Checklist of hot China tax issues for MNEs in 2018
In 2018, multinational enterprises (MNEs) should in particular be on alert for the following anticipated China tax developments.
New withholding tax guidance – Following the October 2017 issuance of State Administration of Taxation (SAT) Announcement 37, foreign investors should monitor how the rules will be implemented in practice. This is particularly important for M&A transactions involving indirect transfers of Chinese assets. Indirect transfers, which may be taxable under Announcement 7, also continue to be an M&A planning challenge due to uncertainties with capital gains calculations and qualification for internal group restructure relief. M&A investors need to monitor the interaction of Announcement 37 with Announcement 7 and carefully structure their investments going forward.
Reinvestment rules in China – In July 2017, the State Council proposed a new incentive rule that would defer the imposition of withholding tax on dividends paid out of China, where the amounts were reinvested in 'encouraged projects' in China. Investors who are considering reinvesting their investment returns in China should monitor further developments from the SAT on which industries are covered and how these rules will be implemented.
Claiming tax treaty benefits under BEPS – China has introduced various rules in respect of claiming tax treaty relief under China's double tax agreements (DTAs) including the limitation on benefits (LOB) rule and the principal purposes test (PPT). Foreign investors investing into China therefore have to ensure that their investment structures meet the minimum substance requirements, and that appropriate supporting documentation is maintained to withstand any potential challenges from the tax authorities. The impact of these new rules will become more apparent when making tax treaty relief claims in future.
For more information, contact John Gu, KPMG China M&A tax practice leader, firstname.lastname@example.org.
Increased VAT audits and queries – With the VAT reforms having been implemented for more than 18 months now, the tax authorities are expected to significantly increase their enforcement efforts. Businesses are strongly encouraged to carry out health checks to identify any shortfalls in their VAT compliance and processes. This is especially important for businesses that implemented changes following the recent VAT reforms, given that the time period was short and errors occurred.
Use of data and analytics in managing VAT risks – With recent enhancements to the Golden Tax System, the tax authorities are increasingly able to use data and analytics to identify potential VAT errors and anomalies. Data and analytics solutions, such as KPMG's Tax Intelligence Solution, can assist in identifying and rectifying those errors and anomalies, including reconciling data between business enterprise resource planning (ERP) systems and the Golden Tax System.
For more information, contact Lachlan Wolfers, KPMG China indirect tax practice leader, email@example.com.
National reform changes customs audit and review process – In 2017, the China customs authorities undertook a national reform that significantly changed the national customs organisational structure. It is expected that more frequent and targeted customs audits will be performed, as adoption of data analytical tools allow better monitoring of the accuracy of enterprise declarations. Enterprises importing/exporting goods into/from China need to enhance their internal control procedures and ensure customs declarations are accurate.
For more information, contact Eric Zhou, KPMG China trade and customs practice leader, firstname.lastname@example.org.
New treaty and permanent establishment (PE) guidance – In June 2017, China signed the BEPS Action 15 multilateral instrument (MLI), committing to update nearly half its existing tax treaties with effect from 2019/2020. In anticipation of the addition of new PPT articles to many of China's treaties, the SAT is set to release new treaty guidance in 2018. This may bring some long-awaited clarity to the application of treaty relief for foreign investor income from China. At the same time, while China did not elect to update its PE articles through the MLI, the much anticipated PE guidance is also set for release in 2018. As both securing access to treaty relief and managing PE exposures are key issues for structuring operations and investment cross-border into China, investors are advised to monitor closely for this new guidance. They should prepare to adapt documentation, management protocols, and investment and operational structures, where necessary.
Common reporting standard (CRS) – The automatic exchange of information (AEOI) by China under the OECD CRS framework will commence in 2018. The Chinese tax authorities have already invested heavily in big data analysis capabilities, are effectively pooling data from across government agencies, and are set to bring more taxpayer information, e-commerce and domestic financial institutions on tap with the upcoming new Tax Collection and Administration Law. The CRS information received from next year is thus likely to be quickly deployed in targeting taxpayers for audit and in building taxpayer credit ratings, and so businesses need to be aware of sharply heightened enforcement going forward.
For more information, contact Chris Xing, KPMG China international tax practice leader, email@example.com.
Increasing individual income tax (IIT) enforcement on overseas sourced income – The Chinese tax authorities are making much greater use of tax information exchange mechanisms, and this will increase further with the anticipated implementation of CRS by China from 2018. In this context, the compliance of Chinese nationals with their China tax filing obligations for their overseas income is set to become an ever more important focus area for the Chinese tax authorities. This is particularly true of overseas employment income derived by outbound expatriates working overseas on Belt and Road Initiative (BRI) projects. Chinese enterprises consequently need to plan ahead and carefully manage their employees' IIT matters.
IIT reform – In 2018, tackling inequality will be a key Chinese government policy goal and the IIT reform could play a key role in these efforts. As the final IIT reform is highly anticipated to be introduced in 2018, enterprises should continue to monitor for further developments and be prepared to implement necessary changes.
For more information, contact Michelle Zhou, KPMG China global mobility service practice leader, firstname.lastname@example.org.
Preferential research and development (R&D) tax policies – Technological innovation has become a driving force for China's continued economic growth. China's preferential R&D tax policies are key to fostering and facilitating the implementation of innovation-driven enterprise development strategies. Enterprises engaged in R&D should proactively monitor the changes to R&D tax policies, ensuring that these can be leveraged to enhance enterprise core competitiveness, while managing tax compliance risks.
For more information, contact Bin Yang, KPMG China R&D tax practice leader, email@example.com.
Environment Protection Tax (EPT) Law – The 13th five-year plan (from 2016 to 2020) sets out a Chinese government 'green development philosophy'. As a crucial element of the government's environmental strategy, the EPT was instituted in late 2016, to replace the previous pollution discharge fees, and will apply from January 1 2018. The EPT is expected to increase the cost burden of polluting behaviour, and is intended as a significant deterrent for polluting emissions. Further guidance is anticipated and affected enterprises should keep a close eye on policy developments, and quickly assess the EPT business impact.
Milestone resource tax (RT) reform – Effective from July 2016, the Chinese government reformed and expanded the scope of RT impositions. The reforms transitioned RT from a volume basis tax to an ad valorem basis tax, abolished local resource consumption-related charges and fund contributions, and set uniform tax rate ranges and tax incentives. Following the abolition of the previous local charges on resource extraction and use, RT has become the sole national tax levied on the use of mineral resources, and affected enterprises need to ensure they factor the changes into business planning and processes.
For more information, contact Jessica Xie, KPMG China resource tax practice leader, firstname.lastname@example.org.
New guidance on royalty and service charges – In March 2017, the SAT issued the long awaited Announcement 6, which covers substantive transfer pricing issues, royalty fees and intragroup services. Intragroup service charges are set to become even more of a key focus area for the tax authorities in China. This is particularly the case for 'non-beneficial' or shareholders' services, service charges from low-substance entities, or charges paid to low-tax jurisdictions. Taxpayers can expect greater scrutiny on royalty fees, and on charges deemed not commensurate with benefits generated for the local entity. In respect of secondary marketing intangibles, with the final 'P' added to the OECD's development, enhancement, maintenance, protection, exploitation and promotion (DEMPEP) concept for the attribution of economic ownership of intangibles, China is expected to focus on (secondary) local marketing intangibles generated by significant promotional activities in China, and the incremental profits expected from such activities.
Mutual agreement procedure (MAP) – With more transfer pricing controversies on the horizon, post-BEPS, the effectiveness of dispute resolution mechanisms becomes highly relevant for MNEs. The expected outcome from BEPS Action 14, and the peer review to which China is subject, is expected to be an increase in the effectiveness of MAP and a reduction in the number of unresolved cases after a two-year period.
For more information, contact Cheng Chi, KPMG China transfer pricing practice leader, email@example.com.
Digital e-commerce – As China continues to digitalise, the Chinese tax authorities will increasingly embrace technology tools and digitised processes that will improve the tax administration system and the efficiency of tax collection. Taxpayers can expect certain deficiencies in the rules governing the taxation of digital economy activity to be amended in the near future. This should provide a fairer tax environment for digital players vis-à-vis those in the traditional economy.
For more information, contact Sunny Leung, KPMG China e-commerce practice leader, firstname.lastname@example.org.
Thousand enterprises initiative (TEI) – Since the launch of the TEI initiative in October 2015, the Chinese tax authorities have been collecting data from the TEI-covered enterprises and performing analyses to understand the business and tax risks. Drawing on this accumulated data and the analysis conducted, it is expected that the Chinese tax authorities will make even more effective use of tax risk indicators (by industry) to identify tax risks. Taxpayers can therefore expect an increase in tax risk enquiries or tax investigations by the Chinese tax authorities in 2018.
Tax risk assessment model used by tax authorities – The Chinese tax authorities have been rapidly building a tax risk assessment model with a set of tax risk indicators and benchmarking ranges. In April 2017, the SAT issued Announcement 10, which provides taxpayers with an optional tax service to automatically identify and correct their tax calculation errors in advance of formally submitting their corporate income tax (CIT) annual filing returns. With the Chinese tax authorities introducing various measures, such as automated cross-checking of VAT filing returns, taxpayers can expect tax authorities to bring more transparency to taxpayers on how tax risk assessments are performed in the near future.
For more information, contact Tracy Zhang, KPMG China tax management consulting leader, email@example.com.