On November 10, 2010, the Ministry of Finance, the State Administration of Taxation, and the China Securities Regulatory Commission jointly issued Circular Caishui [2010] No. 70, entitled Supplementary Notice on Individual Income Tax (‘IIT’) Treatment and Administration on Individual Income Derived from Transfer of Restricted Stocks of Listed Companies (Circular 70). Circular 70 elaborates on what “restricted stock” means, when a taxable event occurs, how taxable income is calculated, and what compliance requirements are, thus further enhancing the individual income tax collection and administration in relation to transfer of restricted stock.

Circular 70 was issued to clarify an earlier directive on the same subject. The authorities issued a Notice on IIT Treatment and Administration on Individual Income Derived from Transfer of Restricted Stocks of Listed Companies on December 31, 2009 (Circular 167). Circular 167 stipulates that, starting from January 1, 2010, individual income derived from the transfer of restricted stock originally obtained from stock reform or initial public offering (IPO), including gifted stock or stock dividend derived therefrom, will be treated as “income from transfer of property,” thus taxable at a tax rate of 20%.

According to the prevailing IIT law, individual income derived from the transfer of stock acquired and traded on the Shanghai or Shenzhen Stock Exchanges are exempted from IIT. However, due to the historical background of the stock reform, certain investors were able to obtain non-tradable stocks at below market prices. These non-tradable stocks later became tradable in the market after the stock reform, and the relevant finance and tax authorities want to levy tax on the income derived from transfer of such restricted stocks as “income from the transfer of property” at the rate of 20% in accordance with the IIT Law. Circular 70 now requires the securities agents to be IIT withholding agents under certain circumstances. Therefore relevant securities agents should be prepared to take proper steps to ensure that they fulfill their provisional or direct withholding obligations.

Meanwhile, individual investors should also be prepared to voluntarily declare their income from selling restricted stocks in case there is no IIT withholding agents.