“Five Year Tax Rule” for Expatriates in China: you have to know
Source: Administration of Taxation of The People' Republic of China thebeijinger.com;Guideinchina;
The five-year tax rule for foreigners is something that most of us have heard about but often is not fully understood. In short, regardless of whether you are teaching English, own your own business or work for one of the big multinationals, if you stay in China for a prolonged period of time, you are likely to have to take action to avoid being subject to worldwide tax in China.
To determine whether a foreign individual working in China is subject to Chinese tax, it is necessary to look at
how much time he or she has spent in China,
what is the source of his or her income
where his or her employer is based.
Income sourced within/outside of China is determined by the individual’s actual working period within China, regardless of whether the employer paying the income is based in China or not.
Note:
Residence duration in China: 183 days for residents from countries which have signed tax treaties with China while 90 days for residents from countries which have not signed.
1 Year: residence within Chinese territory for 365 days in a tax year; any temporary absences from China (less than 30 days during a trip or cumulatively less than 90 days over numerous trips) within a tax year causing no deduction of the period of stay.
Five Year Tax Rule
An expatriate is considered tax resident in China once they have spent more than 90 or 183 days (depending on the tax treaty between China and the country they are currently tax resident in) consecutively or cumulatively inside China. Importantly, this tax liability is only for income derived from inside China and not their worldwide income.
Under the five-year rule, any expatriate who has resided in China for more than five consecutive full years will become liable for income tax not only on their China derived income but also on all income earned worldwide unless they have broken the rule as detailed below.
This tax is not just on income from employment, but also includes income earned worldwide from dividends, capital gains, foreign interest, properties outside of China with a rental income, HK companies, pension withdrawals and sale of stocks and shares.
The rule specifically states that the relevant period is “five full consecutive years” with a full year being classified as the Chinese fiscal year from January 1 to December 31. So for instance, if you arrived in China during May 2009 the full years will be counted from January 1, 2010. If you have not broken this consecutive period as detailed below, you will then become liable for worldwide income tax in China starting from January 1, 2015.
As per the fourth scenario on the graphic above, a foreign individual who has resided in China for more than five years continuously may face new Individual Income Tax(IIT) liabilities identical to those of a resident individual of China, depending on the duration of his/her residency in China starting from the sixth year.
If a foreign individual resides in China for one year in the sixth or any following single year, he/she would be considered a resident individual under the IIT Law and therefore liable for IIT on income received globally for that specific tax year.
If the individual resides in China for less than one year in the sixth or any following single year, he/she is subject to IIT on only China-sourced income, and the One-year Rule (the second scenario on the graphic above)applies.
The rule specifically states that the relevant period is “five full consecutive years” with a full year being classified as the Chinese fiscal year from January 1 to December 31.
So, for instance, if you arrived in China during May 2009 the full years will be counted from January 1, 2010. If you have not broken this consecutive period as detailed below, you will then become liable for worldwide income tax in China starting from January 1, 2015.
Actually, there are essentially two ways to break the five-year rule and reset the clock back to zero.
Leave China for a period of more than 30 full days consecutively
Leave China for 90 days cumulatively within a fiscal year.
By far the most common of the above is for the foreigner to take an extended holiday of more than 30 consecutive full days as they near the five-year point.
Care needs to be taken with the wording of this exemption as it requires “more” than 30 consecutive days. It is also important to note that a full day does not include arrival and departure days as these are counted as days in China.
What if the Five Year Tax Rule has been triggered?
Once the five-year rule has been triggered the ability to reset the clock to zero becomes much more difficult. If in the sixth year onwards the expatriate leaves China for more than 30 days consecutive or 90 days cumulative, it would mean that they have broken tax residency for the year, but will not have reset the five-year clock. This results in the expatriate having to do the same the next year in order to prevent worldwide taxation in China.
Also, China has signed treaties with some countries on the avoidance of double taxation. Under the Five Year Tax Rule, it may be possible that the same income is being taxed twice – the country of the source where the income arises and the country of residence where the income is received.
Most foreigners are either clearly inside or outside of the five-year rule. If you are on the cusp, and you are uncertain as to whether this affects you then talk to professional in the area as the financial consequences of being caught by the five-year rule can be significant.
China's worldwide taxation for taxpayers
China is one of the 100 hundred countries(regions) that has joined the Automatic Exchange Of Information (AEOI) agreement, thus taking a further major step towards increasing tax transparency.
Under this agreement, the participant countries (regions) collect your personal data including name, date of birth, taxpayer identification number of the account holder, the bank account number, account balance, interest earned and exchange with governments on an international level. With AEOI, China will have less difficulty to catching those who involve in tax evasion.
to take action to avoid being subject to worldwide tax in China.
An expatriate has become aware of the five-year rule after completing four full years in China. Going into the fifth year, they decide to take an extended holiday of more than 30 consecutive days in order to reset the clock, but they are unsure exactly how to plan this in order to minimize the time away from their employment. They plan to leave on March 4, 2016, so what is the earliest they can return?
Depart on March 4, which is not counted as a full day
31 consecutive full days ends on April 4
Can return to China on April 5
For regular travelers, the 90-day cumulative rule may come into effect, but particular caution should be given to “full days” as the 90 days will likely be made up from many different trips. What you might call a three-day business trip may only constitute one full day for the purpose of the five-year rule, for instance if you fly on the Monday, spend all of Tuesday out of China and then return on the Wednesday.
Source: Administration of Taxation of The People' Republic of China, thebeijinger;Guideinchina
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