On May 28, 2009, the PRC State Administration of Taxation (SAT) issued the Circular on Strengthening the Administration of Individual Income Tax Collection on Income from Share Transfers. Due to increasing individual investment in non-public companies, the transfer of shares in such companies has become more frequent. By laying out specific requirements, the Circular aims to regulate the collection of individual income tax on income derived from transferring shares of non-public companies.
Under current tax rules, income derived from the transfer of shares in non-public companies is categorized as “income from the transfer of property” and thus is subject to a 20 percent individual income tax. The Circular sets forth that the transferor or the transferee, whoever is obligated to pay tax under the existing tax rules, must pay individual income tax and notify the tax authority after all parties to the transaction have signed the share transfer agreement and the transaction is completed, and before registering the share transfer with the authority for industry and commerce (AIC). The parties may then apply to the AIC to register the share change with a tax clearance or exemption certificate issued by the tax authority.
If, however, the parties apply to the AIC for a registration of share change after the parties to the share transfer transaction have executed the share transfer agreement without having completed the transaction, the parties should notify the tax authority by filing a Report Form for Change of Individual Shareholder at the time it applies to the AIC. After the company’s shareholding structure registration has been changed and the transaction has been completed, the taxpayer must pay individual income tax.
To combat tax evasion, the Circular calls for stricter examination and assessment of the fairness of proposed transactions. Specifically, the tax authority should closely examine the notification materials and determine whether the proposed share transfer is an independent transaction and whether the price is economically reasonable. For unjustified transactions with a conspicuously low price, the tax authority may use the net asset value per share or the net asset value represented by the transferred shares as the basis to calculate the tax payable.
In addition, the Circular aims to establish an internal mechanism to facilitate the levying of individual income tax on income derived from share transfers. Under the Circular, a given tax bureau should keep an electronic record of individual income tax paid on income derived from share transfers to record information about all individual shareholders of companies within its jurisdiction. The tax authority should also cooperate with the AIC, sharing information on share transfers on a regular basis.