Local tax authorities throughout China are stepping up efforts to collect individual income tax (IIT), with more frequent and extensive investigations of both individuals and companies, according to a September 2017 report from management consultancy Deloitte.
This includes particular focus on three areas:
- claims relating to non-taxable benefits in kind (BIKs),
- potential permanent establishment (PE) exposure where a non-resident company sends business travelers to China, and
- the taxation of Chinese individuals receiving income from foreign sources.
Benefits-In-Kind
Under the current IIT rules, certain BIKs provided in China to a foreign employee are not considered taxable benefits subject to certain requirements being met: the amounts must be reasonable (whatever that means), supported by documentation, paid to the foreign employee on a noncash/reimbursement basis or settled directly by the employer. Non-taxable BIKs include relocation and moving expenses; home leave expenses; and costs incurred in the PRC for housing accommodation, meals, laundry, language training and children’s tuition. Under the new scrutiny, Chinese tax authorities may require companies to formally register a foreign employee’s BIKs and report any changes in the amount of non-taxable BIKs.
Permanent Establishments
Local tax authorities will collaborate more closely with the State Administration of Taxation and other authorities to expand the information channel for discovering PEs of foreign companies in China. Tax authorities are reviewing foreign exchange remittances made by companies in the form of “service fees” to identify any IIT exposure arising from a potential PE created by a foreign company when the company sends business travelers to China. Should Chinese tax authorities determine that a PE has indeed been created, the foreign company would have to report and pay Chinese corporate income tax on the portion of its worldwide profits that is generated in China, resulting in a significant additional reporting and tax burden.
Foreign Income for Chinese Nationals
Much like U.S. permanent residents, Chinese individuals generally are subject to PRC IIT on their worldwide income. Tax authorities in Beijing, Shanghai, Suzhou, and Wuhan, as well as other cities, will step up the IIT administration of Chinese employees seconded from China. Of course, this applies also when a Chinese subsidiary of a non-Chinese multinational sends Chinese employees to corporate headquarters or to another subsidiary abroad in the context of a global talent management policy.
One aspect of these campaigns is the gathering of detailed income and tax and assignment information and supporting documentation, as well as conducting investigations that focus mainly on tax risk areas, such as:
- The Chinese company’s failure to withhold tax from an employee’s onshore income and/or the individual’s failure to self-report offshore income;
- The incorrect IIT reporting of director’s fees derived by a Chinese individual who is a member of the board of directors of an overseas affiliated company;
- The under-reporting of overseas income, incorrect calculation of a foreign tax credit for IIT purposes and/or incorrect usage of a foreign exchange rate; and
- Delayed IIT reporting due to tax filing and payment deadline discrepancies between China and the country of the secondment.
These changes occur in the context of a recently introduced value-added tax (VAT) reform in China. One of its effects is a decline in the tax revenue collected by local tax authorities. To compensate for the shortfall, efforts have shifted to collecting IIT, with IIT reporting by foreigners working in China and Chinese employees working overseas the focus of the local tax authorities’ tax audits/investigations. With the help of broad-based data collection, the PRC government is stepping up efforts to collect taxes at a time when economic growth is slowing and state expenditure is growing at an accelerated pace – as exemplified by the buildup of military capabilities; imbalances in income between the Chinese coast and poorer areas further inland; and pensions in a rapidly aging society.
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