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China SAT to incorporate country UN chapter into circulars

The State Administration for Taxation (SAT) is intending to incorporate the China chapter, an appendix in the UN’s transfer pricing manual, into tax circulars in an attempt to increase the amount of corporate tax it collects.

The intention was made clear in recent meetings, according to Glenn de Souza of Baker & McKenzie. However, the SAT is believed to be hesitant about issuing specific circulars related to this area.

“We also hear that the GAAR rules may contain reference to the UN concepts,” said de Souza.

Ideas such as location specific advantages (LSA) feature heavily in the China chapter of the UN’s practical manual for transfer pricing in developing countries. There have been reports of audit cases where LSAs have been used aggressively to make a contract R&D subsidiary of a foreign company raise its mark-up rate to 15% (from 10%).

“A client pointed out that their Indian R&D centre had even lower costs than China, but the tax bureau said that India was not a relevant comparison because China was unique, in that it manufactured the entire spectrum of products and R&D centres had to be co-located where the manufacturing was taking place,” said de Souza.

China is effectively saying that R&D centres have to be located with manufacturing but this is not in keeping with the realities of business.

In general, however, it seems taxpayers and their advisers agree with the concepts set out in the China chapter, predominantly China’s standing in terms of location savings and market premiums and why these issues make China different to other countries when companies put together their transfer pricing documentation.

“It raises a lot of relevant points,” said Henrik Hansen of Ernst & Young. “What would be welcome are clear definitions of what SAT sees as a market premium and a location saving, including how they will approach these concepts. Taxpayers need these concepts in order to comply.”

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