Secondment under scrutiny
October 30, 2013 | BY
clpstaff &clp articles &A series of announcements on taxation have tightened the rules for multinational companies who second employees to Chinese affiliates
The Announcement on Issues Relevant to the Levy of Enterprise Income Tax on the Provision of Services in China by Personnel Assigned by Non-tax-resident Enterprises (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) (Announcement 19), which came into effect on June 1 2013, provides detailed guidance about when seconded employees will create a taxable presence of a multinational (MNC) in China. Announcement 19 clarifies and expands upon certain dependent agent permanent establishment (PE) concepts discussed in an earlier circular (Announcement 75) dealing with the interpretation of tax treaties generally. The Announcement is indicative of a general policy shift towards increased tax scrutiny of foreign MNCs operating in China.
More recently, Announcement 40, which came into effect on September 1 2013, provides some relief in relation to outbound remittance of expatriate related costs. Before this Announcement, Chinese hosts of expatriate employees needed to obtain a tax clearance certificate in order to reimburse secondment expenses to an MNC. Such clearances would often be refused or would be accompanied by difficult questions about an MNC's activities in China. Announcement 40 eliminates the need for tax clearance certificates and associated tax reviews.
In addition to Announcements 19 and 40, there is a new exit-entry law applicable from September 1 2013. The PRC Exit-entry Administration Law (中华人民共和国出境入境管理法) imposes stiff penalties if an expatriate does not have the correct work or residence permits or undertakes work outside the scope specified in the permits. There are also increased compliance and reporting obligations associated with the law.
|
Taxable presence
Non-resident companies are taxable in China if they have an establishment in China or income originating from China (Article 2 PRC Enterprise Income Tax Law (中华人民共和国企业所得税法)). The term “establishment” is widely defined to include a place for the provision of labour services and business agents. This wide definition is curtailed somewhat by the operation of China's double tax agreements (DTAs), which have their own definition of PE. DTAs override China domestic law where inconsistencies arise (Article 59 of Enterprise Income Tax Law).
Announcement 75 provided China's first detailed guidance on the interpretation of DTAs. While the announcement specifically deals with the Singapore-China treaty, it contained an introductory paragraph which extended the explanations within it to all Chinese DTAs with similar articles.
The Announcement discusses seconded employees in the context of whether a Chinese affiliate of an MNC could be regarded as a dependent agent of the MNC, thus triggering a PE. It explains that the activities of a Chinese affiliate through personnel assignments or other business transactions could cause it to lose its independent status. The content can be distilled to an analysis as to whether the employee, in substance, works for the host company (in which case there should not be a PE) or whether the employee continues to work for the MNC under their direction and control (in which case there could be a PE).
Announcement 75 was not widely implemented by the in-charge tax bureaus, possibly because it refers to the China-Singapore bilateral tax treaty and not all treaties are identical. In practice, assessors are often sceptical about representations that expatriates are fully immersed in a host company even if the secondment agreement states so.
|
Two-tier test
Announcement 19 is broader and seeks to clarify when the secondment of an employee by an MNC will give rise to a PE in China. It provides a two-tier test as to whether the individual should be regarded as an employee of the Chinese host or the MNC. The primary factor is whether the MNC bears all or part of the responsibilities and risks for the work product of the seconded employee and routinely conducts the individual's performance evaluations. If so, the expatriate could trigger a dependent agent PE of the MNC in China. Supplementary factors involve whether service fees are paid to the MNC and the amount of the payments (costs only or cost plus margin) amongst others.
In addition, there are increased documentation requirements and substantive review procedures imposed. Documents to be submitted include related party secondment agreements, internal management guidelines relating to the seconded employees (responsibility, risk, evaluation), and payment information.
Overall, Annoucement 19 suggests that if the MNC is the expatriate's employer in-substance, a PE will probably have been triggered. While this sounds ominous, MNCs should keep in mind that even if a PE is deemed to exist, only profits attributable to a PE can be taxed pursuant to the business profits article of China's DTAs. This is a separate analysis and could result in little or no cash tax exposure depending upon the functions and activities of the employee in the context of the MNC's overall business.
Christian Pellone, Minter Ellison International, Hong Kong
This premium content is reserved for
China Law & Practice Subscribers.
A Premium Subscription Provides:
- A database of over 3,000 essential documents including key PRC legislation translated into English
- A choice of newsletters to alert you to changes affecting your business including sector specific updates
- Premium access to the mobile optimized site for timely analysis that guides you through China's ever-changing business environment
Already a subscriber? Log In Now