Positive Signals to Foreign Investors
China unveils withholding tax deferral treatment for foreign direct re-investment
经国务院常务会议审议通过，李克强总理签批，国务院于2017年8月8日印发《关于促进外资增长若干措施的通知》（以下简称《通知》），强调进一步提升我国外商投资环境法治化、国际化、便利化水平，促进外资增长，提高利用外资质量。
利用外资是中国对外开放中一项非常重要的内容，党中央、国务院都非常重视。习近平总书记在7月17日召开的中央财经领导小组第16次会议上特别强调，要推进供给侧结构性改革，实现经济向更高形态发展，跟上全球科技进步步伐，都需要继续利用好外资。特别要求要采取有力措施，改善投资环境，加快对外开放的步伐。李克强总理的年度政府工作报告强调，要不断地完善我国营商环境，建设对外资有强吸引力的磁场，加大引进外资的力度。
其中最引人关注的财税支持政策之一，就是对境外投资者从中国境内居民企业分配的利润直接投资于鼓励类投资项目，凡符合规定条件的，实行递延纳税政策，暂不征收预提所得税。
境外投资者需要重点关注享受征税优惠必须同时满足的四个条件：一是直接投资的形式，包括境外投资者以分得利润展开的增资、新建、股权收购等权益性投资行为。二是境外投资者分得利润的性质应为股息、红利等权益性投资收益，来源于居民企业已经实现的留存收益，包括以前年度留存尚未分配的收益。三是用于投资的资金（资产）必须直接划转到被投资企业或股权转让方账户，不得中间周转。四是投资项目的范围属于《外商投资产业指导目录》中所列的鼓励外商投资产业目录，或《中西部地区外商投资优势产业目录》。
希望享受退税的境外投资者，应特别关注其已取得的股息是否同时符合前述四个条件，否则将无法获得退税。已在华开展投资并已在华产生利润的境外投资者，应积极审视评估集团现行的投资战略并开展相应的调整，提前做好准备。同时密切关注该递延纳税优惠政策的地方执行口径，及时与主管税务部门沟通，降低潜在的税务风险。
In August 2017, the State Council released Notice Regarding Measures on Promoting the Growth of Foreign Capital in China (Guofa [2017] No. 39) , which sets forth 22 measures to further improve the business environment for foreign investors in China. One of the prominent supporting tax measures is to allow foreign investors to enjoy a withholding tax (WHT) deferral treatment (hereinafter referred to as “tax deferral treatment” or “treatment”) on direct re-investment of profits distributed from Chinese tax resident enterprises (TREs) into China’s “encouraged projects”.
On 21st December, 2017, the Ministry of Finance (MOF), State Administration of Taxation (SAT), National Development and Reform Commission (NDRC) and Ministry of Commerce (MOC) jointly unveiled this long-awaited year-end gift, i.e. the Notice Regarding the Provisional Deferral Treatment for WHT on Direct Re-investment by Foreign Investors Using Profits Distributed from TREs in China (Caishui [2017] No. 88, or the Notice)1, which clarifies the criteria to enjoy tax deferral treatment, application procedures and responsibilities, and post-administration by tax authorities. According to the Notice, such treatment would be effective retrospectively from 1st January, 2017, and tax payments already settled on eligible re-investment can be refunded. Subsequently, the above four ministries jointly released a list of Q&As through MOF’s official website on 28th December, 2017, providing their interpretations against the background of certain provisions in the Notice and relevant implementation requirements.
Tax deferral treatment is a favourable policy to attract foreign capital flow into China. Foreign investors that have generated profits from their investment activities in China are advised to proactively assess their existing group investment strategy and adjust accordingly in order to fully leverage on such treatment. Meanwhile, they should also pay close attention to local-level implementation of this tax deferral treatment and make early preparation.
In detail
Criteria for the Tax Deferral Treatment
Foreign investors wishing to enjoy tax deferral treatment should fulfil ALL of the following criteria:
Criterion 1: Direct Investment
Direct investment refers to direct equity investments such as capital injection, establishment of new TREs, equity acquisitions, etc. by foreign investors using profits distributed from Chinese TREs, which include:
• Injection in paid-up capital or capital reserves of Chinese TREs
• Establishment of new Chinese TREs
• Equity acquisition of Chinese TREs from non-related parties
• Other methods stipulated by MOF and SAT (this is a catch-all clause, which means the applicable scope could be expanded depending on actual circumstances on implementation practices and changes in new form of investment activities)
The scope of direct re-investment does not include investing in a public listed company, except where the foreign investor and the A Share listed company meet the requirement of “strategic investment” stipulated in Administrative Measures on Strategic Investment in Listed Companies by Foreign Investors (the MOC Order [2005] No. 28).
Criterion 2: Nature of Distributed Profits
Profits distributed to the foreign investor refer to dividends accrued from equity investment distributed by Chinese TREs to their foreign investors from their realized retained earnings.
Criterion 3: Direct Payment
According to the Notice, no matter the profits distribution is in form of cash or non-cash (e.g., tangible goods, tradable securities, etc.), it must be directly transferred to the investee or equity transferor, which means any form of intermediate transactions would disqualify the foreign investors from enjoying the treatment.
Criterion 4: “Encouraged Projects”
“Encouraged projects” for foreign investors refer to projects under the “encouraged catalogue” category designated in the Industry Catalogue Guide for Foreign Investment (the “2017 Catalogue”) and businesses prescribed in the Preferential Industry Catalogue for Foreign Investment in Central and Western Region, both of which have been revised in year 2017. In determining whether the business activities of the investee fall within the above two catalogues, relevant tax authorities can request for the opinion of NDRC and MOC departments at the same level government.
Based on the interpretation in the Q&As, where at the time of the re-investment, the foreign investor is eligible to enjoy the tax deferral treatment as the business activities of the investee fall within the scope of ‘encouraged projects’ at that time, even if the scope of “encouraged projects” is amended in future, tax deferral treatment of the foreign investor would not be affected.
Record-Filing Procedure and Post-Administration
As the withholding agent for dividends, the Chinese TREs should perform record-filing procedure with their in-charge tax authorities for the purpose of deferring the withholding tax after properly reviewing the materials provided by the foreign investors and ensuring their eligibility.
It should be noted that if the tax authorities discover that the foreign investor is not eligible for tax deferral treatment in their post-filing administration, they should firstly determine who the responsible party is. If it is that of the dividend distributing Chinese TRE, the tax authorities should deal with it in accordance with relevant withholding agent’s provisions stipulated in Public Notice on the Matters Regarding Withholding CIT at Source for Non-TREs (SAT Public Notice [2017] No.37); if it is that of the foreign investor, the tax authorities should go after the foreign investor on its responsibility for delay in tax payment, and the delay period should be calculated from the date the relevant profits are actually repatriated.
As the term “proper review” is not clearly defined in the Notice, it is recommended that Chinese TREs should carefully review the relevant materials and proactively discuss with their in-charge tax authorities to reduce any potential legal risk.
Retrospective Treatment
In order to maximize the outcome of such treatment, the Notice clarifies the dividends received by foreign investors on or after 1st January, 2017, would be eligible for tax deferral treatment and a refund for the tax already paid could be applied. As such, it is highly suggested that foreign investors wishing to obtain a refund should pay close attention to whether the dividends they received satisfy all four criteria, otherwise they would not be eligible for the refund.
In addition, the Notice also sets forth that eligible foreign investors who have not enjoyed this treatment can apply for it retrospectively within three years from the date the tax payment was actually made and claim a refund accordingly.
Settlement of the Deferred WHT
If the foreign investors enjoys the treatment recoup their direct re-investments through equity transfer, equity buyback, liquidation, etc., they should report and settle the deferral tax payments with the in-charge tax authorities within 7 days upon the actual receipt of the relevant payment.
Unfortunately, the Notice does not clarify how to determine the tax-deferred portion of dividends if it is only a partial equity transfer or buyback. Which method should be used: “first-in-first-out”, “last-in-first-out” or “weighted average”?
Another question is whether foreign investors can still enjoy the reduced tax rate on dividends under the relevant tax treaty on settling the deferred tax payment. For the determination of “beneficial ownership” status of foreign investors in relation to dividends, should it be determined at the time of direct re-investment or at the time of settlement of deferred tax payment?
Corporate Restructuring Eligible for Special Tax Treatment
The Notice provides a specific relief provision for foreign investors which carry out an intra-group restructuring after direct re-investment, i.e., where the investee undergoes a restructuring and elects for special tax treatment, their foreign investor can continue to enjoy such tax deferral treatment. However, it does not clarify, after the restructuring, how the original or new shareholders should settle the deferred tax payment on future recoupment of direct re-investment through equity transfer, equity buyback or liquidation of the investee.
The Takeaway
Release of this tax deferral treatment policy will significantly impact business development and strategic layout of MNCs that are planning to expand their investment in China. It also demonstrates the commitment of the Chinese government to further encourage foreign investors to continue expanding their investment in China by improving competitiveness in attracting foreign capital.
Following the release of the newly revised 2017 Catalogue, it is not difficult to see that majority of encouraged industries for foreign investors is concentrated in manufacturing sectors, especially high-tech and high-value-added sectors. We believe that tax deferral treatment will help further promote the state’s strategy of “Made in China 2025”, and effectively attract foreign capital to invest in the state’s key development areas such as high-end manufacturing, intelligent manufacturing and productive services, etc.
It is also important to note that quite a number of uncertainties still exist in implementing the policy. It is anticipated that the SAT will release relevant circulars soon to clarify the implementation of relevant provisions in the Notice. We will closely follow the development and share with you our observations in due course.
