The domestic perspective

Tax efficiency can be achieved by sound planning and careful consideration of the investment structure, business form and location of the business vehicle.

Investment structure

Foreign companies may develop an optimal investment structure, such as deploying an offshore holding company in a tax-friendly jurisdiction with favourable tax treaty terms with China, to ensure future profit repatriation is entitled to favourable withholding tax or even tax exemption under the treaty provision.

Notably, China has anti-avoidance rules and the offshore holding company requires sufficient economic substance to qualify as the beneficial owner, in order to enjoy tax treaty benefits.

Business form

The business forms include wholly foreign-owned enterprises (WFOEs), equity joint ventures (EJVs), and limited liability partnerships (LLPs).

WFOEs and EJVs are independent taxable entities which are subject to enterprise income tax (EIT) in China. LLPs are non-EIT taxable entities of which the taxable income is directly passed through to the partners and taxed at their level.

Generally, investment funds, such as PEs or VCs, are inclined to adopt the LLP structure for tax optimisation. Entities engaged in active business operations are likely to choose the WFOE or EJV form.

Location and incentives

Like business demands, tax treatment and incentives are of keen interest to foreign investors when selecting the location to set up a company. While the national tax policy sets out statutory tax incentives, there are various types of economic zones that provide preferential tax treatment for qualified projects. Certain local governments also provide local incentives, such as financial subsidies, to attract foreign investment.

Tax incentives, such as a reduced tax rate at 15% or tax holiday, may be available for companies established in the western region of China. Moreover, special zones like Pudong (Shanghai) and Qianhai (Shenzhen) provide financial subsidies for encouraged projects. Companies engaged in import/export trading or processing may consider registering in bonded zones in China, for instance in the bonded logistics park or free trade zone.


Tony Dong, Head of Tax, King & Wood Mallesons, Beijing

The international perspective

Tax-efficiency when investing into China is about two things: a) getting dividends out with minimal withholding tax, and b) the ability to restructure and ultimately exit from the investment without triggering undue PRC capital gains tax.

A multinational can invest into a Chinese company either directly or indirectly using an offshore holding company (OHC). Depending on the home country of the multinational, the tax benefit of using an OHC is mainly the ability to lower PRC withholding tax.

Avoid PRC tax offshore

Popular OHC locations for investments in China have included low-tax jurisdictions like Hong Kong and Singapore. Dividends, interest and royalties paid by the Chinese subsidiary to an OHC may access a reduced withholding tax rate under the tax treaty between China and those holding jurisdictions. Additionally, ideal treaty locations would generally not tax locally any such income received by the OHC. Finally, if the foreign investor wishes to subsequently dispose of the Chinese subsidiary, the shares of the OHC can be transferred instead (indirect transfers) to avoid PRC regulatory approvals or taxation.

Under the new rules issued in late 2009, indirect transfers may be re-characterised as direct transfers of the underlying Chinese subsidiary subject to 10% capital gains tax, if a combination of substance and reasonable commercial purpose tests are not satisfied in the structure.

One is ideal

In order to truly receive tax benefits through the use of an OHC, the focus now must be on more operations and holdings in one regional holding/management vehicle, to best address the requirements of economic substance for treaty purposes and the related tests for indirect transfers. The days of using multiple entities to hold each investment are gone. The key factors for a successful OHC include multiple investments in various countries and the performance of a combination of management, treasury and trading functions for the organisation in the offshore company.


Brendan Kelly, Baker & McKenzie, Shanghai, and Jinghua Liu, Baker & McKenzie, Beijing

The consultant perspective

A company incorporated in the PRC pays 25% of its earned profits as corporate income tax (CIT). Its foreign investor will also pay 10% PRC withholding tax on dividends received from the China company. A total tax cost of 32.5% will be incurred.

Debt finance

One way of financing a company in China involves interest-bearing debt. The debt arrangement must comply with the thin capitalisation rules mandated by the CIT law and relevant company formation rules. The China company may claim arm's length interest so charged by the foreign investor as deductible against its taxable profits; hence, creating a 32.5% tax benefit.

Tax cost to the foreign investor on receiving the interest income would not exceed 15% (5% business tax and 10% PRC withholding tax), which may be further reduced if the foreign investor (the lender) is a resident of a country or location that has an effective double tax treaty or arrangement (DTA) with the PRC.

A tax-effective holding structure

The 10% dividend withholding tax rate is reduced under a DTA to 5%, for instance, for a Hong Kong, Singaporean or UK tax resident company who is the beneficial owner (BO) of the dividends and of at least 25% of the China company. The tax authorities will conduct a comprehensive review of the BO status, including the nature of business activities carried out by the foreign investor, the size of its operations and its tax position in the home country.

Foreign investors directly investing into the PRC may consider forming a China holding company (CHC). A CHC is a tax-effective vehicle for reinvesting the China profits back into the PRC for future use. As a PRC tax resident, the CHC is exempt from CIT with respect to dividends received from the China company. The CHC must have a minimum registered capital of US$30 million.

Seek areas with lower tax

The Central and Western Regions, the Qianhai Shenzhen-Hong Kong Modern Service Industry Cooperation Zone and the Zhuhai Hengqin New Area offer preferred/encouraged businesses a reduced CIT rate of 15% (as opposed to the standard 25%).


Ivan Chan and George Lam, China Tax & Business Advisory Services, EY, Hong Kong


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