Withholding tax in China is a crucial tax imposed on foreign companies operating within the country. It is applied to various types of income, including dividends, rents, interests, and royalties, that are generated within China’s territory. Withholding tax is important in China as it ensures timely tax collection, simplifies tax administration, enforces compliance, and provides funding for public services and development. This article will provide an in-depth overview of how withholding tax works in China, including its objects of income, management of taxation, tax compliance procedures, and income tax rates for foreign-invested enterprises and foreign enterprises.
What is withholding tax in China?
When operating in China, foreign enterprises and foreign-invested enterprises (FIEs) need to be aware of the withholding tax system. The withholding tax on enterprises with foreign investment and foreign enterprises in China is a tax imposed on income derived from production, business operations, and other sources of income within China’s territory. Foreign enterprises, including Chinese-foreign equity joint ventures, Chinese-foreign contractual joint ventures, and wholly foreign-owned enterprises (WFOE), collectively known as foreign-invested enterprises, are the income taxpayers subject to withholding tax. The withholding tax is applicable to payments of income generated in China to non-resident enterprises, and the tax must be withheld before remittance.
Currently, the withholding tax rate is 10%, which is a reduction from the earlier rate of 20%. However, it is important to note that the rate may change in the future.
Objects of income tax for enterprises with foreign investment and foreign enterprises in China
Withholding tax is applied to specific types of income, and understanding its implications is crucial for complying with tax obligations. The object refers to the basis on which the income tax of foreign-invested enterprises and foreign enterprises is calculated, known as taxable income. The components of taxable income for foreign investment enterprises and foreign companies with an establishment in China engaged in income production and management include:
Let’s explore the key objects of income tax subject to withholding tax for these entities in China.
- Dividends: Foreign investors or shareholders receiving dividends from Chinese companies are typically subject to withholding tax. The tax rate may vary based on the ownership percentage and relevant tax treaties.
- Interest: Foreign enterprises earning interest income from Chinese sources, such as loans or bonds, may be subject to withholding tax. The tax rate is determined by applicable tax laws and any relevant tax treaties.
- Royalties: Payments made by Chinese entities to foreign enterprises for the use of intellectual property rights, like trademarks, patents, or copyrights, are generally subject to withholding tax. The tax rate is based on relevant tax laws and applicable tax treaties.
- Service Fees: Foreign enterprises providing services within China may be subject to withholding tax on the service fees received. The tax rate and applicability depend on the nature of the services and any relevant tax treaties.
- Capital Gains: Foreign enterprises may be subject to withholding tax on capital gains derived from the transfer of assets located in China. The tax rate varies based on the asset type, holding period, and any applicable tax treaties.
Steps to Follow for Withholding Tax in China
The process for withholding tax in China involves several steps that need to be followed. Here is a simplified overview of the typical process:
- Determine Applicability: First, it is important to determine if the payment falls within the scope of withholding tax in China. Different types of income, such as dividends, interest, royalties, rental income, and capital gains earned by non-residents from sources in China, may be subject to withholding tax.
- Identify the Tax Rate: Once the type of income is identified, you need to determine the applicable tax rate. This can vary based on the nature of the income and any relevant tax treaties between China and the non-resident’s home country.
- Withholding by Payer: If you are the payer, it is your responsibility to withhold the relevant tax amount from the payment made to the non-resident. The withholding should be done at the time of payment.
- Prepare Withholding Tax Returns: As the payer, you need to prepare and submit withholding tax returns to the Chinese tax authorities within the specified timeframe. These returns provide details of the withheld tax amounts and the recipients of the payments.
- Remittance to Tax Authorities: You are also responsible for remitting the withheld tax amount to the designated tax authorities within the prescribed timeline. The tax authorities may provide specific instructions on how to make the remittance and the accepted payment methods.
- Provide Documentation: Non-resident recipients may need to provide certain documentation to support their eligibility for reduced tax rates or exemptions under relevant tax treaties. These documents may include tax residency certificates, withholding tax certificates, or other required paperwork.
- Filing by Non-Resident Recipients: In certain cases, non-resident recipients may be required to file an annual tax return in China to report their income and reconcile any withheld taxes. The filing requirements and deadlines should be determined based on individual circumstances and regulations.
It’s important to keep in mind that the withholding tax process in China can be intricate, and specific requirements may vary. To ensure compliance with the latest regulations and procedures, it is advisable to consult with a tax professional or seek guidance from the Chinese tax authorities.
Management of taxation for foreign-invested enterprises and foreign enterprises in China
Tax authorities shall, in accordance with the provisions of the tax law and administrative authority, carry out tax collection, administration, and inspection on taxpayers who are obliged to pay the withholding tax of foreign-invested enterprises and foreign enterprises. Specifically reflected in the following aspects.
An enterprise is required to complete its tax registration with the local tax authorities within 30 days of completing its industrial and commercial registration.
For an enterprise with foreign investment that establishes or cancels a branch outside the territory of China, tax registration, alteration registration, or cancellation registration must be completed with the local tax authorities within 30 days from the date of establishment or cancellation.
In case of major events such as relocation, reorganization, merger, split-up, termination, change of capital, and business scope, the enterprise must complete the registration or cancellation with the local tax authorities within 30 days after the registration of change of industry and commerce or before the cancellation takes effect.
The filing procedure for withholding tax applies primarily to a non-resident enterprise’s China-sourced income, including dividends, interests, rentals, royalties, and income from the transfer of property. Non-resident enterprises that earn dividends, interest, rents, royalties, or income from property transfers originating in China have the responsibility to fulfill withholding tax obligations. This can be done either directly by the non-resident enterprise or through a designated withholding agent.
Enterprises with foreign investment and foreign enterprises operating in China must report their profits or losses within the tax year within the specified time for each advance income tax payment. The deadline for filing is four months after the end of the year. If a foreign enterprise establishes two or more business organizations within China, one of the chosen business organizations may jointly file and pay the income tax on behalf of the foreign enterprise.
In the case of an enterprise in liquidation, it is required to submit its liquidation income tax return, along with relevant financial and accounting statements and other materials, to the local tax authorities before the cancellation of its industrial and commercial registration. If an enterprise is unable to file an income tax return and accounting statement within the prescribed time limit due to special reasons, it must file an application within the time limit for filing and may request an extension of the filing deadline upon approval by the locally competent tax authorities.
Tax compliance procedure
The new withholding tax compliance procedure is composed of different parts, as shown below:
- Contract registration (not required from January 2018 except for onshore service contract) – 3-5 working days
- Tax assessment – 15-20 working days
- Treaty benefit application (if applicable) – 7-10 working days
- Withholding filing and payment – 2-3 working days
- Payment registration (if applicable, depending on the payment amount) – 3-5 working days.
Types of Income Subject to Withholding Tax in China
Here’s a simplified table summarizing the types of income commonly subject to withholding tax:
Types of Income
Salaries, wages, bonuses, and employee compensation
Payments for the use of the intellectual property (e.g., patents, copyrights)
Distributions of profits to shareholders
Payments for professional services, consulting fees, or commissions
Income earned from certain investments or loans
Rents and Royalties
Rental income from real estate or royalties from natural resources
Please note that this table provides a general overview, and the specific details, rules, and rates can vary depending on the jurisdiction and its tax laws. It is important to consult with a tax professional or refer to the tax regulations in the relevant country for accurate and up-to-date information.
Withholding Tax Treaties
China has an extensive network of tax treaties with other countries, also known as Double Taxation Avoidance Agreements (DTAs), to promote international trade and investment by reducing or eliminating double taxation on cross-border income. Here’s an overview of China’s tax treaties with other countries:
- Overview of China’s tax treaties: China has signed tax treaties with over 100 countries, including major trading partners such as the United States, Canada, Australia, the United Kingdom, Germany, and Japan, as well as many developing countries. These treaties cover various types of income, including dividends, interest, royalties, capital gains, and business profits.
- Benefits of tax treaties: Tax treaties can provide several benefits in reducing withholding tax on cross-border income. One common benefit is a reduction in the withholding tax rate below the standard rate specified in China’s domestic tax law. For example, if the domestic withholding tax rate on dividends in China is 10%, a tax treaty may provide for a lower rate, such as 5% or even 0%, depending on the specific treaty provisions and the recipient’s country of residence. This can result in cost savings and increased cash flow for businesses.
- Requirements for claiming tax treaty benefits: To claim tax treaty benefits, the recipient of the income must meet certain requirements, which may include providing a valid tax residency certificate from the country of residence, submitting relevant documentation, and meeting any other conditions specified in the tax treaty. It is important to carefully review and comply with the specific requirements of the applicable tax treaty to ensure eligibility for reduced withholding tax rates.
- Anti-avoidance provisions in tax treaties: Tax treaties also include anti-avoidance provisions to prevent abuse and ensure that treaty benefits are not exploited for tax avoidance purposes. These provisions may include a limitation on benefits (LOB) clause, which sets out specific conditions that must be met to qualify for treaty benefits, such as a minimum ownership threshold or a substantial business activity requirement. Additionally, tax treaties may also include provisions to exchange information between tax authorities to prevent tax evasion and ensure compliance with the treaty provisions.
Compliance Challenges and Best Practices for Withholding Tax in China
Complying with withholding tax regulations in China can present several challenges for businesses. Some of the common challenges include:
Complex and evolving tax laws
Stay updated with tax laws through reliable sources and tax advisors
Language and cultural barriers
Engage qualified tax advisors with expertise in Chinese tax laws
Classification and determination of taxable income
Maintain proper documentation and seek professional advice for accurate classification
Compliance with reporting and remittance requirements
Train and educate employees, establish internal controls, and utilize tax treaties when applicable
In China, withholding tax is applied to different types of income such as dividends, rents, interests, and royalties generated within the country. Its significance lies in ensuring the timely collection of taxes, simplifying tax administration, enforcing compliance, and generating funds for public services and development. As with many taxes in China, the misunderstanding of it and missing deadlines to file the tax can cause economic losses for foreign companies operating in and outside China.
We at FDI China support everyday companies that need to deal with Chinese tax and accounting, and we manage it for them, to guarantee full local compliance.
If you want to know more about the withholding tax and how we can help your company to outsource tax and accounting, contact us to discuss further.