Research Survey Paper on Controlled Foreign Companies (CFC) Rule in China
(Yang Shanshan)
China introduced the CFC rule with the implementation of the Corporate Income Tax Law on January 1, 2008.The primary purpose of China's CFC regime is to prevent profit shifting to low-tax jurisdictions through controlled entities. In addition to CIT Law, the Implementation Regulations of the CIT Law and the Measures for the Implementation of Special Tax Adjustments (Trial)(Notice No. 2 [2009]) further refine the content of the CFC regime. The CFC rule in China has not changed over years. The key points of China's CFC regulations are as follows:
1. Definition of Control
The control requirement can be divided into equity control and de facto control. Equity control refers to a single Chinese resident shareholder directly or indirectly holds at least 10% of the voting shares of a foreign enterprise in any day of a taxable year, and the Chinese resident shareholders shall jointly hold at least 50% of the shares of the foreign enterprise. De facto control refers to a situation where, although the holding ratio does not meet the above standards, there is substantial control over the foreign enterprise in terms of shares, funds, operations, procurement, and sales.
2. Definition of Obviously Lower Tax Burden than the Specified Tax Rate Level
The statutory tax rate stipulated by the CIT Law is 25%. Article 118 of the Implementation Regulations provides that a CFC company in a country with a tax rate lower than 12.5%(50%*25%) meets the conditions. Comparing to the EU’s blacklist, a whitelist of 12 non-low tax countries has been designated in China.
3. Income Inclusion
China's CFC rules do not define the types of income obtained by the CFC to be included in the tax base of the controlling taxpayer. Once considered a CFC, all income including passive and active income, may be considered attributable income. Besides, income generated by controlled companies established in jurisdictions with a statutory rate of less than 12.5% , have to be included in the tax base of the parent company of the CFC, which is similar to a hybrid of Model A and Model B of ATAD CFC rule.
4. Exception Rule
If the Chinese resident enterprise shareholder can prove that its CFC meets any of the following conditions, it can be exempted from CFC rules:
a. It is an enterprise formed in a non-low tax rate country (or region) as specified by the STA;
b. Its incomes are mainly derived from its active business activities; or
c. Its total annual profits are less than 5 million yuan.
Besides, Article 82 stipulates that the CIT already paid abroad for the income included in the current income deemed as from dividend distribution can be credited.
5. Calculation of Income Attributed to Resident Enterprises
Current-period income of a Chinese resident enterprise shareholder = amount of income deemed as from dividend distribution × actual number of shareholding days ÷ number of days of the CFC's taxable year × shareholding proportion
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