Important changes to China's individual income tax law
By Jack Wu, Executive Director International Expansion
China announced significant changes to its individual income tax (IIT) in late 2018, and set rules as of January 1, 2019. Many of the changes are intended to benefit low- and middle-income Chinese citizens in the country’s evolving domestic economy.
Significantly, the new regulations also affect foreign workers based in China. The most noticeable shift involves rules governing when non-domiciled workers in China may be exempt from paying Chinese income tax on foreign-sourced income. Other changes involve income categories, tax brackets and deductible items. New anti-tax-avoidance rules were also introduced.
The changes were detailed in Bulletins 34 and 35, issued by the PRC Ministry of Finance and the PRC State Administration of Taxation in March 2019.
Changes in residency calculation
These tax-law changes apply only to individuals not domiciled in China, a category determined by a variety of criteria including legal residency status, and family and economic ties. Those domiciled in China are automatically subject to IIT on their worldwide income.
Previously, a China tax resident was someone who stayed in China for a full year for at least five consecutive years. Anyone who left China for either 90 days total in a year, or 30 days in a single absence, was not considered a full-year resident.
Now, a non-resident need only physically spend 183 days in China in a tax year to be considered resident and thus have their worldwide income subject to IIT. The total number of consecutive years required, however, goes from five to six.
A physical absence from China of at least 30 continuous days within that six-year period still resets the residency clock. The clock was restarted for all current workers on January 1, 2019, so the first date anyone working in China could be regarded as a tax resident of China, and thus face tax liability, would be December 31, 2024.
While this does make it more likely that someone will be counted as a tax resident of China, the 183-day rule brings China’s tax-residency regulations into line with those of many other countries, including the U.S., U.K. and Brazil.
Additionally, a “day” in this context is a full 24-hour period, whether or not any work is carried out. Any period of less than 24 hours physically in China does not count toward residence.
Workers and employers should note, however, that work carried out during a less-than-24-hour day will still count as a half workday for sourcing income and calculating tax, even if that day does not count toward tax residence. And China-sourced income is always subject to IIT.
Changes in tax liability calculation
What were previously separately treated categories of labour income — from salary and wages, independent personal services and royalties of various kinds — have been consolidated and subject to one set of progressive income tax rates.
In addition, two categories of business income — from business operations (by self-employed individuals) and from contractual or leasing operations (for enterprises and institutions) — have been combined into “income from operations.”
Tax brackets have also been adjusted, both for marginal tax rates and for deductions. The monthly tax-free threshold has been raised from 3,500 yuan to 5,000 yuan per month, and a variety of new deductions have been allowed, in an attempt to help low to middle income Chinese citizens.
Finally, while previously there were no explicit anti-tax-avoidance rules, there are now a variety of regulations under the Enterprise Income Tax Law intended to plug tax-shelter loopholes.
China has a significant number of Double Taxation Agreements (DTAs) with other countries that specify which tax exemption right belongs with each country. Since these are separately negotiated, and can be updated (Italy and China updated their DTA in March 2019, for example), workers always need to take their citizenship and the appropriate DTA into account when calculating taxes.
Tax subsidies for Hong Kong, Macau, and Taiwan (HKMT) residents
In addition to Bulletins 34 and 35, the Ministry of Finance earlier released Bulletin 31. This Bulletin offers subsidies to offset taxes and encourages skilled employment in the Greater Bay Area, an economic development zone in the southern Guangdong province that includes Hong Kong and Macau. The subsidies will effectively make Greater Bay Area income taxes equal to Hong Kong income taxes. This is part of a wider effort on the part of Beijing to encourage residents of Hong Kong, Macau and Taiwan to work in mainland China.
Like many nations in need of specialized technical skills, China wants to attract foreign talent. Beijing’s recent efforts to clarify tax requirements for non-domiciled individuals and bring those requirements into line with widespread practices should increase predictability for workers and their employers and ultimately support its efforts to attract and retain foreign workers.