What was held in the recent ruling on Taxing Permanent Establishments Of Hong Kong Offshore Trading Companies conducting trading and services via PRC subsidiaries?

08/03/07

Notice 970 is a case ruling addressing the questions raised by the Beijing City Tax Bureau concerning the taxability of a Hong Kong Company conducting trading and services via its PRC subsidiary.
 
The case examines a Hong Kong Company and its subsidiary in Beijing; the same shareholder, who spent the majority of the time working at the Beijing subsidiary, controlled them. Both companies sold petrochemical equipment and provided engineering and technical services.
 
However, the Hong Kong Company did not have actual business activities or employees in the Hong Kong Special Administrative Region. All the equipment sales contracts of the Hong Kong Company were signed by the Beijing subsidiary or the subsidiary’s shareholders / employees. Likewise, engineering and technical services were mainly provided by the Beijing subsidiary.
 
The SAT concluded that the Hong Kong Company had a “Permanent Establishment” in the PRC, according to the “Arrangement between Mainland China and the Hong Kong Special Administrative Region for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion” (HK DTA). As a result, all the profit of the Hong Kong Company was deemed taxable in the PRC.
 
Although this is a specific case ruling, which does not apply to other taxpayers in general, shows that the SAT holds a clear view on the taxing of entities that carry out trading activities in the PRC. 
 
Under certain tax treaties, the HK DTA and similar arrangements made between the Macau Special Administrative Region and Mainland China, the SAT can enforce the exchange of information clause to obtain the tax information of offshore companies from offshore tax authorities. As such, offshore companies similar in structure to the company in this case could be required to pay PRC tax.
 
In order to reduce potential PRC tax exposure, entities with business activities in the PRC should review their mode of operations.

The principles held in the ruling 

·   The State Administration of Taxation (SAT) recently ruled on a case concerning the taxation of a Hong Kong Company conducting business activities via its related company in the PRC.
·   The Hong Kong Company had to pay PRC tax on its entire profits.
·   This article discusses the ruling and its implication for companies with operations in China.

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