Author: Dominik Stuiber
China’s draft amendments to Individual Income Tax (IIT) law, released for public consultation end of June, sets out significant changes to the current IIT system.
Re-defining Tax Residency
The draft law contains a move towards international convention of the definition of tax residency for individuals. Under current rules, a non-domiciled individual is considered being an ordinary Chinese tax resident if the individual stays in China for a full calendar year. Ordinary Chinese tax residents are tax on their worldwide income. A single trip of more than 30 days or multiple trips of combined more than 90 days a calendar year outside of China breaks this rule. Under the proposed amendments, tax residency would follow the internationally recognized “183-day-rule”, cutting the time of residence for tax purposes in half.
Domicile refers to habitual residence in China on account of domiciliary registration (permanent registered address), family ties or economic interests. An individual with a Chinese passport or a Hukou (household registration) is generally regarded as being domiciled in China. Individuals with domicile in China and non-domiciles who are long-term residents, i.e more than five years, are liable for to tax on worldwide income, regardless of where it is sourced or received. Non-domiciles of China who are resident for less than five years are generally liable for tax on China-sourced employment and investment income only.
While the draft amendments do not address the five-year-rule, the passing of the draft law would broaden the inclusion of non-domiciled individuals as tax residents in China. At the very least, reducing the 365 days to 183 days, would make it more difficult for foreigners to break the residency rules for inclusion as long-term residents, and thus, worldwide income taxation.
The draft introduces anti-avoidance rules, similar to anti-avoidance rules for enterprises, empowering the Chinese tax authorities to initiate tax adjustments and collection when transactions between an individual and related parties do not comply justifiably with the arm’s length principle, a CFC has deemable distributions, or where an improper tax benefit is obtained through an arrangement that lacks a reasonable business purpose.
Considering the potential introduction of the shorter 183-day-rule and anti-avoidance rule, non-residents who spend longer periods in China as well as Chinese residents with cross-border business arrangements and overseas assets should consider reviewing their overall tax exposure and compliance status.