A look at China’s COVID-19 guidance on permanent establishment and tax residence
Lewis Lu of KPMG China explains how the State Taxation Administration has moved to respond to queries on ‘home office working’ for foreigners.
In the COVID-19 disruption period, many countries have imposed restrictions on cross-border travel. This has resulted in the staff of numerous enterprises, including their key executives, being ‘stranded’ in jurisdictions different to their normal location of employment.
The challenge has raised business concerns on permanent establishments (PE) and tax residence risks, which the State Taxation Administration (STA) has sought to address in a Q&A notice issued on August 14 2020. This cross-references the most substantive piece of Chinese tax guidance on treaty interpretation issued to-date, STA Circular 75 (2010).
Fixed place permanent establishment
For staff of a foreign company carrying on ‘home office working’ in China, the STA has clarified that ‘intermittent and occasional’ home work activity should not result in fixed place PE.
PE is defined in tax treaties as a fixed place of business through which the business of an enterprise is wholly or partly carried on. Circular 75, drawing on elements of the OECD Model Treaty Commentary, states that a place of business is relatively fixed, with a certain degree of permanence. It also states that carrying on activities ‘through’ a place of business applies to any situation where business activities are carried on at a particular location that is at the disposal of the enterprise.
However, in contrast to the OECD Model Treaty Commentary, Circular 75 does not provide any further guidance on meaning of ‘at the disposal of’. This has meant that foreign companies have struggled in the past to assess whether staff present in China at a location other than an office (e.g. at a home, hotel, client premises) could give rise to a risk of PE.
The STA has now clarified that ‘intermittent and occasional’ home work activity during the COVID-19 disruption period should not result in fixed place PE. This is in line with the OECD’s April 2020 guidance that temporary home working should not result in PE, given that it lacks permanency and that home working resulting from government movement and travel restrictions should not be viewed as putting an employee’s home at the disposal of the enterprise.
Agency permanent establishment
For staff of a foreign company carrying on ‘home office working’ in China, the STA has clarified that ‘occasional’ conclusion of contracts on behalf of the foreign enterprise should not result in agency PE.
Tax treaties recognise an agency PE where an agent has and habitually exercises an authority to conclude contracts in the name of a foreign enterprise. The STA Q&A recognises that occasional contract signing from a home office may not rise to this level. However, it qualifies this by saying that agency PE might still be regarded as arising if the relevant staff had been acting in China on behalf of the enterprise for a long time before the COVID-19 disruption period, or if their role has shifted for the longer term, in consequence of COVID-19, to habitually concluding contracts for the foreign enterprise.
Construction permanent establishment
The STA has clarified that when calculating PE time threshold for construction projects, downtime as a result of COVID-19 disruption can be subtracted.
This limits PE risk where the period for a construction project needs to be extended. Compared with the OECD analysis issued in April, the STA position is more favourable to taxpayers. The OECD notes that any temporary break in construction projects as a result of the outbreak should be included in the duration of the project for the purposes of calculating whether there is a PE.
The STA clarifies that where the decision-making location of senior executives of an enterprise has been temporarily changed due to COVID-19 disruption, the assessment of the place of effective management for determining corporate tax residence will not be affected. The STA indicate they will take a broader perspective, i.e. looking at the decision-making location under normal circumstance, rather than solely at temporary arrangements in the special context of COVID-19 disruption.
For individual dual tax residence, the STA clarifies that, when applying the residence tie-breaker rule, they will not treat a temporary change to the location in which an individual lives as resulting in a change to the place of their permanent home or centre of vital interests. However, it is noted that if an individual stays in China in excess of the relevant time thresholds, Chinese individual income tax obligations for the individuals as non-residents would still arise.
The STA also emphasises that where COVID-19 disruption related complexities give rise to tax disputes for China’s ‘going out’ enterprises the mutual agreement procedure (MAP) can be accessed and utilised.
Lewis LuT: +86 21 2212 3421E: firstname.lastname@example.org