TAX RATES AND ALLOWANCES
The following tax rates and allowances are to be used in answering the questions.
Enterprise income tax
Individual income tax
Entrepreneurs who receive production or operation income derived from private industrial or commercial enterprises
Monthly personal allowance for a China local RMB 3,500
Additional allowance for expatriate employees RMB 1,300
Allowance each time for individual service income, income from manuscripts, royalties and rental of property:
Note: VAT reforms in China since 1 August 2013 need not be considered.
(a) Company Y is a manufacturing company. The accounting clerk has prepared the following statement of enterprise income tax (EIT) payable for the year 2012 as follows:
Notes:
1. Cost of goods sold includes a batch of goods at a cost of RMB 98,000, which was sold at RMB 35,000 due to the poor market situation.
2. Sales expenses include the following:
3. Financial expenses include interest of RMB 300,000 calculated at 30% per annum on a loan from one of Company Y’s shareholders, Mr A. The market rate of interest on a similar type of loan from a bank is 5% per annum.
4. Administrative expenses include the following:
5. Other income comprises:
Company Y
(i)1. The sale of goods at a price lower than the original cost is deductible.
2. (i) The deduction for entertainment expenses is subject to a limit of 60% of the actual expenses incurred (i.e. RMB 48,000), but with the total allowable entertainment expenses not exceeding 0·5% of the sales revenue of the current year (i.e. RMB 62,500). Therefore, the lower of the two amounts, i.e. RMB 48,000, is allowable.
(ii) The deduction for advertising and promotion expenses cannot exceed 15% of the sales of the current year (i.e. RMB 1,875,000) but the excess portion can be carried forward to future years. The actual amount for 2012 of RMB 1,200,000 plus the amount brought forward from the previous year of RMB 580,000 (i.e. RMB 1,780,000) can all be deducted within the limit.
(iii) A general provision is not deductible.
(iv) The debt has not been collected over the last three years but as the company has not got any proof of action taken to recover the debt, the amount is not deductible.
(v) Compensation paid to a customer for breach of contract is deductible.
3. Interest expense on a loan borrowed from an individual is deductible but only at the market rate of interest for a financial institution, i.e. at the rate of 5% or RMB 50,000.
4. (i) Staff welfare and benefits are deductible up to 14% of the amount of wages and salaries, i.e. RMB 532,000.
(ii) A penalty for the late filing of a tax return is not deductible.
(iii) A donation to a school is not deductible.
5. (i) Interest income on national bonds is tax exempt.
(ii) A dividend received from another China tax resident company is tax exempt.
(iii) A gain on the disposal of national bonds is taxable.
(ii) Enterprise income tax (EIT) for 2012
(b) Company A was set up in 2005. The table below shows its taxable profits/(losses) for the years 2005 to 2012.
Company A
(i) Tax losses can be carried forward and set off against the taxable profits of the next five consecutive tax years.
Any losses unused at the end of the five-year carry forward period will expire and be wasted.
(ii) The loss of 2005 would be offset against the profits of 2008.
The loss of 2006 would be offset against the balance of profits of 2008, and the profits of 2009 and 2011. The remaining, unused, loss (of RMB 140,000) will become expired in 2012.
Therefore, the losses available for offset in 2012 will be those for 2007 and 2010, i.e. RMB 1,200,000.
(c) Company H is considering borrowing RMB 10,000,000 from an overseas bank, Bank K. Bank K has proposed a net-of-tax interest rate of 4·25% per annum. Bank K does not have any branches, offices or agents in China and it is not entitled to a reduced withholding tax rate under a tax treaty.
As an alternative to borrowing from Bank K, Company H could borrow the RMB 10,000,000 from the Chinese branch of another overseas bank, Bank W.
Required:
(i) Calculate the amount of gross interest which Company H is paying on the loan from Bank K.
Note: You should assume that there are no other local surtaxes and levies.
(ii) Calculate the business tax and enterprise income tax (EIT) liability of Bank K in respect of the interest income from Company H.
(iii) Briefly explain the meaning of a non-resident enterprise for EIT purposes.
(iv) For each of Bank K and Bank W, state why they are non-resident enterprises and the basis (if any) on which they will pay EIT.
Company H
(a) (i) Explain the term ‘China tax resident’ for the purposes of individual income tax (IIT).
(ii) State the scope of IIT in the case of (1) a tax resident; and (2) a non-tax resident of China.
(i) A China tax resident is an individual who is domiciled in China or does not have his/her domicile in China but has resided within China for a full year.
(ii) A China tax resident is liable to individual income tax (IIT) on his/her worldwide income.
A China non-tax resident is liable to IIT only on his/her China sourced income.
(b)Mr Li, a foreign national, is considered a China tax resident for individual income tax (IIT) purposes. Mr Li worked in China for the whole of 2012, except for his one-month’s annual leave in July 2012, when he spent the whole month in the USA.
In the year 2012, Mr Li received the following income and benefits from his China employer:
(1) He received a monthly salary of RMB 80,000 for each of the 12 months of 2012.
(2) In December he received an annual bonus of RMB 120,000 for the year 2012.
Mr Li also earned the following income from other sources in the year 2012:
(3) In September he taught two classes in a university in China and earned a lecture fee of RMB 15,000 for each class.
(4) He won a lottery from a supermarket in China and received a computer valued at RMB 5,000.
(5) He received insurance compensation of RMB 30,000 for a work-related injury in China.
(6) He has written an article for publication and the remuneration was RMB 5,000
(7) He set up a privately owned sole proprietorship on 1 January 2012. The income of this business for the year 2012 was RMB 400,000 after the deduction of tax deductible expenses and Mr Li’s monthly remuneration of RMB 10,000, but before the deduction of the annual standard deduction of RMB 42,000.
Required:
Calculate the individual income tax (IIT) payable by Mr Li in respect of each of the items (1) to (7), clearly identify any item(s) which are tax exempt or not subject to IIT.
Mr Li – Individual income tax (IIT) payable in 2012
(1) Monthly IIT on salary: (80,000 – 4,800) x 35% – 5,505 = RMB 20,815
12 months IIT = 20,815 x 12 = RMB 249,780
(2) The applicable tax rate and the quick deduction factor for the bonus is 25% and RMB 1,005 based on a monthly equivalent of RMB 10,000 (120,000/12).
IIT on bonus: 120,000 x 25% – 1,005 = RMB 28,995
(3) Fees for two lectures in the same month are treated as a one-time income for calculatiIIT on service income: (30,000 – 20% x 30,000) x 30% – 2,000 = RMB 5,200
(c) List the circumstances in which an individual is subject to self-assessment for IIT.
An individual is subject to self-assessment for IIT if any one of the following criteria is met:
(1) Annual income is in excess of RMB 120,000.
(2) Wages and salaries are received from two or more sources (employers) within China.
(3) Income is received from outside China.
(4) Taxable income is received for which there is no withholding agent.
(5) Any other circumstance prescribed by the State Council.
A newly set up company, Company Q, imports red wine from France for sale in China. Company Q had the following transactions in the year 2012:
(1) Imported 3,000 bottles of red wine at a CIF (cost including insurance and freight) value of USD 30,000.
(2) Sold 2,000 bottles of the wine at RMB 300 per bottle to wholesalers who are all VAT general taxpayers.
(3) Gave 100 bottles of the wine to customers as Christmas gifts.
(4) Due to a flood, 150 bottles of the wine in the warehouse were destroyed.
(5) Due to poor management, the warehouse was broken into and 200 bottles of wine were lost through theft.
(6) A customer returned 50 bottles of the wine, together with the Certificate of Returns and Discounts issued by the tax bureau. Company Q accepted the goods returned.
(7) An early settlement discount of RMB 10,000 was granted to a regular customer.
(8) Transportation expenses of RMB 20,000 were paid on the sales of the wine. Transportation invoices were obtained.
(9) Bottle-openers were purchased from a small-scale taxpayer. Company Q paid a total of RMB 2,000 to this supplier and a VAT special invoice was obtained.
Required:
(a) (i) Calculate the import customs tariff, consumption tax (CT) and value added tax (VAT) payable by Company Q on the 3,000 bottles of wine imported under item (1).
Notes:
1 The customs tariff rate is 10%.
2 The consumption tax rate for red wine is 10%.
(ii) State when Company Q must make the customs import declaration.
(b) Calculate the amount of VAT payable by Company Q in 2012, clearly identifying any transactions for which no tax charge or adjustment is required.
(c) Explain the VAT and enterprise income tax (EIT) treatments of item (5).
(d) State any FOUR transactions which can be considered as deemed sales for VAT purposes.
Company Q
(a) Taxes payable on importation of wine
(i) Customs tariff: 30,000 x 7·0 x 10% = RMB 21,000
Tax base for consumption tax (CT): (210,000 + 21,000) ÷ (1 – 10%) = RMB 256,667
CT: 256,667 x 10% = RMB 25,667
Tax base for value added tax (VAT): (210,000 + 21,000 + 25,667) = RMB 256,667
VAT: 256,667 x 17% = RMB 43,633
(ii) The import customs declaration should be made within 14 days of the arrival declaration.
(b) Value added tax (VAT) payable for 2012
(a) Company D is a consultancy firm in Guangxi. The company had the following transactions in May 2012.
(1) Signed an engagement letter with Client B with a service fee of RMB 100,000. A down payment of RMB 50,000 was due on the signing of the engagement letter and the balance was due on the completion of the project. Company D received the down payment of RMB 50,000 in May.
(2) Completed a consultancy project for Client E and received the service fee of RMB 40,000 plus outlays of RMB 1,200 which were to be borne by the client.
(3) Client F was declared bankrupt, owing Company D outstanding fees of RMB 20,000. Company D does not expect the outstanding amount to be recovered and has written it off as a bad debt.
(4) Received interest on a loan to an associated company of RMB 20,000.
(5) Received interest on a bank deposit of RMB 8,000.
(6) Sold office premises for RMB 10,000,000. The office premises had been acquired by Company D at a cost of RMB 6,000,000.
(7) Sold some used computers for RMB 20,000.
Required:
(i) State the business tax (BT) treatment of each of the items (1) to (7).
(ii) Calculate the BT payable by Company D for May 2012.
Company D – Business tax (BT) for May 2012
(i) (1) The BT liability arises when the payment is due.
(2) Both the service fee and the outlays are subject to BT. Outlays borne by the client are treated as an additional charge.
(3) The write off has no effect on BT.
(4) Interest income on a loan to an associate is subject to BT.|
(5) Interest income on a bank deposit is exempt from BT
(6) BT is payable based on the difference between the sale proceeds and the original cost of acquiring the property.
(7) The sale of used computers is not subject to BT but will be subject to value added tax (VAT).
(ii) Total BT payable for the month is: [50,000 + (40,000 + 1,200) + 20,000 + (10,000,000 – 6,000,000)] x 5% = RMB 205,560
(b) A property developer, Company P, sold a newly constructed office tower in March 2012 for RMB 20,000,000. Details of the costs of construction of the office tower are as follows:
(1) Acquisition of the land use right from the government for RMB 5,000,000, on which deed tax of 3% was paid.
(2) Costs of demolition of RMB 400,000.
(3) Costs of construction of RMB 3,000,000.
(4) Management, administrative expenses and interest of RMB 1,500,000.
The taxes payable on the sale of the property were: business tax (BT) of 5% and city maintenance and construction tax and education levy of 10% on the BT.
Required:
Calculate the land appreciation tax (LAT) payable by Company P, if the office tower was soldNote: You should ignore stamp duty when answering this question. immediately after completion.
Company P – Land appreciation tax (LAT)
(a) Briefly explain the following terms for the purposes of the enterprise income tax (EIT) law:
(i) associated (or connected) parties; and
(ii) arm’s length principle.
(i) Associated (or connected) parties are enterprises, other entities or individuals, which have any of the following relationships with an enterprise:
– direct or indirect control over such matters as finance, business operations, purchases and sales;
– both are directly or indirectly controlled by the same third party; or
– there are other common relationships due to associated interests.
Tutorial note: The syllabus uses the term ‘associated parties’ whereas the study text uses the term ‘connected parties’.
(ii) The arm’s length principle refers to the principle which unrelated parties abide by when carrying out business transactions in accordance with fair market prices and normal business practices.
(b) Company K is a foreign-invested enterprise set up by a Japanese company. Company K purchases materials domestically in China and exports the finished goods to its parent company in Japan. Company K calculates the selling price of the finished goods exported based on the cost of production plus a 0·5% mark-up. Since 2009, Company K has sold the material scraps from the processing in China, but has not paid any taxes on these sales.
Required:
In the case of each of the following, state what action will be taken by the tax authority, including any fines or other penalty which may be imposed:
(i) The tax authority disagrees with the mark-up of 0·5% on the cost of production.
(ii) The tax authority discovers the sale of the material scraps on which taxes have not been paid.
Company K
(i) The tax authority will make a special tax adjustment (or transfer pricing adjustment) to Company K’s taxable income and impose late payment interest based on the basic RMB lending rate published by the People’s Bank of China and an additional 5%.
(ii) The tax authority can collect the unpaid taxes arising from Company K’s tax evasion, impose a fine ranging from 50% to five times the amount of the taxes underpaid, and late payment interest of 0·05% per day from the date of late tax payment.