China Tax Planning for Japanese MNEs

By  Cym H. Lowell, Partner

Japanese multinational entities with current or future operations in China must plan to address a series of issues.  Many of the critical international taxation and transfer pricing issues framed by activities in China are only just emerging or remain in an ambiguous context.

In the current context of international business, the role of China in the planning of all multinationals is critical, whether that role is as a supplier of goods and services, or as a market for inbound offerings.  Many of the critical international taxation and transfer pricing issues framed by activities in China are only just emerging or remain in an ambiguous context. 

From the standpoint of a Japanese multinational entity (MNE) with current or future operations in China, there are a series of issues that must be addressed:

  • Overall tax planning, transfer pricing (TP) planning, and documentation in Japan and China (as well as any intervening countries)
  • Anticipation of tax controversy in Japan and China (and any intervening countries)
  • Desirability of advance resolution of critical TP or substantive tax issues
  • Financial accounting coordination

A brief listing of issues that have broad importance follows, which can be expanded as appropriate to address specific issues or situations:

            1. Planning
                a. Objectives of the MNE
                b. Current legal entity structure
                c. Current TP strategies
                d. China TP documentation status
                e. SAT examination status
                    (1) History
                    (2) Anticipation
                f. Japan substantive tax law matters
                    (1) CFC    
                    (2) Foreign tax credit    
                    (3) Outbound transfer of intangibles (know-how, contracts, etc.)
                g. Japan TP
                    (1) Outbound transfer of IP, opportunities, etc.
                h. China and intervening country substantive tax law and TP
                    (1) SAT position on local market synergies (such as low labor costs, skilled engineers and professionals, development of
                    technology, market premium, and other forms of China efficiency or location savings)
                    (2) "Guaranteed return" position of SAT
                    (3) General anti-avoidance rule (Circular 698)
                    (4) Voluntary adjustments allowable in China (Japanese donation problem)
                    (5) Potential restructuring and exit tax considerations

            2. TP documentation: Once the planning has been finalized and implemented, annual documentation will be required in each 
            country

            3. Anticipation and handling of tax controversies in all pertinent countries:
                
a. Experience in China
                b. Desirability of advance resolution of issues in pertinent countries
                    (1) At the provincial or Tax Bureau level
                    (2) At the national or SAT (the absence of consolidated income tax returns in China makes the choice between provincial and
                    national resolution a critical issue) 
                c. Collateral adjustments and Chinese constructive dividend (withholding tax) exposure

            4. Financial accounting for Japan parent

            5. Scaling or reduction of operations in China
                
a. Reason
                    (1) Supply chain rationalization (cost reduction)
                    (2) Political tension
                    (3) Other
                b. Impact on China entity margins
                c. Exit tax exposure            
                d. Indirect transfer of non-Chinese affiliates
                e. Double taxation relief planning/anticipation

Comment

This is a listing of the issues that are commonly on the agenda of Japanese, or other country, MNEs, all of which can be and are addressed in advance as appropriate in the context of specific companies.

© 2012 McDermott Will & Emery

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