Like virtually every government anywhere, the Chinese government loves taxes. It loves imposing taxes. It loves collecting taxes. And it especially seems to love complicated taxes that allow it to assert authority or control over you. Many of the things that get foreign companies in trouble in China have a tax element to them.
We have been constantly writing how China is searching out foreign companies doing business in China without benefit of having a company in China, such as a WFOE or a Joint Venture. In just the last six months, my law firm’s China lawyers have heard of at least 30 foreign companies getting massively fined or having to shut down everything in China for such a violation. I estimate this number is up around ten times from the previous six month period. For more on this situation, check out the following:
- Doing Business In China With Deportation Or Worse Hanging Over Your Head
- Donald Trump and Your China Business: Double Down, Ditch It or Die
- Donald Trump and Your China Business: Double Down, Ditch It or Die, Part 2.
- China’s Tax Authorities Want You (Forbes Magazine)
Why has China become so aggressive in rooting out these unregistered companies, to the point now where it will give tax immunity to those who rat them out? For the following reasons:
- These companies are operating illegally in China and China has over the last few years been taking much more of a law and order (and anti-corruption) stance overall.
- These companies are foreign companies and it has always been politically popular to go after foreign companies.
- China wants to show Trump there will be repercussions should the United States get tougher on China trade.
- China wants to scare other companies into getting legal, and trust me when I say this is working and trust me when I say China knows this is working.
- China wants to collect the taxes, especially as economic growth continues to slow.
Above all else though, I am convinced it is number 5 — collecting taxes — that drives things. I say this because there are all sorts of other things China could be doing to achieve items one through four above. For instance, just last week, my firm’s China employment lawyer, Grace Yang, wrote a piece entitled, China Employment Compliance and Audits: THE New Big Thing. In it, she talked about how she has seen a large increase in foreign companies requesting outside counsel audit their employment situation so as to avoid China employment law problems. But, the legal problems these employers are seeking to avoid are mostly lawsuits from their own employees and ex-employees for rule and law violations, not legal problems with the Chinese government. Even though these companies can be fined by various governments for not being in compliance, it is the rare case when any government goes after even foreign companies for non-egregious employee law violations. And why is that? Because the money to be made on these violations pales in comparison to the tax revenues and interest and penalties that can be collected from a company that has been doing business in China without an entity and without paying its taxes.
And here’s the final proof, the kicker if you will. Of the 30 or so companies that have been pursued for not having a legal Chinese entity, not a one of them has ever paid anything in Chinese taxes, either corporate income taxes or employer taxes. Yet, my firm has many clients that perform services in China and have their corporate income taxes withheld for those services and not a one of those companies has ever even been threatened by the Chinese government. Now, we could argue that these companies are not doing enough business in China to require a Chinese entity, but the fact none have even been touched does have to count for a lot. China also has stepped up its enforcement of its transfer pricing laws for the same reason: doing so generates it serious tax revenues. See China’s Tax Authorities Want You, Part II.
The above is all a prelude to some good news on China taxes. There I did it. I managed to say “good news” in the same sentence as “China taxes.”
The good news is that China (or at least a government faction that appears to be on top right now) recognizes its tax system has become oppressive for businesses and is harming the economy. The really good news is it appears this realization will lead to concrete changes. See China to simplify tax rules to shore up the economy. This would be good. Really good. Good for China and good for foreign companies doing business in China. This might even be good for foreign companies doing business in China but not paying their taxes in China as it would make it easier for them to pay taxes once they get legal, which they should do NOW.
One more thing. The United States and the European Union and many other countries have various tax treaties with China to avoid double taxation. This means you can in many instances get a credit or a deduction in your home country on taxes you pay in China. This also means legalizing your China operations may not cost you in taxes nearly as much as you may initially believe.