China Policy in the Lead – A Full Value Chain Analysis for FY 2016 required

The China State Administration of Taxation (“SAT”), on June 29, 2016 issued “the Public Notice on Matters Regarding Refining the Filing of Related Party Transactions and Administration of Contemporaneous Transfer Pricing (“TP”) Documentation Public Notice of the State Administration of Taxation [2016] 42” (“Notice 42”), which replaced certain sections laid down in “Guoshuifa [2008] Circular 114  in relation to annual filing of related party transactions and certain sections laid down in the “Guoshuifa [2009] (“Circular 2”) in relation to contemporaneous TP documentation.

Notice 42 mainly reflects the Chinese tax authority’s position in responding the international standard set out in the OECD/G20 BEPS Action 13~~ (“Action 13”) in relation to TP documentation and country-by-country (“CbC”) reporting.

In particular, Notice 42 introduced a value chain analysis (“VCA”) which is newly added and requested to be included in the local file documentation as of January 1, 2016. This analysis requires MNEs to disclose the following information:

• Flow of intercompany transactions, goods and capital, as well as description of all related parties involved in “value creation”.
• Annual financials statement of each related party involved.
• Measurement and attribution of “value creation” contributed by location specific factors (such as location savings and market premium etc.).
• Information on the variable used profit allocation in the global value chain.

According to Notice 42, VCA should be performed in the local file documentation. SAT did not provide any further detailed instruction on how detailed information should be disclosed in relation to VCA.

The SAT is aiming to use the VCA to gain a better insight on the business activities and profit positions of the Chinese entities versus other related parties involved in MNE’s global value chain, and also to determine profit attribution in relation to intangibles assets. Through using VCA, the SAT and local tax authority may be able to identify any misalignment between tax and economic reality within a MNE group which the Chinese entities are part of.