In the process of constructing and developing a multi-level capital market, market participants have always been looking forward to more stable and transparent tax rules. Along with improvements to the capital market-related tax regime, we are also looking forward to more systematic and well-reasoned income tax incentives which may be the icing on the cake of an increasingly liberal investment environment. Near the end of this year, the Ministry of Finance (“MOF”) and State Administration of Taxation (“SAT”) released a series of tax incentive policies which extend nationally the four tax incentives that have been implemented in the National Innovation Demonstration Zone (“NIDZ”). Four NIDZ Pilot Tax Incentives to be Rolled out Nationwide On October 23, 2015, MOF and SAT jointly released the Circular on Promoting the Pilot Tax Policies in NIDZ Nationwide (Cai Shui  No.116, “Circular 116”), rolling out the four income tax incentives nationwide. Enterprise income tax (“EIT”) policy for corporate partners of limited partnership venture capital enterprises EIT policy for income from transfers of technology Individual income tax (“IIT”) policy for reserve-converted shares IIT policy for equity incentives We summarize below our insights on the four tax rules for your reference. HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com a. EIT Policy for Corporate Partners of Limited Partnership Venture Capital Enterprises Despite the lengthy title, this preferential policy is worthy of applause by corporate partners. SAT released the Announcement on Issues Concerning EIT on Corporate Partners of Limited Partnership Venture Capital Enterprises, dated November 16, 2015 (SAT Announcement 2015 No.81, “Announcement 81”), which further clarified the implementation of the preferential EIT policy for corporate partners. Tax Policy Han Kun Notes Implementat ion Date From October 1, 2015 Applicable to Corporate partners of limited partnership venture capital enterprises nationwide Limited partnership venture capital enterprises refer to limited partnerships which specialize in venture capital and are established in accordance with the Partnership Enterprise Law of the People’s Republic of China, Interim Administrative Measures on Venture Capital Enterprises and Administrative Provisions on Foreign-invested Venture Capital Enterprises. The partnership enterprise itself is not subject to EIT. Instead, the principle of “distribution before taxation” applies, and each partner is itself a taxpayer (“First Distribute, Then Pay Tax”). This preferential tax policy only applies to corporate partners that are resident enterprises subject to audit-based taxation. Form of Investment Equity investment Target Enterprise Non-listed small or medium-sized high-tech enterprises HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Tax Policy Han Kun Notes Investment Term Greater than 2 years (24 months) Greater than 2 years means that, as of October 1, 2015, the limited partnership venture capital enterprise shall have fully contributed capital to a non-listed small or medium-sized high-tech enterprise for a period exceeding 2 years, while at the same time, the corporate partner shall have fully contributed capital to the limited partnership venture capital enterprise for a period exceeding 2 years. Tax Incentives Corporate partners may take a deduction of 70% of the amount invested in the non-listed small or medium-sized high-tech enterprise from its taxable income distributed from the limited partnership venture capital enterprise for the current year, and if its taxable income for the current year is less than 70% of the investment amount, the deduction may be carried forward to the following tax year(s). If a corporate partner invests in more than one qualified limited partnership venture capital enterprise, the deductible investment amount and taxable income attributable to the corporate partner may be calculated on a consolidated basis. It is noteworthy that, pursuant to Circular 116 and Announcement 81, this tax incentive may only be applicable to the following direct structure: corporate partners - limited partnership venture capital enterprise - non-listed small or medium-sized high-tech enterprise As the tax incentives of Circular 116 and Announcement 81 have been implemented nationally, investors may have more flexibility in selecting the location of the enterprise when designing the investment structure HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Salient Issues to be Resolved Limited liability partnerships have been widely used since the new Partnership Enterprise Law came into force in 2007. The Circular on Issues Concerning EIT on Partners of Partnership Enterprises (Cai Shui  No.159), issued by MOF and SAT in 2008, specifies the principle of “First Distribute, Then Tax.” Unfortunately, although the new Partnership Enterprise Law has been amended for nearly ten years, partnership-related income tax collection continues to follow rules which have been in place for more than fifteen years, and which may not be current with the development of the market. For instance, principle matters such as whether the equity investment gains of a corporate partner from investment in a target enterprise through a limited partnership can be considered exempt income remains to be further defined. b. EIT Policy for Income Derived from Transfers of Technology SAT released the Announcement on Issues concerning EIT on Income from Transfers of Technology (SAT Announcement 2015 No.82, “Announcement 82”), which specifies the EIT tax incentives for income from transfers of technology. We briefly summarize the provisions of Circular 116 and Announcement 82 as follows: Tax Policy Han Kun Notes Implementation Date From October 1, 2015 Applicable to Income from transfers of technology derived by resident enterprises from the transfer of non-exclusive technology licenses with terms of more than five years. Scope of Technology Patents (including national defense patents), computer software copyrights, exclusive rights to integrated circuit layout designs, rights to new plant varieties, new biological medicinal products and other technologies as determined by MOF and SAT. Technology shall be limited to proprietary technology. Tax Incentives The portion of annual income derived from transfers of technology of less than RMB 5 million are tax-exempt, and the portion in excess of RMB 5 HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Tax Policy Han Kun Notes million is subject to a 50% reduction in EIT. c. IIT Policy for Reserve-converted Shares i) Salient Issues Concerning Tax Policies for Reserve-converted Shares The IIT related to using undistributed profits and surplus reserves to increase share capital in the current tax collection regime is relatively clear. However, there is more controversy moving from theory to practice for the taxation of capital reserves which are used to increase share capital. Actually, this controversy derives from the following two SAT tax collection documents: Article One of the Circular on the Exemption of IIT on Increase of Share Capital and Bonus Share Distribution of Joint-Stock Enterprises (Guo Shui Fa  No.198, “Circular 198”) stipulates that when a joint-stock enterprise converts its capital reserves into share capital, it shall not be defined as distribution of dividends or other distribution of similar nature, and the amount of the share capital acquired by the individual shall not be treated as taxable income. Article Two of Reply on Taxable IIT on Income from Individual Shares Added Value in Process of Former Urban Credit Cooperatives Transforming into Urban Cooperative Banks (Guo Shui Han  No.289, “Reply 289”) points out that the “Capital Reserve” in Circular 198 shall mean the capital reserve derived from income of a joint-stock enterprise when issuing shares at a premium (“Additional Paid-in Capital”). Individual income from Additional Paid-in Capital shall not be subject to IIT, while individual income from capital reserves other than Additional Paid-in Capital shall be subject to IIT. Reply 289 specifies that only the income from Additional Paid-in Capital of a joint-stock enterprise is not be subject to IIT when converting capital reserves into share capital. In the practice of investment and financing, discrepancies arise as to whether individuals recognize income when converting capital reserves derived from Additional Paid-in Capital of a limited liability company into share capital and when converting capital reserves which are derived from the conversion of a limited liability company into a joint-stock enterprise into share capital. ii) Further Clarification of Tax Incentives for Reserve-converted Shares Although the aforementioned controversy on the taxability of converting capital reserves into share capital has not been fundamentally resolved, Announcement on Issues Concerning the Collection and Administration of IIT on Incentive Shares and Increased Shares from Distributions, released by SAT and dated November 16, 2015 (SAT Announcement 2015 No.80, “Announcement 80”), has HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com provided a positive signal to the market regarding preferential IIT policies for reserve amounts which are converted into shares distributable to shareholders. Tax Policy Han Kun Notes Implementation Date From January 1, 2016 Applicable to Small or medium-sized high-tech enterprises nationwide using undistributed profits, surplus reserve or capital reserve to increase the shareholdings of individual shareholders Small or medium-sized high-tech enterprises refer to certified enterprises registered in China and subject to audit-based taxation, with both annual sales and total assets of not more than RMB 200 million and with not more than 500 employees. Where the listed small and medium-sized high-tech enterprises or the small and medium-sized high-tech enterprises listed on the National Equities Exchange and Quotations use undistributed profits or reserves to increase the shareholdings of individual shareholders, the individual shareholders shall continue to pay IIT in accordance with the existing differentiated IIT policies on dividends, while the preferential policy on installment tax payments shall not apply. Tax Incentives Where such individual shareholders have difficulty in paying the IIT in a lump sum, they may develop installment plans by themselves according their actual circumstances and pay taxes in installments within five calendar years, and report the relevant materials to the competent tax The increased shares distributed to individual shareholders shall be subject to IIT at the rate of 20% under the item of “income from interest, dividends and bonuses”. Where any of the aforesaid shareholders transfer the distributed shares and thus obtain cash income, the cash income shall first be used to HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Tax Policy Han Kun Notes authorities for filing. pay the outstanding taxes. In case that the relevant enterprise declares bankruptcy before any of the aforesaid shareholders transfer the distributed shares, and such shareholder obtains no income or income less than the initial investment amount after disposing of the relevant rights and interests, the competent tax authorities may exempt such shareholder from payment of the outstanding IIT. d. IIT Policy for Equity Incentives According to Circular 116 and Announcement 80, individuals acquiring equity incentives from high-tech enterprises subject to audit-based taxation may enjoy relevant IIT preferential policies. Tax Policy Han Kun Notes Implementation Date From January 1, 2016 Applicable to Equity incentives granted to relevant technicians of high-tech enterprises nationwide in return for their technological achievements Relevant technicians refer to employees who are granted equity incentives approved by resolutions of the board of directors and shareholders’ meeting of the enterprise, including technicians who have made outstanding contributions to the research, development and industrialization of technological achievements of the enterprise and managers who have made outstanding contributions to enterprise development. The equity incentives for all staff of an enterprise shall not be subject to the tax incentives specified in Circular 116 and HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Tax Policy Han Kun Notes Announcement 80. Tax Incentives Where such individuals have difficulty in paying the IIT in a lump sum, they may develop installment plans by themselves according to their actual circumstances and pay taxes in installments within five calendar years, and report the relevant materials to the competent tax authorities for filing. The tax payable by an individual receiving equity incentives shall be determined by referring to the income tax calculation for stock options. If any of the aforesaid technicians transfer the equity awards (including the bonus stock derived from the equity award) and thus obtain cash income, the cash income shall first be used to pay the outstanding taxes. Han Kun Viewpoint: Extending the four NIDZ tax incentives nationally will play a positive role in stimulating entrepreneurship and innovation in the market and in creating a fair tax environment. We recommend that market participants pay attention to the applicable scope and filing requirements specified in the relevant policies, so as to control the risk of tax compliance in investment and financing transactions.