This is a Thought Leadership article by PrimeGlobal firm S.J. Grand on the new IIT Law Implementation Regulations in China.
New IIT Law Implementation Regulations also affecting the five-year rule
It comes as no surprise that laws and regulations in China change fast, being the cause of confusion for many. The big revisions in the Individual Income Tax (IIT) regulation China had recently announced affect both local employees and foreigners working in China. While many IIT aspects had been amended, a change in the residency status had also been initiated. This has led to concerns on whether the five-year tax rule, beneficial for many expat workers, would be kept.
On October 20, 2018, the China State Administration of Taxation (SAT) released the "Draft Implementation Regulations of the Individual Income Tax Law” and the "Draft Interim Measures for Special Deductions of Individual Income Tax “, which have now been submitted to the State Council.
The good news – yes, the five-year tax rule will indeed still be valid. However, the regulation will be affected due to the reforms. Keep reading to know what to expect in 2019!
Take a look at our previous post on the new IIT law: China Adopts a Revised Individual Income Tax Law
The five-year rule as of 2018
As the SAT has officially communicated, the "Five-Year rule” of the old law has been retained.
Currently, under the existing law, foreign workers staying in China less than a full tax year only pay taxes on their China-source income. At the same time, individuals residing in China for a complete tax year pay taxes on their worldwide income. This held true if the individual lived in China for 365 days in a tax year. A single temporary absence from China, which did not exceed 30 days or multiple absences not exceeding a total of 90 days within a tax year were not deducted from the total days spent in China.
Until now, expats employed in China could avoid being subject to the Chinese Individual Income Tax on their worldwide income. The expat would simply need to leave the country for more than 90 days (in case of cumulative multiple absences) or for more than 30 days (in case of a single absence) within the five years.
The five-year rule as of 2019
The main change stems from the redefining of who is considered a "tax resident":
- Resident individuals (居民个人) – referring to those who have domicile or reside in China for a total of 183 days in a tax year while receiving income either from PRC or abroad. Resident individuals must pay income tax in accordance with the law.
- Non-resident individuals (非居民个人) – applies to individuals who do not have domicile and reside in China for less than a total of 183 days in a tax year.
The SAT had clarified in the Draft, that a resident taxpayer who has lived continuously in China for less than 5 years or who has lived in China for 5 years but has left the country for more than 30 days in a single departure may be exempt from taxation on his income that are derived and paid from outside of China.
Note – this means multiple departures for more than 90 days will no longer do to bypass the Five-year rule. The Five-year rule now works with a single departure of the expat worker for more than 30 days within the said 5 years.
The new regulations also state, that validation of PRC tax exemption on foreign sourced income shall be required under the „put-on-record” filing system.
Five-year rule and its implementation as of 2019 in China
The draft also mentioned tax exempt benefits, which foreign employees may choose to retain. These would apply to:
- children’s education fees,
- language training fees,
- housing subsidies.
Other subsidies, which were not directly mentioned in the Draft (e.g. family reunion fees, dry cleaning fees, catering expenses, etc.), have not been explicitly repealed, and will likely continue to be effective. The local tax authorities will have to confirm this as the new laws will come into full effect in 2019.
Where necessary conditions are met, expat employees may elect to claim itemized deductions under the new system. However, they may not simultaneously enjoy tax exemption on fringe benefits (e.g. as aforementioned children’s tuition), while also claim deductions for expenses stated under the itemized deduction system.
Special itemized deductions
As mentioned above, the new IIT-Law introduces items that are available for special deduction.
Annual tax declaration obligation
Annual reconciliation will be required under following cases:
- Where a taxpayer receives consolidated income in two (or more) locations and the remaining amount of annual consolidated income minus special deductions (such as statutory social security and housing fund contributed by the taxpayer) exceeds 60 000 RMB.
- If a taxpayer receives income from remuneration for personal services, author’s remuneration or royalties, and the amount remaining of the annual consolidated income minus special deductions exceeds 60 000 RMB.
- When the pre-paid tax amount is less than the actual tax liability in the tax year and there will be outstanding tax liabilities.
In case the taxpayer needs to apply for a tax refund or pay overdue taxes, the individual must complete an annual filing. Additionally, in order to apply for a tax refund, a China-based bank account in the name of the taxpayer is required.
If the employer bears tax and will enjoy the tax refund, they must agree with the employees that the employees will pay the refund to the employer once they receive the refund.
The amendments also highlight that in case a resident individual de-registers their household registration in China due to moving abroad, they will also need to declare their annual reconciliation of income for the current year to the tax authorities and tax payment status on other income for the current year. If applicable, outstanding taxes for previous years must also be declared.
While the IIT reform touches upon many aspects, the impact on expats will be less than anticipated. The current preferential policies will be preserved in a greater part, few additional changes to keep in mind.
Noteworthy changes to be aware of:
- Leaving China for more than 30 days is still regarded as a condition to break the Five-year rule.
- The judgement condition for resident taxpayers is not shortened to 183 days, instead of previous 365 days.
- If one meets the conditions of a resident taxpayer, the individual must complete the annual filing.
- One may choose between special itemized deductions and currently applicable preferential policies of tax exemptions.
Final modifications of the laws are still in the works – until then, we advise to pay close attention to policy and law updates in order to avoid non-compliance.
Do you have more questions about the new IIT Law and how it may affect You? Contact us to learn more about the upcoming changes and follow us on social media to receive the latest updates on the IIT reform and much more!
S.J. Grand Financial and Tax Advisory
S.J. Grand Financial and Tax Advisory is a professional services firm that specializes in assisting foreign-invested companies and multinationals in Mainland China. Established in 2002 in Hong Kong, we now operate a network of offices across China’s leading hubs of foreign investment: Beijing, Shanghai, and Shenzhen. Our professionals offer a wealth of expertise for the financial, tax and consultancy needs of companies operating in China, with profitability strategies that are designed for improved performance, value creation and long-term growth.Learn more