On August 29, 2014, the SAT issued SAT Bulletin  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.
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.