Businesses face taxing issues

Overseas and Hong Kong enterprises with mainland operations, such as representative offices and foreign partnerships, are subject to various taxes.

The tax liability of branch offices or subsidiaries on the mainland, set up by Hong Kong-based corporations, varies according to the business, says Clement Yuen, China south, tax leader at Ernst & Young. 'Only financial institutions, such as banks, and companies specialising in petroleum exploration are allowed to open branch offices in China,' he says. 'The others can set up operations such as subsidiaries [considered separate legal entities] and representative offices. The latter has limited operational scope, except for law firms.

'The representative offices opened by law firms are allowed to engage in profit-making business activities and regarded as branch offices on the mainland.'

Subsidiaries and branch offices of Hong Kong-based companies are required to keep full sets of accounting records. They need to pay the 25 per cent enterprise income tax and turnover tax, such as business tax for services rendered or value added tax for sales of products, Yuen adds.

'Their employees in China are subject to the individual income tax. These local branches and subsidiaries also need to pay local levies.'

Christopher Xing, principal, tax, at KPMG China, says that under the mainland's Individual Income Tax (IIT) regulations and the Hong Kong-mainland Double Tax Arrangement (DTA), where the HK secondees do not qualify for the DTA IIT exemptions, a mainland entity to which HK employees are seconded has IIT withholding and reporting obligations with respect to the secondees. The secondees may also be required to file IIT returns.

Under revised taxation policy, companies are required to pay tax for their representative offices on the mainland. 'Representative offices opened by Hong Kong companies have tax liabilities, even though they might have been established solely for liaison purposes. Under the Double Taxation Treaty between Hong Kong and the mainland, companies may apply for tax exemption for their representative offices mainly performing preparatory or auxiliary functions. Successful applications are rare,' Yuen says.