China

1. China IFA – Technical Session – London - 19th April 2012 Simon Upcott

2. China Background 2

3. Asia Economies - 2011 Gross Domestic Product (in billions, USD) GDP per Capita (in USD) Gross domestic product (GDP) refers to the market value of all final goods and services produced within a country in a given period. GDP per capital is often considered an indicator of a country's standard of living.

4. China’s Growth China GDP: 0.4 to 5.7 trillion USD

5. China Tax Reform under 12th 5-Year Plan • To meet the need of: • Transformation of economic development mode • Upgrade of industrial structure • Improvement of income distributions among different walks of society • Further fiscal and tax reforms: VAT / BT Individual Income tax Corporate Income tax Other taxes Tax Administration • Unification of CIT on domestic enterprises and foreign invested enterprises • Transformation of VAT (“Value Added Tax System”) System • Foundation for a more advanced and robust tax system Challenges in practice 2011 21st Century • Introduction of indirect tax system • Introduction of fiscal revenue sharing system Mid-1990s Review of the current tax policies

6. Hot Topics / Tax 6

7. What MNCs are focusing on? Cross border RMB equity or debt financing Tax Treaties / Anti-tax avoidance provisions Indirect Reporting Requirement VAT Pilot program Incentives Improving risk management and compliance

8. Cross border RMB equity or debt financing Parent 1 Parent 2 Overseas RMB Loan RMB Equity • Practical Note: • Lower lending rates outside of China • Parent 1 should have substance for treaty benefits China Co China

9. DTA Comparison among UK, HK and Singapore China has unilaterally applied anti avoidance provisions under domestic law to void treaty benefits

10. Anti-Avoidance Provisions General anti-avoidance provision (Art 37 of EIT Law) provides that whereas an enterprise conducts an arrangement which does not have a reasonable business purpose, and because of such an arrangement, the taxable income or tax due is reduced, the authority has the authority to apply reasonable methods to make adjustments. General anti-avoidance can be used to investigate abuse of preferential tax treatments; abuse of tax treaties, abuse of corporations; to avoid tax by using tax havens; and other arrangement that do not have reasonable commercial purpose. If is not clear whether the tax authority will apply Chinese domestic law or look through the disregarded entities and apply the tax treaty of the beneficial owners and China. Chongqing Yuzhong indirect transfer case and Xingjiang anti-treaty shopping case

11. Chongqing Yuzhong Case Company A Chongqing, PRC Company B Singapore Company A Chongqing, PRC Company B Singapore RMB 63.38M Company C Singapore Company C Singapore PIC: SGD 100 No other activities 31.6% 31.6% Company D Chongqing Company D Chongqing Chongqing tax bureau withheld tax of RMB 980K on the capital gains derived by Company B

12. Xinjiang Case Step 3: 27days after the JV contract concluded Step 1: in March 2003 Step 2: in July 2006 Step 4: in June 2007 Company B (China) Company C (China) Company C (China) Company B (China) US$33.8m Company B (China) Company C (China) Company B (China) Company C (China) US$45.968m RMB780m 97.5% RMB20m 2.5% Company D Barbados 2.5% 64.18% Transfer 33.32% Company D Barbados Capital increase RMB266m Company D Barbados 73.13% 2.5% 97.5% 2.5% 24.99% Company A (China) Company A (China) 33.32% Company A (China) 24.99% Company A (China) RMB800m RMB800m RMB1.066 b RMB1.066 b Barbados-China treaty did not apply; tax on gain

13. Indirect Transfer Reporting Requirement Guo Shui Han [2009] No. 698 (Circular 698) – where a foreign investor disposes of an equity interest in an enterprise in China by selling shares in an offshore holding company, the foreign investor will be required to notify the Chinese tax authority of such disposition where the relevant criteria are met; where the foreign investor is found to have abused its organization structure with a view of avoiding Corporate Income Tax (CIT) liability, the Chinese tax authority is empowered to re-characterize the share transfer transaction based on the its economic substance and deny the existence of the offshore holding company. According to Article 5 of Circular 698, where foreign investors indirectly transfer equity interests in the resident enterprises in China, the former shall, within 30 days of the conclusion of the contracts for the transfer of equity interests, notify the Chinese tax authority of such transfers if the countries or territories in which the offshore holding companies whose shares are being transferred have an “effective tax burden” of less than 12.5 percent or “do not impose corporate income tax” on the offshore income.

14. VAT Pilot Program (Shanghai) • BT is a turnover tax on services. VAT pilot program replaces BT payable on certain type of services with VAT. Offsetting VAT credits can be claimed by business. • VAT applies to the following services: • Immediate BT cost saving for services performed by Shanghai companies. • VAT program could be expanded to Beijingby July 1, and early in 2013 to Tianjin, Chongqing, Shenzhen and the province of Jiangsu.

15. Incentives High Technology Status 15% tax rate for 3 years; renewal process applicable Requirements: more than 30% of staff must hold college degrees; more than 10% of the total employees must be R&D staff; R&D expense must be no less than 3% to 6% (depending on the amount of total sales); more than 60% of total revenue must be derived from high tech products or services; and owns IP. Western Region Incentive Either encouraged projects or encouraged enterprises. Customs duty import exemption for equipment used for encouraged projects or reduction in CIT for encouraged enterprises. Headquarter Incentive Lump-sum subsidy based on registered capital/turnover amount Incentive based on annual tax contributions to local government in the first 3-6 years

16. Tax Administration • Tightened Administration on non-tax resident enterprises tax (non-TREs) collection • Passive income (including dividend, capital gains, etc) continues to be the key China tax administration area for non-TRE. Tax collection from non-TRE increased to RMB 77.856 billion in 2010 (increase of 39% over 2009 Tax revenue growth is mainly from dividend and capital gains • More effort to be expected from China • tax bureaus • More clarification on assessment of Beneficial Owner • Implementation details for indirect share transfer rules • Coordination among tax bureaus in tax administration of Non- TRES

17. Other administration and audit focuses • Inspection of invoice usage particularly for constructions, finance, communications, real estate industries • Tax audit on VAT refund claimed by electronics enterprises and clothing enterprises • IIT Inspections on high income earners • Tax administration on overseas employees travelling/seconded to work in China and the associated IIT, PE, and corporate taxes exposures.