The Tax System in China has undergone tremendous changes in recent years. Currently, there are 24 different types of tax imposed on a wide range of incomes and transactions. Taxpayers can be individuals, entities or economic organizations. To fulfill its WTO commitments, the Chinese government is currently preparing for another round of tax reform, which is expected to take place in 2006. The goals of this reform are to unify current tax laws and to develop a level playing field for domestic enterprises and foreign investment enterprises, to promote the harmonized growth of taxation and the economy, and to improve the efficiency of tax collection and administration.
Keeping place with compliance obligations in such a rapidly changing regulatory environment can be a major challenge. You are advised to seek professional advice regarding your particular circumstances.

Individual income tax

The Individual Income Tax Law, Individual Income Tax Implementing Rules and the tax circulars issued by various levels of tax administration form the prevailing legal basis of individual income tax (IIT) in China.

PRC nationals domiciled in China are subject to tax on their worldwide income. Foreigners who reside in China for less than a year are subject to tax on heir China-sourced income. Foreigners who reside in China for at least a full year but less than five consecutive years are subject to tax on employment income derived from inside China and foreign-sourced employment income if paid or borne by PRC persons. Foreigners who reside in China for more than five consecutive years are subject to tax on their worldwide income, starting from the sixth year. Foreigners who have lived in China for more than 90 days in a tax year, or more than 183 days if they are from a country with which China has a tax treaty, are subject to tax only on their China-sourced income. Temporary visitors who spend fewer than 90 days in China, or 183 days if a tax treaty applies, are only subject to tax on employment income that is paid or borne by an establishment in China.

There are 11 categories of taxable income according to the IIT Law, including wages and salaries, business income and various other specified items of income and compensation. IIT is generally assessed on a monthly basis. The tax rates for wages and salaries are progressive and range from 5 per cent to 45 per cent, in nine tax brackets.

 In general, all non-PRC nationals must register with the Chinese tax authorities as soon as they become liable to IIT. In most cases, an employer or any other person who pays taxable income to an individual tax-payer is obliged to act as a ‘withholding agent’ and is responsible for filing tax returns and remitting payments to the tax authorities on the individuals’ behalf. If there is no withholding agent, the individual is responsible for filing his or her tax return and paying the tax assessed.

Employment benefits

Certain fringe benefits received by foreigners are exempt from IIT, though supporting documents and approvals from the tax authorities are often required to claim them. These benefits include: 
  Housing, meal and laundry allowances received in a non-cash form or on a reimbursement basis; 
  Reimbursement of relocation expenses upon commencement or cessation of China assignment; 
  Travel allowance; 
  Home leave allowance; 
  Language training and education allowance for dependent children.

In addition, an employer with operations in China may purchase for expatriate staff accident and disability, unemployment, pension, provident fund and medical insurance from overseas commercial insurance companies. Such employer-paid insurance premiums are exempt from IIT, provided that the insurance is borne by the employer in accordance with the statutory requirements of its home country, and provided the employer in China does not deduct the insurance premiums in calculating its own taxable income for enterprise income for enterprise income tax purposes. Insurance premiums paid or borne by employers over and above statutory requirements are subject to tax.

Foreign enterprise income tax

The Foreign Enterprise Income Tax Law, Foreign Enterprise Income Tax

Implementing Rules, and various notices and circulars concerning the taxation of foreign investment enterprises (FIEs) and foreign enterprises (FEs) have been issued by the State Administration of Taxation.

FIEs and FEs with establishments in China, and FEs without establishments in China but deriving income from China, are liable to pay foreign enterprise income tax (FEIT). FIEs include Chinese-foreign equity joint ventures, Chinese-foreign cooperative joint ventures and wholly foreign-owned enterprises. An FE incorporated outside China but which has an establishment in China and engages in production or business operations there, is subject to FEIT on its China-sourced income. An FE with no establishment in China, but which derives income from within China, is liable to FEIT on certain categories of China-sourced income, on a withholding basis.

Tax is charged on the income derived from production, business operations and other sources, including income from manufacturing, communications and transportation, agriculture, commerce, finance, service industries and other trades. Dividends, interest, rental, royalties and other such passive sources of income are also subject to withholding tax.

The standard FEIT rate is 33 per cent, of which the standard national tax rate is 30 percent and the local tax rate is 3 percent. To attract foreign investment, the Chinese government has introduced various tax incentives for FIEs engaged in industries or activities encouraged by the state, or which are established in specified investment zones. The main incentives on offer are tax holidays and lower tax rates.

An FIE or FE subject to FEIT is required to register with the local tax authorities within 30 days of receiving a business license or business registration certificate. Provisional tax returns and advance tax payments must be submitted on a quarterly basis. An annual final tax return must be filed within four months of the end of the tax year, and an annual final tax settlement must be made within five months of the end of the tax year.

Preferential tax treatment

The FEIT Law and the FEIT Implementing Rules provide tax incentives in the form of tax holidays and reduced tax rates to encourage foreign enterprises to invest in certain projects and industries and to conduct their operations in specified zones within China.

Tax holidays

Tax holidays may be available depending on the type of industry in which an enterprise is involved or depending where it is located. For example, a production-oriented FIE that is scheduled to operate for at least 10 years is generally entitled to an exemption from FEIT for two years starting with the first profit-making year. For the following where years it will be entitled to a further tax holiday in the form of a 50 percent reduction of its usual national FEIT rate. A similar tax holiday also applies to export-oriented businesses that export at least 70 percent of their total output, subject to certain restrictions.

A certified ‘technologically advanced enterprise’ may be entitled to an extended tax holiday comprised of a two-year tax exemption and a three-year reduced rate tax holiday, followed by a further three-year reduced rate tax holiday.

A service-oriented enterprise established in a special economic zone, which is scheduled to operate for 10 years or more and which has a total investment of more than US$5m, may be eligible for an exemption from FEIT in its first profit-making year, followed by a 50 percent reduction of tax fro the next two years.