China looks to bolster tax certainty and enforcement
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China looks to bolster tax certainty and enforcement

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Lewis Lu of KPMG China reviews the recent efforts to enhance tax certainty and enforcement effectiveness

China has recently been enhancing aspects of its tax system with the aim of fostering a robust business environment for domestic enterprises and foreign investors.

Inauguration of China’s first specialised tax tribunal in Shanghai

The first specialised tax tribunal in China has been inaugurated in Shanghai, housed within the Shanghai Railway Transportation Court. This dedicated tribunal marks a significant advancement in the country's tax judicial system.

The tribunal will handle first-instance administrative cases involving tax authorities as defendants, contributing to the improvement of tax dispute resolution mechanisms and the protection of taxpayers' rights. The first public hearing on a tax administrative case dealt with the transfer of auctioned real estate and was held by the tribunal on March 29 2024.

The establishment of the specialised tax tribunal reflects Shanghai's commitment to judicial reform and the creation of a more efficient and transparent legal environment for businesses.

Shanghai tax authority issues rulings in two complex tax matters

At the national level, China does not have a formal tax ruling procedure, aside from the advance pricing agreement procedure for transfer pricing (TP) cases. That said, local tax authorities have been piloting such arrangements. Following the Shanghai tax authority’s announcement on the enhancement of the advance tax ruling system in late December 2023, the authority recently issued tax ruling opinions for two companies on planned transactions:

  • Company A sought a tax ruling regarding the application of special tax treatment –i.e., corporate income tax relief stipulated under Circular 59 (2009) – for a planned corporate restructuring. Company A transferred equity in company B to company C and received equity in company C as consideration. There was some uncertainty as to whether the transaction fully satisfied the Circular 59 conditions, so the tax bureau issued a ruling to confirm this.

  • Company D seeks VAT and land appreciation tax exemptions for the disposal of its land use rights, which are set to be acquired by the government for reserve plan purposes (this would involve the annulment of company D’s land use rights). Although the government has not yet annulled the respective land use rights, the Shanghai tax bureau was willing to issue a ruling indicating that the exemptions would be available if company D obtains an official document confirming the legal annulment of the land use rights by the government before the tax obligation arises.

In parallel, an innovative TP pre-assessment service was announced by the Shenzhen tax authority at the end of 2023. This was not previously a feature of China's TP administrative practices. The pre-assessment service is similar to an advance ruling – a taxpayer can submit details of its TP arrangements to the tax authority and it will be informed how the tax authority would ‘risk rate’ its arrangement. Where it is considered low risk, the likelihood of audit is low. While some possibility of follow-up remains, this provides Shenzhen-based taxpayers with an efficient way to obtain TP certainty on cross-border transactions. This is particularly the case for those that do not meet the requirements to apply for an advance pricing agreement. It is also much more rapid.

Judicial guidance on tax-related criminal offences

The Supreme People's Court and Supreme People's Procuratorate have recently released guidance on applying the Criminal Law to various tax offences, effective from March 20 2024. The guidance clarifies the terms, methods, and penalties for tax offences, such as underpayment, tax evasion, and fraudulent tax refunds, including the role of intermediaries. Offences can result in imprisonment ranging from three to seven years, accompanied by fines, depending on the severity. For fraudulent export tax refunds, sentences can extend to 10 years.

Notably, the guidance explicitly provides that the use of ‘yin yang contracts’ is to be regarded as a method of tax evasion. These contracts have been a focus of tax authority investigations in recent years, particularly in the entertainment sector. They involve the use of dual contracts in relation to a particular service or transaction, one of which was declared for tax purposes and the other was not. Tax authorities have identified their usage in relation to service contracts, real estate transactions, and equity transfers. This is the first time this method has been explicitly highlighted as a tax evasion mechanism from a judicial perspective.

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