china tax & investment news - united statesfile/ey-ctin-2015008-eng.pdf · calendar year...

China Tax & Investment News 1

The long-awaited tax agreement betweenthe China Mainland - Taiwan Straits wassigned

Issue No.CTIN201500808 Sep 2015

Background

A bilateral tax treaty, known as an agreement for the avoidance of double taxationand the prevention of fiscal evasion with respect to taxes on income, refers to anagreement that is entered into between two jurisdictions to allocate their taxingrights on revenues as well as other tax-related matters. Due to differences inpolitical, economic and cultural environments, plus the gap in their tax systems, toprotect the interests of respective jurisdictions, bilateral negotiations between twojurisdictions would be relatively efficient and can reach the purposes of providingtax residents with relief from double taxation; appropriate distribution of taxingrights and tax revenue; saving administrative costs as well as prevention of taxevasion. In addition to tax treaties, the bilateral tax arrangements entered intounder specific circumstances, e.g., the agreements between Mainland China (theMainland) and the special administration regions (SARs), have similar functionalityto the double tax treaties (hereby collectively referred as DTA). The DTA plays akey role in international taxation coordination and cooperation and is a significantregulatory framework to promote and facilitate cross-border business activities.

Nevertheless, the Mainland and Taiwan had never entered into a DTA due tohistorical reasons; this inevitably resulted in double taxation on cross-straiteconomic activities, impeding the cross-strait trading flows and economicdevelopment.

China Tax &Investment News


After years of negotiations, Chairman Chen Deming of the Association for Relations across the Taiwan Straits(ARATS) and Chairman Lin Join-sane of the Straits Exchange Foundation (SEF) finally signed the Agreementon Avoidance of Double Taxation and Improvement of Tax Cooperation across the Taiwan Straits (hereinafterreferred to as the “Cross-strait DTA”) on 25 August 2015. Mr. Zhang Zhiyong, the vice-minister of the StateAdministration of Taxation (SAT) was invited to witness the signing ceremony. The Cross-strait DTA1,according to its claims, aims to further improve cross-strait economic and trade cooperation, as well as reduceor eliminate double taxation. The Cross-strait DTA shall be ratified upon the completion of the respectiveinternal procedures required by both the Mainland and Taiwan and shall take effect on the day following to therelevant notes being exchanged from both sides. It will apply to income derived on or after 1 January of thecalendar year following that in which the Cross-strait DTA enters into force.

The Cross-strait DTA stipulates the taxing jurisdictions over various incomes derived from cross-straiteconomic activities and available DTA relief mechanisms. It also clarifies the approaches to eliminate doubletaxation and promises a non-discrimination tax treatment for residents from both sides. It is expected that theDTA would reduce the tax burden of enterprises doing business across the Strait, enhance the competitivenessof both jurisdictions and facilitate investments between the Mainland and Taiwan.

This issue of China Tax and Investment News is to discuss the Cross-strait DTA in detail.

The Cross-strait DTA

The Cross-strait DTA is similar to some standard DTAs and covers matters related to scope, permanentestablishment, income derived from business and etc. We summarize certain key contents of the Cross-straitDTA as follows:

Table 1

Note:

1. You can click this link to access the full content of the Cross-strait DTA:http://www.arats.com.cn/yw/201508/t20150826_10550622.htm


Our observations

The Cross-strait DTA aims to reduce the tax burden of enterprises and individuals participating in cross-straiteconomic activities by taking into consideration the special cross-strait economic relationships and therespective tax schemes. The goal of the Cross-strait DTA is to create a certain and transparent taxenvironment for cross-strait investors with appropriate tax relief so as to improve the development ofeconomic and trade across the Taiwan Strait.

According to the official website of the SAT, as of the end of May 2015 China has entered into 100 DTAs withother jurisdictions, among which, 97 DTAs already became effective. On top of that, the Mainland has enteredinto double tax arrangements with the Hong Kong SAR and Macau SAR in 2006 and 2003 respectively. In theabsence of a similar tax agreement/arrangement, enterprises and individuals of the Mainland and Taiwanengaging in cross-strait investments or trading were placed in comparatively disadvantageous positions.Based on the statistics released by the competent finance department of Taiwan, for the past 20 years, theaccumulated investments in the Mainland from Taiwan have reached USD147 billion which accounts for 62%of total Taiwan’s outbound investments. The conclusion of the Cross-strait DTA would not only reduce the taxburden of Taiwan enterprises investing in the Mainland but also encourage more Mainland enterprises toinvest in Taiwan.

Upon the ratification of the Cross-strait DTA, it is anticipated that positive impacts would arise in the followingareas:

1. Elimination of double taxation

Before the conclusion of the Cross-strait DTA, it is not impossible that some cross-strait economic activitiesmay be double taxed. Within the effectiveness of the Cross-strait DTA, such a problem could be effectivelyaddressed. For instance, where a Mainland/Taiwan enterprise engages in businesses with the other sidewithout the constitution of a PE, then the relevant business profits derived shall not be taxable on the sourcingside. According to the Cross-strait DTA, where a resident of the Mainland/Taiwan does not constitute a PE inthe other jurisdiction, this resident shall not be taxed on the other side (i.e. for a construction project, if theactivities do not continue for a period of more than 12 months; or, for a service project, if the provision ofservices by an enterprise through employees or other personnel engaged by the enterprise does not continuefor a period or periods aggregating more than 183 days within any 12-month period, no PE is constituted).

2. Indirect investment made by Taiwan Investors through a third jurisdiction may also enjoybenefits under the DTA

In general, a DTA is not applicable to a situation where a resident of one jurisdiction invests in anotherjurisdiction through an entity incorporated under laws of a third jurisdiction. However, according to thestatistics released by the competent finance department of Taiwan , 75% of investments in the Mainland byTaiwan investors are through their entities incorporated in a third jurisdiction. In this respect, the Cross-straitDTA specifically adds the provision that “any entity incorporated under the law of a third jurisdiction which hasits place of effective management in one of the jurisdictions, is regarded as ‘resident’ for the purposes of thisagreement”, and hence any entity incorporated under the law of third jurisdiction may be deemed as‘residents’ of the Mainland/Taiwan and would therefore be eligible for enjoying benefits under the Cross-StraitDTA in future, as long as the places of effective management (PEM) of such an entity are in theMainland/Taiwan.

Pursuant to the Cross-strait DTA, the aforesaid “places of effective management” refer to enterprise whichsatisfies ALL of the following criteria:

► Substantial operation management, financial and human capital decisions are made or approved bypersonnel/head offices/organizations located in the Mainland/Taiwan.


► Financial statements, accounting records, board resolutions or shareholders resolutions are recorded ormaintained in the Mainland/Taiwan.

► Organizations in charge of the major operation activities are located in the Mainland/Taiwan.

3. Reduction of withholding tax rates

According to the prevailing PRC CIT Law, dividends, interests and royalties derived from the Mainland byTaiwan enterprises are subject to CIT at 10%. After the Cross-strait DAT becomes effective, the relevantwithholding tax rates could be substantially reduced. The preferential tax treatments among the Cross-straitDTA, the Mainland - Hong Kong DTA and the Mainland – Macao DTA are generally in line and details are laidout for your reference:

Table 2


Upon the ratification of the Cross-strait DTA, it is anticipated that positive impacts would arise in the followingareas:

1. Elimination of double taxation

For dividends, interests and royalties, the preferential withholding tax rates as prescribed in the Cross-straitDTA are the same as that of the Mainland – Hong Kong DTA and the Mainland – Macau DTA. After theeffectiveness of the Cross-strait DTA, the treaty relief would enhance the willingness of domestic enterprisesto invest in Taiwan.

Note:

2. According to Guishuihan [2008] No. 685, when implementing this provision, where a Hong Kong resident has directlyor indirectly owned not less than 25% capital of the Mainland enterprise at any time within the 12 months before thealienation, the supervising tax authority in the Mainland is empowered to impose tax.


For capital gains, prior to the effectiveness of the Cross-strait DTA, if a Taiwan enterprise directly transfersshares of a Mainland enterprise, the Taiwan enterprise shall be subject to CIT at 10% according to theprevailing PRC CIT Law and its Implementation Rules, regardless the percentage of ownership or otherconditions. However, under the Cross-strait DTA, a resident of one jurisdiction derives gains from thealienation of shares or other rights of the resident company of the other jurisdiction may only be taxed in thejurisdiction where the transferor resides. For example, for non-land-rich equity transfer, unless such gains areexempt from tax in the jurisdiction where the transferor resides and such transferor directly or indirectly holds25% capital of the company of the other jurisdiction at any time during the 12-month period preceding suchalienation, upon the effectiveness of the DTA, gains so derived by a Taiwan resident may only be taxed inTaiwan and are exempt from tax in the Mainland. The same tax treatment will apply to a Mainland residentdisposing shares of a Taiwan company.

In addition, as aforesaid, if a Taiwan enterprise transfers shares of their Mainland subsidiaries through anintermediate company incorporated in a third jurisdiction, the relevant capital gain provisions in the Cross-strait DTA may also be applied, provided its PEM is located in Taiwan.

4. Improvement of cooperation

Before announcement of the Cross-strait DTA, it was not rare that tax authorities of both sides could notagree on a transfer price for RPT by mutual consent, which accordingly may have lead to double taxation.Under the effectiveness of the DTA, the tax burden of taxpayers, especially for the business group, can bereduced and double taxation can be eliminated by adopting the mutual BAPA and signing an APA. Whenencountering any disputes, the Mainland domestic enterprises or Taiwan enterprises can take advantage ofthe Cross-strait DTA to protect the respective benefits. In the meantime, although the automatic EoI systemhas not been specified in the Cross-strait DTA, it is expected that tax authorities of both sides would workcloser for the exchange of tax related information and would therefore disallow structure or actions that wouldabuse provisions under Cross-strait DTA.

Conclusions

Although the Cross-strait DTA was signed on 25 August 2015, it will not be effective until the respectiveratification procedures are completed. The DTA shall then apply to income derived on or after 1 January ofthe calendar year when this Agreement enters into force. After the Cross-strait DTA is ratified successfully, itwill bring about far-reaching positive impacts for thecross-strait investment environment. It is an encouragingchange that the tax systems can finally catch up with the rapid business development driven by cross-straitentrepreneurs. It will clearly benefit entrepreneurs who’ve been aiming atoptimizing their business operationstructure in the globalized economy. Taiwanese enterprises that already have investments in the Mainland orintend to invest in the Mainland should review their existing or planned investment structures andtransactional flows to determine whether proper adjustments need to be made to enhance operational andfinancial synergy.

Meanwhile, it is important to note that the legislative ratification may not necessarily be a straight-forwardprocess, especially considering the fact that the Service Trade Agreement between the Mainland and Taiwansigned in 2013 has not yet become effective due to unresolved legislative debates in Taiwan. The businesscommunity is advised to be patient and wait for the effective date of the Cross-strait DTA to be confirmed. .We will aim to always keep you abreast of the developments regarding this important Cross-strait Agreement.

Analysis related to individual services as prescribed in the DTA shall be released separately in due course. If indoubt, consultations with tax professionals are recommended.


Contact usFor more information, please contact your usual EY contact or one of the following of EY’s China tax leaders.

• Walter Tong+86 21 2228 [email protected]

• Margin Ngai (Beijing)+86 10 5815 [email protected]

• Fisher Tian (Tianjin)+86 22 5819 [email protected]

Office Tax Leaders

• Samuel Yan (Dalian/Shenyang)+86 10 5815 [email protected]

Service Line Tax Leaders

• Andrew Choy (International Tax& Transfer Pricing)+86 10 5815 [email protected]

• Paul Wen (Human Capital)+852 2629 [email protected]

• Samuel Yan (Global Compliance & Reporting)+86 10 5815 [email protected]

• Becky Lai (Tax Policy)+852 2629 [email protected]

• David Chan (Transaction Tax)+852 2629 [email protected]

• Jane Hui+852 2629 [email protected]

Author – China Tax Center

Greater China Tax Leader

• Lucy Wang (Qingdao)+86 10 5815 [email protected]

• Vickie Tan (Shanghai)+86 21 2228 [email protected]

• Audrie Xia (Suzhou)+86 21 2228 [email protected]

• Raymond Zhu (Wuhan)+86 21 2228 [email protected]

• Jean Li (Xiamen)+86 755 2238 [email protected]

• Rio Chan (Guangzhou/Changsha)+86 20 2881 [email protected]

• Chuan Shi (Chengdu)+86 21 2228 [email protected]

• Clement Yuen (Shenzhen)+86 755 2502 [email protected]

• Joanne Su (Xi’an)+86 10 5815 [email protected]

• Patricia Xia (Hangzhou)+86 21 2228 [email protected]

• Andrew Chen (Nanjing)+86 21 2228 [email protected]

• Tracy Ho (Hong Kong)+852 2846 [email protected]

• Heidi Liu (Taipei)+886 2275 [email protected]

• Kenneth Leung (Indirect Tax)+86 10 5815 [email protected]

Sector Leaders

• Henry Chan (Financial Services)+86 10 5815 [email protected]

• Alan Lan (Energy & Resources)+86 10 5815 [email protected]

• Martin Ngai (Technology, Media,Telecommunications)+86 10 5815 [email protected]

• Vickie Tan (Life Science)+86 21 2228 [email protected]

• Gary Chan (Real Estate)+86 10 5815 [email protected]

• Audrie Xia (ConsumerProducts)+86 21 2228 [email protected]

• Walter Tong (Automotive &Transportation)+86 21 2228 [email protected]

• Raymond Zhu (Government&Public Sector)+86 21 2228 [email protected]


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This material has been prepared for general informational purposes only andis not intended to be relied upon as accounting, tax, or other professionaladvice. Please refer to your advisors for specific advice.

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