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New China tax policy on secondment PE

3 Jul 2013
Due to the issuance of Circular 75 on 26 July 2010 by the State Administration of Taxation (SAT), permanent establishment (PE) issues have become relevant to secondment arrangements. As in many other countries, since July 2010, secondment arrangements into China have been challenged as a cover for actual services. Due to the popularity of secondment arrangements on expatriates, tax disputes on this subject have been common in recent years.

Recently, the SAT has issued a new related tax policy, (Notice 19), providing further guidelines on the tax authority’s official PE assessment methods on secondment arrangements. Notice 19 became effective on 1 June 2013. Taxand China explores the impact that this new notice will have on businesses operating in the region.

The SAT’s original Circular 75 only mentioned some principles for assessing secondment PEs and does not address practical guidelines. This has led to local tax authorities imposing various assessment methods and difficult situations for companies trying to claim non-PE status.  

In many cases, the entity has chosen to give up negotiating and pay unnecessary additional taxes in order to avoid further time and money expenditure. For example, some tax authorities will consider the following 8 factors (without official issued policy support):

  • Chinese entity (hereafter as “China") decided the employee’s recruitment and position
  • China distributed or controlled the employee’s functions
  • The employee reports to China directly, rather than to an overseas entity
  • China assesses and checks the employee’s performance
  • China decides the employee’s salary and welfare during the employee’s work
  • China provides the necessary tools or technical assistance during the employee’s work
  • China would undertake the probable risks during the employee’s work
  • China would have the responsibilities for the losses if the employee made mistakes during their work

What’s new in Notice 19
Notice 19 is comparatively more practical in its guidelines as it clearly concludes that if both the following Conditions A and B are satisfied, the overseas entity will be classified as having a PE in China:

Condition A:
If the overseas entity assumes part or all of the responsibilities and risks relating to the outcome of the labour services performed by the seconded personnel and assesses their performance; and 

Condition B:
If any of the following 5 factors occur on the cross-border payment and Individual Income Tax (IIT) side:

  1. The domestic enterprise that retains labour services makes payments that are management fees and service fees (in nature) to the dispatching enterprise
  2. The payments made by the service-retaining enterprise to the dispatching enterprise exceed the total sum of the salaries, wages, social security contributions and other fees advanced or paid by the dispatching enterprise for the seconded personnel
  3. The dispatching enterprise does not pay to the personnel all the fees and expenses paid by the service-retaining enterprise, but holds a proportion of such fees and expenses
  4. IIT fails to be paid in full amount for the salaries and wages payable by the dispatching enterprise to the seconded personnel, or
  5. The number, job qualification and rate of remuneration of the seconded personnel as well as the location in China where they work are determined by the dispatching enterprise

From these 5 factors, please note the following tax impacts: 

  • Even cross-border charges irrelevant to secondment arrangement may now lead to potential secondment PE exposure if they exist concurrently with the secondment arrangement; and
  • Under the circumstance that the overseas entity partially or fully bears the secondment personnel’s salary and wages, PE treatment will not be triggered based on the condition that the payroll borne by the overseas entity has been filed/paid in line with China IIT laws. This point is a favourable change for companies, because the PE evaluation under previously blurry interpretations of Circular 75 would have resulted in a PE risk, when it was not a PE.

Notice 19 also lists the required documentation to be reviewed in secondment PE assessments:

  • Secondment agreements/contracts
  • Management rules regarding the seconded personnel, including specific rules on working hours, job description, performance assessment, risk assumption, etc.
  • Accounting treatment on the charges
  • The declaration and payment of IIT payable for seconded personnel
  • Information on whether the service-retaining enterprise covertly pays any of the fees and expenses relating to the dispatching by means of offsets, waiver of creditor's rights, related party transactions or any other means.

Your Taxand contacts for further queries are:
Kevin Wang 
T. +86 21 6447 7878 – 526

Frank Tao
T. +86 21 6447 7878 – 517

Taxand's Take

Effective on 1 June 2013, Notice 19 will be utilised as the legal basis for pending and new tax disputes on secondment. Companies already conducting secondments in China should revisit their current arrangements to re-evaluate the secondment PE risk based on Notice 19 changes. They may find that alternatives to existing secondment agreements may be worth investigating. 

On the forex side, the former administration difficulty with payroll reimbursement on secondment personnel may be improved under the clear instruction of Notice 19. Companies who held such outstanding payments in Chinese accounts may review the latest local practice to assess opportunities for resolving this long-existing issue. Taxpayers should note, however, it is anticipated that the local tax authorities will need a period of time to familiarise themselves with the new practice under Notice 19.

Taxand's Take Author

Kevin Wang

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