In June, officials from the State Administration of Taxation (SAT) announced during a tax seminar hosted by Hong Kong’s Internal Revenue Department that the SAT will issue supplementary regulations to clarify the indirect transfer rules under Notice 698.
According to the SAT officials making the presentation, the supplementary regulations will cover three key issues.
First, the supplementary regulations will provide a safe harbour for internal reorganisations. The major criticism of Notice 698 since its issuance is that it is overly broad. Many legitimate internal reorganisations with reasonable commercial purposes have been caught by the notice. Under the supplementary regulations, some internal reorganisations might only be required to submit pre- and post-reorganisation organisational charts and a brief explanation of the reasonable commercial purpose of the reorganisation. These reduced filing requirements will be available to an internal reorganisation if: (i) the transferor and the transferee have at least 50% common ownership; and (ii) the ultimate offshore controlling party retains the same shareholding in the Chinese subsidiary after the reorganisation.
[ihc-hide-content ihc_mb_type=”show” ihc_mb_who=”1″ ihc_mb_template=”2″ ]
Second, the supplementary regulations will require the Chinese tax authorities to issue a formal ruling on the taxability of an indirect transfer reported under Notice 698 within a reasonable period of time (about two months). Previously, tax authorities have only had to issue a formal ruling if they determined an indirect transfer was taxable. If they ruled the indirect transfer was not taxable, then they did not have to issue a formal ruling. However, without being bound by a formal ruling, the tax authorities could change their minds at any time during the next 10 years (the statute of limitations on tax avoidance) and reassess the indirect transfer as a taxable event. This inability to rely on these initial, informal rulings has caused uncertainty and great inconvenience for cross-border M&A transactions. The new supplementary regulations will help to restore certainty to M&A transactions by abolishing informal rulings and requiring formal rulings.
Third, the supplementary regulations will provide guidance on how to determine the tax basis in a series of transactions. The new regulations will recognise the tax paid in prior indirect transfers when determining the tax basis in subsequent transactions to avoid double taxation.
The SAT announcement at the conference addressed the main concerns of multinational companies regarding Notice 698 and was therefore much welcomed. However, it has been reported that some internal debate within the SAT has yet to be resolved, so the issuance of the supplementary regulations will be delayed.
[/ihc-hide-content]
Business Law Digest is compiled with the assistance of Baker & McKenzie. Readers should not act on this information without seeking professional legal advice. You can contact Baker & McKenzie by e-mail at: Zhang Danian (Shanghai) danian.zhang@bakermckenzie.com
