McDermott Will & Emery has a strategic alliance with MWE China Law Offices, a separate law firm based in Shanghai. This China Law Alert was authored by MWE China Law Offices lawyers Lawrence Hu, John Huang and William Zhang.
China’s corporate income tax (CIT) law and its detailed implementation rules (DIR), which took effect 1 January 2008, stipulate that taxable incomes derived by non-Chinese tax resident enterprises (non-TREs) from China should be subject to CIT, including withholding income tax (WIT) on dividends. Normally, the WIT rate for dividends is 10 per cent (in circumstances where the country or region of the non-TRE has signed a double-tax treaty with China, the rate could be less, e.g., 5 per cent, depending on the content of the treaty). The CIT law also regulates the implementation of “source-based withholding, where the payers act as the withholding agents” for CIT/WIT collections of non-TRE.
Since the enactment of the CIT Law and its DIR, the State Administration of Taxation (SAT) has issued a series of regulatory measures to strengthen the tax administration of non-TREs. Some of the relevant circulars are listed below:
- SAT Notice on Tax Administration of Dividends from Listed Companies in China by Non-TREs (Guoshuihan  No. 183) (Circular 183)
- SAT Notice of the Interim Measures on the Tax Administration of Source-based CIT Withholding for Non-TREs (Guoshuifa  No. 3) (Circular 3)
- Decision of the SAT on Imposing Enterprise Income Tax on B-Shares or Dividends (Guoshuihan  No. 394) (Circular 394)
- SAT Notice on Issues concerning Withholding the CIT on the Dividends Paid by Chinese Resident Enterprises to H-share Holders Which are Non-TREs (Guoshuihan  No.897 ) (Circular 897)
- SAT Notice on Issues concerning Withholding CIT on the Dividends Paid by Chinese Resident Enterprises to QFII (Guoshuihan  No.47 ) (Circular 47)
Among the above, Circular 3 states that the CIT for dividends derived by non-TREs from China should be subject to the source-based withholding method, where the dividend payer would serve as the withholding agent. Further, the dividend payer should pay WIT at the time each payment of the dividend was paid or when the payment should have been paid to non-TREs. Circulars 897 and 394 clearly note Chinese-resident enterprises shall pay WIT at a uniform rate of 10 per cent when issuing dividends to non-TRE shareholders derived from A, B or H shares, and/or any overseas shares attributed to year 2008 and onwards. Non-TRE shareholders can apply for preferential tax treatments according to the relevant regulations in the double tax treaties.
Urgent Tax Investigations Under Circular 183
In practise, we understand that when some listed companies in China duly announced their dividend distributions for H and B shares in 2008 and 2009, they also announced the WIT withholding for non-TRE shareholders and completed their withholding obligations. However, not all listed companies have been in compliance with the new regulations. For example, some listed companies indicated “B shares are not subject to tax for the time being” in their 2008 dividend distribution announcements. In addition, we understand in 2009 some local tax authorities carried out investigations on whether relevant new regulations against WIT on dividend payments to non-TRE shareholders had been implemented.
We believe that SAT is aware not all companies have withheld WIT in practice; hence Circular 183 was issued 6 May 2010 to emphasise the WIT issue on dividends distributed to non-TRE shareholders and to ask local tax authorities to carry out detailed investigations. Circular 183 points out “some resident enterprises issued B share dividends to non-TREs in 2008 and onwards without withholding CIT.” Further, the SAT requires local tax authorities “to carry out comprehensive investigations on dividend distribution of shares (A, B, H shares and other overseas shares) for 2008 and onwards of the listed companies in China; to investigate the withholding certificate registration, submission of relevant documentation and the establishment of relevant books and records; as well as to collect information regarding the companies’ dividend distribution announcements to non-TREs and the fulfilment of their withholding obligation.”
The request by the SAT portrays a particular “exceptional urgency” for “comprehensive investigation.” Circular 183 requires “local tax authorities to report the investigation result for A, H shares and other overseas shares to the SAT before June 30, 2010.” (Reports for B shares related to the investigation were due to the SAT in written form before 10 June 2010.) Therefore, local tax authorities have just a few more days to report the investigation to the SAT.
The issuance of Circular 183 highlights China’s tightened supervision on—and impatience of—the tax administration of WIT on dividends distributed by listed companies in China to non-TREs. Over the past year, SAT kept perfecting the legislation on tax administration of dividends derived by non-TREs from Chinese listed companies and also strengthened certain law enforcements. Thus, either non-TREs or withholding agents should be cautious when fulfilling the tax payment obligation in order to mitigate potential tax administration or legal risks.
Suggestions to Chinese Listed Companies That Publicly Offer A, B, H and Other Overseas Shares
To our knowledge, there are still some local tax authorities yet to initiate investigations. However, it is clear that all local tax authorities are required to take prompt action. Circular 183 orders all local tax authorities to launch the aforementioned “comprehensive inspection” and requires the “supervision of Chinese listed companies to lawfully fulfil the withholding obligations.” Further, Circular 183 provides that if any listed company investigated is found not to have completed the withholding obligation, the tax authorities in-charge shall have the right to urge the company to make up for the taxes payable within a time limit. In addition, such listed company, as withholding agent, shall bear the relevant legal liability under the tax collection and administration law and the CIT law.
The scope of the aforementioned investigation is very broad and detailed. Thus, it is highly recommended that Chinese listed companies which distributed dividends for A, B and H shares, and other overseas shares for 2008 and onwards to non-TRE shareholders should revisit their previous practise on dividend distributions from a compliance perspective and make further preparations as follows:
1) Revisit the relevant dividends distribution announcements for 2008 and onwards, examine whether there were notifications to non-TRE shareholders for the WIT payment obligation and examine the listed companies’ roles in withholding
2) Check whether the withholding certificate registration form, the necessary information on WIT and payment, as well as the relevant books and records are in place
3) Prepare for adequate explanations and solutions for any historical non-compliance issues (e.g., how to notify the non-TRE shareholders when listed company failed to withhold WIT on dividends already distributed; how to solve the problem of non-TREs which previously received dividends but are no longer existing shareholders of the listed company due to share disposal), and how to further communicate with in-charge tax authorities to mitigate any potential tax and legal risks.
Suggestions to Non-TRE Shareholders Who Received Dividends for A, B, H and Other Overseas Shares from Chinese Listed Companies
A large number of non-TREs might have the misconception that since the withholding obligation of WIT belongs to the withholding agents, i.e., those companies distributing dividends, they do not have any obligations to pay taxes themselves when the withholding agents failed to withhold.
This misunderstanding is risky. Under certain circumstances, the non-TRE will be liable for not filing CIT/WIT for their dividends. For instance, Circular 3 has already stated “if the withholding agent failed to withhold or cannot perform the withholding obligations, the non-TREs shall, within seven days after the payment or payment due for the dividends, file CIT to the competent tax authorities.” Furthermore, Circular 3 states that if the non-TRE again fails to pay tax within a certain time limit under a tax authority’s warning notice, the competent tax authority has the right to collect the CIT and charge late-payment surcharges from the non-TRE’s income from other project(s) in China.
Thus, under the pressing concerns from Circular 183, it is suggested that non-TRE shareholders with dividends received from Chinese listed companies take account of the following:
1) Revisit all the dividend announcements issued from 2008 and onwards by Chinese listed companies, and check whether the listed companies have duly issued the notification for WIT withholding, and test whether sufficient WIT for dividends has been duly paid
2) Determine how to negotiate with the competent tax authorities if it is found that any Chinese listed company failed to withhold WIT for them, and take the appropriate actions, e.g., perform back-filing, so as to mitigate any associated potential legal risks
3) Note that Chinese listed companies usually withhold and pay the WIT at the rate of 10 per cent; however, if the country or region where the non-TRE shareholder resides has a double-tax treaty with China (with preferential treatments on reduced WIT rate on dividends), the non-TRE shareholder could consider applying for tax refund according to relevant double-tax treaty (refer to The Notice of the Implementation of Dividend Provisions under Tax Treaties, Circular 81)
Circular 183 was issued to emphasize the implementation for WIT on dividends as specified in the CIT law and its DIR and subsequent Circulars 3, 897, 394, etc. It requires local tax authorities to carry out detailed tax investigations regarding WIT withholding status on relevant Chinese listed companies that distributed dividends of A, B, H and overseas shares to non-TREs shareholders.
As it is not uncommon that some Chinese listed companies and non-TREs might be unfamiliar with the WIT withholding or payment obligation, it is advisable for such companies to go through the requirements stipulated in Circular 183 and perform an internal examination, and solve any problems uncovered in a timely manner. It is suggested that a company rectify and/or prepare for explanation about non-complaint issues, if any, in advance of the “comprehensive investigation” so as to negotiate with tax authorities for appropriate and practical solutions to downsize potential risks.
Given the complexity of tax analysis, disclosure and filing for the said WIT issues, it is recommended that the Chinese listed companies and non-TRE shareholders work closely with their legal counsels, accountants and tax professionals, so as to assess the potential impacts of necessary disclosure and negotiate and resolve any problems, so that a company may operate healthily from a Chinese tax and legal perspective