by Shaomei Chen
For the conference of 21st February 2019 on the Belt and Road Initiative (BRI), three blogposts have been published on the investment law, international law and international tax law aspects of the BRI. This is the 3rd blogpost
As an advocate for the globalization of economies, China has committed significant efforts to international tax measures: it has actively participated in developing and implementing the BEPS project to combat tax avoidance, and has enhanced and continuously called for tax cooperation with other countries. In addition, the importance of tax certainty has drawn the attention of China, for which China has undertaken a number of measures in recent years. These measures aim to enhance tax certainty for both taxpayers and governments, and to reduce tax frictions for cross-border investment along the Belt and Road Initiative (BRI). This note looks at these measures and explores some remaining issues of tax uncertainty under the BRI.
- The role of tax certainty for China in the BRI
Under the BRI, tax certainty is imperative for China, in particular for its “going-global” companies. As the BRI involves an enormous amount of cross-border investment, international tax issues encountered by Chinese companies increasingly arise, particularly in connection with the avoidance of double taxation and the settlement of tax disputes. Nevertheless, tax administration in China has been subject to intense criticisms for a long time, e.g. because of the uncertainty arising from the extensive body of tax rules, scattered among documents issued by the State Tax Administration (STA), and of the excessive bureaucracy to comply with tax rules and to resolve a tax dispute. Excessive tax uncertainty would exert negative repercussions on cross-border investment and therefore would derail the BRI, if no actions were taken.
The benefits of tax certainty were also stressed by the G20 at the September 2016 Summit in Hangzhou, China. Following that, the OECD and IMF published two reports on tax certainty, identifying the sources of uncertainty in tax matters and a set of solutions to enhance tax certainty. Improving tax certainty is one of the focuses on the global stage at the moment.
- China’s efforts in increasing tax certainty
Tax certainty can be increased in the design of tax policy and legislations, the performance of tax administration, and the resolution of tax disputes. Specifically, China has undertaken the following measures:
- Establishing a broad tax treaty network
With respect to cross-border investment, the existence of tax treaties is important. It increases tax certainty by setting out the limits on the taxation by the foreign state. In addition, it harmonizes tax definitions and defines taxable bases (Bake (2014)). China started treaty negotiation in 1981 and concluded its first treaty (with Japan) in 1983. Since then, China has continuously expanded its tax treaty network. So far, China has concluded 110 bilateral tax treaties (102 in force). Amongst these treaties, 54 have been signed with the BRI countries, covering most countries along the BRI. Some of the treaties were concluded after the launching of the BRI in 2013, e.g. treaties respectively with Chile, Zimbabwe, Cambodia, Kenya, Gabon, Congo, Angola and Argentina, with a clear intention of removing tax frictions along the BRI.
- Detailing and broadening unilateral double taxation relief
Unilateral double taxation relief is provided under the Enterprise Income Tax Law (EITL) of China, but the relevant provisions are brief. The State Tax Administrations (STA) have issued detailed guidance to remove uncertainty about the ability to obtain unilateral double taxation relief by companies deriving foreign income. Further, more benefits are granted to further reduce potential tax burden suffered by Chinese companies. For instance, per country limitation for the application of direct foreign tax credits has been removed since 2017. Indirect foreign tax credits can be claimed down to the fifth (instead of third) tier of foreign affiliated companies since 2017.
- Strengthening treaty-related tax dispute resolution mechanism
Tax treaties provide a particular government-to-government dispute resolution mechanism, i.e. mutual agreement procedure (MAP), in case of conflicts of understanding between the contracting states. Although provisions of MAP have always been included in China’s tax treaties, the number of MAP cases initiated by China was rather limited before 2010. But with increasing outbound investments by Chinese companies, MAP becomes an important tool for tax dispute resolutions. To streamline the MAP mechanism, the STA issued detailed guidance governing the MAP process, which allows more efficient MAP application by Chinese companies. Further, it is reported that China has made significant progress in increasing its efficiency in resolving MAP cases.
- Reducing bureaucracy of tax administration
Since 1994, when the tax-sharing system was introduced, there had been two parallel systems of tax administration in China with separated chains of command. Chinese tax authorities at provincial levels and below were divided in two, namely state and local tax bureau, responsible for the administration of central taxes and local taxes respectively. The complexities of such dual systems had created many challenges for taxpayers, particularly with respect to tax compliance. In 2018, China undertook an overhaul by adjusting its tax administration system. The local tax bureaus at provincial levels and below are now merged into the state tax bureaus, which would have implications for ease of compliance. In addition, the Chinese tax authorities have been committed to simply the procedures for a number of tax matters, e.g. on the application for tax residency certificates, and for advance pricing agreements (APAs).
- Providing tax services to taxpayers
To facilitate tax matters along with the BRI, the STA has launched a featured webpage, on which it publishes legislations, guidelines and reports applicable to Chinese companies that embark upon outbound investment projects under the BRI. On the webpage, it has published 59 country-specific taxation guidelines, introducing the business environment and tax systems of the relevant countries and a 245-page guidance of China’s tax policies, tax treaties, and tax administration.
- Issues of tax uncertainty
Although the above measures have enhanced tax certainty in China, there are more challenges ahead. The following paragraphs set out some issues of tax uncertainty and some recommendations to resolve them.
- Prescribing tax rules informally
Some tax measures mentioned above were initiated by the STA, an executive branch of the State Council, in the form of informal documents (“circulars” or “bulletins”) which arguably would not be regarded as having the force of law by courts in China according to the Law on Legislation. This is not unique. In fact, many tax rules in China are promulgated through myriad informal documents by the STA and the Ministry of Finance. The publication of informal documents instead of formal sources of law avoids bureaucratic procedures. It is also not subject to requirements of solicitation for public input. Nevertheless, the lack of internal pre-review and public input brings risks of arbitrary exercises of administrative discretion and results in uncertainties with respect to the coherence and consistency with upper law.
Recommendations: Codify existing rules and put them in statutory form in order to clarify the legal effect of the rules. Any proposed rules that would influence rights and obligations of taxpayers should be subject to solicitation for public input and more stringent procedures. These recommendations are in relation to the enhancement of the rule of law in the area of taxation in China, for which Cui has made a comprehensive analysis (Cui (2011)).
- Using incoherent wordings for provisions of tax treaties
Although having concluded so many tax treaties, China has not published its model tax treaty. China’s tax treaties normally adopt the OECD Model or the UN Model but have deviations from it. When examining provisions of China’s tax treaties with the BRI countries, provisions of these treaties vary widely in terms of definitions used (e.g. PE, royalties, state-owned financial institutions), which may result in uncertainties with respect to the application of the treaties. For instance, many treaties provide preferential treatment to interests received by state-owned financial institutions in China. Some treaties have an exhaustive list of the institutions that constitute state-owned financial institutions in China, whereas some treaties are silent on it. Even amongst the treaties that contain a list of qualified financial institutions, the institutions included in the lists are different. This creates potential issues as many infrastructure investments under the BRI are funded by public banks. Some cases have been reported on the conflicts of understanding between China and the tax treaty partner regarding the qualified financial institutions under a tax treaty, though these cases have been resolved through the MAP.
Recommendations: China should consider publishing its model tax treaty, harmonizing some key provisions and concepts used in tax treaties, e.g. PE definition, royalties, state-owned financial institutions. Based on the model tax treaty, China should update the existing tax treaties with the BRI countries. This could be done by a multilateral instrument, inspired by the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS (2017).
- Lacking sufficient tax administration capacity
China has made great progress in increasing efficiency in tax administration. Nevertheless, demand from taxpayers still far exceeds the capacity of Chinese’s tax authorities. It can be illustrated by the conclusion of APA. The STA is committed to promote APA, since APA provides certainty for tax authorities and taxpayers in regard to transfer pricing issues for future years. Notwithstanding the commitment, only 8 APAs were concluded by the STA in 2017, and many applications by taxpayers were declined in the first place. One of the reasons is that the STA has no sufficient capacity to deal with issues concerning complex international tax rules.
Recommendations: Strengthen capacity building and training in tax administration through cooperation with the BRI countries and tax academia. This can be achieved under the mandate of a multilateral forum on tax administration, on which China and the BRI countries can share knowledge and best practices.
- Regarding treaty-related dispute resolution mechanisms
MAP, as the only dispute resolution mechanism provided under China’s tax treaties, is subject to the problems of being time-consuming, involving taxpayers less, and imposing no obligations on the competent tax authorities to reach an agreement (Xu (2018)). At the moment, China is still reluctant to resolve treaty-related tax disputes through arbitration due to its concerns on tax sovereignty. It is suggested by the fact that China has not opted in for mandatory arbitration as a supplement to the MAP when signing up for the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS (2017). In addition, taxpayers in China rarely challenge tax authorities judicially. An efficient and effective dispute resolution mechanism remains to be developed.
Recommendations: As advocated by Ji and Chaisse, China should consider to incorporate the provisions on mandatory arbitration into its treaties, which would apply if a mutual agreement cannot be achieved within two years. It would send a clear message to the world with respect to China’s commitment in tax certainty and protection of taxpayers’ rights.
China has made significant advances in increasing tax certainty. However, there are still various issues of tax uncertainty in relation to the rule of law, tax administration and dispute resolution. To facilitate cross-border investment under the BRI, increasing tax certainty will still be the focus of China in the area of taxation in future years. Some issues of uncertainty have to be resolved unilaterally, whereas many issues can be better tackled through international cooperation. During the BRI Tax Cooperation Conference in Kazakhstan in 2018, China advocated cooperation in tax matters with the BRI countries. In this respect, a structured multilateral tax cooperation initiative under BRI may be put forward. As it concerns the interests of different economies, it is yet to be seen how far it can go.
 State Taxation Administration (STA), Ministry of Finance (MOF), Circular on Relevant Issues Concerning the Tax Credit of Enterprise’s Overseas Income, Caishui  No. 125; STA, Bulletin on Issuing Guidance of Tax Credit of Enterprise’s Overseas Income, Bulletin  No. 1; STA, MOF, Circular on Refining Issues of Tax Credit of Enterprise’s Overseas Income, Caishui  No. 84.
 STA, Bulletin on Issuing ‘Measures for Implementing Mutual Agreement Procedure under Tax Treaties by the State Tax Administration’ Bulletin  No. 56; STA, Bulletin on Issuing ‘Administrative Measures on Special Tax Investigation and Adjustment and Mutual Agreement Procedures’ Bulletin  No. 6.
 STA, Bulletin on the Issuance of Chinese Tax Residency Certificate, Bulletin  No. 40.
 STA, Bulletin on Issues Related to Improving the Administration of Advance Pricing Arrangements, Bulletin  No. 64 and STA, Bulletin on Issuing ‘Administrative Measures on Special Tax Investigation and Adjustment and Mutual Agreement Procedures’ Bulletin  No. 6
Philip Baker, ‘An Analysis of Double Tax Treaties and their Effect on Foreign Direct Investment’ (2014) 21 (3) International Journal of the Economic of Business 341
Wei Cui, ‘The Rule of Law in Chinese Tax Administration’ in Chris Evans, Judith Freedman and Richard Krever (eds), The Delicate Balance Tax, Discretion and the Rule of Law (IBFD, 2011)
Michael Lang and Jeffrey Owens (eds), Removing Tax Barriers to China’s Belt and Road Initiative (Kluwer Law International, 2018)
Jonathan Schwarz, ‘Tax Certainty: Cure the Disease Not the Symptom’ in Kluwer International Tax Blog (accessed on 7 Feb. 2018: http://kluwertaxblog.com/2018/08/28/tax-certainty-cure-disease-not-symptom/)
Diheng Xu, ‘Improved Tax Dispute Resolution between China and the ASEAN Countries under the Belt and Road Initiative’ (2018) 72 (12) Bulletin for International Taxation 732