Taxation of Representative Offices in China (5) – Deemed Revenue and Deemed Profits

5.1. Deemed Revenue

The following gross-up formula is prescribed by the tax bureau to estimate the taxable revenue from the costs of the Permanent Representative Office:

Taxable revenue = Total expenses of the RO (1 – BT – Deemed profit rate)

This may be an easier way to understand the rationale behind estimating tax revenue. BT should also be regarded as part of the expenses of a Permanent Representative Office. A business is expected to make a profit. The tax bureau believes that a RO is expected to earn:
Estimated taxable revenue (R)
= (Total expenses + BT) + Deemed profit margin
= Total expenses + R x 5% + R x 10%
= Total expenses / (1 – 5% – 10%)
= Total expenses / 0.85

Accordingly, the revenue is about 117% of the total expenses (not including BT). The mark-up rate is 10% of the taxable revenue but is indeed more than 17% of the total expenses. A cost mark-up rate of 17% for ¡¥low-value’ liaison and marketing services is at the high end in international business practice.

5.2. Deemed Profits

Estimated assessable profit
= Estimated taxable revenue x Deemed profit rate (currently at 10%)

Since ‘total expenses’ of a Permanent Representative Office is used in the above estimation, the taxable revenue for the Permanent Representative Office could be overestimated if part of the RO’s expenses is attributable to the tax-exempt activities of the Permanent Representative Office. If such a case does happen, representatives from the RO may wish to discuss with the tax bureau in charge to ensure the Permanent Representative Office is fairly treated.