Knock, Knock? Who's There? China Tax Man.
I had a conversation the other day with a leading journalist on how both of us are always right about our predictions. I joked that the beauty of writing is that all we need to do show how right we are is to highlight the predictions on which we were right and to let cognitive dissonance wash away all the other ones.
Damn, but I was right to predict 2010 would be the year of increased taxation/regulation of foreign business in China. And I have third party proof in the form of this article over at Shanghaiist, where I made the following as two of my five predictions on "business law trends of 2010."
China will increase its efforts to root out and shut down illegal and unregistered foreign businesses. I have seen ample evidence of this already happening in the last 3-6 months and I have no doubt this will continue. Providing jobs to Chinese citizens does not let you off the hook.China will increase its tax collection efforts. This has been going on at a rapidly accelerating pace over the last six months or so. If your China operations are not making a healthy profit, do not be surprised if the government imputes healthy profits to it. In particular, the government will look very closely at your transfer pricing and in many cases it will not like what it sees.
Both of these two things have been happening in obscene numbers over the last two months. My firm is receiving at least triple the usual number of inquiries from companies who are being told to register their businesses and pay past taxes and fines or get out. And how is it that these companies were caught? Knocks on the door by tax inspectors who, by all indications, are simply going door to door in office buildings and areas where foreign companies tend to locate/congregate. One of these companies is a client for whom we have actually completed about 98% of their registration. The others are all companies that wrongly believed they would be able to operate under the radar for a while.
The highly regarded China Magazine, Economic Observer, just came out with an article, entitled, "China Launches Second round of Taxation Inspections in Bid to Boost Revenue." The article notes how China's tax authorities have been told to collect "additional taxes" this year by targeting "key industries."
Now I know that my perspective is heavily slanted, since none of our Chinese clients would be calling us with an internal Chinese matter, but it sure "feels" to me that the key "industries" being targeted are those which consist of foreigners.
What are you seeing out there?
Comments (9)
Read through and enter the discussion by using the form at the endecodelta - March 10, 2010 1:57 AM
No taxation without representation!!!
;-)
Chris - March 10, 2010 3:24 AM
I'm not sure that the tax authorities are solely focusing on foreign enterprises. Domestic enterprises, particularly large SOEs, had a tough year in 2009 with massive compliance efforts focused on them. The tax authorities were going for low hanging fruit where large amounts of tax could be extracted with minimal effort on their part. Some of this was squeezed by demanding enterprises undertake self audits. In other cases, audit teams were sent in to large enterprises to undertake detailed audits.
A particular focus in 2009 was SOEs in monopoly areas (resources, transport, utilities, telecoms) where staff welfare is good and generally untaxed. The insurance industry was hit hard as many insurers had developed products that could be bought on behalf of staff by enterprises (and hence expensed and not be liable for income tax) and quickly directly refunded to individuals. Most of the purchasers were domestic enterprises looking to pay staff higher salaries without the burden on income tax and staff social insurance on-costs.
I'm not convinced the foreign enterprise is the primary target. The Economic Observer article indicated key industries will be "pharmaceutical companies, real estate developers and companies involved in construction and transportation in 2010" - very few of which will be foreign enterprises.
Overall though, 2010 will be another tough year for tax with the SAT looking for every new possible source of income to supplement revenue. Foreign enterprises will need to strengthen compliance and I have no doubt transfer pricing arrangements will be closely scuntinised.
Handan - March 10, 2010 5:29 AM
Last week, I received an email from the HR of my university that my accommodation allowance is now subject to tax as well.
Twofish - March 10, 2010 5:46 AM
I don't get the sense that foreigners are being particularly targeted for tax and regulatory scrutiny. The general impression that I'm getting from the Chinese press is that everyone is being subject to more scrutiny. For example, the real estate business and non-tradeable shares issue are those that hit mainly domestic entities.
For that matter what China is doing is just part of what everyone is doing
http://www.ameinfo.com/209370.html
The other thing is that the line between "domestic" and "foreign" is usually a bit blurry. Also there are WTO limitations. China (and anyone else) can increase scrutiny on an industry basis, but within an industry they can't discriminate between foreign and domestic entities.
Matthew - March 10, 2010 5:51 PM
The Economic Observer is correct that the tax authorities will be targeting "key industries". The SAT actually has a list of industries it considers to have a high incidence of tax avoidance, particularly in respect of transfer pricing. They have actually been quite public about this and I believe issued a notice early last year on this issue.
I am not sure whether this translates into targeting foreign companies as opposed to domestic companies. Transfer pricing is presently the boom issue in China and this will obviously impact on (or target) foreign enterprises more than domestic enterprises as it is only relevant to cross-border transactions (i.e. shifting profits out of China).
It should be noted that domestic companies have been overwhelmingly targeted to date. Around 90% of tax cases in China are with respect to the fraudulent use of tax receipts (fapiaos or 发票). Such conduct is, in the main, engaged in by local companies.
That being said, if foreign companies haven't got their act together tax wise they may be in for a tough 2010.
Twofish - March 10, 2010 7:17 PM
In addition to the effects of the global financial crisis, the Chinese government has promised better schools and health care and that has to be paid for. Like most governments (and unlike stereotypical views of the Chinese government), the PRC can't randomly raise taxes without a lot of popular discontent so heavier enforcement of rules that already exist is a politically cheap way of getting more revenue.
The Communist Party does not have the power to tax, and it's only the National People's Congress that can pass laws to authorize taxation, and there have been a few situations in which the NPC has just said no. The State Council wanted a fuel tax to pay for public roads, but the NPC voted that down.
Adam Minter - March 12, 2010 8:39 PM
I'm pretty sure that domestic enterprises are being targeted as well. In Guangdong, tax revenues are way down since the economic crisis sapped the export industries, and the local governments - desperate to make-up for the shortfall in revenues - are looking to enforce previously unenforced taxes to make up for it. Lots of foreign businesses down there, of course, but even more domestic ones. So the authorities are doing the natural thing and going where the money is.
I personally witnessed an impromptu tax collection visit in November, down in Foshan, at a domestic enterprise. Totally unthinkable two years ago when the local governments were flush.
Yoni - March 17, 2010 10:07 AM
What you describe is in fact happening in China, but it should come as no surprise. I have been in China on business for nearly 15 years and have seen so many ebbs and flows that nothing worries me any more. When times are good, foreigners are less wanted, like now. When times are bad, we are favored. Each cycle usually lasts a few years and I think we have already peaked on this one.
Julie - July 28, 2010 12:00 AM
This is so true. My company is having to pay taxes this year that we didn't even know existed until this year. I don't really mind it, except for the fact that I doubt very much that our Chinese competitors are paying all of the same taxes.