Major Amendments to the China Individual Income Tax Law 2018
On 31 August 2018, the Chinese Government released newly amended Individual Income Tax Law (new IIT Law). This is the 7th revision to the law since its implementation since 1980. This 7th amendment introduced the concept of comprehensive income and is arguably the largest amendment to the law yet, in terms of the scope and importance of the changes. The new IIT Law is set to take effect on 1 January 2019.
This amendment to the IIT Law and is considered to be the most important once as it includes fundamental changes to the definition of a resident and the consolidation of various categories of income. It is grouped four categories of labor income, including income from salary and wages, income from provision of independent personal services, income from author’s remuneration and income from royalties, into the scope of “Comprehensive Income”, and one set of progressive tax rates will apply for determining the IIT. The year after the year of receiving the comprehensive income, the resident taxpayers are required to proceed annually individual income tax return during March 1st to June 30th. Non-resident taxpayers shall be taxed by per month or per case while taxable income raised.
The adjusted standard deductions and tax rates will take effect on 1 October 2018, 3 months earlier the effective date of the new law. During the period from 1 October 2018 to 31 December 2018, salaries and wages shall be allowed to be deducted by RMB 5,000 to arrive at the net taxable income and apply the rates to arrive at tax payable amount without additional deductions applied.
Kaizen suggest that foreign invested companies review their payroll and IIT declaration processes and communicate the changes with their expatriate and local employees to ensure a smooth transition. As to the Chinese individuals, they may want to ensure their lease agreements, education agreements, and other supporting documents are up to date in order to enjoy the new tax benefits.
1. Introduction of Definition and Determination of Residents and Non-resident
The new IIT Law introduced the concepts of resident and non-residents for tax purposes and changed the tax residence rule form the existing one-year test to a 183-day test.
Under the existing IIT Tax Law and its implementing rules, a tax resident includes both domiciliaries and non-domiciliaries who stay in China for a “full year.” A “full year” means the person is not absent from China for over 30 days in a single trip or over 90 days in multiple trips during the tax year. An individual who has domicile in China or who is non-domiciled but has resided in China for more than a year shall pay individual income tax for all income derived in and outside China; An individual who has no domicile and has not resided in China, or who is non-domiciled but has resided in China for less than a year shall pay individual income tax for income derived in China.
Accordingly to the new IIT Law, An individual who has a domicile in China or who is non-domiciled but has resided in China for 183 days or more in a tax year will be deemed as a tax resident, and shall pay IIT for all income derived in and outside China according to the provisions of the IIT Law. Whereas an individual who has no domicile and does not reside in China, or who has no domicile and has resided in China for less than 183 days in a tax year, will be deemed as a non-resident. They shall pay individual income tax on income derived from China according to the provisions of the IIT Law.
Table 1- Comparison of categories of taxpayer
| Existing IIT Law | New IIT Law | ||
| Two categories of taxpayers | Resident and non-resident taxpayer | ||
| 1. | An individual who has domicile in China or who is non-domiciled but has resided in China for more than a year shall pay individual income tax for all income derived in and outside China. | 1. | An individual who has domicile in China or who is non-domiciled but has resided in China for 183 days or more in a tax year will be deemed as a resident and shall pay individual income tax for all income derived in and outside China. |
| 2. | An individual who has no domicile and has not resided in China, or who is non-domiciled but has resided in China for less than a year shall pay individual income tax for income derived in China. | 2. | An individual who has no domicile and does not reside in China, or who has no domicile and has resided in China for less than 183 days in a tax year, will be deemed as a non-resident. They should pay individual income tax on income derived from China. |
2. Implementing Comprehensive Taxation on Incomes
The current IIT Law adopts a schedular income tax system, with 11 categories of income item subject to IIT at different rates.
At the same time, income from a production or business operation conducted by the self-employed will be re-classified as “Income from Operations,” and income from contractual or leasing operations to enterprises and institutions will be incorporated into Comprehensive Income or Income from Operations depending on the nature of the income.
Table 2-Comparison of Categories of Income
| Existing IIT Law | New IIT Law | ||
| 11 Categories of taxable income | 9 Categories of taxable income | ||
| 1 | Income derived from salary and wages. | 1 | Income derived from salary and wages. |
| 2 | Income derived from production, operation derived by industrial and commercial households. | 2 | Income derived from operation of business. |
| 3 | Income derived from contractual or leasing operations of enterprises or intuitions. | ||
| 4 | Income derived from provision of independent personal services. | 3 | Income derived from provision of independent personal services. |
| 5 | Income derived from author’s remuneration. | 4 | Income derived from author’s remuneration. |
| 6 | Income derived from royalties. | 5 | Income derived from royalties. |
| 7 | Income derived from interest, dividends and extra dividends. | 6 | Income derived from interest, dividends and extra dividends. |
| 8 | Income derived from lease of property. | 7 | Income derived from lease of property. |
| 9 | Income derived from transfer of properly. | 8 | Income derived from transfer of properly. |
| 10 | Contingent income. | 9 | Contingent income. |
| 11 | Other income determined by the fiscal authorities of the State Council. | ||
The new IIT Law grouped four categories of labor income, including income from salary and wages, income from provision of independent personal services, income from author’s remuneration, and income from royalties, into the scope of “Comprehensive Income,” and one set of progressive tax rates will apply for determining the IIT. Tax residents will be taxed on an annual basis while non-residents will still be taxed on monthly taxable income or as and when taxable income arises.
Income from operations, interest income, dividends, income from property leasing, income from the transfer of an asset, incidental income, and other income will still be taxed separately at the rate prescribed for that category of income.
Table 3- Comparison of Computation of Taxable Income
| Before | After | |||
| Computation of taxable income | Computation of taxable income | |||
| 1 | For income from wages and salaries, the monthly taxable income is the gross income less a standard deduction of RMB3,500. | 1 | For resident taxpayers, the taxable income is the annual gross amount of the comprehensive income less the standard deduction of RMB60,000, itemised deductions, itemised additional deductions and other deductions as allowed by the prevailing laws and regulations. | |
| 2 | For income from production or business operation derived by individual industrial and commercial households, the taxable income shall be the amount remaining from the gross income in a tax year after deduction of the costs, expenses and losses. | 2 | For non-resident taxpayers, the taxable income for income from wages and salaries is the monthly gross less a standard deduction of RMB5,000; For income from remuneration for labour service, author’s remuneration, royalties, the taxable income is the gross amount of income received each time less a deduction of 20%; income tax on author’s remuneration will be assessed on 70% of the net income after deducting the 20% deemed expenses. | |
| 3 | For income from contracted or leased operation of enterprises or institutions, the taxable income is the annual gross amount of income less necessary expenses. | 3 | For income from business operation, the taxable income is the annual gross amount of income less costs, expenses and losses. |
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| 4 | For income from remuneration for labour service, author’s remuneration, royalties and lease of property, the taxable income is the gross amount of income less a deduction of RMB800 if the gross amount is less than RMB4,000, or the gross amount less a 20% deduction if the gross amount is more than RMB4,000. | 4 | For income from lease of property, the taxable income is the gross amount of income less a deduction of RMB800 if the gross amount is less than RMB4,000, or the gross amount less a 20% deduction if the gross amount is more than RMB 4,000. | |
| 5 | For income from conveyance of property, the taxable income is the gross selling price less acquisition costs and related reasonable expenses. | 5 | For income from conveyance of property, the taxable income is the gross selling price less acquisition costs and related reasonable expenses. | |
| 6 | For interest, dividends, bonuses, contingent income and other income, the taxable income is the gross amount of income received. | 6 | For interest, dividends, bonuses, contingent income and other income, the taxable income is the gross amount of income received. | |
3. Tax Rate and Brackets for Comprehensive Income
Currently, salaries and wages are subject to progressive tax rates ranging from 3% to 45%, with seven tax brackets.
Under the new IIT Law, income under the category of Comprehensive Income will be subject to tax annually instead of monthly. The tax rates will be revised based on the existing rates applicable to salary and wages, i.e., widening the tax brackets with applicable tax rates of 3 percent, 10 percent, and 20 percent; narrowing the 25-percent tax bracket, and meanwhile maintaining the tax brackets for three higher levels at 30 percent, 35 percent, and 45 percent unchanged.
Table 4- Tax bracket and rate of comprehensive income
| Bracket | Month (RMB) | Year (RMB) | Tax Rate | ||
| Taxable Income (A) | Quick Deduction | Taxable Income (B) | Quick Deduction | ||
| 1 | ≤3,000 | 0 | ≤36,000 | 0 | 3% |
| 2 | 3,000<A≤12,000 | 210 | 36,000<A≤144,000 | 2,520 | 10% |
| 3 | 12,000<A≤25,000 | 1,410 | 144,000<A≤300,000 | 16,920 | 20% |
| 4 | 25,000<A≤35,000 | 2,660 | 300,000<A≤420,000 | 31,920 | 25% |
| 5 | 35,000<A≤55,000 | 4,410 | 420,000<A≤660,000 | 48,510 | 30% |
| 6 | 55,000<A≤80,000 | 7,160 | 660,000<A≤960,000 | 78,760 | 35% |
| 7 | >80,000 | 15,160 | >96,0000 | 166,760 | 45% |
4. Tax Rates on Income from Operations
The tax rates on income from operations are based on the existing tax rates applicable to income from a production or business operation conducted by self-the employed and income from contractual or leasing operations to enterprises and institutions, Income from Operations will still be subject to progressive tax rates ranging from 5 percent to 35 percent with appropriate adjustments to be made to each tax bracket, together with an increase of the lower band for the 35-percent tax bracket from RMB100,000 to RMB500,000.
Table 5- Tax Bracket and Rates for Business Operation Income
| Bracket | Monthly taxable income (A) (RMB) | Tax Rate |
| 1 | ≤30,000 | 5% |
| 2 | 30,000<A≤90,000 | 10% |
| 3 | 90,000<A≤300,000 | 20% |
| 4 | 300,000<A≤500,000 | 30% |
| 5 | >500,000 | 35% |
5. Standard Basic Deduction
Under the existing IIT Law, the standard basic deduction for income from salaries or wages is RMB3,500 per month, and for income from remuneration of labor service, author’s remuneration, royalties, the standard deduction is RMB800 for income less than RMB4,000 and 20% of the income received if the amount of income is more than RMB4,000.
The new IIT Law changed the tax calculation from monthly basis to annual basis and increases the standard basic deduction from RMB3,500 per month to RMB60,000 per annum (RMB5,000 per month) in respect of the comprehensive income for resident taxpayers.
For non-resident taxpayers, IIT is still calculated by month or by time. Their payable tax amount shall be calculated according to the monthly income converted from the annual income provided in the table above. The standard deduction amount will be increased to RMB5,000 per month.
The new tax rates and increased standard deduction amount will take effect from 1 October 2018.
Table 6- Comparison of Standard Basic Deduction
| Existing IIT Law | New IIT Law | |||
|
1 |
RMB3,500.00 per month. |
1 |
RMB5,000 per month (RMB60,000 per year). | |
| 2 | An additional deduction of RMB1,300 per month is available to those taxpayers who has not resided in China but received the salaries or wages resourced from in China and for those who has resided in China and received salaries or wages outside China. | 2 | Removed the additional deduction. | |
6. Specific Additional Deduction
The new IIT Law not only increased the standard basic deduction for comprehensive income and kept those specific deductions, it also introduced specific additional deductions. The existing specific deductions include the contribution of statutory endowment insurance, statutory medical insurance, unemployment insurance, housing fund. The specific additional deductions introduced by the new IIT Law include children’s education expenses, continuing education fees, critical illness medical expenses, housing mortgage interest, rental expense, and elderly care expenses. The detailed rules and regulations for specific additional deductions have yet to be determined by the State Council.
7. Tax Assessment, Collection, and Filling
Resident taxpayers who received comprehensive income shall be taxed on annual basis. Where there is a withholding agent, the withhold agent shall withhold tax on a monthly basis or at the time an income is received. After the year end, if additional tax to be paid or excessive tax to be refunded, the taxpayer should process tax clearance accordingly. Taxpayers who received comprehensive income and required tax clearance, shall process tax clearance during March 1 to June 30 in the following year.
A taxpayer who receives taxable income and in the case where his withholding agent does not withhold the tax for him, should pay the tax before 30 June in the following year. Or in the case where the authority issues notice demanding payment of tax, the taxpayer should pay the tax demanded within the deadline stipulated in the notice.
A taxpayer who receives income from outside China shall file his tax return and pay tax during 1 March to 30 June in the following year. Comparing to the old IIT Law, the amendment extended deadline for filing of return and payment of tax for five months.
For tax residents who earned foreign source income, the amount of individual income tax paid overseas can be deducted from the IIT payable in China. However, the amount deducted should not exceed the IIT payable calculated in accordance with the IIT Law in China on their foreign source income.
For non-resident taxpayers who received income from salaries and wages, remuneration for labour service, author’s remuneration and royalties and where there is a withholding agent, the tax shall be withheld by withholding agents on monthly basis or each time income is received, as the case maybe. And in that case, annual tax clearance is not required.
8. Tax Settlement for Immigration
According to the new IIT Law, if a taxpayer wishes to deregister his household registration (Hukou) because of immigration, he shall settle his individual income tax before deregistering his household registration.
9. Anti-tax Avoidance Clause Added
The new IIT Law also added an anti-tax avoidance clause. Under the new IIT Law, where any of the circumstances outlined below applies, the Tax Authority shall be empowered to adjust tax, collect tax underpayments and impose interest surcharge resulting from tax remediation.
(1) Where the business deals between an individual and his related parties are in violation of the arm’s length principle (ALP) and are unreasonable;
(2) Where the enterprise, which is controlled by an individual, or jointly controlled by an individual and resident enterprise, is set up in a state (region) that obviously has a lower actual tax burden and has no profits-sharing or reduced profits-sharing on that which should be attributed to the individual, without reasonable business needs;
(3) Where an individual obtains improper tax benefits from other unreasonable commercial arrangements.