Expats could lose out under new income rules

EFFECTIVE from January 1, this year all expatriates working in China are subject to a new individual income tax (IIT) announced at the end of October.

A survey by the Chinese Government taken before the enactment of the IIT law claimed it would not have an adverse impact on the majority of the nation's expatriate workers.

But the task of assessing whether you are one of the few affected has been made more complicated by the implementation of the single exchange rate system, which also came into effect on January 1.

Provisions under the new IIT law important in determining your tax liability are as follows.

Tax rates: The top tax rate was and still is 45 per cent.

However, an interim provision issued in 1987 granted expatriates a 50 per cent across-the-board reduction.

As a result, the effective top tax rate before January 1, 1994 was 22.5 per cent. Under the new law, the 50 per cent reduction is no longer applicable.

Source of income: in general, only China-source income was subject to the IIT under the old tax law.

Under the new IIT law, non-residents of China or residents for not more than one year will be subject to tax on China-source income only.

Residents for one to five years will be subject to personal tax on China income plus foreign income actually remitted to China. Residents for more than five years will be taxed on worldwide income.

If you are still considered a resident of your home country and it has a tax treaty with China, the treaty may affect whether you are taxable in China on your non-China income.

Standard Deduction: a standard deduction of 800 yuan (about HK$710) a month is allowed under the new tax law. An additional deduction of 3,200 yuan is allowed for expatriates and certain nationals.

The additional allowance, which is determined by the State Council, will be adjusted for changes in standard of living and foreign currency fluctuations.

If, like most people, you are not interested in number crunching or would prefer to give your accountants the headache of performing the analysis, the following summarises the break-even points between the old and the new tax laws.

If you are covered by a tax equalisation policy (that is, you are only responsible for an amount calculated on the basis of what you would pay in your home country), you can determine your tax liability using the gross-up method.

In this case, the break-even point is about 68,500 yuan per month. In other words, your IIT will increase if your grossed-up taxable salary is above about US$142,000 (HK$1.1 million) a year (using the old exchange rate of US$1 to 5.7855 yuan).

For those of you responsible for your own tax liability, the break-even point is about 44,500 yuan a month, or US$92,300 a year.

If you have been on an overseas assignment for many years and you fully understand the concept of tax equalisation and its interplay with your hypothetical tax liability, you might believe that irrespective of what has happened to your host country's taxlaws, your take home pay will remain the same.

However, you might still be affected, if not by the new IIT law, then by the abolition of the dual exchange rate system on December 31 last year.

As a result of the abolition, the break-even analysis discussed above provides only half the story.

Using a new exchange rate of US$1 to 8.6783 yuan, the new break-even points will be: US$94,800 per year under the gross-up method, and US$61,800 per year under the non gross-up method.

The new rate could put you automatically into a higher tax bracket.

If this is the case, the overall impact of the new tax laws together with the currency changes might suddenly come across as a lot harsher than you initially anticipated.