China Sets Out How To Determine Beneficial Owner For Treaties

On February 3, 2018, China’s State Administration of Taxation set out new rules on the disallowance of tax treaty benefits where an entity fails to demonstrate it is the beneficial owner of Chinese assets from which passive income is derived.

A beneficial ownership requirement is introduced in treaties to prevent treaty shopping, where an intermediary is interposed in a set of transactions for another entity to inappropriately obtain treaty benefits despite being in a third country – so-called triangulation. Where applicable, treaty benefits can be denied if the recipient fails to demonstrate it should benefit from the status of being the beneficial owner (BO status).

The guidance is set out in State Administration of Taxation Announcement No. 9 of 2018, in Chinese, released February 3, and accompanying Chinese-language guidance on its interpretation released on February 6, 2018, in “Interpretation of Notice of the State Administration of Taxation on Relevant Issues Concerning Beneficial Owners in Tax Agreements.”

The guidance explains the various factors that may result in treaty benefits being rejected where they are intended only for those with beneficial ownership over the assets from which income – typically dividends, interest, or royalties – is derived.

For instance, the guidance says treaty benefits will be rejected where there is a contractual obligation on the recipient to make an onward payment of sums received to a third party, or where such takes place without a contract, or through a loan arrangement, or where the recipient of royalties income is acting as a proxy for a third party. Among other things, the guidance discusses the rejection of BO status in circumstances where income will be subject to low or no taxation in the home state and where the recipient is not engaged in substantive business activities, with exceptions for investment holding and management companies.

It then sets out safe harbor rules, under which treaty benefits will be guaranteed, as well as exceptions from the general rules regarding shareholding and beneficial ownership for dividends income under a new “passthrough regime.”

The rules will apply from April 1, 2018. Announcement no. 9 replaces earlier guidance in Guoshuihan [2009] No. 601 and State Tax General Notice No. 30 of 2012.