New Tax Changes for Chinese Holding
The use of Holding Companies ("HC") has long been
an area of confusion and frustration for many Foreign Invested Enterprises
operating in the People's Republic of China ("PRC"). Where as many
other countries offer tax incentives and other commercially purposeful
reasons for establishing HCs in-country, Chinese legislation has
so-far restricted the usefulness of HCs to simply a holding vehicle
allowed to invest in lower tier subsidiaries.
At the same time, the tax obligations of HCs were
very contentious and not completely transparent. This caused much
confusion regarding the tax implications of HCs providing services
to its subsidiaries. As such many multinational companies decided
to utilise countries such as Hong Kong and Singapore to base their
holdings, especially across the Asia Pacific Region.
However, in recent years the Ministry of Foreign Trade
and Economic Cooperation (MOFTEC) and the State Tax Authorities
have been attempting to clarify many issues for HCs in China, including
the tax implications of services rendered and the commercial abilities
Recent legislation now allows HCs to distribute goods
on behalf of its subsidiaries, borrow a certain amount against Registered
Capital and perform a growing number of treasury management functions.
Most recent changes to HCs in China were introduced
on September 28, 2002 (effective in December 2002) concerning
revenue generated through services performed for subsidiary companies.
The State Tax Statute # 128 (Guo Shui Fa #128) provides clarification
on the following issues. Whilst not completely covering all related
issues, the greater guidance will provide Foreign Invested Enterprises
with some transparency in transfer pricing arrangements and tax
In such cases the Actual Costs are those which are directly attributable
to a group of subsidiaries to which the HC provides services,
but does not separately identify.
Note: Deemed profit rate is defined as 5% in
the State Tax Statute #128.
- Management Fees: These are specifically prohibited
from being charged to the subsidiary.
- Reimbursement of third party expenses by the HC:
Where a HC engages a Third Party to provide services on behalf
of the subsidiary (e.g. Advertising, Marketing), such expenses
may be allocated to the individual subsidiaries using the method
of allocating Deemed Service Revenue.
The State Tax Statute #128 indicates, however, that the allocation
method used by the HC must first be agreed to by the subsidiary
and HC via written agreements. Under these circumstances, the
expenses are not considered as revenue for the HC and are not
subject to business tax.
- Nondeductible Investment Expenses: A HC's income
can be split between 'Dividend Income' (not subject to taxes),
and Investment Income and Business Income (income other than dividend)
which is subject to tax (income tax, VAT, business tax etc.).
Previously there was much confusion as to what was deductible
against each of the types of income for tax purposes. However,
State Tax Statute #128 clarifies many issues:
- Investment Expenses and losses are not deductible against
business income for tax purposes.
- Investment Expenses and losses are not allowed to be allocated
to subsidiaries by HCs.
- Investment Expenses incurred by a HC must be accurately
calculated and can not be less than the minimum amount prescribed
by the State Tax Statute #128 formula:
Investment Expenses = Total Expenses of HC * (Dividends/(5*Business
Revenue + Dividends))
In such cases, Business Revenue includes all revenue less
Whilst the new tax statute certainly provides clarification on
a number of issues for HCs, there are still many issues to which
answers are inconclusive and treatment seems to be inconsistent.
The Statute also raises a number of interesting issues such as:
- Distribution of dividends (which is currently regulated by PRC
GAAP) and the deductibility investment expenses against earnings.
- The abilitiy for China HCs to invest in overseas subsidiaries
and the treatment for tax purposes.
It is advised that both foreign invested enterprises operating
in China and local companies review all inter-company transactions
and agreements in light of the above changes. Iit would appear that
the principle of "arm's length" is applicable in such
inter-company transactions, and the tax authorities are looking
to crack-down on inappropriate pricing and profits transfers.
recap of Company Legal Representatives in China
What is a Legal Representative in China?
A Legal Representative (LR) of a corporation is the person who
is appointed by the board of directors, as stipulated in the articles
of association, and registered with the government administration
authorities to exercise the civil rights and assume obligations
on behalf of the corporation.
What is the responsibility of a Legal Representative?
1. Legal representative is responsible for behavior of the corporation.
2. Legal representative must lead the corporation to act, operate
and develop within the legal constraints of the jurisdiction.
3. The behavior of the legal representative shall be deemed as
the corporation's behavior where he/she purports to act on behalf
of the corporation, makes a speech in the name of the corporation,
signs or stamps documents related to the corporation and other
actions associated with the goings-on of the corporation.
As stipulated under the Company Law in the People's Republic of
China, the Chairman of the Board of a limited liability company
should be the Legal Representative of that company.
Chops in China
Introduction to Chops in China
A "Chop" is necessary for approving decisions relating to the operations
and management of a company in China and legally authorising documentation.
A Company may hold a wide range of chops in China, each being used
for different purposes and applying to different documentation.
Whilst the Company Chop is mandatory for every company incorporated
in China, there are also a number of chops which only have a very
specific scope and power. These chops are not mandatory and may
include the Financial chop, Human Resources chop, and the Contract
chop. Such 'specific' chops provide company departments with the
ability to, for example, enter into contracts on behalf of the company
without having to gain the seal of the Company Chop.
- Company chop: The Company chop is often in round in shape with
the registered name of a company engraved on the bottom of the
seal. Each company must have only one Company chop and the engraved
seal must be approved by the Public Security Bureau (PSB). Once
the company is successfully registered with the Administration
of Industry and Commerce (AIC), a qualified chop-maker (approved
by the PSB) must be engaged to produce the Company Chop.
The Company Chop is the most important and powerful chop held
by corporation. It provides legal execution for all documents
and is at least required when any important documents are signed,
issued or to be changed. For example, any changes to corporate
documents, opening of a bank account, issuing a certificate
for an employee, or altering the name or business scope of the
company all require the Company Chop to be legally binding.
Financial chop: Financial chop is predominately used for issuing
a check and processing transactions with a bank.
Human Resource chop The Human Resources chop is used where
the company signs a labor contract with any of its staff. Many
government bodies also require this chop to be stamped on official
company documents such as employment proof letters for employee
- Contract chop Contract chop is only used for the purpose of
stamping contracts, particularly for trading contracts.
Use and safeguarding of chops
Generally, a personal signature and the chop are used together
during the process of signing a legal document. A document with
a signature and stamped with company chop is deemed as approved
by the company or the CEO (appointed by Board of Directors to act
on behalf of the company), and is legally binding.
Unauthorised and inappropriate use of chops may cause legal problems
for the company. In order to prevent anything detrimental to the
company, an appropriate chop management system should be in place.
The Executive Director or General Manager (if directed by or named
by the Company Legal Representative) is ultimately responsible and
held legally accountable for the Company's chop management. However,
they can assign specific persons to manage the chops, including
the delivery, collection and using of chop.
The following principles should be followed for proper use and
management of chops:
1. All chops should be used and kept by the persons (positions)
as specified by the General Manager and CEO.
2. The chop should be physically kept by the specified person
designated by the general manager and should not be passed to
others without prior approval.
3. A chop-management-card (or application system) should be established
to record details such as the date, user's name, authorization
justification and signature of the designated chop-holder. The
information about the use and return of chops must be recorded
on individual user-cards.
4. The chop-holder should return the chop prior to resigning
from or leaving the company.
5. Anyone who wants to use a chop should first seek written approval
from the General Manager and CEO.
6. Authorisations approved by the General Manager and the CEO
are effective immediately
7. The company should detail specific instances (documents) which
require both the chop and authorized signature to be legally valid.
8. The general manager has the full control over all chops.
9. The use and delegation of any 'specific' chops to various
company departments should be based on operational and efficiency
10. The keeper of the chop must take care of the chop, and report
the use of the chop to his direct management.
"Zeng Zhi Shui"
"Ying Ye Shui"
"Xiao Fei Shui"
"Suo De Shui"