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People’s Republic of China – Transitional Provisions for IIT Preferential Treatment

PRC – Transitional Prov for IIT Preferential Treatment

This report covers a new circular in the People Republic of China concerning transitional measures for aspects of the recent income tax reform.

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Following on from the new Individual Income Tax (“IIT”) Law which came into force on 1 January 2019, a new Chinese Circular sets out transitional measures for the application of the preferential tax treatment for tax-exempt benefits for foreign employees, annual bonuses, equity-based compensation, and severance payments.1  (For prior coverage of the IIT reform, see GMS Flash Alert 2019-010, 23 January 2019.)

The Ministry of Finance and the State Administration of Taxation of the People’s Republic of China (“PRC” or “China”) have jointly released Circular 164 entitled “Notice of issues concerning the transitional policies on preferential tax treatments under the amended PRC IIT law.”

WHY THIS MATTERS

The release of Circular 164 is in line with the government’s recent strategy to keep governmental policies stable and to foster the overall reduction of tax burdens for individual taxpayers.

Moreover, the new rules will affect companies’ tax cost forecasts and possibly their talent retention strategies and policies, as well as their tax reimbursement policies.

Taxpayers should bear in mind that for preferential tax treatment there are qualifying conditions and reporting requirements.  

Three Year Transitional Period

Tax-Exempt Benefits for Foreign Employees

The tax preferential treatments which existed under the previous tax regime will be extended from 1 January 2019, for a period of three years on the types of income noted below. 

Foreign employees who are PRC tax residents (i.e., who reside in the PRC for 183 days or more during the calendar year concerned) may elect to either:

  • Claim itemised deductions under the new IIT regime; or
  • Continue to claim tax exemption on certain fringe benefits as prescribed under Guoshuifa [1997] No 54 (“Circular 54”).

Annual Bonuses

Individual taxpayers and their withholding agents can elect to apply either of the following methods to calculate IIT on annual bonus payments:

  • Continue to enjoy the existing preferential tax treatment (i.e., divide the bonus by 12 for determination of the applicable tax rate and quick deduction based on the tax rate bands in Appendix 1); or
  • Aggregate the bonus with other comprehensive income derived during the same year.

Equity-based Compensation

  • Qualified equity-based compensation income can be treated as a separate source of income from comprehensive income for IIT calculation purposes.
  • The IIT rate bands in Appendix 2 will apply for IIT calculation purposes.
  • Multiple instalments of equity-based compensation derived during the same year must be aggregated for the purpose of applying the preferential tax treatment.

Amendment to Certain Preferential Tax Treatments

Withdrawals from Qualified Enterprise Annuity

  • Withdrawals from a qualified enterprise annuity can be treated as a separate source of income from comprehensive income for IIT calculation purposes.
  • With respect to withdrawals that are paid on a monthly basis, the rates in Appendix 1 will apply.
  • Withdrawals that are paid on a quarterly basis will be divided by 3 for determination of the applicable IIT rate, based on the rates in Appendix 1.
  • For withdrawals paid on an annual basis or due to reasons such as emigration or upon death, the IIT rates in Appendix 2 will apply.  

Severance Payments

  • Qualified severance payments in excess of 3 times of the prior year’s local average wages will be treated as a separate source of income, and the rates in Appendix 2 will apply.
  • One-off compensation for early retirement can be treated as a separate source of income from comprehensive income and amortised over a period equal to the number of years between the date of early retirement and the mandatory retirement date for IIT calculation purposes.  The rates in Appendix 2 will apply.

Other IIT preferential treatments remain intact under the new PRC IIT regime.

KPMG NOTE

In applying these preferential treatments, individual taxpayers and their withholding agents need to consider the following:

  • For preferential tax treatments which are subject to the three-year transitional period, companies should pay close attention to regulatory updates.  They should analyse the new rules when preparing their tax cost forecasts, and review their talent retention strategies and policies as well as their tax reimbursement policies.
  • Whilst the preferential tax treatment for annual bonuses will be retained during the transitional period, the “inefficient payment of annual bonus” issue remains.  The KPMG International member firm in China recommends that companies review their bonus payment schemes in advance of payment in order to mitigate unnecessary costs.
  • In applying any preferential tax treatment, individual taxpayers and their withholding agents should familiarise themselves with the relevant qualifying conditions, including reporting requirements.
  • Where an election is available, individual taxpayers and their tax withholding agents should plan for elections to be made in advance of the payment.

Next Steps 

KPMG will continue to pay close attention to the relevant circulars to be promulgated under the new IIT regime and to share our observations with GMS Flash Alert readers.  Please feel free to contact us for the most recent news in relation to the IIT reform and other tax regulations.

Appendix 1:IIT rate bands on monthly comprehensive income

Level Taxable Income Tax Rate (%) Quick Deduction (RMB)
1 not in excess of RMB 3,000 3 0
2 RMB 3,000 to RMB 12,000 10 210
3 RMB 12,000 to RMB 25,000 20 1,410
4 RMB 25,000 to RMB 35,000 25 2,660
5 RMB 35,000 to RMB 55,000 30 4,410
6 RMB 55,000 to RMB 80,000 35 7,160
7 in excess of RMB 80,000 45 15,160

Source: KPMG in the People’s Republic of China  

Appendix 2:IIT rate bands on annual comprehensive income

Level Cumulative Taxable Income Withholding Rate (%) Quick Deduction (RMB)
1 not in excess of RMB 36,000 3 0
2 RMB 36,000 to RMB 144,000 10 2,520
3 RMB 144,000 to RMB 300,000 20 16,920
4 RMB 300,000 to RMB 420,000 25 31,920
5 RMB 420,000 to RMB 660,000 30 52,920
6 RMB 660,000 to RMB 960,000 35 85,920
7 in excess of RMB 960,000 45 181,920

Source: KPMG in the People’s Republic of China

FOOTNOTE

1  Caishui [2018] No. 164 - Notice of issues concerning the transitional policies on preferential tax treatments under the amended IIT law (“Circular 164”).

RELATED ARTICLE

This article is excerpted with permission from “Transitional Provisions for PRC Individual Income Tax Preferential Tax Treatment,” published in China Tax Alert (Issue 31, December 2018) a publication of the KPMG International member firm in the People’s Republic of China). 

RMB 1 = EUR 0.130  

RMB 1 = USD 0.147  

RMB 1 = GBP 0.113  

RMB 1 = TWD 4.55  

The information contained in this newsletter was submitted by the KPMG International member firm in the People’s Republic of China.

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