China, People's Republic of
Choice of business entity
According to the Foreign Investment Law of the People’s Republic of China and its detailed implementation rules, from 1 January 2020, foreign investors (including foreign individuals, enterprises, and other organisations) may directly or indirectly invest in China. Foreign investors shall assess whether their investment projects are restricted, prohibited, or encouraged in China before they make the investment decisions. Foreign companies, enterprises, or individuals may establish foreign-invested enterprises, partnerships, or representative offices in China. Certain foreign financial institutions, including banks and insurance companies, may, subject to approval, set up branches in China. For certain foreign invested industries and projects, approval is needed from the relevant Chinese government authorities.
Foreign exchange transactions are administered by the State Administration of Foreign Exchange (SAFE) and its branches. The regulatory administration on foreign exchange transactions of an enterprise depends on whether the transaction is a current account item or a capital account item. Current account items refer to ordinary transactions within the context of international receipts and payments, including, but not limited to, balance of payments from trade, labour services, and unilateral transfers. Capital account items refer to items of increase or decrease in debt and equity due to inflow or outflow of capital within the context of international receipts and payments, including, but not limited to, direct investment, all forms of loans, and investment in securities. Generally, a payment that falls under the category of a current account may be remitted overseas if supported with proper contracts, invoices, and tax payment/exemption certificates. In the past, most of the transactions under the category of capital account items had to be approved by the SAFE. Since the end of 2012, the SAFE has relaxed the administration of certain capital account items so that approval is no longer needed for a few types of transactions.
Patents, trademarks, and copyrights are governed by separate laws and administered by separate governmental bodies. The government encourages the development and transfer of intellectual properties. The transfer of qualified technology and qualified technical services are exempted from VAT.
Mergers and acquisitions (M&A) activities
Both Chinese domestic and foreign investors increasingly are using M&A transactions to establish or expand their Chinese operations.
The MoF and the STA jointly released several circulars that address the CIT treatment for six forms of restructuring transactions, namely, change in legal form, debt restructuring, equity acquisition, assets acquisition, merger, and spin-off. The general principle is that enterprises undergoing corporate restructuring should recognise the gain/loss from the transfer of relevant assets/equity at fair value when the transaction takes place. However, if certain prescribed conditions are satisfied, the parties involved could opt for special tax treatments, which are essentially tax deferral tax treatment. In other words, recognition of gain/loss of the transferor from transfer of assets/equity can be deferred with respect to the equity-payment portion; and the transferee may take over the transferor’s tax basis of the acquired assets/equity. Such special tax treatments are only available to a very few specific types of cross-border transactions.
Development of the Foreign Account Tax Compliance Act (FATCA) in China
In late June 2014, the Chinese government reached an agreement in substance with the United States (US) on the terms of a Model 1 Intergovernmental Agreement (IGA). However, as of 30 June 2022, the China-US IGA has not been signed, and the financial institutions in China have not started implementing FATCA.
Base Erosion and Profit Shifting (BEPS) and the Multilateral Instrument (MLI)
China has been actively involved in the BEPS project as a partner of the OECD and one of the G20 members. After the final reports on all the 15 action plans were endorsed in 2015, China has implemented and localised the BEPS action plans on a needed basis.
China imposed new transfer pricing compliance requirements, including annual reporting forms for related-party transactions (RPT forms), country-by-country (CbC) reporting, and transfer pricing documentation, all of which contain substantial changes to the previous rules.
China entered into the Multilateral Competent Authority Agreement (MCAA) for the Automatic Exchange of Country-by-Country Reports in 2016.
China also entered into the Multilateral Instrument (MLI) in June 2017 and the MLI will take effect from 1 September 2022 in China. Some important positions of China in relation to the articles in the MLI are as follows:
- Covered tax agreement: China puts all of its existing tax treaties (excluding China’s three tax arrangements with Hong Kong, Macau, and Taiwan) into the covered agreement, except for four effective tax treaties with Chile, India, New Zealand and Spain, as well as five not-yet-effective tax treaties with Kenya, the Republic of Congo, Angola, Argentina, and Rwanda.
- Treaty abuse: China adopts the principle purpose test (PPT) provision but does not adopt the simplified limitation of benefits (LOB) test. The threshold period for enjoying treaty benefit on capital gain from the transfer of property-rich companies is three years instead of the one-year period provided in the MLI.
- China opts out of all the provisions in the avoidance of PE section and the arbitration clause for MAPs.
Common Reporting Standard (CRS)
China entered into the Multilateral Competent Authority Agreement on Automatic Exchange of Financial Account Information. In May 2017, the relevant Chinese authorities jointly issued the Administrative Measures on Due Diligence Procedures for Non-residents’ Financial Account Information in Tax Matters (the Measures) to implement CRS in China. Financial institutions established in China are required to carry out due diligence procedures on financial accounts starting from 1 July 2017. China completed the exchange of the first round of financial account information by September 2018.