Panel 3A: Tax and Legal Issues of Doing Business in China

Transcription

1 Panel 3A: Tax and Legal Issues of Doing Business in China Speakers: DingFa "David" Liu, Esq., Partner Jun He Law Offices, Shanghai office Will Chuchawat, Esq., Senior Associate - Sheppard Mullin Richter & Hampton, LLP Sam Kaywood, Esq, Partner - Alston & Bird, LLP Points of view or opinions expressed in these pages are those of the speaker(s) and/or author(s). They have not been adopted or endorsed by the University of San Diego and/or the Procopio International Tax Institute and do not constitute the official position or policy of the University of San Diego and/or the Procopio International Tax Institute. Nothing contained herein is intended to address any specific legal inquiry, nor is it a substitute for independent legal research to original sources or obtaining separate legal advice regarding specific legal situations Procopio International Tax Institute, All Rights Reserved

2 2 Basics of Chinese Corporate Law

3 Overview of Chinese Corporate and Non-Tax Issues Comparison of different business vehicles Characteristics WFOEs EJVs CJVs Enterprise Legal Person Yes Yes It depends on the form of the CJV Limited Liability Yes Yes It depends on the form of the CJV Government approvals Required Required Required Dividend distribution Yes Yes It depends on the form of the CJV Foreign investor s control Absolute It depends It depends 3

4 Overview of Chinese Corporate and Non-Tax Issues (Cont d) Administrative approvals and registrations Approval by the Ministry of Commerce ( MOFCOM ) or its local counterpart (not required in formation of partnerships) please also see the level for approval required on the next slide. Registration with the State Administration of Industry and Commerce ( SAIC ), the equivalent of the Secretary of State s Office in the U.S. Registration with the State Administration of Foreign Exchange ( SAFE ) or its local counterpart Registration with the national and local tax authorities Registration with other government agencies, e.g., public finance bureau, statistics bureau 5

5 Overview of Chinese Corporate and Non-Tax Issues (Cont d) What level of approval my client needs to secure to establish a WFOE, EJV or CJV? Total Investment State Council MOFCOM Approval Provincial or lower-level MOFCOM Approval Encouraged projects* X Permitted projects: US$100 million or above* X Permitted projects: under US$100 million* X *Certain projects must be approved by MOFCOM and/or NDRC, irrespective of the category of investment or investment amount. 5

6 Overview of Chinese Corporate and Non-Tax Issues (Cont d) Mandatory debt-to-equity ratio: Total Investment Debt/Equity Ratio < $3 million 30/70 $3 - $10 million; 50/50 $10 million or more in case of real estate FIEs > $10 - $30 million 60/40 > $30 million 66.67/

7 Overview of Chinese Corporate and Non-Tax Issues (Cont d) Other important things to bear in mind 15% of the registered capital must be paid in within 90 days of the issuance of the FIE s business license and the remaining balance due within a 2-year period after the business license is issued If a foreign company s acquisition of shares of a company with Chinese investment only, all purchase price must be paid in within 3 months; payment deadline may be extended to 6 months up to a year, but proof of extraordinary circumstance required Practically, no foreign debt is now allowed when real estate FIEs are involved 7

8 Overview of Chinese Corporate and Non-Tax Issues (Cont d) Antitrust review relating to M&As Merger control filing is required, if: The Aggregate Global Turnover in Previous Fiscal Year of all parties to the M&A transaction exceeds RMB10 billion (approximately USD 1.45 billion); or The Aggregate China Turnover in Previous Fiscal Year of all parties to the M&A transaction exceeds RMB2 billion (approximately USD 290 million). PLUS Two or more of the business operators EACH has a turnover of more than RMB400 million (approximately USD57 million) from China (excluding Hong Kong, Macau and Taiwan). 8

9 9 Basics of Chinese Taxation

10 Chinese Taxation of Foreign Investment Corporate Income Tax Generally 25% for all resident companies 15% for high-tech companies Does not apply to Chinese partnerships and sole proprietorships No corporate income tax on US companies which source products from China, unless they are deemed to have a PE in China Withholding Tax generally 10% Dividends Royalties Interest Capital gains Note: An applicable tax treaty may further reduce or exempt the withholding tax. 10

11 Chinese Taxation of Foreign Investment (Cont d) 5% business tax (a type of gross turnover tax) Not covered by bilateral tax treaties Imposed on revenue from services, transfer/licensing of intangible property and sale of real property Imposed on outgoing royalties and interest; but not applicable to dividends and capital gains 17% VAT on sales of goods Not covered by bilateral tax treaties Not necessarily zero-rated for export goods Input VAT refund upon export of goods is limited or eliminated Business tax and VAT are mutually exclusive 11

12 12 Use of Offshore Vehicles

13 U.S. Drivers for Investing in China Foreign tax credit planning Avoid double tax OFL planning Debt push-down Deferral Avoid subpart F APB 23 Cash management Where do we need the cash? 13

14 Overall Strategy Bank Loan USCo U.S. Equity Holdcos/ SPVs Intermediate Jurisdiction Debt Opco Source Country 14

15 Check-The-Box Strategy U.S. Parent Holdco (Holland) 100% Royalties IP License Co (Swiss) UK Opco China Opco Other Asian Opcos 15 UK Customers French Customers European Customers

16 Holding Structures for China Offshore SPV FIE Co. Domestic Co. Seller SPV Chinese Equity/Asset Seller FIE Seller Offshore China SPV: Cayman, BVI, Mauritius, Barbados or Hong Kong FIE: WFOE, equity JV, cooperative JV Domestic Co. 16

17 Offshore Structuring To cope with the dividend withholding tax, restructuring to a taxefficient structure utilizing China s double tax arrangements ( DTAs ) should be considered, subject to GAAR concerns A DTA may also lower withholding tax imposed on interest and royalties There are no DTAs between China and the traditional tax haven jurisdictions such as the British Virgin Islands and the Cayman Islands DTAs commonly utilized in China investments include: 17

18 Offshore Structuring (Cont d) DTA Tax on Dividends Tax on Interest Tax on Royalties Share Sale Gain China-US 10% 10% 7% / 10% Taxable in China if arising in China China-Switzerland 10% 10% 6% / 10% China-Ireland 5% / 10% 10% 6% / 10% China-Mauritius 5% 10% 10% China-Barbados 5% 10% 10% China-Singapore 5% / 10% 0% / 7% / 10% 10% China-Hong Kong 5% / 10% 0% / 7% 7% Exempt for interest that is not propertyrich Exempt for interest that is not propertyrich Exempt for less than 25% interest that is not property-rich Exempt for less than 25% interest that is not property-rich Exempt for less than 25% interest that is not property-rich Exempt for less than 25% interest that is not property-rich 18

19 Holding Company Jurisdictions Tax Treaty Benefits Tips for structuring investment into China: Avoid having the overseas holding/parent company s management functions performed within Mainland China (and hence deemed to have a place of effective management in Mainland China and taxed as a resident company)! Also, consider interposing an intermediate holding company in Hong Kong, Barbados, Mauritius or Ireland to reduce the PRC withholding tax rate for outgoing dividends to 5% where the beneficial ownership could be proven. 19

20 Holding Company Jurisdictions Hong Kong Hong Kong does not impose any tax on dividends and capital gains received by Hong Kong companies Good holding company jurisdiction for China Good treaty with China 16.5% corporate tax rate Hong Kong is a territorial jurisdiction only taxes profits from carrying on a trade, business or profession in Hong Kong 20

21 Anti Treaty Shopping Legislation Beneficial ownership requirement under the US-China tax treaty, and China's domestic tax law Circular 124: must apply for approval of eligibility for the tax treaty benefits. Circular 601: beneficial owners are persons who own the income in question, or have ownership of, or the right to dispose, the rights or property which generated the income. Agents and conduit companies will not be treated as beneficial owners, nor will intermediate Holdcos which do not engage in any substantive business activities. 21

22 Typical Structure Circular 698: Indirect Transfer Cases BVI/Cayman/Neth 100% Intermediate Holdco (e.g., Hong Kong, Singapore) Offshore 100% China Dividends/royalties/interest Operating Co. 22

23 Circular 698 Observations Lack of substantive business activities may well be deemed lack of beneficial ownership Where the intermediate holdco is deemed not a beneficial ownership, it would be ignored and the equity/share transfer would be deemed a direct transfer of equity/shares of Chinese operating company. Under Circular 698, overseas transferors of shares of an intermediate holdco are required to file information return with the Chinese tax authorities, and my be subject to a 10% withholding tax on capital gains resulting from the transfer. Legal Basis: GAAR in New Enterprise Income Tax Law Substance Over Form: This principle is part of GAAR, and is often used to challenge tax avoidance associated with intermediate holdcos. 23

24 Supply Chain/Sourcing Arrangements 24

25 Typical FICE Structures for Sourcing/Selling Products from/to China Parent Overseas Sales Co Product Sales China China FICE China Customers Parent Overseas Buy Co Product Purchases China FICE China Suppliers 25

26 Typical Contract Manufacturing CFC (0%) URPs RM FG URPs Processing Contract CM (China) Not a branch. Ashland/ Vetco Under the subpart F regs, the CFC needs to make a substantial contribution (e.g., quality control, purchasing, R&D, inventory management, etc.) to the manufacturing process to avail of the manufacturing exception 26

27 Contract Manufacturing Involving/Sourcing from Third Parties in China Sourcing products from China Import processing: Overseas Overseas principal China P M $$ China Customers P Manufacturing entity M China Suppliers Bonded processing/assembling: Overseas Overseas principal China P M $$ China Customers X Manufacturing entity M China Suppliers 27

28 Contract Manufacturing Involving/ Sourcing from Third Parties in China (Cont d) Import processing vs. bonded processing/assembling Type of contract manufacturing Title to materials and manufacturing equipment Customs duty & VAT treatment of imported raw materials How do contract manufacturers make money? Import processing Owned by Chinese manufacturer Duty and VAT payable upon importation Profit margin = difference between sales price and cost of goods sold Bonded processing/ assembling Foreign commissioning party retains ownership Imported under bond (i.e., no customs duty and VAT vis-à-vis imported materials under customs supervision) Processing fee as agreed to under the bonded processing/ assembling agreement 28

29 China Business Trust ( CBT ) U.S. CBT is disregarded in China FG Hong Kong HK Trustee Management With careful planning, can be an eligible entity and CTB to be a corporation for U.S. tax purposes No subpart F income arises CBT Manufacturing Contract Unrelated Manufacturer (China) 29

30 Foreign Corrupt Practices Act Issues 30

31 Foreign Corrupt Practice Act ( FCPA ) FCPA's application to US investors' China operations Investors' China Operations - Overview - Enforcement Trends - Recent Enforcement Actions - New Legal Developments - Protecting Yourself and Your Client 31

32 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Overview Enacted in 1977 (15 U.S.C. 78dd-1, et seq.) Anti-Bribery Provisions - Prohibits corrupt payments to foreign officials - Enforced by DOJ Accounting Provisions - Requires U.S. issuers to establish and maintain accurate books and records and sufficient internal controls - Enforced by SEC 32

33 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Overview (Cont d) Applicable to: - Issuers and domestic concerns - Directors, officers, agents - Foreign nationals and businesses - Any other person while in U.S. territory 33

34 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Enforcement Trends We are in a new era of FCPA enforcement. Number of enforcement actions on the rise 34

35 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Enforcement Trends (Cont d) Penalties on the rise (over $1.8 billion in corporate fines and disgorgements assessed in 2010) $2,000 $1,800 $1,600 $1,400 $1,200 $1,000 $800 $600 $400 $200 $0 In Millions $1,825.3 $893.4 $621.9 $87.2 $155.1 $28.2 $

36 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Enforcement Trends (Cont d) Since 2002, business activities in China have given rise to nearly 40 enforcement actions Expect even more China-related enforcement actions - Continued economic growth/investment in China - Perception of China as high risk for bribery/corruption - Increased FCPA exposure as a result of alleged illicit payments by JV partners and third-party agents - SEC has established regional FCPA unit in San Francisco with particular focus on Asia, including China - China has many state-owned or controlled entities ( SOEs ), and employees of SOEs are considered foreign officials 36

37 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Recent Enforcement Actions Lucent Technologies Inc., $2.5 million (2007) - Disneyland trips treated as factory inspections or training Faro Tech., $2.95 million (2008) - Chinese subsidiary paid referral fees through shell company to employees of various SOEs RAE Systems Inc., $2.95 million (2010) - Insufficient due diligence and internal controls allowed bribes of Chinese officials by joint venture employees Maxwell Technologies, Inc., $8 million (2011) - Third-party agent in China made improper payments to Chinese officials in return for securing contracts 37

38 Foreign Corrupt Practices Act ( FCPA ) (Cont d) New Legal Developments Definition of foreign official - [A]ny officer or employee of a foreign government or any department, agency, or instrumentality thereof or any person acting in an official capacity for or on behalf of any such government or department, agency, or instrumentality. - DOJ and SEC broadly interpret FCPA to include employees of SOEs as foreign officials - In a recent case, a U.S. District Court denied a challenge to this broad interpretation and convicted the defendants for payments made to employees of various SOEs - Congress considering FCPA reforms to, among other things, clarify the definition of foreign official / instrumentality 38

39 Foreign Corrupt Practices Act ( FCPA ) (Cont d) New Legal Developments (Cont d) Dodd-Frank Act whistleblower incentives - Government to pay rewards for original information related to violations of securities laws, including FCPA China s anti-corruption laws - Chinese law already criminalizes commercial and public-sector bribery - Recent amendment to corruption laws criminalizes the offering and giving of bribes to foreign officials and officials in international public organizations Applies to all persons in China and all companies organized under Chinese law (e.g., JVs, WFOEs, rep offices) Could become China s version of the FCPA 39

40 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Protecting Yourself and Your Client 40

41 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Protecting Yourself and Your Client (Cont d) Compliance 41

42 Foreign Corrupt Practices Act ( FCPA ) (Cont d) Protecting Yourself and Your Client (Cont d) Prevention: - red flags High risk industry High risk partners 42

43 Questions and answers Q & As 43