China: Modernised industry regulation, greater oversight, and a strengthened DTA network

October 26 2017

In September and October 2017 a series of new and proposed rules sought to modernise industry regulation, give the public authorities greater oversight of payments and asset ownership, and strengthen China's network of international tax agreements.

Modernised industry regulation

China's economic transformation demands the continual upgrade of the national regulatory framework, as the economy shifts from simple processing to advanced services and manufacturing, and a modernised financial system evolves to support this.

China's private equity (PE) and venture capital (VC) industry has grown exponentially in recent years. This has been driven by the growth in demand for alternative channels, outside the largely state-controlled banking sector, for the financing of innovative, new enterprises. It has also been propelled by the growth in pools of private wealth seeking more diverse investment opportunities. To facilitate this, the State Council (cabinet) held a public consultation (which closed on September 30 2017) on the draft Interim Regulations for the Administration of Private Investment Funds to replace the existing 2014 measures. The draft regulations set out how the China Securities Regulatory Commission (CSRC) will regulate PE funds, what they may invest in, who may invest in them, who may manage them and the rules governing promotion and the raising of funds. It should be noted that the China tax rules governing PE and VC funds are in a state of rapid evolution. Guidance published in June 2017 clarified asset manager VAT administration obligations, and guidance in July 2017 set out how enhanced corporate income tax (CIT) and individual income tax (IIT) incentives are available for VC investment in innovative small and medium-sized enterprises (SMEs) at seed capital and start-up stages. The China PE/VC tax and regulatory frameworks will continue to develop at an accelerated pace.

Many of China's privately owned enterprises (POEs), especially in the blossoming SME sector, rely heavily on finance guarantee companies for the capital to operate and expand their businesses. From October 1 2017, new Administrative Regulations on Supervision of Financing Guarantee Companies took effect, replacing the existing 2010 rules. The new regulations focus in particular:

On ensuring that financing guarantee companies have adequate capital;
That they have arrangements in place for other companies to assume their obligations, under outstanding guarantee contracts, where the original guarantor is dissolved; and
That they refrain from self-dealing with owners or from engaging in business activities unrelated to their core guarantee business.

Oversight of payments and asset ownership

In line with other countries around the world, China is seeking to get a much better handle on the ownership of assets and conduct of payments by residents, partly to limit money laundering risk but also to tackle tax evasion more effectively.

On September 1 2017, China's Administrative Measures on Trust Registration, issued by the China Banking Regulatory Commission (CBRC), came into effect, requiring Chinese trust companies to register trust products that they have issued, including details of the beneficial owners of such products. The CBRC and other government authorities are set to have access to these records – it remains to be seen how much access the tax authorities would have, however. There is a global trend towards establishing obligations for the registration of the beneficial ownership of trusts with public authorities, with the EU and OECD both developing relevant frameworks. While the proposals in some EU countries look to establish public registers of trust ownership, the Chinese trust register does not yet go this far.

In August 2017, the People's Bank of China (PBOC) set new rules for non-financial institutions providing online payment services to clear their transactions through a centralised national clearing house, starting from June 2018. This would catch in particular mobile payments made using the extremely popular Alipay and WeChat Pay services, which are progressively replacing cash and card payment throughout China. It might be noted that the draft Tax Collection and Administration (TCA) Law, expected to be finalised in 2018, requires Chinese financial institutions to bulk report, on a spontaneous basis, taxpayer bank transactions exceeding certain thresholds to the Chinese tax authorities. Centralisation of mobile payment clearing would facilitate a similar tax reporting move.

China is set to bring a huge amount of additional tax relevant data on tap over the next two years. This fuels a big data-driven approach to tax audit targeting and taxpayer credit ratings, which is facilitated by major technology and systems investments by the Chinese tax authorities in recent years. The trust beneficial ownership and payment reporting measures outlined above cross over with the 2018 commencement of the tax data exchange under the OECD common reporting standard system, and a TCA Law measure requiring e-commerce platforms to submit a tax report on online trader activity. A transformation of the China tax compliance landscape is on the cards for the coming years.

Strengthened network of international tax agreements

China's tax and regulatory modernisation is supported by ongoing enhancements to its network of international tax agreements.

In June 2017, China signed the OECD Multilateral Instrument (MLI) for the rollout of the BEPS changes to its tax treaties. This initially provided, through a matching mechanism, for updates to 46 of China's treaties, including those with most of China's major OECD trading partners, such as Japan, Korea, Germany and the UK, but excluding the US. As more of China's treaty partners sign up to the MLI and set out their treaty update preferences, the number of China's tax treaties set for update will grow. Since June, MLI signing/updates by Nigeria and Norway have led the number of China treaties updated by the MLI to rise to 48 by October 2017. This continued expansion has key consequences for business and investment activity with China.

From September 1 2017, a China-Netherlands bilateral social security agreement will be in effect. This allows for seconded staff to just pay social security contributions in one, as opposed to both countries. With the increased integration of China and foreign business operations, China has been rapidly building up its network of such agreements – nine have been signed with Germany, South Korea, Denmark, Finland, Canada, Switzerland, Netherland, France and Spain. China is also negotiating further agreements with Belgium, Serbia, Japan and Romania, with more to follow.