Profit Repatriation in China
One of the most common challenges encountered by Foreign Invested Enterprises (FIEs) is how to repatriate funds out of China. Since China’s policies regarding foreign exchange control are strictly regulated, repatriating funds is generally considered to be a difficult task. It is important that these firms prepare a strong repatriation strategy in order to reduce their tax burden.
Our Profit Repatriation White Paper takes a comprehensive look at the available methods to repatriate profits out of China. Download the White Paper now by filling in the request form on the right hand side of the page.
How to Transfer Money from a Chinese Subsidiary to Your Enterprise Abroad?
Companies operating in China who are intending to transfer their profits to another country, may encounter a number of challenges, as the process can be quite complex, depending on the country and mechanism used.
Therefore, it is critical for both entrepreneurs and global businesses to understand the legal challenges associated with cash repatriation at an early stage and build a solid strategy early on. This will ensure that the profit is repatriated within the desired timeframe and without encountering complications. Lastly and quite important to mention is that China’s policies regarding foreign exchange are highly regulated, making repatriating funds generally a more difficult task compared to other countries.
The most common methods of repatriating funds out of China include:
(1) Issuing Dividends to the Parent Company
(2) Service Fees, Royalties and Reimbursements
(3) Outbound Intercompany Loans.
When choosing one of these repatriation strategies, it is important to understand (a) the amount of taxes that is required to be paid, (b) the specific requirements of the repatriation strategy and (c) which mandatory procedure is to be followed.
How is China’s Foreign Exchange Control Framework Different Compared to Other Countries?
China maintains a “closed capital account” meaning both companies and individuals must comply strictly to the foreign exchange rules and money cannot be freely moved into or out of the country.
These foreign exchange regulations are overseen by the State Administration of Foreign Exchange (SAFE) and the People’s Bank of China (PBOC). Cross-border payments require SAFE’s approval and record-filing. Not complying with the requirements can results in
(1) the foreign exchange bureau taking over the capital account information of the foreign invested company and
(2) the bank will not allow the foreign invested company to distribute profits to its foreign shareholders.
A common challenge foreign companies face is the restriction on overseas transfers and running out of funds. This happens most often for newly incorporated companies where they underestimate their costs or overestimate profits, leading to a shortfall of capital. Given the strict regulations on the foreign currency exchange, it is generally recommended to take a strategic approach regarding your funding, especially in the pre-investment stage.
Methods of Profit Distribution in China
The most common methods of repatriating profits out of China are:
(1) issuing Dividends to the Parent Company
(2) Services Fees, Royalties, and Reimbursements, and;
(3) Outbound Intercompany Loans.
Issuing Dividends to the Parent Company
To explain those methods briefly, when a foreign investment company generates a profit, it can choose to re-invest these funds in the business or to issue a share of this profit as a dividend to its shareholders (proportional to the shares owned by each shareholder). This also means that the company in China can transfer a share of its profit to the parent company abroad as a dividend. Only the profits that are repatriated outside of China are then subject to the withholding tax.
The second option that companies have is to repatriate funds via intercompany payments in the form of service fees to the parent company. These payments can be deductible from the China Income Tax (CIT) taxable income. When choosing this method, it is important that the content of the service fee or reimbursement arrangement is supported by a contract and corresponding invoice. Secondly, it is a must that the service fees are priced in a manner that the two companies are both independent to avoid additional taxation.
Another method of intercompany payment are royalties where the parent company can charge for using intellectual property such as trademarks, patents, technology, and copyright. These royalty agreements must be drafted and registered at the trademark bureau and are under strict regulations.
The third and last option are intercompany loans between the parent company and the Chinese subsidiary in China. There are two types of intercompany loans: (1) the Parent Company lends funds to the FIE in China and through interest payments, funds are repatriated, (2) the FIE repatriates funds to the Parent Company through an offshore intercompany loan. As these intercompany loans must be repaid, it is not a permanent solution for profit repatriation.
What is Most Important When Considering Which Method to Choose?
When choosing one of the repatriation strategies, it is important to understand (a) the amount of taxes that are required to be paid, (b) the specific requirements of the repatriation strategy, and (c) the mandatory procedures that need to be followed. Essentially, the main objective is to maximize the funds received by the parent company and to minimize the tax burden. Additionally, many countries worldwide have signed Double Taxation Avoidance Agreements (DTAs) with China, and as such it is essential to review the DTA between China and your home country and assess whether your company can minimize the tax burden on the funds that are to be repatriated. Chinese authorities do not automatically apply preferential DTA tax rates and the Chinese subsidiary needs to apply for them.
When employing any of the repatriation strategies, foreign-invested enterprises in China must realize that a tax burden will arise when repatriating funds from China. Since every company is different, there is no one-fits-all solution to the question of which repatriation strategy to employ. We do recommend contacting a financial expert to determine the most suitable repatriation strategy, or combination of repatriation strategies, which your company can employ.
What Procedures and Which Documents are Needed to Distribute Profits?
To briefly summarize the paperwork requirements for the three strategies we discussed.
- For dividend distribution, the entire procedure may take two to four weeks and may be longer for complex cases. The main documents required are the business license, audit report of paid-in capital, External auditor’s report, Certificate of tax filing, Tax payable receipt, Relevant board resolution on profit distribution. Also, the payment of annual Corporate Income Tax and withholding tax is required. After filing and receiving approval by SAFE, the dividends can be distributed via overseas transactions.
- When choosing the method of service fees, the most important thing is to accurately describe the nature of the service in the service agreement between the FIE and its Parent Company. The services performed by the Parent Company should fit within the business scope of the entity. Similarly, for royalty payments, the arrangement must be genuine and supported by a contract and corresponding invoice. Tax authorities may become suspicious and challenge the service agreement, and if deemed illegitimate, they could impose additional taxes on the arrangement. If services are deemed as China-sourced income, the tax bureau will also impose a withholding tax.
- Intercompany payments to an overseas entity have come under increased scrutiny from the Chinese tax authorities. This is particularly the case for management fees paid by the Chinese subsidiary to the parent company or royalties paid for the use of intangible assets provided by the overseas entity. The most important thing is that these loans have provided a benefit to the company in China and are priced according to the arm’s length principle.
How Can Individuals Transfer Their Money Out of China?
At an individual level, for foreign employees that want to repatriate their money to their home country, they should not experience too much hassle provided they have a legitimate employment contract, and the taxes have been paid correctly. According to the Chinese regulations, Individuals can carry cash out of the country and are required to declare an amount equal to or exceeding RMB 20,000 to customs. For large sums you must provide the bank in China with the following documents: a valid passport, work permit, employment contract, pay slips and the tax payment documents. The bank will then make an application to the foreign exchange control bureau (SAFE) on your behalf. Upon acceptance of the application, these funds will be released and transferred to your foreign account by the bank itself or by international money transfer companies like the Western Union. There may be certain other restrictions depending on which country you are travelling to. For example, the destination country may have regulations about how much cash can be brought into the country and it may be lower than the amount that China allows you to leave the country with. Most importantly, remember to ensure that your employment contract within China is legitimate and the appropriate taxes are always being paid.
How We Can Help Your Business in China
Since 2011, MSA has supported foreign enterprises across all provinces of China and in Hong Kong with Accounting, Tax, Compliance, Payroll, and Corporate Services. Our mission is to provide a full range of financial services to foreign enterprises, where we focus on delivering transparency, compliance, and sustainability to your business. We commit ourselves to provide our clients with a good understanding of administrative and reporting requirements in China and ensure they have full control over their finances.
For more information on this subject, please do not hesitate to contact us immediately.
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