By Carol Xu
China’s State Administration of Taxation (“SAT”) released Bulletin  No. 19, “Announcement on Issues Concerning Levying Corporate Income Tax on Services Provided by Non-residents through Seconding Personnel to China”《关于非居民企业派遣人员在中国境内提供劳务征收企业所得税有关问题的公告》 (“Bulletin 19”) to provide guidance on the treatment of non-resident enterprises’ individual secondment arrangement from the PRC corporate income tax (“CIT”) perspective.
The China SAT has been developing the rules for the taxation of non-residents since the release of Corporate Income Tax Law (“CIT Law”) with a number of circulars drafted to set out the circumstances when an employee (“Secondee”), sent from a foreign enterprise (“Home Entity”) to an enterprise in China (“Chinese Entity”), would form a taxable establishment or place of business in China under the Chinese domestic tax law or a Chinese permanent establishment (“PE”) under a Chinese double tax agreement (“DTA”). The determination made based the circumstances would make the Home Entity subject to the Chinese CIT regime.
Generally, if the Secondee is deemed as the employee of the Home Entity rather than that of the Chinese Entity during his work in China, the business activities would be treated as a taxable establishment or place of business in China and the income generated thereof shall be subject to China. Now Bulletin 19 sets up a clear guidance on the determination of such situation.
The basic rule stated in Bulletin 19 for the Home Entity to be regarded as providing services through its own staff in China, and thus being deemed as having a taxable establishment or place of business in China, is whether the Home Entity bears all or part of the responsibilities and risks in relation to the work products of the Secondees, and whether it is the Home Entity that normally reviews and appraises the job performance of the Secondees. From a DTA perspective, if the establishment or place of business is of a relatively fixed and permanent nature, it will be regarded as a PE of the Home Entity in China.
In addition, Bulletin 19 also stipulates the several “reference factors” in deciding whether the Secondees are in substance the employees of the Home Entity as follows:
- The Chinese entity pays the Home Entity management fees or makes payments in the nature of service fees;
- The payment made by the Chinese entity exceeds the Secondees’ wages, salaries, social security contributions, and other expenses borne by the Home Entity;
- The Home Entity does not pass on all the related payments made by the Chinese entity to the Secondees; instead, the Home Entity retains a certain amount of such payments; • PRC Individual Income Tax (“IIT”) is not paid on the full amount of the Secondees’ wages and salaries borne by the Home Entity; and
- The Home Entity decides the number, the qualification, the remuneration and the working locations of the Secondees in China.
Bulletin 19 requires that the tax authority shall focus on reviewing the following documents or information in assessing whether the Home Entity has any CIT liability in respect of the secondment arrangement:
- The contract, agreement or covenant between / among the Home Entity, the Chinese Entity, and the Secondees;
- The management guidelines that the Home Entity or the Chinese Entity has set for the Secondees, including specific rules such as the Secondees’ work duties, work contents, performance reviews, and undertaking of risks;
- Information on the payments made by the Chinese Entity to the Home Entity, the associated accounting treatment, and the filing and settlement of the Chinese IIT for the Secondees; and
- Information indicating situations where the Chinese Entity makes hidden payments to the Home Entity in connection with the secondment – via offset transactions, debts write-offs, related party transactions, or other methods.
It is important to note that besides reviewing documents, the Chinese tax authorities will examine the economic substance surrounding the secondment arrangement and the manner in which the secondment arrangement is executed in reality to ascertain the nature of the secondment arrangement.
Under the circumstance that at least one of the above “reference factors” is satisfied, the Secondees will generally be considered employees of the Home Entity rendering services in China. Therefore the Home Entity is normally treated as having a taxable establishment or place of business in China. In the DTA context, if the Secondees who are viewed as employees of the Home Entity rendering services in China for longer than six months, a PE is normally created. In such cases, the Home Entity will be subject to CIT based on the income derived from or attributable to the services so provided.
In terms of tax filing, if the Home Entity has a taxable establishment or place of business in China, the Home Entity, together with the Chinese Entity is required to register and file with the Chinese tax authorities in accordance with SAT’s Decree No.19 in 2009. The Home Entity as well as the Chinese Entity (which shall withhold the income tax for the Home Entity) shall file with tax authority with the taxable income of the Home Entity on an actual basis. Failure to do so will be subject to a deemed profit rate method by the tax authority.
However, if the Home Entity is a shareholder of the Chinese Entity and sends individual(s) to it to exercise the Home Entity’s shareholder rights for protecting shareholders’ interests, the Home Entity will not be deemed to have a place of business in China.
The Bulletin comes in force on 1 June 2013, and will also govern the transactions/undetermined cases incurred before that.
In order to better facilitate the cross border secondment arrangement, it is suggested that MNCs make proper and comprehensive preparations on documentation and other evidence to demonstrate the nature of work/service by certain employees. A well written secondment agreement shall be the most important part of documentation, which shall have clear arrangement on certain issues like the party who shall determine the compensation method, the payer of compensation, the party who shall be responsible for daily work arrangement and periodic review, and etc.
It is also suggested that MNCs with personnel stationed in China conduct a thorough review of existing documentation related to their secondment arrangements, including contracts between the Home Entity, Chinese Entity and the Secondees, and internal management protocols for the use of the Secondees, to support an assertion of no taxable presence on audit. Based on the review, MNCs should take proactive measures to rectify any weaknesses identified and improve documentation to mitigate PRC tax risks.