2011
China Anti-tax Avoidance Administration Brief
1. Three-dimensional efforts
Since the year of 2008, China tax authorities have been continually strengthening anti-tax avoidance efforts and expanding areas of enforcement of anti-tax avoidance rules. As of the year of 2010, the State Administration of Taxation (‘SAT’) often use the expression “three-dimensional effort” to describe China anti-tax avoidance administration system, which is comprised of Management, Service, and Investigation. The Management section is mainly responsible for inspecting contemporaneous documentation and related-party transaction filings, while the Service section focuses on Advance Pricing Agreements (APA) and Mutual Agreement Procedures (MAP). And the Investigation section conducts transfer pricing investigation/adjustment, as well as the 5-year follow-up reviews.
2. Latest data statistics of 2011 released by the SAT
The latest statistics released by the SAT disclose that anti-tax avoidance efforts increased PRC tax revenue by RMB 23.9 billion in 2011, of which the Management section contributed about RMB 20.8 billion, Service section was RMB 0.7 billion and Investigation section reached RMB 2.4 billion.
In 2011, the SAT held 10 MAP meetings with 7 foreign tax authorities including the United States, Japan, and South Korea, where 29 MAP projects were discussed, of which 7 reached agreement and 5 were officially signed. In the whole year of 2011, MAP increased China tax revenue by RMB 0.7 billion and resolved double taxation cases of RMB 3.2 billion.
3. New internal work rules have been issued
The PRC anti-tax avoidance legal framework consists of a series of laws, regulations and rules. The new EIT Law and implementation rules serve as the legal basis, with Implementation Measures of Special Tax Adjustments (Trial) (“Circular 2 in 2009”) being the fundamental guideline for transfer pricing practice in China. However, many of the provisions in the Circular 2 are principle and broad. As a result, lots of inconsistence to enforcement emerged in practice.
Two new anti-tax avoidance rules came into effect in March 2012, which are “Joint Review Rules for Significant Special Tax Adjustment Cases (Trial)” and “Internal Work Rules of Special Tax Adjustments (trial)”. The two rules are considered to be the most significant development in PRC transfer pricing legislation since the issuance of Circular 2 in 2009.
In general, the new rules do not bring substantive changes to recent procedures, and most of the contents are detailed explanatory supplement to some concepts or procedures (such as the thin capitalization, general anti-avoidance, etc.) related to the operation of the provisions.
4. Comprehensive index system of transfer pricing risk in 2012
The SAT has developed a comprehensive index system of transfer pricing risk to identify companies suspected of transfer pricing violations and provide a basis for identifying targets for investigations.
Development of the index system is assumed to be based on the SAT’s internal database developed over recent years. This database is also used to cross-reference and cross-examine comparable companies in benchmarking analyses.
Meanwhile, the SAT takes an industry-specific approach to identify low-profit industries, corporate groups and companies. Chinese tax authorities may utilize the index system in conducting comparative analyses on related-party transactions across numerous industries, years, and regions.
5. 2012 focus transfer pricing issues by the China Tax authorities
a) Anti-tax avoidance management spreads to other special issues
Based on the public report by the tax officials, the SAT’s agenda for 2012 is to outline detailed work procedures in other special areas such as controlled foreign corporation administration, general anti-avoidance administration, and tax haven countermeasures.
b) Industry focuses of transfer pricing investigation
“By region, by industry” is the SAT’s significant approach in conducting transfer pricing investigation since the year of 2010. Based on the information available for us, we assume that the SAT has analyzed and selected target industries for anti-tax avoidance audits by different regional tax bureaus.
The SAT has been actively conducting national joint audits to simultaneously investigate multiple companies in a specific industry or related companies within the same group, but in different regions. This practice has contributed to the rise in profit levels across various industries. The SAT established rules and regulations for all tax bureaus to ensure consistency in national joint audits.
With the rapid development of tertiary industries such as services, trade, and financial services, these also represent potential areas for the SAT to expand its activities. This trend is also confirmed in the Article, which reports that recently targeted industries include consumer retail, real estate, and shipping.
c) Related party transaction types
Besides the purchases and sales of tangible assets, new transaction types, such as intangible property transfers and financing transactions, are also targeted under the SAT’s expansion strategy. We are seeing diversification in targeted transaction types, as the high-end manufacturing and service industries are becoming more prevalent in the Chinese economy.
6. General trend for the 2012 China anti-tax avoidance administration
The SAT is redirecting its efforts from an investigative approach to being more preventative to reduce the resource pressure of tax bureaus and taxpayers. The SAT has instead been strengthening the management of related-party transaction filings and contemporaneous documentation to encourage companies to enhance compliance and proactively adjust profits and taxes. In other words, tax bureaus may prefer to suggest that taxpayers make “self-adjustments” rather than to initiate a formal transfer pricing investigation. Taxpayers should carefully consider whether to make a self-adjustment:
It could cause double taxation and increase the overall tax burden of the group;
- It is generally outside the scope of corresponding adjustments and other remedial measures;
- The authorities are still entitled to conduct a formal transfer pricing investigation even if the taxpayer has already made a self-adjustment.
Conclusion
The China tax authorities will continue to strictly review related-party transaction filing and contemporaneous documentation to ensure a sound foundation in conducting industry-wide and group-wide examination and investigation as well as MAP negotiations.
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