Daisy Duan, Wang Yan Regulatory & Compliance Group
2020 witnessed a continuing economic slowdown around the globe, along with the unexpected outbreak of COVID-19. In June, the World Bank forecasted that the global economy would shrink by 5.2%, while the Organization for Economic Co-operation and Development (OECD) projected a decline of 4.2% in the 2020 economy.
Statistics released by the PRC Ministry of Finance show a year-on-year decrease in national tax revenue of 11.3% for the first half of 2020, and a year-on-year decrease of 3.7% from January to November 2020. These figures may indicate a gradual recovery of China’s economy from the large drop at the start of the year.
During the year, there have been a number of tax developments in China, including supportive tax measures undertaken by the government to fight against COVID-19. The key developments, as highlighted in more detail below, have been:
- the completion of the first individual income tax (“IIT”) annual declaration and settlement;
- the promotion of regional coordination development in the PRC;
- the acceleration of tax legislation;
- tax reliefs taken against the COVID-19 pandemic; and
- active participation in the international tax field.
Completion of the first IIT annual declaration and settlement
Following the promulgation of the new Individual Income Tax Law (IIT Law) (个人所得税法), which came into effect on Jan. 1, 2019, a Chinese resident taxpayer (as defined in Article 1 of the IIT Law) should perform, from March 1 to June 30 of the following year, an annual declaration and settlement of “comprehensive income”. This includes four types of income: salaries and wages, remuneration for independent services, income from authors’ remuneration, and income from royalties.
The first IIT annual declaration and settlement took place for the period March 1 to June 30, 2020. Resident individuals, themselves or through their authorized agents, should declare and settle their comprehensive income received in 2019. They can do this via cellphone app, via the tax authorities’ website, by mail or in person at the tax authorities’ office. Taxpayers are able to receive a tax refund in their bank accounts in China or remit tax due through online payment tools or in-person banking.
To mitigate the tax burden of middle- and low-income earners, the Ministry of Finance (MOF) and the State Taxation Administration (STA) issued circulars exempting a resident individual from the 2019 IIT annual declaration requirement if his/her total comprehensive income for 2019 does not exceed Rmb120,000 or if his/her final IIT due on 2019 comprehensive income does not exceed Rmb400. With digital support and the great efforts of various levels of tax authorities, the 2019 IIT annual declaration and settlement proceeded smoothly against the backdrop of the Coronavirus pandemic. For details, please refer to our article 【图说个税】首次个税汇算清缴进入倒计时，are you ready?
The newly-introduced anti-tax avoidance rules in the IIT law and the implementation of the Common Reporting Standard (CRS) in China have largely blocked previous loopholes caused due to lack of legal basis and by information asymmetry in IIT collection and administration. It is anticipated that in the following years, the Chinese tax authorities will further enhance IIT collection and administration and refine the IIT annual declaration and settlement mechanism. Radical tax planning schemes will inevitably encounter challenges from tax authorities, especially for high-net-worth individuals.
This year, the MOF and STA issued the Announcement on Individual Income Tax Policies Relating to Foreign Income (Announcement  No. 3) (关于境外所得有关个人所得税政策的公告) to further clarify Chinese tax policies with respect to foreign income, including the scope of foreign income, how foreign tax credit is calculated, procedures for tax filing of foreign income, and compliance requirements under cross-border secondment arrangements. For details, please refer to our article A Brief of New Individual Income Tax Policies on Foreign Income.
Promotion of regional coordination development in China
Hainan Free Trade Port (Hainan FTP
To support the comprehensive deepening of reform and opening-up of Hainan province, and to accelerate the construction of a high-level free trade port “with Chinese characteristics”, on June 1, 2020 China released the General Plan for the Establishment of the Hainan Free Trade Port (Plan) (海南自由贸易港建设总体方案). The Plan aims to build the southern island province Hainan into a globally influential high-level free trade port by the middle of the century.
The Plan sets a two-phase blueprint for the construction of Hainan FTP: by 2025, to establish a free trade port system in Hainan focusing on trade and investment liberalization and facilitation; and by 2035, to realize a more mature free trade port system with liberalization and facilitation for trade, investment, cross-border capital, labor, etc.
The construction of a tax system in the Plan mainly includes:
- zero tariff: qualified imported goods will be exempted from import duties, import value-added tax (VAT) and consumption tax; after Hainan FTP launches its own independent customs operations, qualified goods will be exempted from import duties when entering Hainan FTP, and the current VAT, consumption tax, vehicle purchase tax, urban maintenance and construction tax, and education surcharges will be simplified and consolidated into a single sales tax.
- a lower enterprise income tax (EIT) rate: a preferential 15% EIT rate (versus the standard EIT rate of 25%) applies to enterprises registered and operated in Hainan FTP engaging in the encouraged sectors; EIT exemption on income derived from new overseas direct investment before 2025 by enterprises registered in the free trade port which are engaged in tourism, modern and high-tech services; one-off deduction or accelerated amortization of qualified capital expenditures. In the next phase, by 2035, a 15% EIT rate will apply to enterprises registered and operated in Hainan FTP (except for sectors in the negative list).
- lower IIT rate: an effective IIT rate of 15% applies to qualified high-end and short-listed talents working in Hainan FTP; by 2035, a lower set of IIT brackets (progressive rates at 3%, 10% and 15%) will apply to the income of qualified individuals.
The MOF, STA and General Administration of Customs have issued a series of circulars for implementation of these tax policies. For details, please refer to our article 海南自由贸易港的税务蓝图.
Lingang New Area in Shanghai Pilot Free Trade Zone
Following the State Council’s General Plan for the Lingang New Area of the China (Shanghai) Pilot Free Trade Zone (中国（上海）自由贸易试验区临港新片区总体方案) released in August 2019, the MOF and STA issued circular Caishui  No. 38 on July 13, 2020, to clarify the details of a preferential 15% EIT rate for a five-year period granted to qualified enterprises engaged in the integrated circuit, artificial intelligence, bio-medicine and civil aviation sectors. More circulars on IIT subsidy and preferential VAT treatment are expected to be issued in due course, to provide further details of the Lingang area plan.
New Pilot Free Trade Zones in Beijing, Hunan and Anhui
On Sept. 21, 2020, the State Council announced plans for three new pilot free trade zones (FTZs) in Beijing, Hunan province and Anhui province, along with expansion of the Zhejiang FTZ (国务院关于印发北京、湖南、安徽自由贸易试验区总体方案及浙江自由贸易试验区扩 展 区 域 方 案 的 通 知 ), to further facilitate high-level opening-up and boost high-quality growth in China’s inland regions.
Taking the Beijing FTZ as an example, the plan aim to improve trade liberalization and facilitation, promote innovation in science and technology, and focus on further opening-up of financial services and the digital economy.
In parallel with the establishment of the Beijing FTZ, the State Council also approved the work plan on deepening Beijing’s new round of further opening-up of service industry (国务院关于深化北京市新一轮服务业扩大开放综合试点建设国家服务业扩大开放综合示范区工作方案的批复). Tax incentives in the Beijing’s work plan include increasing the ceiling amount of EIT exemption on technology transfer income from Rmb5 million to Rmb20 million, preferential IIT treatment for high-end foreign talents, and simplification of the qualification criteria for high and new technology enterprises.
Acceleration of tax legislation
China has been on track to accelerate its tax legislation and establish a modern tax system over the past few years.
In August 2020, the Standing Committee of China’s National People’s Congress passed the Urban Maintenance and Construction Tax Law (城市维护建设税法) and the Deed Tax Law (契税法). By transforming the previous provisional regulations into laws, tax certainty has been improved and tax administration has been refined and optimized. In the State Council’s legislative work plan for 2020, the draft Stamp Duty Law (印花税法) is expected to be submitted to the NPC for review.
From late 2019 to early 2020, the task of collecting opinions on the consultation drafts of the Land VAT Tax Law (土地增值税法), VAT Law (增值税法), and Consumption Tax Law (消费税) was completed. Legislative work on these three important kinds of taxes is expected to make positive progress in the next year.
Tax reliefs against the COVID-19 pandemic
To combat the adverse impacts of COVID-19, the relevant Chinese government authorities took a series of fiscal and taxation measures to protect market players. Those measures included:
- measures to support protection and treatment: IIT exemption for subsidies and bonuses received by individuals for epidemic prevention and control; IIT exemption on medical protective equipment that employees received from employers;
- measures to support anti-epidemic supplies: refund of VAT excess input for enterprises producing key anti-epidemic supplies; VAT exemption for income derived from transporting key anti-epidemic supplies; VAT exemption for income derived from public transportation services, consumer services, and express delivery services, etc.; one-off deduction before EIT of costs of equipment purchased by enterprises for producing key anti-epidemic supplies; exemption of tariff for imported anti-epidemic supplies;
- measures to encourage charitable donations: exemption of VAT, consumer tax and local surcharges for goods donated to fight the epidemic; full deduction before EIT and IIT for qualified donation of goods or funds by enterprises or individuals to fight the epidemic;
- measures to support resumption of work and production: losses of enterprises engaged in sectors that are greatly affected by the epidemic are allowed to be carried forward to the next eight years (as compared with the standard five years); periodic reduction of VAT for small scale taxpayers; periodic reduction of employer’s portion of social security contributions; EIT filing due date for low profit businesses postponed to 2021; and
- clarification on permanent establishment and tax residency assessment during the epidemic for cross-border activities: working from home due to the epidemic does not constitute permanent establishment; a period of shutdown of an entire construction project caused by the epidemic is allowed to be excluded from the time counted towards assessing permanent establishment; decisions made temporarily outside a habitual location do not affect the tax residency of an entity; and the temporary relocation of an individual during the epidemic does not affect his/her tax residency.
Please refer to our article 疫情防控｜财税政策频出，助力企业纾困summarizing the tax reliefs against the COVID-19.
Active participation in the international tax field
A number of developments took place in 2020 which relate to China’s place in the global tax arena:
- Advance Pricing Arrangement (APA): on Oct. 29 2020, the STA released the 2019 China Advance Pricing Arrangement Annual Report (中国预约定价安排年度报告). This is the 11th APA annual report released by the STA. The report, containing data from 2005 to 2019, describes the latest mechanisms, procedures, and implementation of the APA mechanism in China. By Dec. 31, 2019, 101 unilateral APAs and 76 bilateral APAs were signed cumulatively. In 2019, 12 unilateral APAs and 9 bilateral APAs were signed, which is a significant increase compared with 2018. It is likely that an increasing number of cross-border enterprises will consider entering into APAs as this could facilitate management of transfer pricing risk and international double taxation risk to a certain extent.
- Mutual Agreement Procedures (MAP): on Nov. 18, 2020, the OECD published the MAP statistics for 2019. MAP is a mechanism provided by double taxation treaties to resolve cross-border tax disputes between competent tax authorities. The statistics shows that 2,690 MAP cases were started in 2019, and 2,821 MAP cases (including inventory cases) were closed. China, as a member of the OECD/G20 Inclusive Framework on base erosion and profit shifting (BEPS), started 24 MAP cases in 2019 and closed 19 (including inventory cases), and the number of end inventory MAP cases in 2019 was 122.
Outlook for 2021
2021 marks the start of China’s 14th Five-Year Plan (2021-2025). During this period China will strive to make new strides in economic development. The country plans to continue the steps it is already taking toward deepening reform and opening-up, and make great progress in developing a modernized economy. Prospects in the tax domain include improvements toward a modern tax system, optimization of the structure of the tax system, appropriate increase of the proportion of direct taxes, and further reform of the tax collection and administration system. Taxation reform in China will continue to accelerate.
On Oct. 12, 2020, OECD announced the Reports on Pillar One and Pillar Two Blueprints on developing a solution to the tax challenges of the digital economy for members’ public consultation; public consultation meetings on the Blueprints will be held in Jan. 2021. This “BEPS 2.0” initiative has attracted worldwide attention. Countries with a large digital economy and those which provide invisible contributions to the profit of digital economies are evaluating the impact of the potential changes to the international tax landscape and assessing appropriate positions and solutions in addressing the challenges. It may take more time than expected for the world to reach consensus in this regard, and China is expected to play a role in setting up the international tax rules in response to the digital economy. Please refer to our analysis on the Pillar One and Pillar Two Blueprints 支柱一和支柱二：踯躅而前行？
On the other side, the Regional Comprehensive Economic Partnership Agreement (RCEP) (区域全面经济伙伴关系协定) was signed on Nov. 15, 2020 between China and 14 other Asia-Pacific countries. Ratification by members is needed before the RCEP enters into force, but it is anticipated that this new agreement may enhance regional free trade integration as well as promote global economic recovery.