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China Signs New Protocol to its Double Tax Treaty with Mauritius
On 5 September 2006, China and Mauritius signed a protocol to amend the existing 1994 double tax treaty. The new protocol contains two major changes: (1) a new Capital Gains Clause; and (2) an Exchange of Information Article based on the 2005 OECD model convention. These changes might have an impact on multinationals that hold subsidiary investments in China through intermediary Mauritius holding companies.
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Capital Gains
Under the existing 1994 China-Mauritius double tax treaty, a full tax exemption is available on capital gains derived by a Mauritius resident investor from the disposal of shares in a Chinese company, provided that the assets of the Chinese company are not mainly comprised, directly or indirectly, of immovable property situated in China.
The protocol amends the capital gains article to reduce the scope of the capital gains exemption available to Mauritius resident investors that dispose of shares in a Chinese company. As amended "Gains derived by a resident of a Contracting State [Mauritius] from the alienation of shares, participation, or other rights in the capital of a company which is a resident of the other Contracting State [China] may be taxed in that other Contracting State [China] if the recipient of the gain, during the 12-month period preceding such alienation, had a participation, directly or indirectly, of at least 25 percent in the capital of that company".
Exchange of Information
The new protocol revises the "Exchange of Information" article. As revised certain information may be exchanged between the Chinese and Mauritian tax authorities to assist them in carrying out the provisions of the tax treaty or of domestic laws concerning taxes of every kind imposed by the countries and their local governments.
Entry Into Force
Upon ratification by both governments the protocol will enter into force on the date the instruments of ratification have been exchanged. The provisions of this new protocol shall apply to income derived in the following years:
- In China: taxable years beginning on or after 1 January in the calendar year following the year in which this protocol becomes effective,
- In Mauritius: years of income beginning on or after 1 July following the effective date of the protocol.
Summary
Mauritius has been a common intermediary holding company jurisdiction for multinationals investing into China because of the capital gains tax exemption and the reduced dividend withholding tax provisions of the 1994 China-Mauritius tax treaty. Once the new protocol enters into force, capital gains realized on the disposal of shares of a Chinese subsidiary that is held by an intermediary holding company in Mauritius are more likely to be taxable in China. Existing structures and possible alternative structures should be reviewed taking due account of the implications of the new protocol.
China Issues New Circular on Amendments to Value Added Tax Refund Rate for Exports
On 14 September 2006, the Ministry of Finance, the State Development and Reform Commission, the Ministry of Commerce, the General Administration of Customs and the State Administration of Taxation jointly issued the "Notice Regarding Adjustment of Export Value Added Tax ("VAT") Refund Rates and Commodity List of Prohibited Category Under Processing Trade" ("Circular 139"). Circular 139, which is effective from 15 September 2006, amends the export VAT refund rates for certain products and eliminates export VAT refunds for certain products.
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New VAT Refund Rates for Exports
Under Circular 139, Chinese exporting companies are not eligible for export VAT refunds for certain products, including:
- All non-metallic mineral products (except for salt and cement) which are listed in Chapter 25 of the Import and Export Tariff Guide, coal, natural gases, paraffin wax, bitumen, silicon, arsenic, stone material, non-ferrous metals and scrap materials;
- Metallic ceramic, 25 kinds of agricultural chemicals and the relevant intermediate products, certain finished products of leather, lead-acid storage battery, mercuric oxide battery; and
- Cashmere, charcoal, crossties, cork products and certain initially processed wood products.
The export VAT refund rates for the following products have been revised, but product descriptions and VAT refund rates are for illustrative purposes only, since the precise product categories and VAT refund rates depend on the customs HS code applicable to the specific product:
|
Items |
Existing VAT Refund Rate |
New VAT Refund Rate |
|
Steel products |
11% |
8% |
|
Ceramics, certain finished products of leather, cement and glass products |
13% |
8% or 11% |
|
Certain non-ferrous metal materials |
13% |
5%, 8% or 11% |
|
Textile, furniture, plastic, lighter and certain wood products |
13% |
11% |
|
Non-mechanical propelled vehicles (pushcarts) and parts |
17% |
13% |
|
Major technology equipments, certain IT products, biomedical products and certain high-tech products encouraged by the state industrial policies |
13% |
17% |
|
Certain products processed using primary agricultural materials |
5% or 11% |
13% | Grandfathering for Export Contracts Concluded on or before 14 September 2006 Chinese exporters may continue to apply the old VAT refund rates for export contracts which were concluded on or before 14 September 2006, provided the exported goods could be exported and the proper customs export declaration procedures could be completed on or before 14 December 2006. To secure the grandfathering benefits, Chinese export companies must register the relevant export contracts with the responsible tax bureaux before 30 September 2006. The new VAT refund rates will apply if the Chinese export companies fail to do so. Prohibited Commodities for Processing Trade Circular 139 stipulates that any products that are ineligible for export VAT refunds should be classified as prohibited commodities for bonded processing trade in China. Therefore, customs duty and import VAT will apply on the importation of these products or materials even if intended for export. The same tax treatment will also apply with respect to importation of such products into export processing zones or free trade zones in the PRC. Summary Circular 139 reflects a changing policy emphasis from the general encouragement of all export trade, including products that may have a greater adverse impact on the environment, to sector-specific export trade, especially exports of high-tech products. While exports from China are mostly eligible for zero VAT, PRC export companies usually have to bear a non-creditable and non-refundable input VAT cost, which is determined by the difference between the general VAT rate (e.g., 17%) and the applicable export VAT refund rate multiplied by the export price. Under Circular 139, there will likely be a change in the relative VAT burden for many PRC exporters.
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