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На Ли. СОВРЕМЕННЫЕ ТЕНДЕНЦИИ В ПРЕЦЕДЕНТНОМ ПРАВЕ ПО РАЗРЕШЕНИЮ ТРАНСГРАНИЧНЫХ НАЛОГОВЫХ СПОРОВ В КИТАЕ // Herald of the Euro-Asian Law Congress. 2018. № 2. С. 37-47.
Na Li. CURRENT TRENDS IN CASE LAW ON CROSS-BORDER TAX DISPUTES IN CHINA. Herald of the Euro-Asian Law Congress. 2018. Is. 2. P. 37-47.
УДК 34
BISAC LAW 086000 / Taxation
СОВРЕМЕННЫЕ ТЕНДЕНЦИИ В ПРЕЦЕДЕНТНОМ ПРАВЕ ПО РАЗРЕШЕНИЮ ТРАНСГРАНИЧНЫХ НАЛОГОВЫХ СПОРОВ
В КИТАЕ
НА ЛИ,
Восточно-китайский университет политологии и права (Шанхай, Китай)
Введение: налоговые споры в Китае охватывают широкий спектр отношений. Несмотря на то что количество судебных решений ограничено, они позволяют определить ряд тенденций, связанных с разрешением налоговых споров. В частности, китайские суды не принимают во внимание мнение Организации экономического сотрудничества и развития (ОЭСР) при разрешении подобных дел. Представляется, что такая ситуация может быть связана с позицией Китая по защите интересов государства как «источника дохода», так как Китай является одним из крупнейших получателей иностранных инвестиций в мире.
Методы: анализ, сравнение, описание, толкование. Предмет изучения - нормы права и решения китайских судов по налоговым спорам, а также статистические данные.
Анализ: споры могут, скорее всего, возникнуть из-за расследования дел, связанных с уклонением от уплаты налогов, проводимых китайскими налоговыми органами. Агрессивные подходы, которые китайские налоговые органы использовали для толкования и применения налоговых соглашений, могут спровоцировать новые трансграничные налоговые споры. И этот риск будет усугубляться, если налоговые органы будут вынуждены соблюдать установленные для них целевые показатели доходов.
Результаты: в то время как агрессивные меры борьбы с уклонением от уплаты налогов становятся эффективными инструментами для сбора доходов, количество споров растет. Вследствие этого возрастет и роль судебных органов в механизме правовой защиты участников налоговых споров. Представляется, что возрастет и число обращений в суды для разрешения такого рода дел.
Ключевые слова: налоговые споры, ОЭСР, уклонение от уплаты налогов, налоговые органы, трансграничные налоговые споры, доходы
UDC 34
BISAC LAW 086000 / Taxation
CURRENT TRENDS IN CASE LAW ON CROSS-BORDER TAX DISPUTES IN CHINA
NA LI,
East China University of Political Science and Law (Shanghai, China)
Introduction: tax disputes in China cover a wide range of relationships and transactions. The number of court decisions is limited, but they allow us to determine a number of trends related to the resolution of tax disputes. In particular, Chinese courts do not take into account the opinion of the Organization for Economic Cooperation and Development (OECD) in resolving such cases. This might be rooted with China's position to protect the interests of the state as a reflection of it being one of the largest foreign investment recipients in the world.
Methods: analysis, comparison, description, interpretation. The subject of the study were the rules of law and decisions of Chinese courts on the resolution of tax disputes, as well as statistical data.
Analysis: disputes may most possibly arise from those anti-tax avoidance investigations carried out by Chinese tax authorities. The aggressive approaches that Chinese tax authorities used in interpreting and applying tax treaties might trigger more cross-border tax disputes. And this risk will be exacerbated when tax authorities are pressed to meet the revenue target assigned to them.
Results: while aggressive anti-avoidance measures are becoming effective tools for collecting incomes, the number of disputes is growing. As a consequence, the role of the judiciary in the mechanism of legal protection of participants in tax disputes will also increase. It seems that the number of appeals to the courts for the resolution of such cases will increase too.
Keywords: tax disputes, OECD, tax evasion, tax authorities, cross-border tax disputes, income
Introduction
The term «tax case» in Chinese language is used to describe two types of tax-related disputes.
One type is the judicial cases ruled by courts. China has no tax court yet, so all tax-related cases are heard at the administrative chamber of Chinese courts. In theory, these judicial cases should not become precedents, as China is a civil law country adopting a doctrine of textualism in its legislation; in practice, however, these cases have informal but significant influence on taxing cross-border transactions in China. The number of these tax-related judicial cases is limited, around only 400 cases filed with courts nationwide every year (data published by the National Bureau of China Statistics at data.stats.gov.cn) and few of them were for cross-border related tax issues. To date, there are only three reported cross-border tax cases [Dharmapala 2016: 29] (PanAmSat case, Weihai case and TCI case), which are de-
scribed respectively in the section «Discussion» of this paper. The reason for having so few judicial cases could be due to two factors.
First of all, the jurisdiction of Chinese courts is limited to review of the only the validity of specific administrative conduct of Chinese tax authorities, rather than the reasonability of tax authorities' conduct. Given that Chinese tax legislations in general are written in a brief and abstract context, Chinese tax authorities then could exercise a wide discretionary power when applying these legislations in practice. Consequently a very few of tax administrative conduct may be brought to the courts for review purpose even if they might not comply with principles of proportionality, appropriateness or necessity, as long as they are legitimate conducts (Article 12 of the Administrative Litigation Law of the People's Republic of China, Article 3 and Article 56 of the Interpretations of Certain Issues in the Implementation of the Administrative Litigation Law).
Second, the taxpayers must complete an administrative review procedure at competent tax authorities, before they could bring the tax dispute to the courts. If the review panel at such administrative review process could settle the disputes, then few taxpayers would continue to seek judicial remedies [Wei 2011; Li, Zhang, Cai, Li, Peng 2013].
Another type is the investigations conducted by Chines tax authorities on tax avoidance transactions. Strictly speaking, the results of these investigations are only administrative decisions and have not been heard at any court. But from time to time, the in-charge Chinese tax authorities published on their website or on newspapers sponsored by Chinese government with some brief information about these transactions, including the laws they applied, investigation methods they used and the amount of additional taxes they collected. And occasionally, the State Administration of Taxation (SAT), which is the highest-level tax authority in China, also publishes such investigation results in a form of «internal rulings» which are sent to all Chinese tax authorities (Notice of a Case Correctly Handled by Xinjiang Provincial Tax Authorities to Counterfeit Abuse of Tax Treaty, Guoshuihan No. 1076 [2008]; International Transport Cases Involved in the Implementation of Tax Treaties by the Office of the State Administration of Taxation in Shandong Province, Guoshuibanfa No. 34 [2011]). In these internal rulings, the SAT often announces that the in-charge tax authorities applied certain anti-tax measures correctly and as a consequence succeeded in collecting additional tax revenues. Then all Chinese tax authorities in practice are likely to take the practice of these tax investigations mentioned the publications and internal rulings as references when they conduct anti-tax avoidance investigations. In this sense, analyzing the three such investigations (Jiamusi case, Xinjiang case and Suzhou case) in the sections «Discussion» and «Conclusions» herein could provide implications on where cross-border tax disputes might most possibly arise in China.
Materials & Methods
The methodological basis of the study was formed by such methods of cognition as analysis, comparison, description, interpretation. The subject of the study were the rules of law and decisions of Chinese courts on the resolution of tax disputes, as well as statistical data.
Results
1. Chinese Tax Treaties and Chinese Domestic Law. China concluded its first tax treaty with Japan in 1983, and then it continued in concluding tax treaties and arrangements with 104 jurisdictions in the past 33 years. The general rule for the relationship between tax treaties and Chinese domestic law is that, as far as income taxes are concerned, where the provisions are inconsistent, the provisions of Chinese tax treaty shall prevail the provisions of Chinese domestic law (Article 91 of the Law on the Levying and Collection of Taxes, Article 58 of the Enterprise Income Tax Law). While with regard to the terms which are not defined in tax treaties, all the 104 Chinese tax treaties have provided that the meaning of such terms should be the ones under the laws of that contracting state concerning the taxes to which the treaties apply, unless the context of the treaties otherwise require.
Then, a tricky issue arises. When having recourse to Chinese domestic law for the purpose to identifying the meaning of these terms: what laws, regulations and rules may become the applicable domestic tax law? The reason to raise this question is because the framework of Chinese domestic tax law stands like a pyramid with three tiers: on the top are the four tax laws promulgated by the National People's Congress (NPC) and its Standing Committee, which are legislative organs in China. On the second tier are the approximately 30 tax regulations enacted by the State Council which is the highest executive organ in China. The State Council obtained such legislation power partially from the Legislation Law and partially from the delegated legislative power from the NPC. The bottom of the pyramid are the ministerial rules and circulars in an amount of more than 5,000 enacted by the Ministry of Finance and SAT under the legislative power re-delegated from the State Council to them. These ministerial rules and circulars provide detailed rules for how to interpret and apply tax treaties in China.
The SAT, however, is also the highest level tax authority in China supervising administration work of all Chinese tax authorities throughout the country. It means that on one hand, the SAT enacts rules and circulars deciding how the treaties should be interpreted and implemented in China; and on the other hand, the SAT supervises all Chinese tax authorities to apply the rules and
circulars it enacted. Hence, as a consequence, the SAT plays a predominant role in interpretation and application of tax treaties in China.
The SAT enacted 30-plus circulars addressing specifically to the implementation and interpretation of some Chinese tax treaties or to the definition of certain terms which are not defined in tax treaties, for example, «beneficial owners», «capital gains» and «indirect shares transfer», and etc. (for example: Tax Issues for Equity Transfers by Non-China Tax Resident Enterprises, Guoshuihan No. 698 [2009]; Interpretation Notes on the Double Tax Agreement Concluded between China and Singapore, Guoshuifa No. 75 [2010]; Announcement on Several Issues Concerning the Administration of Income Tax on Non-Resident Enterprises, Bulletin No. 24 [2011]); Announcement on Issues Concerning Capital Gains Provision under the Tax Treaties, Bulletin No. 59 [2012]). Amongst these SAT circulars, the Circular 75 provides the most detailed descriptive definitions and list of factors for every single provision in the ChinaSingapore Tax Treaty (Interpretation Notes on the Double Tax Agreement Concluded between China and Singapore, Guoshuifa No. 75 [2010]), and the methods provided in Circular 75 are applied in interpreting other Chinese tax treaties.
2. Approaches to Determining the Scope of Tax Treaties. With regard to the approaches to determining the scope of tax treaties, the general rule is to follow the commentaries to the Articles 1 to 4 of the OECD Model Convention and the UN Model Convention, except for these particular rules provide by the SAT in the Circular 75 and in its other circulars.
As for the scope of the persons, they must be residents of either China or the contracting state or be residents of both China and the contracting state. And China interprets the term «resident» as any person who is liable to full tax in China or / and in the contracting state. And then Circular 75 provides that the term «liable to tax» should be interpreted as to be not equivalent to «actually paying taxes». Thus, as long as the persons fall under the scope of being liable to tax as prescribed in the tax legislations of China or of the contracting state, then China shall recognize them as be «liable to tax» to treat them as residents.
As for the scope of taxes, normally only the taxes levied on income would be covered by Chi-
nese tax treaties, unless China and the contracting states otherwise agree. This is for the reason that China does not have any specific tax on capital gains yet, thus the taxes imposed by China on gains from alienation of capitals are income taxes. Furthermore, China does not treat social insurance payments directly connected with the personal benefits as part of its income taxes, hence social insurance payments are not covered in any Chinese tax treaties. In addition, turnover taxes normally are not covered in Chinese tax treaties, unless China and the contracting states agree otherwise. For example, the China-Singapore tax treaty covers Business Tax, which was one type of turnover taxes in China, for Singaporean resident carrying on the operation of ships or aircraft in international traffic 9 Article 2(a) of the Protocol to the Agreement between the Government of the People's Republic of China and the Government of the Republic of Singapore for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income, which Singapore and China signed on 11 July 2007).
3. Disputes Concerning Application of the Concept of Residence. Chinese laws provide a broad concept for «Chinese tax residents», both for individuals and for enterprises. Chinese individual tax residents include both of (1) Chinese citizens and foreign expatriates who have a domicile within the territory of China, excluding overseas Chinese who are Chinese citizens but live abroad instead of living in China's Mainland and the compatriots living in Hong Kong, Macao and Taiwan, and (2) foreigners, overseas Chinese and Hong Kong, Macao and Taiwan compatriots who live in China and who leave China for a period not exceeding 30 days or for periods aggregating not more than 90 days within a tax year 9 Article 1 of the Individual Income Tax Law). As for Chinese tax enterprise residents, include both (a) enterprises incorporated in China, and (b) enterprises incorporated outside of China but «effec-tively managed» in China (Article 2 of Enterprise Income Tax Law).
As the Chinese tax residents shall be subject to Chinese taxes for their worldwide income and the applicable Chinese tax rates are not low, there are occasions that some Chinese tax residents tend to avoid their Chinese tax liabilities
through trying to be recognized as non-Chinese tax residents. Then, Chinese tax authorities in recent years have been strengthening the application of the concept of Chinese tax residents. Given of this concept having a broad scope, it is becoming an effective instrument for Chinese tax authorities to counterfeit tax avoidance schemes. Jiamu-si case, an investigation conducted by Chinese tax authorities in Jiamusi city, is an example of how Chinese tax authorities apply this concept in 2013 to tax a company incorporated in Cayman Islands.
The fact of Jiamusi case is that a Cayman Islands company sold the shares it held in its Cayman Island subsidiary which was public listed in Hong Kong Stock Exchange. The Chinese tax authorities in Jiamusi city argued that China should have taxing right over this Cayman Islands for its capital gain derived from the shares transfer, as this Cayman Islands Company is a Chinese tax resident enterprise for it being «effectively managed in China» [Shi, Lin 2015: 51]. Then, the question comes out is how to determine whether a foreign incorporated company is «effectively managed in China».
The SAT published several circulars since 2009 to interpret this term of «effectively managed in China, and all of these circulars seemed were focusing on where is the office of actual management, for example, whether the senior management responsible for daily production, operation or management and the place where such responsibilities are carried out are mainly located in China, whether decisions about its finances (such as borrowing, lending, financing and managing financial risk) and human resources (such as staff recruitment, termination and remuneration policies) are made or approved by organizations or individuals located in China, and whether 50 % or more of its voting directors or its senior executives habitually reside in China. This approach is different from both the common law concept of central management and control and the OECD Model Convention' concept of place of effective management. Thus, it may draw concerns on the impact of applying this concept in interpretation and application of Chinese tax treaties, as well as misinterpretation of this concept by foreign courts [Beladi, Chao, Hu 2018: 104].
In the Jiamusi case, there is no tax treaty between China and Cayman Islands. So when this
Cayman Islands seller satisfied all the above criteria in the SAT circulars for being «effectively managed in China» [Shi, Lin 2015: 51], it was recognized by the Chinese tax authorities in Jiamusi city as a Chinese enterprise tax resident. It means that this Cayman Islands Company should be subject to taxes in China not only for its gain derived from its shares transfer, but also for its other income derived world widely.
Discussion
1. Procedural Aspects of Application of Tax Treaties. When a non-Chinese tax resident claims for being entitled to benefit from the tax treaty between China and a contracting state, this taxpayer must provide to Chinese tax authorities that he is a resident of the contracting state. The proof this taxpayer must submit is his «resident identity certificate» issued by the competent tax authority of the contracting state in the calendar year before him raising the claim in China. In addition to requesting for this resident certificate, the Chinese tax authorities also keep the power to request for all relevant contracts, agreements, and resolutions of the boards of directors or the shareholders' meetings, payment documents and other ownership certification materials related to the relevant income obtained, in order to review the risk of this taxpayer abuse of the tax treaty (Administrative Method for Non-Tax Residents to Benefit from Tax Treaties, Announcement No. 60 [2015]).
Xinjiang case was an investigation conducted by the tax authority in Xinjiang Province in 2008, and then the SAT published an internal ruling in December 2008 announcing that this tax authority has counterfeited a treaty abuse transaction through correctly applying the procedural request for a «resident identity certificate» and applying the «substance over form» doctrine in (Notice of a Case Correctly Handled by Xinjiang Provincial Tax Authorities to Counterfeit Abuse of Tax Treaty, Guoshuihan No. 1076 [2008]). The fact of this case is that a Barbados company sold its shares in a Chinese company in 2007 and then applied to be subject to the China-Barbados tax treaty effective at that time which provided that China should have no taxing right no such capital gain. As the China-Barbados tax treaty only provided that the term «resident» means «any person
who, under the laws of that State, is liable to tax therein by reason of his domicile, residence, place of head office, place of management or any other criterion of a similar nature», the treaty itself did not provide any specific procedural requirement for the taxpayers to prove its residency. Thus, the Chinese tax authority has recourse to Chinese domestic laws requesting the Barbados seller to provide a «resident identity certificate» issued by Barbados tax authority.
However, this Barbados seller failed to provide any «resident identity certificate» issued by Barbados tax authority; instead it provided a document issued by the Chinese embassy in Barbados stating that it is a Barbados resident. In addition, when reviewing the other materials relevant to this shares transfer, the Xinjiang Province tax authorities found the following facts which disclosed that the existence of the Barbados seller was for the purpose to abusively using the China-Barbados tax treaty: the Barbados seller purchased the shares in the Chinese company in 2003 within only one month after its incorporation, and also paid the share purchase price through a bank account opened at Cayman Islands; the price for the shares sold in 2007 was not determined based on the actual operations of the Chinese company, instead the sales price was already agreed by the parties in the Barbados seller's shares purchase agreement in 2003, and all three directors of the Barbados seller were US citizens, who have the same address as the parent company of the Barbados seller in the United States [Janis 2015: 507].
Based on these facts, the Chinese tax authorities decided that the Barbados seller should not be recognized as a tax resident of Barbados and furthermore the legal form of this Barbados seller should be looked through based on «substance over form» doctrine, so the Chinese tax authority denied the Barbados Company to benefit from the China-Barbados tax treaty and then taxed this capital gain in China according Chinese domestic law.
2. Disputes Concerning Application of the Anti-Avoidance Measures in Cross-Border Situations. China has three specific anti-avoidance rules, which are transfer pricing rule, controlled foreign company rule and thin capitalization rule, and China has one general anti-avoidance rule provided in its Enterprise Income Tax Law. In addition, the SAT issued a number of circulars addressing some
specific tax avoidance schemes, such as treaty shopping, avoiding to constitute a PE, and indirect shares transfer, etc. (for example: Tax Issues for Equity Transfers by Non-China Tax Resident Enterprises, Guoshuihan No. 698 [2009]; Interpretation Notes on the Double Tax Agreement Concluded between China and Singapore, Guoshuifa No. 75 [2010]. Announcement on Several Issues Concerning the Administration of Income Tax on Non-Resident Enterprises, Bulletin No. 24 [2011]; Announcement on Issues Concerning Capital Gains Provision under the Tax Treaties, Bulletin No. 59 [2012]). On the basis of these legislations, the Chinese tax authorities have been strengthening tax administrations on counterfeiting tax avoidance transactions. The Chinese tax revenue collected from enforcing anti-tax avoidance measures in 2014 reached RMB52.3billion (around USD 7.8 billion), which was 113 times of the revenue raised from anti-tax avoidance in 2005.
Among of its anti-tax avoidance measures, the most distinguished effort Chinese tax authorities applied in cross-broader transactions was their investigations on indirect tax shares transfer transactions. In the SAT's view, when the foreign investors structured their investments through one or multiple holding companies incorporated in low tax or no tax jurisdictions and then hold the shares in Chinese companies indirectly, the capital gain derived from selling the shares of these non-Chinese holding companies should be taxed in China if such shares transfer is in substance having a similar effect of selling their interest in Chinese companies. The legal basis for Chinese tax authorities to tax indirect tax shares transfers are the general anti-avoidance rule provided in its Enterprise Income Tax Law and the circular 698 issued by the SAT in 2009. Both these legislations focus on one subjective criterion that is whether the taxpayer carries out the transaction without having reasonable business purpose. Then the question arises is what is «reasonable business purpose»? The State Council interpreted the term «without having reasonable business purpose» as the taxpayers having a primary purpose to reduce, waive or postpone tax payments (Article 120 of the Implementing Regulations of the Law on Enterprise Income Tax), while the SAT issued a tax circular in 2009 indicating that the burden of proof of having reasonable busi-
ness purpose should imposed on the taxpayer. When the SAT reviewed the evidence provided by taxpayers, three factors are taken into account, namely an artificial scheme, tax benefits and the primary purpose of the transaction to reap tax benefits. As neither the Enterprise Income Tax Law nor the SAT circulars provided any objective criteria, it is then left to the Chinese tax authorities in practice to assume that the transactions are lack of «reasonable business purpose» whenever taxpayers may derive tax benefits from the transactions [Qiu 2014: 77]. And once the tax authorities determine the transactions were carried without reasonable business purpose, they can look through the intermediary company and then tax the non-resident company on its capital gain derived from indirect shares sales (Tax Issues for Equity Transfers by Non-China Tax Resident Enterprises, Guoshuihan No. 698 [2009]).
The TCI case, a judicial case ruled by the Higher Court of Zhejiang Province in December 2015 (Zexingzhongzi No. 441 [2015]), is an example of how Chinese tax authorities and courts apply such «reasonable business purpose» test on cross-border indirect shares transfer. The fact of this case is that TCI was a Cayman Island company and sold the shares it held in another Cayman Island in 2013. The whole shares transfer transaction took place in Cayman Island and the only connection with China was the target company, which is also a Cayman Island company named Chinese Future Corporation, indirectly held 95 % shares of a Chinese company. The Chinese tax authorities argued that China should have taxing right on TCI's capital gain derived from such shares sales in Cayman Island, because this indirect shares transfer has a similar effect as transferring the interest of the Chinese company. Then, the key issue of this case is whether TCI has reasonable business purpose to carrying out this indirect shares transfer transaction.
In order to prove its reasonable business purpose, TCI argued that the intermediately companies, i. e. Chinese Future Corporation and its subsidiary incorporated in Hong Kong, both have business activities. For example, Chinese Future Corporation has issued bonds, while its Hong Kong subsidiary leased out its immovable properties. However, the Higher Court of Zhejiang Province ruled that these are not sufficient evi-
dence, as «business substance» should be refe-reeing to active business activities such as being engaged in manufacturing industry, trading or service activities, which neither Chinese Future Corporation nor its Hong Kong subsidiary ever carried out. Based on these logic, the court ruled that TCI did not prove the existence of its two intermediately companies having business substance, and consequently it failed in proving its having «reasonable business purpose» in carrying out this indirect shares transfer transaction. Thus, the court ruled in favor of Chinese tax authorities to look through these two these intermediately companies and then to tax TCI's capital gain.
The vague and subjective criteria for this «rea-sonable business purpose» test have caused huge concerns among the business. The SAT seemed like to add certain transparency in 2015. When this TCI case was heard at the courts, the SAT in 2015 issued a new circular adding two objective criteria for conducting the reasonable business purpose test: if 75 % or more of the share value of the foreign target company is derived directly or indirectly from Chinese taxable assets, or 90 % or more of the income of the foreign target company is derived from investments in China during any moment within one year prior to the indirect transfer, Chinese tax authorities can determine that the transaction is lack of reasonable business purpose (Announcement on Several Issues Concerning Imposing Enterprise Income Tax on Non-Resident Enterprises for their Indirectly Transfer Properties, Bulletin No. 7 [2015]). These new criteria actually did not provide any safe-harbor for the business; on the contrary, it provided Chinese tax authorities with a clear threshold to deny all indirect transfer transactions without testing the reasonable business purpose. The businesses were very disappointed to these new criteria.
3. Disputes Concerning Taxing Passive Income. China's economic situation of being as one of the largest foreign investment recipients in the world request it must hold a strong position in protecting source states' taxing rights at least on passive incomes like dividends, interest and royalties. This position, when being reflected into Chinese tax treaty's context, is that a number of Chinese tax treaties have a definition for royalties including «payments of any kind received as consideration... for the use of, or the right to
use, industrial commercial or scientific equipment...». And this position is also reflected in the approaches that Chinese tax authorities and courts interpreted and applied these tax treaties. The PanAmSat case in 2002 and Weihai case in 2010 are examples for how Chinese courts and tax authorities characterized income sourced from China as royalties, instead of as business profits.
PanAmSat Case. It was a judicial case ruled by the Higher People's Court of Beijing in December 2002 (Gaoxingzhongzi No. 24 [2002]), where the courted supported the Beijing tax authorities' argument of characterizing the income of PanAmSat derived from China as royalties rather than business income. The fact was that PamAmSat was a U.S. tax resident, which entered into a «Services Agreement» with a Chinese state-owned television channel - CCTV for providing CCTV with satellite transmission services. For the fee that CCTV payable to PanAmSat under this service agreement, PanAmSat argued that it should be characterized as its business profits derived from China and it should not be taxed in China as PanAmSat did not constitute any permanent establishment in China. But the Beijing tax authorities argued that this payment should be characterized as royalties, as it could fall into the definition of royalties under China - U.S. tax treaty for the «payments of any kind received as consideration... for the use of, or the right to use, industrial commercial or scientific equipment», and then such royalties should be taxed in China.
Chinese tax legislations in 2002 had no any definition about royalties yet, so the Higher People's Court of Beijing applied the China-U.S. tax treaty directly as the legal basis for reaching its decision. The Higher People's Court of Beijing interpreted this payment as a consideration for granting the right for CCTV to use certain bandwidth of PanAmSat's satellite facilities, rather than for obtaining satellite transmission services from PanAmSat. This interpretation approach is opposite to the OECD's view since 1992, as the OECD in 1992 already deleted the provision that the payment for «use, or the right to use, any industrial, commercial or scientific equipment» from its Model Convention for definitions of royalties, and in addition, the OECD in 2000 added one paragraph into its commentary specifically states that satellite service income should be
characterized as business income, rather than as royalties.
Although China as a non-member observer state of the OECD has engaged in various discussions on the revision work of the commentary [Li 2012: 452-479], China has made a reservation on the OECD's change of position in 1992 through deleting the terms of «payments of any kind received as consideration. for the use of, or the right to use, industrial commercial or scientific equipment» from royalties' definition (paragraph 8 of the Positions on the OECD MC Article 12 (Royalties). Hence, in the PanAmSat case, the Higher People's Court of Beijing did not take into account of the OECD's opinion and ruled in favor of Beijing tax authorities to tax PanAmSat in China under the royalty's provision under the U.S. - China treaty.
Then, royalties remain undefined in Chinese domestic tax legislations, until the SAT issued the Circular 75 in 2010 where the SAT expressly provided that income from the use of, or the right to use, industrial, commercial or scientific equipment, for example, rental of equipment should be characterized as royalties, unless such income is the interest for payments involved in financial leasing activities.
Weihai Case. It was a judicial case ruled by a Chinese court in Shandong Province in 2010. However, the judgment of this case is still not publicly assessable yet, the facts and the results about this case have to be based the SAT's internal ruling named «International Transport Cases Involved in the Implementation of Tax Treaties by the Office of the State Administration of Taxation in Shandong Province» (International Transport Cases Involved in the Implementation of Tax Treaties by the Office of the State Administration of Taxation in Shandong Province, Guoshuibanfa No. 34 [2011]).
The fact of Weihai case is that a South Korean company signed a time charter contract with a Chinese company in 2009 for the purpose to lease a ship to the latter for half a year, and this South Korean company undertook the costs of wages and remuneration of the entire crew during the whole lease period. As for the payment received from the Chinese company, the South Korean company argued such income should be characterized as its profits from operation of
international traffic and then China has no taxing right on it under the China-South Korea tax treaty. However, the Chinese tax authorities in Shandong Province argued that this payment should be characterized as royalties under the China-South Korea tax treaty and then be taxed in China. Then, the issue of this case was whether the income from wet lease, i. e., leasing a ship on charter fully equipped, crewed and supplied, should be classified as profits from the operation of international traffic, or as royalties.
In the OECD's view, income from time-charter should be treated as profits from the carriages of passengers or cargo in internal traffic (para. 5 of the Article 8, OECD Commentary [2010]); the SAT, however, holds a different view that a taxpayer will derive profits from operating international traffic only when its main business is to carry out international transportation by ships or aircrafts. Only when this pre-condition is satisfied, such taxpayers could have certain affiliating business, for example leasing its ships, and nevertheless its revenue derived from such affiliating business should not exceed 10 % of its total gross income within an accounting year (Interpretation Notes on the Double Tax Agreement Concluded between China and Singapore, Guoshuifa No. 75 [2010]). Thus under the SAT's interpretation rule, the South Korean company must firstly prove that its main business is to engage in transportation of passengers or cargo internationally. However, the South Korean company although can prove that it has qualification certificate to carry out international transportation business, both its business registration certificate and its financial statement demonstrate that its main business activities were limited to lease of ship, albeit complete with operating crew. Based on these facts, the court ruled in favor of Chinese tax authorities that the income should be characterized as royalties because China-Korea tax treaty also has contained a royalties definition as the «payments of any kind received as consideration. for the use of, or the right to use, industrial commercial or scientific equipment...». Then the South Korean company was taxed in China for such income as royalties.
Again, as China is not an OECD member, deviation by Chinese tax authorities and courts in their interpretations from the OECD should not trigger the issue of breaching tax treaties. However, the negative consequence is that this unila-
teral interpretation approach at China' side might not be accepted by the contracting state, i. e. South Korea, and then double taxation may arise when South Korean company pays its residence state taxes in South Korea.
4. Taxing Permanent Establishment. China's position of protecting source states' tax rights also reflects in its approaches used to interpret the concept of permanent establishment. For example, as a general rule provided in tax treaties, constituting a PE requests the non-Chinese tax residents must have a relatively fixed place of business in China. The approach the SAT interprets such a «relatively fixed place» is broad, which does not have any limit on scale or scope of the place. Thus machinery owned or leased, houses, offices and hotel rooms rented for long or short terms, facilities or equipment are partly used for other activities could all recognized as the fixed place of non-residents in China, as long the non-residents have certain disposal space therein.
Another example is where non-residents furnish services in the China, a PE could be constituted once the service period or periods aggregating are more than a fixed term provided in the tax treaties. The SAT's interpretation on the term «services» is broad, including but not limited to professional services of project, technology, management, design, training, consultancy, etc. For example: technical guidance, assistance, consultancy and other services provided for the implementation of the operating projects (not responsible for the specific construction and operation); services provided for the use and reform of production technology, improvement of business operation and management, project feasibility analysis, selection of design plans, etc.; and professional services provided in the business operation and management of enterprises, etc. The Suzhou case was an example that Chinese tax authorities recognized some hotel management services provided by «employees or other personnel engaged» in China as the permanent establishment of a Dutch company in China.
Suzhou case was an investigation that the Su-zhou tax authorities conducted in 2010, and some brief information about the facts and the results of this case was published on a Chinese government sponsored newspaper named China Taxation Newspaper (the article was published in 2010 on the website of this newspaper www.ctaxnews.
net.cn).' The fact of the case is that a Dutch company signed a management service contract with a Chine's hotel. The Dutch company was exclusively responsible for managing this Chinese hotel, and the Chinese hotel paid the Dutch company management service fee to a bank account opened in Hong Kong on a monthly basis with an amount of 2 % of business profits plus 5 % of its gross operating profits. The Dutch company argued that the service fee it receives should not be taxed in China, as all its management services were performed outside of China. This implied that the Dutch company had no permanent establishment in China [Sharkey 2014: 40].
The Chinese tax authorities, however, in their investigations found that the general manager, operation director and financial director of this Chinese hotel, who are all residents of Hong Kong, represented the Dutch company in the monthly management meetings of the hotel, although they were employed by the Chinese hotel and were paid salaries by the Chinese hotel in China. Also, the hotel's payment records showed that the monthly payments made by the hotel to the Dutch company exceeded the management service fee provided in the contract, as it also covered the insurance premium for these three senior management in Hong Kong. With these evidences, the Dutch company admitted the existence of the employment contract with these three senior management who were actually managing the hotel in China on behalf of the Dutch company. As the presence of these three persons in China already reached the threshold of staying-length under China-Netherland tax treaty, the Chinese tax authorities deemed the Dutch company has constituted a permanent establishment in China and then taxed its business profits in China.
The guidance that the SAT gave in the Circular No. 75 [2010] was for where the parent company of a contracting state sending its employees to provide services to its subsidiary in China, four factors should be taken into account when conducting a responsibility and risk analysis to test which company has the authority to instruct the employee(s) and which company bears responsibilities or risk for the results produced by the employee's work [Johannesen 2014]. This Suzhou case applied this guidance on services provide between non-parent/subsidiary companies.
In 2013, the SAT issued a circular to provide further guidance for conducting this responsibility
and risk analysis through taking into account of the following five factors. The Chinese receiving company pays the non-resident dispatching company management fees or makes payments in the nature of service fees. The payment to the non-resident dispatching company from the Chinese receiving company exceeds the dispatched employee's wages, salaries, social security contributions, and other expenses borne by the non-resident dispatching company. The non-resident dispatching company does not pass on all the related payments made by the Chinese receiving company to the dispatched employee; instead, the non-resident dispatching company retains a portion of such payments. The dispatched employee's wages and salaries born by the non-resident dispatching company are not fully subject to the individual income tax in China. And the non-resident dispatching company may decide number, qualification, remuneration and working locations of the dispatched employees in China (Announcement No. 19 [2013] on Imposing Enterprise Income Tax on Non-Residents Providing Services in China through their Dispatched Personnel).
Conclusions
Tax disputes in China cover a broad range of transactions. The number of judicial cases ruled courts was limited, but these court judgment demonstrate a clear feature that the Chinese courts did not take into account of the OECD's opinions when ruling these cases. This might be rooted with China's position of protecting source state's interest, as a reflection of it being one of the largest foreign investment recipients in the world [Shi, Lin 2015: 51].
Potential disputes in the future may most possibly arise from those anti-tax avoidance investigations carried out by Chinese tax authorities. The aggressive approaches that Chinese tax authorities used in interpreting and applying tax treaties might trigger more cross-border tax disputes. And this risk will be exacerbated when tax authorities are pressed to meet the revenue target assigned to them. When those vague and aggressive anti-avoidance measures might become their effective instruments to collect revenue, more disputes will arise and possibly will have to be brought to courts for judicial remedies.
Список литературы
Beladi Hamid, Chao Chi Chur, Hu May. Does tax avoidance behavior affect bank loan contracts for Chinese listed firms? // International Review of Financial Analysis. 2018. Vol. 58. P. 104-116.
Dharmapala Dhammika. Cross-border tax evasion under a unilateral FATCA regime // Journal of Public Economics. 2016. Vol. 141. P. 29-37.
Janis M. W. International Law and Treaties // International Encyclopedia of the Social and Behavioral Sciences / ed. by J. Wright. Orlando: Elsevier, 2015. P. 507-510.
Johannesen N. Tax avoidance with cross-border hybrid instruments // Journal of Public Economics. 2014. Vol. 112. P. 40-52.
Li Aijun, Zhang Aizhen, Cai Hongbo, Li Xingfeng, Peng Shishen. How large are the impacts of carbon-motivated border tax adjustments on China and how to mitigate them? // Energy Policy. 2013. Vol. 63. P. 927-934.
Li Jinyan. The Great Fiscal Wall of China: Tax Treaties and Their Role in Defining and Defending China's Tax Base // Bulletin for International Taxation. 2012. P. 452-479.
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Sharkey N. Enterprise Residence for Chinese Income Tax Purpose: Not What It Might Be Expected to Be? // Bulletin for International Taxation. 2014. Vol. 68. №. 10. P. 541.
Shi Shanshan, Lin Kenny Z. Taxing indirect equity transfers in China // The International Tax Journal. 2015. Vol. 41. №. 2. P. 51-60.
Wei Cui. What is «Law» in Chinese Tax Administration // Asia Pacific Law Review. 2011. Vol. 19. №. 1. P. 75-94.
References
Beladi Hamid, Chao Chi Chur, Hu May. Does tax avoidance behavior affect bank loan contracts for Chinese listed firms? International Review of Financial Analysis, 2018, vol. 58, pp. 104-116.
Dharmapala Dhammika. Cross-border tax evasion under a unilateral FATCA regime, Journal of Public Economics, 2016, vol. 141, pp. 29-37.
Janis M. W. International Law and Treaties, Wright J. (ed.) International Encyclopedia of the Social and Behavioral Sciences, Orlando, Elsevier, 2015, pp. 507-510.
Johannesen N. Tax avoidance with cross-border hybrid instruments, Journal of Public Economics, 2014, vol. 112, pp. 40-52.
Li Aijun, Zhang Aizhen, Cai Hongbo, Li Xingfeng, Peng Shishen. How large are the impacts of carbon-motivated border tax adjustments on China and how to mitigate them? Energy Policy, 2013, vol. 63, pp. 927-934.
Li Jinyan. The Great Fiscal Wall of China: Tax Treaties and Their Role in Defining and Defending China's Tax Base, Bulletin for International Taxation, 2012, pp. 452-479.
Qiu Dongmei. Legal Interpretation of Tax Law: China, Brederode R. F. van, Krever R. (eds.) Legal Interpretation of Tax Law, Alphen aan den Rijn, Kluwer Law International BV, 2014, pp. 76-106.
Sharkey N. Enterprise Residence for Chinese Income Tax Purpose: Not What It Might Be Expected to Be? Bulletin for International Taxation, 2014, vol. 68, no. 10, pp. 541.
Shi Shanshan, Lin Kenny Z., Taxing indirect equity transfers in China, The International Tax Journal, 2015, vol. 41, no. 2, pp. 51-60.
Wei Cui. What is «Law» in Chinese Tax Administration, Asia Pacific Law Review, 2011, vol. 19, no. 1, pp. 75-94.
Информация об авторе
На Ли - преподаватель и эксперт, Восточно-Китайский университет политологии и права (ул. Ван Ханг Ду Роад, д. 1575, Шанхай, Китай 200042; e-mail: [email protected]).
Information about the author
Na Li - post-doctoral researcher, East China University of Political Science and Law (ECUPL) (1575 Wan Hang Du Road, Shanghai, 200042, China; e-mail: [email protected]).
Дата поступления в редакцию / Received: 11.07.2018
Дата принятия решения об опубликовании / Accepted: 30.08.2018
© На Ли, 2018
