Taxation of the shipping income of foreign companies

Recently, Chinese tax collection offices have become increasingly strict with regard to the shipping-related income of foreign companies in China. Chinese companies which are withholding agents must withhold corporate income tax and business tax that is payable by foreign companies. This has resulted in many difficulties for foreign companies accustomed to a less stringent tax collection policy.

Existing law

Corporate income tax and business tax on the shipping-related income of foreign companies in China is not new. The Ministry of Finance and the State Administration of Taxation promulgated the Taxation of Shipping-related Income of Foreign Companies Measures in 1996.

According to article 2 of the Measures, when foreign companies carry passengers, cargo or mail overseas by ship from Chinese ports they must pay business tax and corporate income tax on their transport revenue.

Tax is levied on Hong Kong, Macao and Taiwanese companies according to the same Measures.

Under the Measures, the carrier that derives income from the transport is the taxpayer. Tax on the taxpayer’s taxable income – the total revenue gained by the taxpayer each time it transports passengers, cargo or mail out of the country from a Chinese port – is levied at a rate of 4.65%, comprising business tax of 3% and corporate income tax of 1.65%.

According to the State Administration of Taxation Issues Concerning the Calculation of Corporate Tax on Revenues of Non-resident Enterprises from Shipping or Air Transport Notice, which took effect on 1 January 2008, the taxpayer’s tax liability is based on the total revenue made in China each time, with corporate income tax levied calculated at the rate of 1.25%. Thus as from 2008 the rate of corporate income tax was reduced from 1.65% to 1.25% and the aggregate rate became 4.25%.

According to the Measures, the withholding agents for freight-related revenue made by foreign companies in China are the shipping agency companies. In 2002 the State Administration of Taxation and the State Administration of Foreign Exchange jointly issued the Strengthening the Tax and Foreign Exchange Administration of Shipping Income of Foreign Enterprises Notice, specifying that any business units or individuals that directly or indirectly paid shipping charges would be classified as withholding agents, including wholly foreign-owned shipping companies, international shipping agencies, international freight forwarding agencies and other business units or individuals which made international maritime freight payments overseas.

Shipping income tax relief

If China and a foreign country have concluded a double-taxation avoidance agreement and the agreement contains provisions relating to tax reduction or exemption, then a company from that country can apply for a waiver.

So far, China has concluded such agreements with over 90 countries, reducing or waiving tax on each other’s maritime freight revenue. These agreements include the major countries involved in maritime freight, such as Japan, Greece, the United States, the United Kingdom and Norway. A list of these countries is given on the website of the State Administration of Taxation (http://www.chinatax.gov.cn).

Pursuant to the relevant double-taxation agreement, foreign companies entitled to tax reduction or exemption may, in accordance with the Measures, the 2002 Notice mentioned above and the Strengthening the Administration of Tax Collection from Shipping-related Income of Foreign Enterprises and Overseas Payments Relating to International Ocean Shipping Supplementary Notice, also issued by the State Administration of Taxation and the State Administration of Foreign Exchange in 2002, appoint an agent to apply to the tax authorities for a certificate of exemption from income tax and a certificate of exemption from business tax. These certificates are valid for three years.

Foreign companies engaged in shipping to or from China should apply in good time for tax exemption certificates in. If that country has not concluded an agreement with China, they should try contractually to add a clear agreement regarding the liability for and method of taxation.

Revenue from non-Chinese ports

Taxable revenue is defined in the Measures as the income earned by the ships of foreign companies from carrying passengers, cargo or mail from “Chinese ports”. If a journey does not involve Chinese ports, could Chinese tax still be due? This question arises because ships chartered by Chinese companies may have no connection with Chinese ports. For example, a ship may ply back and forth between foreign ports, but may be paid the associated freight charges by Chinese enterprises. Do foreign companies need to pay corporate income tax and business tax in China on such income?

Based on article 3(3) of the PRC Corporate Income Tax Law, non-resident enterprises in China should pay corporate income tax on their income derived from within China. According to the Corporate Income Tax Law Implementing Regulations, “income” includes income from the provision of labour services (including transport) and hire. If non-resident enterprises have no establishment in China they should pay corporate income tax at the rate of 10% on their income derived from China.

Where Chinese enterprises hire a ship belonging to a foreign company, even if the ship does not enter a Chinese port the relevant revenue may be regarded as income from within China if it is paid by a Chinese party. Corporate income tax must still be paid. But is the rate 1.25%, as specified by the Calculation of Corporate Tax on Revenues of Non-resident Enterprises from Shipping or Air Transport Notice or does the general rate of 10% apply? Logically, there seems to be no reason not to apply the special tax rate of 1.25%, but the State Administration of Taxation has not yet issued clear instructions about this.

Regarding business tax, according to provisions of the Business Tax Interim Regulations and the Business Tax Interim Regulations Implementing Rules, businesses and individuals providing labour services (including transport services) in China should pay business tax. The tax rate applicable to transport is 3%.

Chen Weidong is a partner and Steven Zhou is a lawyer at Dacheng Law Offices