In January 2019, the new Chinese Individual Income Tax Law took effect. Now, over 6 months into the year, a drop in tax revenue been reported. This is seen at least partially as result of the new law, specifically of the increase of the taxable threshold, and introduction of the deduction items into the taxable income. At the same time, we are seeing an increase in the number of tax audits, including formal, and informal ones in the IIT field.
This article is the first in a series of case studies we will publish, based on our experience. In this series, we will inform about potential risks in the daily management of Individual Income Tax matters for employees. We will point out areas an employer should pay special attention to such, to avoid any such risks.
According to our experience, the following items may easily have risks in IIT compliance, though it is not conclusive:
- Dual positions, or incomes received from more than one employer.
- Allowances to the employee, such as meal allowance, transportation allowance, or telecommunication allowance, etc.
- Use of personal car for company errands
- Gifts for marketing purposes
- Using Fapiao to pay freelancers
- Benefits for expatriate staff
CASE 1: Dual Positions in and outside China
SAM is sent to work in the China subsidiary by the firm’s German Headquarter. He will take on the role as General Manager in the Chinese firm, which is a Wholly Foreign Owned Enterprise (WFOE). At the same time, SAM retains a position in the Headquarter. His salary is paid partially in Germany, and partially in China. In the meantime, SAM travels frequently between China and Germany. SAM is estimated to stay in China for 150 days in a calendar year.
The human resources department in the Chinese WFOE calculates SAM’s IIT based on the part of his salary paid in China, and files accordingly with the tax bureau in Beijing.
Question: Is SAM’s IIT handled correctly?
Ecovis Beijing’s answer: No, it is not filed correctly.
According to the IIT Law and relevant tax regulations in China, SAM’s IIT in China should be calculated as follows:
Depending on the length of SAM’s stay in China, different formulas apply to calculate the taxable salary. Please see our corresponding article here and feel free to contact our tax experts for an individual consultation on your specific case.
CASE 2: Hiring of a Freelancer
Company A is a Chinese construction company. For a special project, Company A hires a senior expert SAM to consult on the design of the project. The senior expert is in retirement already. Company A pays him a total amount of RMB 10,000 for the consultation work. For bookkeeping purposes, the Finance Manager of Company A asks the senior expert to give the company Fapiao (official invoice) for the total amount. The senior expert gives Company A Fapiao for meal and catering, and transportation which he obtained for his personal expenses. The Finance Manager accepts these and uses them for bookkeeping. No individual income tax (IIT) is filed.
Ecovis Beijing’s comment: SAM’s IIT is not filed correctly.
SAM was hired as a freelance consultant, the payment he received therefore constitutes a service fee and his IIT liability has to be calculated accordingly. It is not advisable to account for such payments using Fapiao invoices, as this creates an unnecessary compliance risk. The Chinese IIT Law and relevant tax regulations include provisions on the applicable IIT rate and deduction in China for freelance work. SAM’s IIT in China should be calculated as follows:
Service fee RMB10,000
Taxable base = RMB10,000/(1+3%)= 9708.74
VAT = taxable base * 3% = 291.26
Surcharge = VAT *12% =34.95
IIT= [taxable base *(1-20%)]*20% = 1553.4
The tax calculation method differs significantly from the monthly withholding process for employees. Therefore, SAM may need to do an annual tax reconciliation in the following year. Ecovis Beijing advises companies as well as private individuals in Individual Income Tax matters.
About the author:
Elizabeth Shi – Senior Tax Manager
Elizabeth has over 15 years of working experience in China’s legal, tax and business field. Prior to joining Ecovis, she worked within the Big Four accounting firms’ tax and business advisory departments. She advises companies on various China tax and legal related matters, including dealing with taxes and other government authorities. Her expertise covers tax compliance, restructuring, M&A, tax due diligence, liquidation and deregistration related tax matters as well as tax planning for companies and individual expatriates. Elizabeth started her professional career as a legal consultant in a prestigious IP firm, working on foreign direct investment (FDI) and intellectual property (IP) projects.
About ECOVIS Beijing
Ecovis Beijing is the trusted tax and legal advisor to several embassies and official institutions in China. We are specialized in advising mid-sized international companies and focused on tax and legal advisory, accounting and auditing. We frequently publish articles on new regulations and recent developments in China and Germany on our website.
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