The secondment of expatriate employees to China has been a headache for multinational companies since 2009, when the Chinese tax authorities started to treat secondment as creating a permanent establishment of the overseas employer. In 2010 the State Administration of Taxation (SAT) provided helpful guidance about cross-border secondment in the context of applying bilateral tax treaties, but local tax bureaux have found it difficult to implement this guidance and local practices have continued to vary widely across China.
The SAT has now issued Bulletin 19 (2013), effective from June 1 2013, to provide comprehensive rules under domestic tax law with respect to cross-border secondment. Bulletin 19 was accompanied by an explanation that was posted on the SAT website on May 6 2013. Bulletin 19 and the explanation offer some hope of easing the pain associated with expatriate secondments.
Sending expatriates to work in China under a cross-border secondment arrangement has always been complicated due to inconsistent and competing concerns related to Chinese tax, employment, immigration and foreign exchange control laws and requirements. From the Chinese employment law perspective, a cross-border secondment arrangement is often preferred over local employment, because the expatriate's legal employment relationship remains offshore and governed by foreign law, which is often more employer friendly. Secondment may also allow the employee to continue to participate fully in benefit plans in the home country, while local employment in China may lead to complications with such participation.
The competing concerns between employment and tax became acute in 2009, when the SAT launched an investigation into secondment arrangements. Local tax authorities throughout China soon began to levy enterprise income tax and business tax on reimbursements for salary and benefits that the Chinese host companies receiving the secondees remitted to the overseas employers. This taxation was based on the assertion that the secondment creates a permanent Chinese establishment of the overseas employer, and that the overseas employer provides taxable services to the host company through the secondee. The foreign exchange control rules have provided an enforcement mechanism for levying these taxes, as Chinese banks cannot process the outward remittance of the secondment reimbursements without a tax clearance certificate from the competent Chinese tax bureau certifying that taxes have been paid or that the payment is not subject to tax.
The situation has evolved over the years, and in some localities it has become possible to structure secondment arrangements that the tax authorities will not deem as permanent establishments. However, the specific local practices are not uniform, and in some cases the specific requirements make it difficult or impossible to obtain the employment law advantages discussed above.
The SAT issued guidance about cross-border secondments as part of Notice 75 (2010), which is a long and detailed notice about the interpretation of bilateral tax treaties. The basic tests under Notice 75 are whether the overseas employer or the Chinese host company:
- supervises and controls the secondee's work in China;
- bears the costs of the secondee; and
- benefits from the secondee's activities.
In the former case, the overseas employer may create a permanent establishment; in the latter case, the overseas employer should not create a permanent establishment. Although this guidance should have made it easier to structure secondment arrangements to avoid taxation, the guidance has not been well implemented to date. One reason may be that the guidance relates to tax treaties and many local tax officials are not yet familiar with treaty issues.
Bulletin 19 provides guidance about cross-border secondment that applies to all foreign companies that second personnel to work at a host company in China, irrespective of whether a bilateral tax treaty applies.
The general test under Bulletin 19 as to whether the foreign company creates a taxable presence through the secondment is whether the foreign company bears the risk and responsibility associated with the secondee's work in China and regularly evaluates the secondee's performance.
Bulletin 19 lists the following factors that indicate a taxable presence:
- Payments from the Chinese host company to the foreign company are in the nature of service fees or management fees.
- Payments from the Chinese host company to the foreign company exceed the amount of the foreign company's payroll costs for the secondee.
- The foreign company keeps part of the payment received from the Chinese host company, rather than paying all of it to the secondee.
- The secondee's individual income tax has not been fully paid in China.
The foreign company has the authority to decide:
- the number of secondees sent to the Chinese host company;
- their salaries and wages; and
- their work locations.
The explanation posted on the SAT website suggests that the presence of any one of the above factors can lead to the determination of a taxable establishment.
Bulletin 19 provides an exception for stewardship activities, although it does not use that term. It states that where the secondment is solely for exercising shareholder rights and protecting legitimate shareholder interests (eg, where the secondee's activities include advising on investments by the Chinese host company or attending shareholder or board meetings on behalf of the foreign shareholder), the foreign company will not be treated as creating a taxable establishment in China.
Although the guidance under Bulletin 19 is generally similar to the previous guidance under Notice 75, local tax bureaux may find it more practical to implement. In addition, it provides a general basis in domestic tax law – as opposed to merely an interpretation of tax treaties – for evaluating whether a cross-border secondment gives rises to a taxable establishment of the foreign company. This factor may also result in better implementation at the local level.
Uniform implementation of Bulletin 19 will provide greater certainty to multinational companies and host companies in China about how to structure cross-border secondments in a way that avoids creating a taxable establishment in China.
For further information on this topic please contact Andreas Lauffs or Jonathan Isaacs at Baker & McKenzie's Hong Kong office by telephone (+852 2846 1888), fax (+852 2845 0476) or email (firstname.lastname@example.org or email@example.com).
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