Chinese expats in the financial services industry have been grappling with the issue of reporting their foreign income to the China tax authorities. Experts argue that now is the time for China tax residents to recognise their worldwide tax obligations.
The Ministry of Finance (MOF) and the State Taxation Administration (STA) of the People’s Republic of China on 17 Jan 2020 jointly published the Public Notice on the Individual Income Tax Policy Regarding Foreign Income (the “Notice”).
The Notice provides a timeline and framework for Chinese tax residents to report both their onshore and offshore income, and serves as a guidance to strengthen the enforcement of the Chinese IIT reform implemented on 1 January 2019.
“With the new IIT law, individuals are required to make an annual consolidated income tax reconciliation filing each year. That is why SOEs are issuing notices to remind their employees to make this consolidated reporting to the Chinese tax authority,” Joyce He, senior legal and tax manager, Hong Kong, Withers told Asian Private Banker.
“Strictly speaking, whether PRC individuals are working for SOEs or not, as long as they are PRC tax residents, they are required to make this consolidated filing, reporting all their worldwide income to the Chinese tax authority.”
Because IIT is withheld by the employer in mainland China, the self reconciliation filing required by the Notice — to be done from 1 March to 30 June 2020 — has been the first time that China domiciled individuals are required to self-report their onshore and offshore income, even if they already reported their overseas income to foreign tax authorities. This explains why Chinese companies have been issuing notices to remind their secondees of this obligation. However, He said the Chinese authorities have all along adopted a worldwide taxation system and there isn’t any change on the income tax level of a maximum of 45% in the 2019 IIT reform.
Employers in China must submit lists of secondees
A recruiter shared with Asian Private Banker — on the condition of anonymity — that secondees from Chinese companies are likely the most affected group as they are getting paid according to PRC standards, but are living in foreign countries with higher living standards. On the other hand, mainland Chinese who are permitted to work in jurisdictions outside of mainland China usually have a salary on par with other employees working in that jurisdiction and their situation remains an attractive career choice.
“The Notice requires SOEs and other entities in China to annually compile a list of employees deployed overseas (detailing the deployment location) to be submitted to the relevant Chinese tax authority. This requirement makes it easier for the Chinese tax authorities to monitor the compliance status of those Chinese individuals with taxable foreign source income,” John Wong, tax partner and China and Hong Kong leader in private client services at PwC told Asian Private Banker.
“The overseas employers of Chinese expats working in other jurisdictions (such as Hong Kong and Singapore) do not have the obligation to report the income of such expats to the Chinese tax authorities. It will therefore depend upon the individual’s integrity and honesty to report their taxable foreign-sourced income via the annual China tax filing.”
Wong added that since the publishing of the Notice, more mainland Chinese corporations have been seeking advice on how to comply with the stipulated requirements and how to fulfil their reporting obligations as a company with respect to those mainland China domiciled staff who are seconded overseas.
HNWIs fall within scope of the Notice
Wong said that PwC has been reminding mainland China domiciled HNWI clients of the requirement to report other offshore income, such as capital gain and dividend income on investments, and gains resulting from the disposal of overseas assets.
“Since Chinese individuals have always been subject to China tax on a worldwide taxation scheme and the Chinese tax authority is now enforcing this more vigorously, clearer guidance would be beneficial to both the authorities and the individuals,” Wong pointed out.
“This is a wake-up call for Chinese tax residents to report their foreign source income. For example, under the US tax rules, US nationals and green card holders have always been required to report their worldwide income in their annual US tax filings. I can’t see why Chinese tax residents think the same compliance expectation is not applicable to them.”
Wong added that the recent reminder about tax compliance is a step of a “totality approach” initiated by the Chinese tax authority: China joined the CRS regime in 2017 which allows the Chinese tax authority to get hold of the overseas bank balances of China tax residents, so as to be able to compare these against their tax filing to detect inconsistencies.
The 2019 tax reform already beefed up and modernised the IIT rules with anti-avoidance provisions, bringing them up to standard with international norms. The next step is the enforcement to ensure Chinese tax residents comply with the prevailing China tax code.
Tax residency definition may confuse
The Notice has provided a degree of clarity on how individuals and corporate entities should deal with the uodated IIT law, which was criticised for its vagueness when it was first announced.
Despite this, Wei Zhang, partner at private clients and tax team, Withers, told Asian Private Banker that the tax reform in 2019 didn’t change the principles for determining the tax residency of an individual in mainland China.
“To determine whether a person is a PRC tax resident, the question depends on one’s domicile and the amount of time spent in China. And whether one is domiciled in China depends on whether you are a habitual resident in China, whether you have a hukou (戶口) in China, whether you have family ties to China and whether you have economic ties to China. It depends on the facts and circumstances in each case,” said Wei.
“Because the current definition of what constitutes a PRC income tax resident is not entirely black and white, people who reside both in mainland China and overseas for a considerable period of time each year, may have questions about their tax residency. But then again, we usually receive a fair amount of inquiries about tax residencies, even before the income tax reform.”