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Chinese investment and TP: A more robust framework emerges

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Outbound Chinese investment is now taking place against the backdrop of an increasingly robust and supportive TP framework. Xiaoyue Wang, and Choon Beng Teoh examine issues such as the MAP and APA programmes.

In recent times, there has been an increasing focus by the Chinese tax authorities on outbound investment and business activity by MNE groups with their headquarters in China. One of their first priorities is to examine whether the headquarter entities charge any service fees to group subsidiaries outside China. If services have in fact been rendered, and the service recipients benefit from these services, the transfer pricing (TP) regulations require that such costs be charged out by the service providers.

Based on our experience, Chinese outbound companies do not usually charge out the costs they incur for supporting the wider group (for example finance, human resources, legal, IT and other corporate head office costs). If they do charge out it is sometimes done haphazardly. For these groups to get up to speed with proper TP compliance, intragroup charging arrangements need to be appropriately designed and implemented. This includes identifying the appropriate cost base, determining the manner in which corporate support is provided to each overseas subsidiary, calculating the service charges either via direct charges or indirect charges, and applying arm's-length mark-up rates for each of the services. Both the Chinese and overseas tax authorities responsible for the group subsidiaries are equally interested that service charges are set appropriately among group companies.

As a further point, many 'going-out' enterprises have large-scale operations that meet the threshold for the preparation and submission of country-by-country (CbC) reports. China made mandatory the annual submission of CbC reports when it adopted the OECD BEPS Action 13 three-tier documentation, with State Taxation Administration (STA) Announcement 42 issued in 2016.

The CbC report contains information on large MNE groups' operational footprint, breaking down a group's revenue, profits, tax and other attributes by tax jurisdiction. The Chinese requirements are in line with the OECD requirements. Groups with consolidated annual revenue of at least RMB 5.5 billion ($778 million), with their ultimate parent company in China (or a Chinese entity appointed by its group to file the CbC report), must file the CbC report in China by May 31: five months after the close of the financial year end of the group. This, in effect, means that enterprises filing the CbC reports in China have a rather small window of time between the closing of the financial books and the preparation and submission of the CbC reports.

The Chinese tax authorities have indicated that the quality of the CbC reports they have received is less than satisfactory. Given the importance of the submission, and the potential for them to be exchanged with other tax authorities around the world (who may query inconsistencies or anomalies), it is imperative for taxpayers to ensure that the CbC reports meet the necessary standards. The preparation of the CbC reports should follow the guidance provided by the Chinese tax authorities and that issued by the OECD. Furthermore, taxpayers should ensure that that their reporting systems are able to extract the relevant financial information and data required by the CbC report. This should ensure minimal human intervention to reduce risk of errors.

To date, the Chinese tax authorities have activated the multilateral exchange of CbC reports with 44 tax jurisdictions, largely through the CbC Multilateral Competent Authority Agreement (MCAA). Such a large exchange network increases the potential tax exposures of Chinese outbound MNEs in foreign jurisdictions.

The Chinese tax authorities, having received the information contained in the CbC report, proceed to conduct various analyses to identify the TP risks of the MNE group. The analyses are generally conducted at the level of the local tax authorities and the results are shared with the STA. The STA is the conduit for cross-border exchange in the event that any of the information needs to be exchanged with overseas tax authorities.

The OECD has published a handbook, The Country-by-Country Reporting: Handbook on Effective Tax Risk Assessment, and it explains how this can be done. This takes into account the different approaches to tax risk assessment applied in different countries, the types of tax risk indicator that can best use the information contained in CbC reports, and the challenges that may be faced by tax authorities in interpreting and applying the risk assessment results. It shows that CbC reports can be a very important tool for the detection and identification of TP risk and other BEPS-related risks, used alongside other information that a tax administration typically holds, and gives the authorities leads for further enquiries. However, it also cautions on the risk that simplistic and misleading conclusions may be drawn if CbC reports are used in isolation. The guidance is generally used as a reference by the Chinese tax authorities in practice.

The OECD handbook identifies 19 risk indicators that could be derived from the information contained in the CbC report. The OECD emphasises that none of these potential indicators should be taken by themselves to suggest that a group poses an increased tax risk in a jurisdiction. Rather, they may be combined in different ways to build an overall picture of the level of tax risk posed by a group. The 19 risk indicators are:

1) The footprint of a group in a particular jurisdiction;

2) A group's activities in a jurisdiction are limited to those that pose less risk;

3) There is a high value or high proportion of related party revenues in a particular jurisdiction;

4) The results in a jurisdiction deviate from potential comparables;

5) The results in a jurisdiction do not reflect market trends;

6) There are jurisdictions with significant profits but little substantial activity;

7) There are jurisdictions with significant profits but low levels of tax accrued;

8) There are jurisdictions with significant activities but low levels of profit (or losses);

9) A group has activities in jurisdictions which pose a BEPS risk;

10) A group has mobile activities located in jurisdictions where the group pays a lower rate or level of tax;

11) There have been changes in a group's structure, including the location of assets;

12) Intellectual property (IP) is separated from related activities within a group;

13) A group has marketing entities located in jurisdictions outside its key markets;

14) A group has procurement entities located in jurisdictions outside its key manufacturing locations;

15) Income tax paid is consistently lower than income tax accrued;

16) A group includes dual resident entities;

17) A group includes entities with no tax residence;

18) A group discloses stateless revenues in Table 1 of the CbC report; and

19) Information in a group's CbC report does not correspond with information previously provided by a constituent entity.

Chinese outbound enterprises are, therefore, reminded to extract data as accurately as possible in completing the CbC reports and assess the risks that may arise to minimise risk of any potential future tax challenges by the authorities. For example, as noted in the sister TP chapter, China transfer pricing enforcement: Modernised approach matures, the CbC report is one of the data sources leveraged for conducting risk assessment under tax authority profit monitoring mechanisms. Consequently, it is important that the output of the risk assessment is not influenced by the inconsistent data from the CbC report.

Further, in light of various factors such as global trade tensions, the rise of costs operating in China, the impact of economic substance rules on group structures, and the impending changes to the international tax rules through BEPS 2.0, it is important to reflect the arrangements of the MNE group in the CbC report accurately and to tell a consistent story to all tax authorities, including in China.

Mutual agreement procedures

China is acutely aware that a swift response to international tax disputes, along with the provision of tax certainty to taxpayers, are vital to maintaining the flourishing international trade promoted by the country's leadership.

In a global climate that has seen some major economies taking a backward step by erecting protectionist measures, China has been unrelenting in advocating enhanced global trade, not least through its Belt and Road Initiative (BRI). In this regard, China is committed to ensuring efficient resolution of international tax disputes through judicious use of mutual agreement procedures (MAPs), and aims to meet the MAP minimum standards set out in the BEPS Action 14 paper. It also seeks to provide tax certainty through an enhanced advance pricing agreements (APA) programme. These programmes are intended to support certainty for outbound and inbound investment. In 2018, the STA facilitated cross-border tax settlements and conducted bilateral consultation with 11 treaty partners across 167 cases. A total of RMB 3.6 billion of double taxation was eliminated for taxpayers.

MAP caseloads have been increasing dramatically worldwide. According to OECD statistics, the opening inventory of TP-related MAP cases in 2018 was 1,132 cases, excluding backlog cases that started before January 1 2016. A total of 930 cases were newly started in 2018, while 394 cases were closed. The end-2018 inventory of TP-related MAP cases was 1,668.

In China, the 2018 statistics (excluding backlog cases that started before January 1 2016) show that there were 44 TP-related MAP cases at the start of 2018. Throughout 2018, the STA started 13 TP cases and concluded 20 TP cases, bring the TP-related case closing inventory at the end of 2018 to 37. For cases started before January 1 2016, the average time to close TP cases was 46.89 months, whereas for cases started from January 1 2016, the average time to close TP cases was 17.76 months.

The tax authorities in China and elsewhere have accelerated their negotiation and conclusion of MAP cases, adding more resources to MAP teams. A critical aspect of BEPS Action 14, spurring on tax authority MAP efforts, is the peer review process, whereby the effectiveness and efficiency of a jurisdiction's MAP processes are assessed by peer jurisdictions.

The seventh batch of dispute resolution stage one peer reviews was launched at the end of 2018, which included mainland China and Hong Kong SAR, and was performed in the first half of 2019 – the results are still pending. Stage one peer review assesses countries against the terms of reference of the BEPS Action 14 minimum standard, according to an agreed schedule of review. The subsequent stage two peer review focuses on monitoring tax authority follow-up on any recommendations set out in the stage one peer review report.

A MAP case completed by Chinese and Indian tax authorities last year provides a good example on the willingness of the competent authorities to swiftly resolve tax disputes. The taxpayer in question was a large-scale outbound-investing Chinese MNE, which had been operating in India for more than 10 years. The Indian local tax authorities asserted that the Chinese MNE had an Indian permanent establishment (PE) and sought to impose a significant tax liability on the basis of large attributed profits. Through successful MAP negotiations, the final adjustment agreed by both competent authorities was significantly reduced. The MAP case resolution only took one round of negotiations and four months from application to open the MAP to the conclusion of the case. The successful conclusion of the MAP had a crucial impact on the client, by effectively giving it tax certainty in relation to its existing Indian operations, as well as setting a solid basis for the future development of its Indian market activities.

In addition to speeding up the conclusion of MAP cases with competent authorities, China is also considering other mechanisms to supplement MAP that can dispose of cases efficiently. The MAP article of the double tax treaties entered into by China does not include a mandatory arbitration mechanism. China's long-standing view has been that permitting a third party to resolve taxation matters would weaken its sovereignty over tax collection. However, at present various ideas for improving dispute resolution are being floated and discussed by the STA and wider tax community.

Ideas of interest were raised at a China-France tax authority-sponsored seminar on BRI tax dispute resolution mechanisms, held in summer 2019 at the Taxation Research Institute of the STA. France is an observer country within the BRI Tax Collection and Cooperation Mechanism (BRITACOM), and so was keen to support this. Experts at the seminar agreed that innovative BRI dispute mechanisms are needed to ensure that budding BRI economic partnerships are not hampered by tax disputes, which can be exacerbated by unclear or complex tax rules, excessive documentation requirements, and unpredictable tax treatments. In particular, TP rules and administrative practices in many BRI emerging economies are still at a developing stage, and aggressive TP adjustments can frequently be observed. As BRI tax authorities can be resource-strapped, resolution of TP adjustment-related double taxation can take a long time.

Panellists from China at the seminar, which included representatives from the Chinese tax authorities and university professors, suggested that the MAP clause in BRI double tax treaties could be strengthened by inserting a clear timeline for the resolution of disputes. One of the panellists suggested including arbitration as a supplemental method, to be initiated when the MAP fails to resolve a particular tax dispute. However, they suggested that clear parameters for initiating an arbitration proceeding would need to be established. The panellists also explored the idea of including mediation as part of the resolution process.

The openness of the panellists signals China's commitment to facilitating trade and investment among the BRI economies. So far, to our knowledge, there has not been any further indication directly from the STA regarding its position on arbitration or other measures to speed up the resolution of MAP cases. However, as can be seen from the above, all possibilities are up for debate.

Advance pricing agreements

Similarly, the STA has maintained its focus on steadily promoting the work of bilateral APA negotiation with competent authorities. The progress made in the past few years on the APA programme is in line with the STA's commitment to prevent double taxation and providing certainty to taxpayers. As noted in last year's TP chapter, there was a significant increase in STA resources for APA and MAP work in the previous two to three years, which means that more Chinese and foreign MNE taxpayer APA/MAP arrangements can be expected to be facilitated, going forward.

The latest statistics in the 2018 Annual Report published by the STA, show that the total cumulative number of APAs signed by the STA with the taxpayers between January 1 2005 and December 31 2019 reached 156, consisting of 89 unilateral and 67 bilateral APAs.

In 2018 alone, two unilateral APAs and seven bilateral APAs were concluded and signed. Of the seven bilateral APAs, five were concluded with Asian countries, one was with a European country and another was with a North American country. In contrast, 2017 saw a total of eight APAs signed with the STA, consisting of three unilateral APAs and five bilateral APAs. Most of the APAs signed in 2018 involve the manufacturing industry, a similar trend seen in the past years.

The 2018 Annual Report also described the number of APAs concluded between 2005 and 2018 by transaction type and agreed TP method. The largest portion of transactions involved the transfer of the right to use or ownership of tangible assets, which appeared in 136 concluded APAs. For the most part, taxpayers requesting APAs were manufacturing entities. The second largest grouping involved the transfer of the right to use or ownership of intangibles, which appeared in 31 concluded cases, followed by the provision of services, which was covered in 42 concluded APAs. The 2018 Annual Report states that the STA expects the share of tangible-asset transactions to decrease relative to other transaction types, with an increasing number of service companies deciding to apply for APAs in light of China's tertiary industry development.

APAs are known to take a relatively long time to conclude, depending on the complexity of a particular case and how collaborative the competent authorities are at the negotiation table. However, APAs can also be concluded relatively quickly, even for bilateral APAs, as evidenced in Table 1. The table was extracted from the 2018 Annual Report and shows the time taken from application to conclusion for the nine APAs signed in 2018.

Table 1


From application to conclusion (with respect to APAs signed by China in 2018)

1 year

(including 1 year)

1 – 2 years

(including 2 years)

2 – 3 years

(including 3 years)

More than 3 years














Taxpayers can choose to apply for a unilateral APA which, in theory, can be resolved quicker. However, it does not fully resolve double taxation in all cases. Therefore, in deciding whether to file for a unilateral or bilateral APA, taxpayers should take into account the following:

a) If the related-party transaction amount is not large and the types of transactions are not extensive, a unilateral APA may be sufficient to obtain tax certainty.

b) If the transaction amount is large, and the nature of the transaction or the business model is complex (for instance if the transactions involve intangible assets and group services), applying for bilateral APAs can greatly reduce TP risks for enterprises and avoid double taxation.

The STA has indicated that it will prioritise certain APA requests taking into account the following factors:

a) First come, first served. Therefore, taxpayers should make early preparations to get a head start if they are interested in an APA.

b) The quality of the submission package. The submission package should include answers to the following questions: Have all the required documents been submitted? Has sufficient documentation clearly evidencing the transactions throughout the entire value chain been provided? Is the proposed TP policy and methodology reasonable and justifiable? Are the calculations correct?

c) The STA may consider whether the applicant is in a specific industry or located in a specific region that merits prioritised attention.

d) For a bilateral APA request, whether the bilateral APA partner country (or region) has the intention to accept the case and pursue the bilateral APA will also be an important factor for consideration.

Among the four factors above, tax authorities value the quality of the submission package the most. Additionally, the tax authorities have been exploring other appropriate TP methods apart from the traditional and widely adopted transactional net margin method (TNMM). The TNMM was the most common approach applied in both unilateral and bilateral APAs concluded between 2005 and 2018. Therefore, a submission that proposes an innovative application of TP methods (for example, the residual profit split method) is likely to merit the STA's prioritised attention.

Similarly, high quality quantitative analyses for intangibles (particularly local market intangibles), cost savings or market premium, issues that are close to the heart of the STA and often used as arguments for allocating more MNE profits to China, are very much welcomed by the STA.

Apart from clarifying the requirements that taxpayers should meet in pursing an APA application, the STA and local tax authorities, in their bid to provide more streamlined taxpayer services, are also developing a simplified APA application approach.

The Shenzhen tax bureau is already piloting such an approach, and there are indications that the Beijing tax bureau may also introduce the simplified APA application approach. The simplified APA application approach under the pilot programme is made available to taxpayers with simple and clear related-party transactions and functional profile, and to taxpayers whose profile is familiar to the Shenzhen tax bureau. Under the trial, the Shenzhen tax bureau will select a small number of cases to establish some precedent cases. The feedback received is expected be used to further enhance the process and the STA may replicate the process across all regions in China.

Looking ahead

For cross-border disputes that need to be resolved through the MAP and APA processes, the increased resources at STA level and its pro-activeness will certainly facilitate more cases to be resolved for past disputes and secure future tax certainty. The STA has been open to matters concerning international cooperation. Consequently, the results of the OECD stage one peer review on China's MAP process will be much anticipated.

On managing future TP risks through the APA programme, the STA welcomes quality submission APA packages with analyses that include local market intangibles and location specific advantages. With the STA also piloting a simplified application process, the STA is making the APA more accessible to taxpayers, particularly those with relatively simpler transactions.

As discussed in the chapter, BEPS 2.0: What will it mean for China?, efforts to update the global international tax framework may result in fundamentally new approaches to international profit allocation (at least for large in-scope enterprises) and increased demands on China's dispute prevention and resolution capacities. As details emerge of this new framework (assuming global agreement can be achieved), renewed assessment will need to be given by the STA and by the tax community as to how tax certainty can be achieved in future.

The authors would like to thank Alfred Wang, KPMG China senior manager, and Lino Lv, KPMG China manager, for their contributions to this article.

Xiaoyue Wang


Partner, Tax

KPMG China


Tel: +86 (10) 8508 7090

Xiaoyue Wang joined KPMG China in November 2016 and is the transfer pricing national leader as of December 1 2018.

Prior to joining KPMG, Wang had a long and distinguished career at the State Taxation Administration (STA) of China, rising to the position of deputy director general of the international taxation department. Wang was the top transfer pricing official at the STA for many years. She represented the Chinese government in international negotiations on tax policy and administration. She led the development, drafting and implementation of all major transfer pricing, advance pricing arrangement (APA) and anti-avoidance initiatives, both in terms of legislation and tax administration, and developed a highly effective national structure for transfer pricing and anti-avoidance administration within the STA.

Since joining KPMG, Wang has led many large TP engagements, including bilateral APAs, MAPs, TP defence, BEPS documentation and global value chain restructuring, etc. Her work has involved companies all over the globe and in a wide range of industries, including electronics, automobiles, finance, consumer goods, telecommunications, real estate, pharmaceutical and luxury fashion.

Wang has a PhD in economics from Renmin University of China and an LLM in taxation from Golden Gate University in the US.

Choon Beng Teoh


Director, Tax

KPMG China


Tel: +86 21 2212 4527

Choon Beng Teoh is a director with the global transfer pricing team of KPMG China and is based in Shanghai.

Choon Beng has experience in multi-jurisdictional planning studies, dispute resolution, value chain analysis and restructuring of operating models, as well as leading and managing global transfer pricing documentation projects. His client portfolio includes top-tier multinational companies across a variety of industries, including pharmaceutical, automotive, retail and IT. He also occasionally co-authors articles on China-related transfer pricing topics for publications.

Choon Beng graduated with a law degree from the London School of Economics and is a chartered accountant with the Institute of Chartered Accountants in England and Wales. Prior to joining KPMG China, Choon Beng practised in another leading accounting firm in London in the area of international tax and transfer pricing.

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