How to Calculate Taxes on an Annual Bonus in China?

In China, as in many other countries, it is common practice for employers to provide its employees with an annual bonus based on their annual performance. When considering the appropriate amount of the annual bonus it is important for employers to understand the calculation of Individual Income Tax (IIT) on bonuses, particularly considering regulatory changes to China’s Individual Income Tax framework in recent years (for a complete overview of China’s IIT framework, please read our full article on Individual Income Tax in China). Therefore, this article will provide further insight into the taxation of annual bonuses in China.

Applicable Legislation to Annual Bonuses in China

China’s new Individual Income Tax Law which was implemented as of January 1st 2019, and the subsequent clarifications from the Chinese Ministry of Finance (MoF) and State Administration of Taxation (SAT) of March 14th 2019, introduced the policies determining the taxation of annual bonuses in China.

The newly implemented Chinese Individual Income Tax Law set out a 3-year transition policy from January 1st 2019 until December 31st 2021, during which the former preferential tax policy for calculating IIT over annual bonuses (Guoshuifa (2005) No. 9) will remain applicable. In essence, this policy stipulates that a beneficial tax rate would be applied for a one-time annual bonus, meaning this preferential tax rate can only be applied once per calendar year for each individual taxpayer.

Should an employee however be entitled to receive an additional second bonus throughout the year, the amount of such an additional bonus is to be added to the employee’s monthly taxable income and will be taxed together with their regular monthly income according to the Cumulative Withholding Tax Calculation Method.

Calculating Individual Income Tax on Annual Bonus in China

The first step in order to determine the tax liability over an annual bonus paid in China is to establish whether the individual receiving the bonus is a tax resident or a non-resident, as a different tax calculation will be applicable in accordance with the aforementioned clarifications from the MoF and SAT.

As per Chinese IIT legislation, an individual is considered a tax resident of China if the individual has resided in the country for 183 days or more during a single calendar year. Consequentially, an individual which has resided in China for less than 183 days in a calendar year is considered a non-resident.

Tax Liability on Annual Bonus for Tax Resident

Assuming that an individual’s monthly salary is greater than the IIT exemption threshold, the preferential tax policy stipulates that the amount of Individual Income Tax due on an annual bonus is calculated according to the following method:
 
  • IIT on annual bonus: (taxable income from bonus * applicable tax rate) - quick deduction.
  • Taxable income from bonus: annual bonus / 12
As can be observed from the above calculation method, the applicable tax rate and quick deduction applied to an annual bonus can be obtained by dividing the amount of annual bonus by 12 and thereby deriving the monthly taxable income of the annual bonus. The corresponding tax rate quick deduction can be found in the table below:


 
By means of an illustration, the amount of Individual Income Tax due on an annual bonus of RMB 50.000 paid to an expatriate in Shanghai would be calculated as following:
 
  • Taxable income from bonus: RMB 50.000 / 12 = 4.166,67.
  • IIT on annual bonus: (RMB 50.000 * 10%) - RMB 210 = RMB 4.790.
  • Net bonus received by employee: RMB 50.000 - RMB 4.790 = RMB 45.210.

Tax Liability on Annual Bonus for Non-resident

For an individual who is considered a non-resident, first one must calculate the amount of income from bonuses sourced from China. This calculation is the following:
 
  • China-sourced bonus income: annual bonus * (workdays spent in China in sourcing period / total days in sourcing period).
 Subsequently, in order to determine the applicable tax rate and corresponding quick deduction one must divide the amount of China-sourced bonus income by 6. As a result, the amount of Individual Income Tax due on an annual bonus paid to a non-resident can be calculated as following:
 
  • IIT on annual bonus: (taxable income from bonus * applicable tax rate) - quick deduction.
  • Taxable income from bonus: China-sourced bonus / 6.

Conclusion

With the implementation of the new Individual Income Tax framework as of January 1st 2019, the Chinese authorities have sought to improve the country’s legal framework for governing IIT. Here it is important for employers to understand the methods the Chinese IIT framework sets forth for calculating taxes on annual bonuses paid in China in order to determine the appropriate amount of remuneration for its staff.

Under currently applicable legislation, the preferential tax policy for calculating IIT over annual bonuses remains in effect until the end of 2021. The preferential policy stipulates that a beneficial tax rate is applicable to one-time annual bonuses, whereas any additional bonuses paid throughout the calendar year will be added to a taxpayer’s monthly income and will be taxed together with that monthly income. Although the current preferential tax policy is set to end by December 31st 2021, it is possible that the preferential policy will be further extended, and we are awaiting further announcements from the Chinese taxation authorities.

If you have any questions about the taxation of annual bonuses in China or Individual Income Tax in general, then please visit our IIT & Payroll Services page or contact us at info@msadvisory.com.

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