Dividend repatriation is one of the main methods used by overseas shareholders for retrieving funds from Chinese investments, given the jurisdiction’s foreign exchange controls.
In this article, we explore some of the key considerations, such as tax types, tax rates related to dividends payment, together with conditions to enjoy preferential tax rates indicated in double taxation agreements, and favorable conditions.
Q1: Are overseas shareholders liable to Value Added Tax (“VAT”) payables when receiving dividends from China?
Unlike overseas enterprises that obtain service provision income, interests and royalties from China, dividends obtained by overseas shareholders from China are not subject to value-added tax (VAT), but only to enterprise income tax (EIT).
Q2: Are overseas individual shareholders also required to meet the beneficial owner conditions to enjoy the Double Tax Agreement (“DTA” or “Treaty”) treatment?
Beneficial owner conditions apply to overseas enterprises or individuals who intend to enjoy the DTA favored treatment of dividends, interests, royalties, and technology patent income.
Q3: In their overseas tax resident status, can overseas enterprises and individual shareholders unconditionally enjoy preferential tax rates?
Tax treaties signed between China and other countries (regions) provide foreign shareholders with a preferential tax rate of less than 10% of the dividends they receive from China, or even give up every taxation rights. However, requirements for the status of foreign shareholders vary from each country's agreement. Some only apply to foreign corporate shareholders, while others apply to individuals too.
Q4: Is there any requirement on the shareholding ratio to enjoy the preferential treaty tax rate when receiving dividends? Do we need to consider indirect shareholding ratios too?
In general, if there is a shareholding ratio requirement in a treaty, it usually refers to the direct shareholding ratio. However, some treaties would accept the total proportion of direct and indirect shareholding and regard it as the conditions being met.
Q5: When the treaty tax rate is higher than the tax rate under the domestic tax law, which tax rate should be applied?
China’s "Enterprise Income Tax Law" stipulates that for the passive income of non-resident enterprises from China, the applicable EIT rate under the Chinese tax law is 10%. However, if the tax rate of dividends, interests and royalties in the tax treaty is higher than 10%, the taxpayer has the right to enjoy the relatively favorable option, i.e. the 10% tax rate under domestic tax law.
Q6: Are those who hold more than 25% of the shares and enjoy the preferential tax rate for dividends in the tax treaty required to maintain the 25% shares for 12 consecutive months at any time before receiving dividends?
It’s subject to the requirements of the treaty. For example, the China-Singapore tax treaty and the China-Belgium tax treaty stipulate that the proportion of equity in the invested enterprise must be above 25% at any time within 12 months before the dividend is received in order to enjoy the preferential tax rate.
Q7: What tax is involved in converting undistributed profits into share capital?
Foreign investors need to pay EIT when converting undistributed profits into share capital. Meanwhile, the conversion of undistributed profits to share capital will increase the paid-in capital for the invested enterprises, resulting in stamp duty.
Q8: When can a Chinese entity distribute their profit as dividend for their shareholders? Can the profit dividend be paid in several instalments?
Under the PRC Company Law, a Chinese entity needs to fulfil the following procedures before distributing their profit as dividends:
1. Calculate the profit available for distribution
2. Legal Reserve Accrual
When a company distributes its after-tax profits of the current year, it shall exclude 10% of the profits as the company's legal reserve prescribed by law. The company may stop drawing the profits if the aggregate balance of the legal reserve has already accounted for over 50% of the company's registered capital.
3. Make up for the previous year’s losses
If the aggregate balance of the company's legal reserve is not enough to make up for the losses of the company of the previous year, the current year's profits shall first be used for making up the losses, before the legal reserve is drawn.
4. Draw a discretionary legal reserve via a board resolution
After the company has drawn statutory legal reserve from the after-tax profits, it may, upon a board resolution, draw a discretionary legal reserve from the after-tax profits.
5. Dividend distribution
Dividends can be divided into several payments. The designated bank will examine and verify the overseas payment’s purpose and whether relevant taxes have been paid.
How can Hawksford help?
Hawksford is an established, international service provider of company registration and outsourced corporate services in Asia. We have more than ten years’ experience in providing corporate accounting and taxation solutions. With five offices located in China, our skilled team of experts has extensive experience in assisting multinational clients to deal with corporate tax compliance in China. We provide our clients with reasonable and effective solutions in dividends payment with the aim of achieving tax balance and meeting the local regulations.
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