China’s New Related Party Transaction Reporting Regulation: Implications for Annual Audit in China

By China Briefing

Posted: 1st December 2016 08:16

As the end of the financial year looms, key considerations in respect of annual audit should be made by multinational entities (MNEs) operating in China. On June 29, 2016, China’s State Administration of Taxation (SAT) issued a notice regarding reporting of related party transactions and administration of transfer pricing documentation (SAT public notice [2016] No. 42), hereby referred to as ‘Notice 42’, which was overviewed in our previous article. It updates and provides new transfer pricing requirements and special tax revisions previously provided in Guo Shui Fa [2008] No. 114 and Guo Shui Fa [2009] No.2, sections of which have been replaced or annulled. Notably, it details on annual reporting forms for related party transactions (RPT forms), which this article explores in depth.
 
New law

The new law stipulates that a report of yearly related party business transactions should be submitted to tax authorities along with yearly enterprise income tax returns by both resident and non-resident enterprises that have established entities or premises in China. In the report, the number of related party filing forms has been increased from nine to 22, including information disclosure of the Country-by-Country (CBC) Report. The new law indicates that the filing report is required to contain the following:
Additionally, the CBC Report form needs to be filed in accordance with the information disclosure requirement stipulated by Action 13 of the OECD’s Base Erosion and Profit Shifting (BEPS) Project. CBC Reports are required for the following taxpayers, and must be submitted in both English and Chinese for either:
Definition of related party transactions

The new law also expounds on what is considered a related party transaction, laying down a clear outline as follows:
Transfer of use rights or ownership of intangible assets, which include patents, non-patented technologies, commercial secrets, trademarks, brands, client lists, sales channels, franchise rights, government licensing, copyright, and other such items.
Analysis and risk management

The increase of filling forms somewhat increases risks for multinational enterprises. The segmented financial report will provide a comparison of the profitability between related parties and non-related parties, and a substantial disparity between the two will trigger the attention of tax authorities, thus constituting an increase of taxpayers’ risk. Therefore, for entities who have not previously prepared segmented financial reports in the past, it is advisable to base this financial year’s report on 2015 financial data and then revise it if there is a noticeable disparity between profits and sales.

Furthermore, compliance burden for taxpayers will be increased by the tightened requirement for information disclosure of overseas related parties, and as some entities maintain multiple related party relationships, one way to keep abreast of the increased burden is to ensure relevant information is collected in both an accurate and timely fashion.

The related party transaction forms will become instrumental components for tax authorities to select investigation targets via the means of big data analytical systems, which have been implemented by the SAT across the board of tax authorities. This highlights the overall importance of upholding compliance, and implementing effective management of related party transactions.

China’s adherence to the OECD’s tax principles in the form of the BEPS project is a sign that the country is making efforts, along with other member countries, to minimize tax avoidance committed by MNEs by further governing their conduct and operation. New regulation informing related party transaction reporting ultimately serves to ensure that profit allocation aligns with profit formation, and is a sign that China’s tax authorities will commit to more frequent and stringent action to ensure a uniform and effective transfer pricing administration. Thus, companies must be aware of the risks and implications the new regulation brings, especially in its requirement for an increased volume of filing reports, and should adjust management systems as well as take further action to be fully compliant in order to avoid incurring penalties from tax authorities.
 
This article was first published on http://www.china-briefing.com/news/2016/11/24/new-related-party-transaction-reporting-regulation-implications-investors.html 
 
Since its establishment in 1992, Dezan Shira & Associates has been guiding foreign clients through Asia’s complex regulatory environment and assisting them with all aspects of legal, accounting, tax, internal control, HR, payroll and audit matters. As a full-service consultancy with operational offices across China, Hong Kong, India and emerging ASEAN, we are your reliable partner for business expansion in this region and beyond.
 
For inquiries, please email us at info@dezshira.com. Further information about our firm can be found at: www.dezshira.com

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