Practical China Tax and Finance Strategies Covering Tax and Finance Developments in China

Practical China Tax and Finance Strategies Covering Tax and Finance Developments in China June 2009 Volume 3, Number 6 China Issues Detailed IN THIS ISSUE Rules on Deductions for China EIT and Asset Losses China’s Ministry of Finance and State Asset Losses -- Administration of Taxation have jointly issued guidance on the ability to deduct New Incentives for Technology asset losses from the enterprise income tax. Companies New technology incentives are available to qualified enterprises located in 20 cities designated as China’s Outsourcing Model By Yongjun Peter Ni, Linda Ng, Jiang Bian and Cities. Page 1 Angel Wu (White Case, China) Controlled Foreign Corporations Detailed Rules on Deduction of Asset Losses Issued in China Under the new Enterprise Income Tax Law, the taxable income is de- The ‘place of actual management’ is a key fined as an enterprise’s total income minus the sum of non-taxable income, determinant on whether an enterprise will tax-exempt income, deductions and net operating loss carryovers. Deduc- be treated as a ‘resident enterprise.’ This is tions include costs, expenses, taxes, losses and other expenses. In order to critical to deferal if the taxpayer is subject provide detailed guidance on loss deduction, the Ministry of Finance and to tax on its worldwide income or is only subject to tax on China-sourced income. the State Administration of Taxation (“SAT”) have jointly issued circular Page 1 Caishui [2009] No 57, the Notice regarding Pre-tax Deduction of Asset Losses, Business in China See Asset Losses, page 11 China’s rating for contract enforcement is actually better than the United Kingdom and Japan. The key to enforcing contracts is knowing provisions that must be included. Chinese Controlled Foreign Page 3 Tax Free Reorganizations in China Corporations: China now has a set of rules providing for so-called “tax-free” (or actually tax-deferred) Actual Management Key to Residence corporate reorganizations.The new rules are Treatment based on the same fundamental principles as the U.S. tax rules regarding corporate By Patrice Marceau and Daniel Chan reorganizations. Page 6 (DLA Piper, China) Hong Kong Issues Guidance on Transfer Pricing Guoshuifa [2009] No. 82 issued by the SAT clarifies when Chinese- The increase in tax planning structures controlled foreign companies will be considered to have their ‘place involving companies located in tax haven of actual management’ in China. ‘Place of actual management’ is a key jurisdictions have heightened tax authorities’ determinant on whether an enterprise will be treated as a ‘resident en- awareness of the transfer pricing issue. terprise’ or ‘non resident enterprise’ which in turn arbitrates between Page 9 the taxpayer being subject to tax on its worldwide income and being subject to tax only on China-sourced income. Circular 82 is retroactive to January 1, 2008. Table of Contents TableSee of page Contents 2 See page 2 See Foreign Corporations, page 15 Contents China Issues Detailed Rules on Deductions for Asset Business in China: Misconceptions on Contract Losses—New Incentives for Technology Companies Enforcement and Chinese Debt Collection Practices By Yongjun Peter Ni, Linda Ng, Jiang Bian and By Dan Harris Angel Wu (Harris & Moure, PLLC, Seattle, Washington).....page 6 (White Case, China)...............................................page 1 Hong Kong and Transfer Pricing: DIPN 45 Provides Chinese Controlled Foreign Corporations: Actual Additional Guidance Management Key to Residence Treatment By Patrice Marceau and Daniel Chan By Patrice Marceau and Daniel Chan (DLA Piper, China)...................................................page 9 (DLA Piper, China).................................................page 1 New Tax Rules Regarding M&A Transactions in China By Lester Ross and Aileen Goa (Wilmer Hale, Bejing) ...........................................page 3 Published by: Practical China WorldTrade Executive, Tax and Finance Strategies a part of Thomson Reuters P.O. Box 761 Concord, MA 01742 Tel: 978-287-0301; Fax: 978-287-0302 Production Manager: Dana Pierce Website: www.wtexecutive.com Marketing: Jon Martel Publisher: Gary A. Brown, Esq. Editor: George Boerger, Esq. WorldTrade Executive TAX ADVISORY BOARD Richard E. Andersen, Esq., Arnold & Porter LLP Yongjun (Peter) Ni, White & Case Sunghak Baik, Esq., Ernst & Young Antoine Paszkiewicz, Esq., Kramer Levin Naftalis & Frankel LLP (Paris) William C. Benjamin, Esq., Wilmer Cutler Pickering Hale and Dorr LLP Cristian Rosso Alba, Esq., Rosso Alba, Francia & Ruiz Moreno (Buenos Aires) John I. Forry, Esq., University of Navarre (Spain) Daniel Rybnik, EnterPricing (Buenos Aires) Jaime González-Béndiksen Esq., Baker & McKenzie John A. Salerno, PricewaterhouseCoopers LLP Jorge Gross, PricewaterhouseCoopers LLP Michael J. Semes, Blank Rome LLP John M. Kelly, PricewaterhouseCoopers LLP (Dublin) Michael F. Swanick, PricewaterhouseCoopers LLP Marc Lewis, Sony USA Guillermo O. Teijeiro, Negri & Teijeiro Abogados Howard M. Liebman, Esq., Jones Day (Brussels) Miguel Valdés, Esq., Machado Associados Lisa C. Lim, Ernst & Young Pablo Wejcman, Esq., Ernst & Young Keith Martin, Esq., Chadbourne & Parke LLP PUBLISHED MONTHLY FOR SUBSCRIBERS ONLY Reproduction or photocopying, even for personal or internal use, is prohibited without the publisher’s prior written consent. All rights reserved under the International and Pan–American Copyright Convention © 2009 Thomson Reuters © Thomson Reuters 2009 June 2009 New Tax Rules Regarding M&A Transactions in China By Lester Ross and Aileen Goa (Wilmer Hale, Beijing) On May 7, 2009, China’s Ministry of Finance all tax issues involved in corporate reorganiza- (the “MoF”) and State Administration of Taxa- tions—there are provisions on the treatment of tion (“SAT”) jointly issued the long-awaited tax attributes, several provisions are introduced Notice on Several Enterprise Income Tax Is- to guard the new freedom against abuse, and cer- sues Relating to Enterprise Reorganization tain loopholes are closed. The only major issues Activities, Caishui [2009] No. 59 (the “New related to reorganizations that are not addressed Reorganization Tax Rules”), and the Notice on in the New Reorganization Tax Rules are those Several Enterprise Income Tax Issues Relat- that are technically post-reorganization issues in ing to Enterprise Liquidation Activities, Cai- taxable acquisitions, and they are covered by the shui [2009] No. 60 (the “New Liquidation Tax New Liquidation Tax Rules. Rules”), both dated April 20, 2008, and effective retroactive to January 1, 2008. These rules mark a milestone in China’s tax reform: for the first For the first time, China now time, China now has a set of rules providing for so-called “tax-free” (actually tax-deferred) has a set of rules providing for corporate reorganizations. Before the promulgation of these new rules, so-called “tax-free” (actually corporate reorganizations were governed by one tax-deferred) corporate of two series of SAT circulars, one pertaining to domestic companies and the other to foreign- reorganizations. invested enterprises (“FIEs”). The series for FIEs consisted of Guoshuifa [1997] No. 71 (“Circular 71”) and Guoshuifa [1997] No. 207 (“Circular Summary and Analysis 207”). Circular 71 was intended to be a compre- The New Reorganization Tax Rules address hensive guideline on tax treatment of four types six types of reorganizations and prescribe two of M&A transactions: merger, division, equity types of tax treatment for them. The six transac- restructuring, and asset transfer. Circular 207 tion types include four types of M&A transac- specifically allowed a foreign investor to transfer tions—equity acquisition, asset acquisition, its equity interest in an FIE to a 100% owned sub- merger, and division—along with change of legal sidiary at cost (thus realizing zero gain), provided form and debt restructuring. A reorganization of that the transaction was motivated by a reason- each of these types is a taxable transaction unless able business purpose. Under those Circulars, it meets the requirements for a taxfree transac- many foreign investors were able to reorganize tion. This report focuses on M&A transactions. their China operations without significant tax consequences. However, the new Enterprise Taxable Transactions Income Tax Law, which unified the previously In a taxable M&A transaction, the target must separate tax regimes for domestic enterprises recognize gain or loss from the transfer of assets and FIEs, effectively repealed those Circulars as or the target shareholders must recognize gain of January 1, 2008. or loss from the transfer of their shares, and the A remarkable difference between the New purchaser takes the fair market value (in most Reorganization Tax Rules and the previous cases the purchase price) as its tax basis in the patchwork of SAT circulars is that the new rules equity or assets. Net operating losses (“NOLs”) are based on the same fundamental principles as may not be carried over to the purchaser (to the U.S. tax rules regarding corporate reorgani- offset its own tax liability). Surviving parties can zations. They also recognize a broader range of continue to enjoy their pre-existing tax holidays M&A and debt-restructuring transactions already (subject to proportional reduction in the case of common outside of China. The New Reorgani- a division), provided that they separately meet zation Tax Rules are also designed to address the qualification criteria. See New Tax Rules, page 4 Practical China Tax and Finance

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