August-September 2013 China Bulletin

The pilot VAT plan for international transportation and “modern services”, reported in the March 2013 and January-February 2012 China Bulletins, was expanded nationwide as of August 1, 2013.   On September 13, 2013, the State Administration of Taxation (SAT) issued Announcement 52, which clarifies the exemption for exported modern services and, it is hoped, will reduce the actual VAT cost imposed on cross-border technology transfers and other services.  Local tax authorities have sometimes not allowed the exemption that should apply to such services.

By way of background, Notice 131, issued by SAT in 2012, provided concessions for two categories of exported services: a) exempt services, for which no VAT is payable on export, but input VAT on expenses incurred to provide the services cannot be claimed as a credit, and b) zero-rated services, also exempt from VAT on export, but input VAT can be claimed and is eligible for offset or refund.   Announcement 13, issued by SAT in April, 2012, sets out the refund mechanism for zero-rated services, i.e., international transportation services, R&D services and design services. The refund applies only to services supplied by a pilot area company to a recipient outside of China.  (See the Pilot VAT Program Continues in the March 2013 China Bulletin, item 4.)

Although R&D services are zero-rated, in practice R&D services for software have often been treated authorities as tax exempt software services rather than R&D.  Because of lack of detailed definitions and procedures, the local tax authorities in some provinces have then not permitted taxpayers to use the exemptions from VAT provided for in Notice 131 and Announcement 13, with the result the exports of non-zero rated, exempt services were subject to VAT.  In addition to software services these include technology consulting, technology transfer, energy management, engineering, circuit design and testing, back office services, trademark and copyright transfer, intellectual property services, logistics and certification services.

Announcement 52 sets out a recordal procedure and documentation requirements to qualify for VAT exemption (including translating foreign language documents into Chinese).  Its provides that payments for the services must be received from abroad and requires separate accounting for exempt and non-exempt services.  It also addresses past qualifying services for which VAT was in fact paid.  The result of complying with Announcement 52 is that the flow of services and cash and the parties to the cross-border service contract.

Many U.S. companies have set up R&D, back office or other subsidiary providers in China that supply services to affiliates, typically on a cost-plus basis.  It is hoped that Announcement 52 will provide sufficient comfort for local tax authorities to allow the exemption for qualifying subsidiaries and reduce the tax cost of their service arrangements with their affiliates.

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