, the BVI Buyer held 51 percent of the BVI Target while the BVI Seller held 49 percent of the BVI Target. After acquiring 49 percent for US$550 million, the BVI Buyer became the sole shareholder of the BVI Target. The corporate structure before the indirect transfer is depicted in Diagram Two below.
Corporate Structure before the Transaction in Qidong Case
Offshor
e CountryBVIHKPRCList Co.OOfJapan FundBVI BuyerBVI TargetHK Co.BVI SellerChina Co.China Co.
According to the China Taxation News, the QSTB found that the intermediate holding companies had no employees, no substantive business activities, and no assets other than the ownership interest in the two Chinese resident enterprises. Consequently, according to Article 6 of Guo Shui Han [2009] No. 698 (“Notice 698”), the QSTB recharacterized the indirect transfer as a direct transfer of the two Chinese resident enterprises. The 49 percent interest in the BVI Target was acquired by the BVI Seller for US$500 million in a previous indirect transfer deal in 2012.
12 http://www.ctaxnews.net.cn/images/2014-08/27/10/zgswb2014082710_b.jpg .
China Tax Monthly | September & October 2014 9
Therefore, the QSTB only assessed capital gains of US$50 million at a 10% EIT rate on this indirect transfer.
Observations
One noteworthy point of this case is that the QSTB recognized the purchase price (US$500 million) paid by the BVI Seller in a previous indirect transfer as the tax basis for calculating the capital gains of this indirect transfer. For more information of the previous indirect transfer, please refer to the February 2012 issue of our China Tax Monthly.
Another noteworthy point of this case is that the QSTB appeared to disregard the reasonable commercial purpose of the indirect transfer and instead focused on the economic substance of the intermediate holding companies. In doing so, the QSTB ignored plausible arguments for reasonable commercial purpose, including: (i) as a minority shareholder of the BVI Target, the BVI Seller had no authority to compel the HK Co. to sell the two Chinese resident enterprises to the BVI Buyer via a direct transfer; and (ii) the BVI Seller was not involved in establishing the BVI Target or the HK Co and did not establish the current corporate structure, which the BVI Seller merely inherited in 2012 when it acquired the 49 percent interest in the BVI Target in the previous indirect transfer deal.
The final noteworthy point of this case is that even without a formal withholding obligation, the BVI Buyer was asked by the QSTB to assist in collecting EIT from the BVI Seller. At last, upon the BVI Seller’s delegation, the BVI Buyer withheld and remit EIT to the QSTB. Therefore, prudent buyers may feel the need to protect themselves and guard against withholding risk by requiring a certain degree of Notice 698-related compliance from sellers.
6.
Ningbo Case: Tax Treaties Apply in Indirect Transfers
On September 3, 2014, China Taxation News13 reported that the Ningbo State Tax Bureau (“NSTB”) collected RMB3.6 million of EIT on the indirect transfer of a Chinese resident enterprise from a German company.
The shareholders of the Hong Kong target company were a German company and a Chinese individual. Each shareholder held 50% of the shares in the Hong Kong holding company, which was a sole parent company of a Chinese resident enterprise incorporated in Ningbo city, Zhejiang province. The Hong Kong holding company being transferred was a pure shell company without assets, employees or operations. Therefore, the taxable nature of the transaction under China’s indirect share transfer rules was not in dispute.
While the facts of the case have little reference value, the tax treaty application is noteworthy. The transferor, a German company, was from a tax treaty jurisdiction. According to the report, the NSTB confirmed that the tax treaty between Germany and China should apply to the indirect transfer. However, the tax treaty between Germany and China did not prevent China from taxing capital gains from the indirect transfer
13 http://www.ctaxnews.net.cn/images/2014-09/03/09/zgswb2014090309_b.jpg .
10 China Tax Monthly | September & October 2014
because Article 13(4) of the treaty provides that China has a right to tax capital gains derived by a German resident from the transfer of shares in a Chinese resident enterprise. Upon re-characterization under Notice 698, the transferor was deemed to transfer shares in a Chinese resident enterprise.
Although the tax treaty in this case did not prevent China from taxing the indirect transfer, this case is notable because it confirms that in an indirect transfer, tax treaty between the transferor’s jurisdiction and China should be applicable as the tax treaty would be in a direct transfer. In other words, the indirect transfer of minority shares may not be taxed in China under most of China’s tax treaties.
7.
Qinghai Case: Denial of Treaty Rate for Dividend Withholding
On September 24, 2014, China Taxation News14 reported that Qinghai Provincial State Tax Bureau (“QPSTB”) denied beneficial owner status to a non-resident enterprise (“HoldCo.”) that was a tax resident of a low tax jurisdiction and collected approximately RMB18 million in dividend withholding tax from HoldCo.
The Holdco held a 90 percent equity interest in a Qinghai company that was a tax resident of China. The ultimate shareholder of the HoldCo was a Canadian Company. At the end of 2011, the Qinghai company distributed RMB180 million in dividends to HoldCo. The normal dividend withholding tax rate under Chinese law is 10%, but a reduced rate of 5% would apply by way of the tax treaty between the HoldCo’s jurisdiction and China if HoldCo was the beneficial owner of the dividends received. The Qinghai company applied for the 5% reduced withholding tax rate.
However, during the investigation, the QPSTB found that HoldCo had no fixed assets and had only five directors and five employees who were working for several companies at the same time. In addition, HoldCo did not conduct any substantive business activities beyond holding shares in the Qinghai company. HoldCo explained that as an investment management company, it primarily derived profits from its equity investments and therefore did not need a large number of assets or employees. The QPSTB did not accept HoldCo’s explanation and concluded that HoldCo was not a beneficial owner because its assets, business operations and personnel were too small to match its income.
Observations:
In order to enjoy reduced withholding rates under tax treaties, the recipient of dividends, interest or royalties must be a beneficial owner. The Chinese tax notice Guo Shui Han [2009] No. 601 issued in 2009 elaborates on this beneficial owner status and essentially requires the recipient of dividends, interest or royalties (i) to have economic substance and (ii) to own and control the relevant income. However, the rules are not clear how much substance is sufficient.
14 http://www.ctaxnews.net.cn/images/2014-09/24/09/zgswb2014092409_b.jpg .
China Tax Monthly | September & October 2014 11
This case shows that Chinese tax authorities tend to require the recipient’s assets, business operations and personnel to match its income. In other words, the more income the recipient derives, the more substance the recipient should have. Moreover, this case shows that employees working for several companies at the same time (e.g., employees provided by an offshore company formation agent) will not be considered by tax authorities for substance analysis purposes. These positions taken by the Chinese tax authorities may make it more difficult for MNEs to qualify as a beneficial owner because a holding company predominantly engaging in equity investment generally does not have many assets, business operations or personnel.
8.
New Rules on VAT Exemption for Exported Services
On August 27, 2014, the SAT issued SAT Bulletin [2014] No. 4915 (“Bulletin 49”) to cover VAT exemption for exported postal services and telecommunications services. Bulletin 49 took effect on October 1, 2014. Bulletin 49 supersedes SAT Bulletin [2013] No. 52 (“Bulletin 52”) and restates much of the basic regulatory framework for the VAT exemption of exported services. For a detailed discussion of Bulletin 52, please refer to the September 2013 issue of our Tax Client Alert.
Since the issuance of Bulletin 52, the scope of the VAT pilot program has been expanded to cover postal services and telecommunications services. Accordingly, Bulletin 49 also expands the scope of the VAT exemption for exported services provided by domestic VAT taxpayers to cover:
1.
Postal services for exported goods, which refer to:
––
The delivery of letters and packages from China to locations outside China;
––
The issuance of postage stamps to recipients outside China;
––
The export of stamp album; and
––
The provision of agency services, such as express delivery services, to foreign recipients.
2.
Pick-up and delivery services for exported letters and packages.
3.
Telecommunications services provided to foreign entities or individuals who pay the service charges to intermediary foreign telecommunications entities that in turn pay the Chinese telecommunications companies (i.e., global roaming services). These telecommunications services provided to foreign telecommunications companies include international voice calls and short message or multimedia message services.
Another important change in Bulletin 49 is the relaxation of the payment flow requirement. In order to qualify for VAT exemption, the VAT-exempt service revenue should be received from abroad. Previously, Bulletin
15 Bulletin of the State Administration of Taxation on the Re-issuance of Administrative Measures for Value-Added Tax Exemption on Cross-border Taxable Services Under the VAT Pilot VAT Program (For Trial Implementation), (SAT Bulletin [2014] No. 49), issued on August 27, 2014 and effective from October 1, 2014.
12 China Tax Monthly | September & October 2014
52 did not clarify what constitutes “revenue received from abroad”. In practice, tax authorities used to interpret this requirement as the payments had to be made by the foreign service recipient to the domestic service provider. Such strict interpretation had made it difficult for some MNEs to qualify for VAT exemption because many MNEs make service payments through their Chinese settlement centers. Under Bulletin 49, however, payments made by foreign service recipients through their Chinese settlement centers (e.g. cash pooling units) can be deemed as “revenue received from abroad”.
Bulletin 49 may be applied retrospectively to services provided prior to October 1, 2014. Taxpayers previously denied VAT exemption as a result of the use of Chinese settlement centers can re-apply for the VAT exemption under Bulletin 49.
9.
Catalogue of Encouraged Industries in Western Region Released
On August 20, 2014, the National Development and Reform Commission released the long-awaited Catalogue of Encouraged Industries in the Western Region (“Western Catalogue”). The Catalogue took effect on October 1, 2014.
As background, in July 2011, China issued a circular granting any enterprise with operations located in the western region of China a reduced 15 percent EIT rate from January 1, 2011 to December 31, 2020 if the enterprise’s main business (i) is in an “encouraged industry” as provided in the Western Catalogue and (ii) generates more than 70 percent of the enterprise’s total revenue. As the Western Catalogue with the list of encouraged industries was released three years after the opening of reduced EIT eligibility, enterprises were deemed eligible as an encouraged industry for the reduced EIT rate according to three state-level industry catalogues (“Old Catalogues”) as provided in the SAT Bulletin [2012] No. 12 (“Bulletin 12”).
Any enterprise that has been enjoying the 15 percent reduced EIT rate according to the Old Catalogues should re-examine its eligibility as of October 1, 2014 under the Western Catalogue.
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