Annual Audit And Compliance Requirements For FIEs In China
Various governmental departments in China considers all Foriegn-Invested-Enterprises to carry out annual compliance procedure as mandatory.It is vital to note that on violation of time to carry out these procedures may result in extra expenses,penalties,or even revocation of business licenses. Only after the Chinese tax bureaus are satisfied that all applicable taxes have been paid up, an FIE can repatriate profits to foreign investors. Hence tax compliance is important. For companies to conduct an internal financial health check and to optimize tax efficiency, this process is a good opportunity for companies.
This article has been redacted for TianjinExpats by AsiaLink Tianjin,
STEP 1: Prepare Audit Report
To conduct an annual audit of the company's financial reports, all FIEs (including Wholly-Foreign-owned-enterprises(WFOE),Joint Ventures(JV),Foreign-Invested-Commercial-Enterprises(FICE)). A China Qualified Certified Public Accountant must sign the audit report. A Statutory audit aims to ensure that companies meet Chinese financial and accounting standards, including proper use of Chinese GAAP. The audit report's requirements varies by region. For instance, in Shanghai, companies must include a taxable income adjust sheet in the audit report, which is not required in Hangzhou,Beijing,Shenzhen. Normally, in the month of January, accounting firms start preparing an annual audit report which takes 2 months for the procedures, and the report should be implemented by end of April in order to meet the May 31 tax reconciliation deadline.
STEP 2: Prepare Corporate Income Tax(CIT) Reconciliation
In accordance with the figures shown in the accounting books of the company, CIT is paid on monthly or quarterly basis. Companies are required to file CIT returns within 15 days from the end of the month quarter. The actual CIT taxable income is usually different from the total profits shown in the accounting books. CIT calculation should be in compliance with tax law, not the accounting standards.
As such the State Administration of Taxation requires companies to submit an Annual CIT Reconciliation report within 5 months from the previous year's year-end to determine if all the tax liabilities have been met and whether the company needs to pay supplementary tax, or apply for a tax reimbursement. Generally, the adjustment sheets to bridge the discrepancies between tax laws and accounting standards. An annual affiliated transaction report on transfer pricing issues as a supplementary document to the Annual CIT Reconciliation report must be prepared by FIEs that conduct frequent transactions with related parties. An audit report conducted by an external accounting firm is required to be attached to the CIT Reconciliation report, for companies declaring losses of more than RMBS million. Every year around the month of March, local tax bureaus release a guideline on CIT reconciliation. The specific requirements can differ by both region and year, hence the payers should study the guidelines carefully.
STEP 3: Annual Inspection
Several governmental departments of the state council jointly conduct an annual cooperative council which is required to be carried out by the FIEs in China. In order to ensure that FIEs conducting businesses in China are fulfilling the legal commitments they make to each of the departments, these inspections are designed. Each year from march to end of June, the annual inspection is jointly hosted by the following governmental departments
⦁ Ministry of Commerce(MOFCOM)
⦁ Ministry of Finance(MOF)
⦁ Admin of Industry and Commerce(AIC)
⦁ State Admin of Taxation(SAT)
⦁ State Admin of Foreign Exchange(SAFE)
⦁ Statistical Bureau
First ninety percent of annual compliance work involve annual reporting package preparation. Last ten percent involves submission at a one-step service location. Annual inspection required by the SAT is different from the CIT reconciliation, where the former is only a review of the tax registration certificate. The inspections of AIC and SAFE may require additional separate procedures being conducted and are usually more complicated than others.
The relevant documents required for the annual inspection are
⦁ Annual Instruction report
⦁ Audit report issued by external accounting firm
⦁ Financial statements of the previous year
⦁ Certificate of approval for FIEs
⦁ Business license
⦁ Capital verification report
⦁ Industry-specific license or permit
⦁ Financial registration certificate
⦁ Tax registration certificate
⦁ Other forms or documents required by relevant governmental departments
Step 4: Profit Repatriation
Annual audit and CIT reconciliation to confirm amount of funds available
Record filing at State Tax Bureau
Submit application to designated foreign exchange bank
In order to leave sufficient time for shareholder companies to prepare for CIT compliance before May 31 deadline, companies distributing profits should complete the reconciliation procedure in advance. Banks required the provision of a tax clearance certificate previously when remitting more than US$30,000 in funds abroad, to prove that the exact amount of taxes has been paid before the funds can be remitted abroad. However, in July 2013, this requirement was cancelled under the Announcement on Issues concerning Tax Filings for Outbound Payments under Services Trade(Announcement 40) Issued by SAFE in Conjunction with SAT.
Instead, now outbound payments which is more than US$50,000 are now required to conduct record filing with in-charge local offices of the State Tax Bureau(STB). Under this record filing system, companies will only need to fill out a filling form and provide valid contracts or other relevant transaction documents(Chinese translation required) to the STB. Following this the STB will affix a seal to the form, which the companies need to submit the banks along with transaction documents for remitting funds outbound.
Under the Guidelines for Administration of foreign exchange under Service Trade and its detailed implementation regulation issued in conjunction with Announcement 40 by SAFE, such documents include,
✦ Annual financial audit report issued by a CPA firm
✦ Board resolution on profit distribution and
✦Applicants most recent capital verification report.
After the STB receives these documents , verification of documents and tax assessments will be conducted within 15 days. Fines ranging from 50 percent to 500 percent of the unpaid tax would be faced by companies or individuals who are found not to have fulfilled their tax obligations or filings. The money can be converted into foreign currency at the daily conversion rate against the RMB issued by the People’s Bank of China and transferred directly to the foreign country from the FIE’s bank account, after receiving the bank’s approval.
RECAP OF KEY 2013 TAX AND LEGAL UPDATES
Key CIT Regulatory Updates
Caishui No. 70 - Additional Permissible Research and Development related deductions
In 2008 to allow companies with Research and Development activities to deduct relevant expenses from their CIT taxable income, China’s SAT released GoushuifaNo 116(circular 116). In addition to the ones stipulated in Circular 116, the R&D expenses listed below are also deductible from a company’s taxable income
￭ Basic pension, basic medical insurance, unemployment insurance, work related injury insurance, maternity insurance and nursing funds contributed by the enterprise for employees directly engaged in R&D.
￭ Expenses for the operational maintenance, adjustment, inspection and repair of instruments and equipment dedicated to R&D activities.
￭ Expenses for purchasing sample products or sample machines that do not constitute fixed assets and general testing
￭ Expenses for clinical trials of new drugs and
￭ Expenses for authentication of R&D results.
It may be necessary to hire a CPA/ CTA firm to issue an audit or attestation report on the R&D expenses that are eligible for deduction.
SAT Announcement No. 19 - CIT Treatment on Cross Border Secondment of Expatriates by Non - Resident Enterprises
This came into effect on june 1, 2013 and clarifies the CIT treatment of secondment of expatriates to China by foreign companies. As per the Announcement 19, the Non-resident enterprise(NRE) will be deemed to have a place of business or an establishment in China when an NRE dispatches personnel to China to provide services and the NRE normally examines and assesses the performance of the dispatched personnel and is wholly or partially responsible for their performance. This implies that the foreign company will have a substantial connection with the establishment in China though the company will be exposed to Chinese CIT on both incomes from China and outside China.
The dispatching enterprise will be deemed a permanent establishment(PE) in China
- if a dispatching enterprise is a contracting country that has entered into a double taxation agreement(DTA) with China and the establishment/ place of business is relatively fixed in nature.
SAT Announcement No.9 - Withholding Tax for NRE
The transfer of intangible properties such as land use rights, trademark,patent,non-patented technology,copyright and goodwill was subject to 5% BT(business tax) imposed on the transferor prior to the commencement of the value-added tax(VAT) in lieu of business tax(BT) pilot collection in 2012. In addition to CIT the domestic company is responsible for withholding the VAT from the payment. The amount of VAT paid is deductible from the tax base of the CIT, as per the Announcement 9, which came into effect on Feb 19,2013.
SAT Announcement No.41 - Treatment of mixed investments
This Announcement 41, came into effect on September 1,2013. It clarifies the CIT treatment of incomes and expenses from mixed investments, which means combination of both equity and debt investment. As per this announcement, the investor and the investee could claim the returns on the investment as interest income and interest expense, respectively.
Eligible mixed investment should meet these criteria
→ The investee must pay interest on a regular basis according to the interest rate agreed to the investment contract or agreement, and must redeem the investment or repay the principle upon expiration of the investment period or satisfaction of specific conditions.
Meanwhile, the investor should not have any ownership over the net assets of the investee; should not have the right to vote or be elected; should not participate in the daily production and operation of the investee.
KEY VAT REGULATORY UPDATES
CalshulNo.106 - Vat Pilot Reform Expansion
As formalized by the promulgation of the Notice Concerning the Nationwide Adoption of VAT in lieu of BT Pilot Tax Collection policy in Transportation Industry and certain Modern Service Industries by China’s Ministry of Finance(MOF) and SAT on May 24, 2013, the VAT pilot reform was implemented nationwide, on August 1,2013. This circular implies that an 11% VAT will be applied to railway transportation and portal service industries nationwide. By circular 106, the deduction of international fright from the taxable income of freight forwarders is once again allowed, which brings the cost of foreign shipping companies back to the same level as domestic shipping companies.
Other Legal Regulatory Alerts
Consumer Rights Protection Law
This law provides more protection for consumers. Earlier, Consumers had the burden of proof to show the defects of the products or services purchased. Now, after the products or services are provided, the burden of proof is shifted from the consumer to seller for 6 months. It confirms the right of rescission, adds heavier obligations for online transaction platform providers, increases the punitive damages for conducting fraudulent acts in transaction at 3 times the original price.
It will come into effect on March 15, 2014.
Business Transaction Reporting Requirement
In November 2013, China’s State Council amended the Measures on the Report of Statistics of Balance Force on January 1, 2014. This implies individuals and entities including FIEs and ROs in China to report not only all economic transactions they conduct with non - residents in China, but also all of their foreign financial assets and liabilities under the supervision of SAFE.
Amendment of Company Law
China’s State Council decided to ease company registration requirements by covering registered
capital requirements, by reducing costs of incorporation loosening registration principles, in October 2013. The company law is expected to revised on December 28, 2013. On March 1, 2014, the new law will come into effect.
Some key revisions are highlighted
✦ The minimum registration capital of RMB 30,000 for limited liability companies, as well as RMB 100,000 minimum for single shareholder companies and RMB million minimum for joint stock companies will be cancelled.
✦ There will be no mandatory ratio of the initial payment and deadline for full payment for registered capital.
✦ The actual capital contributions of the company will no longer be required for incorporation. The current company law requires 20% of the registered capital to be paid in full upon company registration.
✦ Company registration based on actual capital contribution will be replaced by company registration based on subscribed capital contributions. Hence it will be unnecessary to actually have the funds at the time of registration.
The cleaning up of existing preferential tax policies is another important act that could affect foreign investors.