China: Dealing with the future tax administration on enjoying treaty benefit for preferential tax rate on dividends

Under the prevailing Chinese Enterprise Income Tax (EIT) laws and regulations, non-tax resident companies that either not having an establishment in China but deriving income sourced from China or having an establishment in China but the income derived is not related to the establishment in China (Non-Resident Companies), is subject to a reduced EIT rate of 10% on the China-sourced dividends. However, the avoidance of Double Taxation Treaties between China and some contracting states (DTTs), such as Spain, France, United Kingdom, Belgium, Germany, the Netherland and Switzerland, provide preferential EIT rate at 5% in articles of dividends with certain conditions (Treaty Benefit).

One of the conditions is that the Non-Resident Companies receiving dividends from the Chinese resident enterprises (Chinese Enterprises) shall be assessed as a beneficial owner. The relevant assessment criteria of beneficial owner were previously published in Increased Certainty in the Assessment of Beneficiary Owner: Opportunity for Foreign Investors?, which will not be repeated herein.

The most frequent questions that we have been enquired about in recent years are:

Tax regulations on the tax administration of Treaty Benefit

Article 6 and Article 7 of Announcement of the State Taxation Administration [2019] No.35 (Announcement 35) stipulate that:

• In the case of withholding at source (e.g. dividend distribution by Chinese Enterprises to Non-Resident Companies) and designated withholding, if a non-resident taxpayer self-assesses that it meets the conditions for enjoying treaty benefits and needs to enjoy treaty benefits, it should: (a) truthfully fill in the "Non-resident taxpayer's enjoyment of treaty benefits information report form" (Reporting Form, in Chinese 《非居民纳税人享受协定待遇信息报告表》); (b) submit it to the withholding agent; and (c) collect and retain relevant information for future tax administration.
• After receiving the Report Form, the withholding agent shall confirm that the information reported by the non-resident taxpayer is complete, withhold the tax in accordance with PRC tax laws and the DTT, and submit the Reporting Form. to the competent tax authority.
• If a non-resident taxpayer fails to voluntarily submit the Reporting Form to the withholding agent or the information is incomplete, the withholding agent shall withhold the tax in accordance with PRC tax laws.
• Retaining relevant information for future tax administration including the following documents (Required Documents):
  
  1. A tax resident certificate issued by the competent tax authority of the other contracting state of the DTT to prove the tax resident status of the non-resident taxpayer in the current year or the previous year when the income was obtained… (Document 1);
  2. Contracts, agreements, resolutions of the board of directors or shareholders' meeting, payment vouchers and other ownership certification materials related to the acquisition of relevant income (Document 2);
  3. If enjoying the treaty benefits of dividends, interest, and royalties, relevant materials proving the identity of the "beneficial owner" should be retained (Document 3);
  4. Other information that the non-resident taxpayer believes can prove that it meets the conditions for enjoying treaty benefits (Document 4).

Article 10 of Announcement 35 has further stipulated that:

• “Where a non-resident taxpayer is entitled to but has not obtained treaty benefits and has overpaid taxes as a result, the non-resident taxpayer or its withholding agent may request the competent tax authority to return the overpaid taxes within the time limit prescribed by the Tax Collection Administration Law by submitting required supporting documents.
• The competent tax authority shall, within 30 days from the date of receipt of the application for returning the overpaid taxes from the non-resident taxpayer or its withholding agent, carry out verification and handle the procedures for returning the overpaid taxes where the conditions for entitlement to treaty benefits are met.”

Regarding the aforementioned “time limit prescribed by the Tax Collection Administration Law”, it refers to Article 51 of Law of the People's Republic of China on the Administration of Tax Collection (2015 Amendment), which stipulates that “If a taxpayer pays more than the tax payable, the tax authority shall immediately refund it upon discovery; if the taxpayer discovers the overpaid tax within three years from the tax payment date, he may request the tax authority to refund the overpaid tax and the corresponding interest on the bank deposit  for the same period. The tax authorities shall verify in time and refund immediately; if it involves withdrawal from the treasury, it shall be refunded in accordance with the provisions of laws and administrative regulations on treasury management.”

Commentary on Announcement 35

Based on the above regulations, Non-Resident Companies are responsible for:

• self-assessment of the eligibility to the Treaty Benefit;
• completing the Reporting Form; and
• preparing the Required Documents before the withholding agent files and pays the EIT to the competent tax authority by enjoying the Treaty Benefit.

Most frequently asked question 1: Chinese Enterprises applied the Treaty Benefit and withheld the EIT at 5%. The Chinese tax authority is now reaching the Chinese Enterprises to check the applicability of Treaty Benefit.

It is specifically stipulated in the regulation that the Required Documents shall be prepared in advance for future tax administration purposes. Therefore, the tax administration is normal procedure taken by the Chinese tax authorities. In practice, almost one hundred percent that there would be a future tax administration being carried out by the Chinese tax authority after enjoying the Treaty Benefit. The allowed time period for submitting the Required Documents is usually short (approximately one to two weeks), as it is expected that the Required Documents are ready for submission before enjoying the Treaty Benefit in accordance with the regulation mentioned above.

During the tax administration, the Chinese tax authority usually require a list of detailed documents from the Chinese Enterprises. The doubt is how can the Non-Resident Companies prepare the Required Documents in advance without receiving the list of detailed documents from the competent tax authority? Although Document 3 and Document 4 have not specified the exact document could be required by the competent tax authority, the general scope of the Required Documents is defined under the regulation. Regarding Document 3 in relation to evidencing the beneficial owner status, Announcement of the State Administration of Taxation [2018] No.9 has provided more guidance on what should be prepared in advance, depending on whether the Non-Resident Companies are assessed as a beneficial owner under the exemption rules, ‘Safe Harbor’ rules, ‘Adverse Factor’ assessment or the exceptional rules. Preparing the Required Documents in advance might not achieve that all detailed supporting documents required by the tax authority in the future administration are ready for submission, but it will significantly reduce the workload of preparing all documents in the short time period of notification, gain some time with the tax authority to share the available documents that prepared in advance that are under the request and meet the timeline as requested by the tax authority.

Having said the above, the Chinese Enterprises are the direct contact of the competent tax authority in the future tax administration, as the withholding agent of the Non-Resident Companies. In this regard, the Chinese Enterprises also have the obligation of ensuring that the Non-Resident Companies has fulfilled the requirements for enjoying the Treaty Benefit under Announcement 35.

Most frequently asked question 2: Will the tax authority carry out a tax administration every time after the dividend distribution, even if the same Treaty Benefit is applied each time?

As mentioned above, almost every Treaty Benefit application would be reviewed and examined by the tax authorities in practice. Some taxpayers might think why the same tax matters have been repeated administrated by the tax authorities. We consider that there are several reasons behind the strict administration:

• The Non-Resident Companies were eligible for the Treaty Benefit last time does not lead to the conclusion of being eligible for the Treaty Benefit this time in theory. For example, a non-resident company shareholder of a Chinese subsidiary had substantive business activities in 2022 but it becomes a holding company in 2023. Although ‘Adverse Factor’ assessment applied and concluded as being eligible as a beneficial owner in 2022, the change of business activity in 2023 would lead to one of the factors from favorable factor in 2022 to adverse factor in 2023. Consequently, applying ‘Adverse Factor’ assessment for 2023 might not reach the same conclusion of being eligible as a beneficial owner in 2023.
• The Chinese tax authority has limited information in relation to the overseas direct and indirect shareholders of the Chinese Enterprises.  The assessment of beneficial owner might involve the tax assessment of the upper level shareholders of the Non-resident Companies that indirectly holds shares in the Chinese Enterprises through the Non-Resident Companies (Indirect Shareholders). The regular tax administration may enable the tax authority to obtain the necessary and most updated information of overseas shareholders to carry out their own review and assessment. 

Most frequently asked question 3: Chinese Enterprises did not apply the Treaty Benefit and withheld the EIT at 10%. If the Treaty Benefit is applicable, can Chinese tax authority refund the taxes paid?

As stipulated in Article 10 of Announcement 35, it is feasible that the Non-Resident Companies apply the tax refund for overpaid taxes by applying the Treaty Benefit within three years from the date of tax payment was made. Treaty Benefit is not granted automatically. Treaty Benefit can be enjoyed upon the application of the Treaty Benefit based on the self-assessment. If the Non-Resident Companies consider that they should have been eligible for the Treaty Benefit but has not applied for it, Required Documents shall be prepared as stipulated in Announcement 35. Furthermore, effective communication with the competent tax authority is also crucial so as to successfully obtaining the tax refund on overpaid taxes.

Our tax professionals have extensive experience in dealing with the tax administration on treaty benefit application, as wells as the assessment of whether certain treaty benefit is applicable to the Non-Resident Companies. Please do not hesitate to contact us if you have any questions or needs.