China Withholding Tax Deferral Policy for Foreign Direct Reinvestment
Dividends derived from China by a foreign investor are currently subject to China Enterprise Income Tax in the form of Withholding Tax at 10%. In order to attract foreign capital flow into China, a preferential tax deferral policy has recently been implemented by the Chinese government.
Under this policy, if foreign investors directly reinvest their profits distributed by Chinese resident enterprises in the encouraged industries and meet certain criteria, then the 10% Withholding Tax on the distributed profits (i.e. dividends) shall not be levied, until the foreign investors dispose of such reinvestments in China. The preferential tax deferral policy took retroactive effect from 1 January 2017. That is, dividends received by foreign investors on or after 1 January 2017 may be eligible for the tax deferral treatment and a refund for the Withholding Tax already paid could be applied.
In order to enjoy the preferential tax deferral treatment, the following 4 conditions should be met simultaneously:
1. The foreign investor shall directly invest the distributed profits into one of the following:
• Injection in paid-in capital or capital reserves of Chinese resident enterprises
• Establishment of new Chinese resident enterprises
• Acquisition of equity interests in Chinese resident enterprises from non-related parties
• Other investments prescribed by the China Ministry of Finance and the State Administration of Taxation
2. Profits distributed by Chinese resident enterprises to their foreign investors refer to equity investment returns (i.e. dividends) from the enterprises’ realized retained earnings.
3. If dividends are distributed to foreign investor in cash, the funds shall be directly transferred from the account of the Chinese enterprise distributing the dividends to the account of the investee enterprise or the equity transferor, and shall not pass by other bank accounts in or outside China before the direct reinvestment. If dividends are distributed in a non-cash form, such as tangible goods, tradable securities etc., the ownership right of the relevant assets shall be directly transferred from the Chinese enterprise distributing the dividends to the investee enterprise or the equity transferor, and the ownership right shall not be held by other enterprises or individuals on behalf of the investee enterprise or the equity transferor before the direct reinvestment.
4. Encouraged industries refer to the following industries in which the investee enterprises are operated during the investment term of the foreign investor:
• “Encouraged industries” category listed under the Catalogue for the Guidance of Foreign Investment Industries
• Industries listed under the Catalogue of Priority Industries for Foreign Investment in the Central and Western region of China
The majority of encouraged industries for foreign investors is concentrated in manufacturing sectors, especially high-tech and high-value-added sectors.
AUTHOR: Anthony Hung
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Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.