Transitional provisions for PRC Individual Income Tax preferential tax treatment
Transitional provisions for PRC Individual Income...
China Tax Alert - Issue 31, December 2018
The Ministry of Finance and the State Administration of Taxation have jointly released Circular 164 entitled “Notice of issues concerning the transitional policies on preferential tax treatments under the amended PRC IIT law”.
Following on from the new IIT Law which came into force on 1 January 2019, Circular 164 sets out transitional measures for the application of preferential tax treatment for tax-exempt benefits for foreign employees, annual bonuses, equity based compensation and severance payments.
Three-year transitional policy
The tax preferential treatments which existed under the previous tax regime will be extended from 1 January 2019 for a period of three years on the following types of income:
Tax-exempt benefits for foreign employees
Foreign employees who are PRC tax residents (i.e. reside in China for 183 days or more during the calendar year concerned) may elect to either:
- Claim itemised deductions under the new IIT regime; or
- Continue to claim tax exemption on certain fringe benefits as prescribed under Guoshuifa  No 54 (“Circular 54”).
Individual taxpayers and their withholding agents can elect to apply either of the following methods to calculate IIT on annual bonus payments:
- Continue to enjoy the existing preferential tax treatment (i.e. divide the bonus by 12 for determination of the applicable tax rate and quick deduction based on the tax rate bands in Appendix 1); or
- Aggregate the bonus with other Comprehensive income derived during the same year.
Equity based compensation
- Qualified equity based compensation income can be treated as a separate source of income from Comprehensive income for IIT calculation purposes.
- The IIT rate bands in Appendix 2 will apply for IIT calculation purposes.
- Multiple instalments of equity based compensation derived during the same year must be aggregated for the purpose of applying the preferential tax treatment.
Amendment to certain preferential tax treatments
Withdrawals from qualified enterprise annuity
- Withdrawals can be treated as a separate source of income from Comprehensive income for IIT calculation purposes.
- With respect to withdrawals which are paid on a monthly basis, the rates in Appendix 1 will apply.
- Withdrawals which are paid on a quarterly basis will be divided by 3 for determination of the applicable IIT rate, based on the rates in Appendix 1.
- For withdrawals paid on an annual basis or due to reasons such as emigration or upon death, the IIT rates in Appendix 2 will apply.
- Qualified severance payments in excess of 3 times of the prior year’s local average wages will be treated as a separate source of income, and the rates in Appendix 2 will apply.
- One-off compensation for early retirement can be treated as a separate source of income from Comprehensive income and amortised over a period equal to the number of years between the date of early retirement and the mandatory retirement date for IIT calculation purposes. The rates in Appendix 2 will apply.
Other IIT preferential treatments remain intact under the new PRC IIT regime.
The release of Circular 164 is in line with the government’s recent strategy to retain the stability of governmental policies and to ensure the overall reduction of tax burdens for individual taxpayers.
In applying these preferential treatments, individual taxpayers and their withholding agents need to consider the following:
- For preferential tax treatments which are subject to the three-year transitional period, companies should pay close attention to regulatory updates. They should analyse the new rules when preparing their tax cost forecasts, and review their talent retention strategies and policies as well as their tax reimbursement policies.
- Whilst the preferential tax treatment for annual bonuses will be retained during the transitional period, the “inefficient payment of annual bonus” issue remains. We recommend that companies review their bonus payment schemes in advance of payment in order to mitigate unnecessary costs.
- In applying any preferential tax treatment, individual taxpayers and their withholding agents should familiarise themselves with the relevant qualifying conditions, including reporting requirements.
- Where an election is available, individual taxpayers and their tax withholding agents should plan for elections to be made in advance of the payment.
KPMG will continue to pay close attention to the relevant circulars to be promulgated under the new IIT regime and to share our observations. Please contact us for the most updated news in relation to IIT reform and other tax regulations.
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