Did you correctly withhold enterprise income tax for non-PRC residents?

The Provisional Measures for Tax Administration on Contracting Projects and Provision of Services by Non-Residents Enterprise (Circular No. 19) states that, unless otherwise provided by laws and regulations, an NRE shall declare and pay turnover tax if engaging in projects and the provision of services within China. It also states that PRC payers shall not be treated as withholding agents.

NRE tax withholding key issues
Tax payment certificates are requisite for outbound foreign exchange payments under non-trade items. Hence a withholding obligation occurs as long as PRC payers perform outbound forex payments. Such measures have broadened the scope of tax withholding obligations and led to more taxes being levied by the tax authorities and paid by PRC payers in order to facilitate forex payments.

(1) Income under the withholding arrangement, as stated in Circular No. 3, refers to passive income while income referred to in Circular No. 19 refers to active income. On the latter, PRC payers have no obligation to withhold taxes thereon and tax officials cannot request them to withhold and pay taxes on behalf of NREs. But in practice, if an NRE does not pay tax in full a valid invoice could not be obtained by a PRC payer. In order to get valid invoices, it is suggested that PRC payers declare and pay relevant taxes on behalf of NREs.

(2) In offshore equity transfer transactions between NREs, target enterprises' tax withholding obligations were unclear. Circular No. 3 explicitly provides that a transferor shall make a tax declaration directly or through an agent, and the target enterprise shall assist the tax authority on tax collection. In practice, however, tax authorities might strengthen administration on the target enterprises in order to push them to provide assistance efficiently before overseas transferors pay off applicable taxes.

(3) How can Chinese tax authorities disclose overseas share transfers and collect taxes on transfers? According to Circular No. 3, in an offshore share transfer the target enterprise shall submit a copy of the share transfer agreement to its competent tax authority when applying for tax re-registration. In addition, in 2009 tax authorities have strengthened communications with approving authorities and AIC offices to obtain more information on transactions including overseas share transfers.

(4) NREs are not allowed to enjoy tax treaty protections unless upon approval by relevant tax authorities. Withholding agents shall withhold and pay taxes in full in accordance with tax laws and regulations before NREs' obtaining of approval on tax reduction or exemption under tax treaties.

(5) Even if two parties to a cross-border transaction mutually agree that all PRC tax liabilities are borne by the PRC payer, an NRE should still be the taxpayer and the PRC payer a withholding agent. As the tax burden finally will be passed on to the NRE, tax paid could not be deducted by the PRC payer for EIT purposes.

(6) The withholding agent is required, among other things, to set up accounting books and vouchers, make declarations and pay taxes. If the withholding agent fails to perform these obligations appropriately, corresponding legal liabilities will arise.

Tax calculations in cross-border transactions largely depend on the transaction models and wording of documents. Imprecise language might result in different interpretation of the transaction by tax authorities. It is therefore recommended that the PRC payer, before implementation of a transaction, review the structure carefully. The payer should think over the wording in the transaction documents, communicate with tax officials in a timely manner after execution of the agreement, and obtain and keep a copy of tax clearance certificates from the NRE.