Tax Liabilities for Equity Transfer in China: An Introduction

Equity transfer is common in business practices. During the process, both individual shareholders and corporate shareholders are liable for various taxes. However, the specific tax implications are different for these two types of shareholders. In this article, we provide a general introduction to the tax liabilities of individual shareholders and corporate shareholders in equity transfer in China.

What is equity transfer?

Equity transfer refers to the act of transferring equity by a shareholder to another individual or legal person, including the following circumstances:

• Disposal of equity;
• Equity buyback by the company;
• When an issuer makes an initial public offering of new shares and a shareholder of the enterprise sells their shares to investors in the public offering;
• Mandatory transfer of equity by the judicial or administrative transactions;
• Use of equity for the external investment or any other non-monetary transaction;
• Use of equity for offsetting of debts; and
• Any other acts of equity transfer.

For the purposes of this article, we only discuss the transfer of equity or shares in an enterprise or organization that an individual invests in, excluding sole proprietorships and partnerships.

Moreover, under relevant tax laws and regulations, equity is one kind of “property” in China.

For example, Article 16 of the Implementation Regulations for the Corporate Income Tax Law of the People’s Republic of China (CIT implementation Regulation) stipulates that the term “income from transfer of property” mentioned in item (3) of Article 6 of the Corporate Income Tax Law of the People’s Republic of China refers to the income obtained by an enterprise from the transfer of fixed assets, biological assets, intangible assets, equity, and creditor’s rights, etc.

The Implementation Regulations for the Individual Income Tax Law of the People’s Republic of China (IIT Implementation Regulation) also stipulates that income from the transfer of property shall mean income derived by individuals from the transfer of priced securities, equity, share of properties of a partnership enterprise, immovable property, machinery and equipment, vehicles and vessels and other properties.

So, unless it is otherwise stipulated, the tax rules applying to the transfer of property also apply to equity transfer.

Tax liability of individual shareholders in equity transfer

Individual shareholders engaged in equity transfer are liable for IIT and stamp tax.

IIT

According to the IIT Implementation Regulation, income derived from the transfer of property (including equity among others) within China is deemed as income sourced in China and is subject to IIT in China. This is regardless of whether the payments take place in China.

According to the Announcement of the State Administration of Taxation on Promulgation of the Administrative Measures on Individual Income Tax on Income Derived from Equity Transfer (Trial Implementation), in the case of equity transfer by an individual, the taxable income amount shall be the balance from deduction of the equity’s original value and reasonable expenses from the income derived from equity transfer, and the individual shall pay IIT as per “income from transfer of property”.

The tax rate for the income derived from the transfer of property is 20 percent. Reasonable expenses refer to the relevant taxes and fees paid at the time of the equity transfer pursuant to the provisions. The Announcement of the State Taxation Administration on Promulgation of the Administrative Measures on Individual Income Tax on Income Derived from Equity Transfer (Trial Implementation) provide detailed guidance on determining the taxable income, the equity’s original value, and the reasonable expenses.

The person making the transfer is the taxpayer, while the person receiving the transfer is the withholding agent. The withholding agent is required to report the relevant information of the equity transfer to the tax authorities within five working days from the signing of the relevant agreement on the equity transfer.

The enterprise issuing the shares is required to keep a detailed record of the relevant costs incurred by its shareholders’ holding of the equity. It is also required to provide truthful and accurate information in relation to the equity transfer to the tax authorities and assist the tax authorities in the enforcement of official duties pursuant to the law.

Stamp tax

The stamp tax rate for equity transfer is 0.05 percent based on the amount stated in the property transfer document. If the taxable contract or property transfer document does not specify the amount, the stamp tax is determined based on the actual settlement amount. If the stamp tax basis cannot be determined in accordance with the settlement amount, the market price at the time when the contract or property transfer document is concluded will apply.

In this case, the government-fixed price or government-guided price must be followed in accordance with the law, and the stamp tax will be determined in accordance with the relevant provisions of the State.

There are some preferential tax policies that individual shareholders may benefit from with regard to paying stamp tax.

Starting from 2019, small-scale value-added tax (VAT) taxpayers can enjoy “six taxes and two fees” reductions within 50 percent of the tax amount. Stamp tax is among the six taxes and two fees.

As per the MOF STA Announcement [2022] No.10, this policy is now available to small and low-profit enterprises (SLPEs) and self-employed individuals, in addition to small-scale taxpayers. And the original deadline for enjoying this policy has been extended from December 31, 2021 to December 31, 2024.

That is to say, during the period between January 1, 2019 and December 31, 2024, taxpayers that fall into the scope of SLPEs, small-scale taxpayers, or self-employed individuals can enjoy a 50 percent stamp tax reduction.

VAT

With regard to VAT, according to the Notice of the Ministry of Finance and the State Administration of Taxation on the Full Launch of the Pilot Scheme on Levying Value-added Tax in Place of Business Tax (Caishui [2016] No. 36), currently, equity transfer of unlisted enterprises by individual shareholders is not subject to VAT and the transfer of equity of listed companies by individual shareholders is exempt from VAT.

Corporate shareholders

The tax liability of equity transfer by corporate shareholders is further differentiated for resident enterprises and non-resident enterprises.

The types of taxes involved are CIT, stamp tax, VAT(where applicable), and land appreciation tax(where applicable).

CIT

According to the CIT Law and the CIT Implementation Regulation, resident and non-resident taxpayers are taxed differently. (See table below.)

The CIT Implementation Regulation stipulates that the source of income from equity investments shall be determined pursuant to the location of the investee enterprise.

According to the Announcement of the State Administration of Taxation on Issues Relating to Withholding at Source of Income Tax of Non-resident Enterprises (State Administration of Taxation Announcement [2017] No. 37), the taxable income amount for equity transfer income is the balance after deducting the equity net value from the equity transfer income.

Taxable equity transfer income = Equity transfer income – equity net value

Equity transfer income refers to the consideration collected by the equity transferor making the transfer from the equity transfer itself. This includes various monetary and non-monetary incomes.

The equity net value is the capital contribution costs actually paid by the equity transferor making the equity transfer to a Chinese resident enterprise at the time of investment and equity participation. Alternatively, it is the equity transfer costs actually paid at the time of the acquisition of the equity from the person or entity originally transferring the equity.

Where there is a reduction or appreciation of value during the equity holding period, and the gains or losses are confirmed based on the provisions of the finance and tax authorities of the State Council, the equity net value should be adjusted accordingly.

When an enterprise calculates the income from the equity transfer, it must not deduct the amount that may be distributed according to the transferred equity from the shareholders’ retained earnings, such as undistributed profits and other earnings of the enterprise issuing the equity.

In the event of partial transfer of equity under multiple investments or acquisitions, the enterprise shall determine the costs corresponding to the transferred equity in accordance with the transfer ratio out of all costs of the equity.

Under normal tax treatment for equity transfer, for corporate shareholders that are resident taxpayers in China, the equity transfer income will be aggregated into annual profit and subject to CIT at the company’s applicable tax rate. Currently, the standard CIT rate in China is 25 percent. Reduced CIT rates are available based on the entity type, size, sector, or locations

For corporate shareholders that are non-resident taxpayers, income from equity transfer in China is subject to CIT at a reduced tax rate of 10 percent.

In addition to the normal tax treatment, according to Caishui [2009] No.59, State Administration of Taxation Announcement [2013] No.72, and Caishui [2014] No.109, equity transfer can apply special tax treatment by satisfying certain conditions, including:

• There are reasonable commercial objectives, and the main objective shall not be reduction, exemption, or postponement of tax payment.
• The ratio of acquired, merged, or divided assets or equity shall comply with the requirement ratio. For example, in equity acquisition, the equity purchased by the acquiror is not less than 50 percent of all equity of the acquiree.
• The original substantive business activities of the restructured assets shall not be changed within 12 consecutive months following the enterprise restructuring.
• The payment amount for equity involved in the consideration of a restructuring transaction shall comply with the required ratio. For example, in equity acquisition, the equity payment amount of the acquiror incurred at the time of equity acquisition is not less than 85 percent of the total transaction payment amount.
• The original key shareholders who obtain the equity in an enterprise restructuring shall not transfer the equity obtained within 12 consecutive months following the restructuring.

There are also extra requirements for equity acquisition transactions between a domestic party and an overseas party (including Hong Kong, Macao, and Taiwan) to apply for the special tax treatment, which include:

• transfer of the equity of a resident enterprise held by a non-resident enterprise to another non-resident enterprise in which it holds 100 percent direct controlling shares, which does not cause subsequent change in withholding tax burden on income from transfer of such equity, and the transferor of the non-resident enterprise has provided a written undertaking to the tax authorities in charge that it will not transfer the equity of the transferee of the non-resident enterprise owned by it within three years (including three years);
• transfer of the equity by a non-resident enterprise of the equity of another resident enterprise owned by the non-resident enterprise to a resident enterprise in which it holds 100 percent direct controlling shares;
• investment by a resident enterprise with assets or equity it owns in a non-resident enterprise in which it holds 100% direct controlling shares; or
• any other circumstances approved by the Ministry of Finance and State Taxation Administration.

And if a non-resident enterprise chooses special tax treatment for equity transfer, it is required to make record-filing with the tax bureau in charge within 30 days after the equity transfer contract or agreement becomes effective and the registration formalities with the local administration for market regulation are completed.

Under special tax treatment for equity transfer, the tax base could be calculated differently. For example, in equity acquisition:

• The tax base of the acquiror’s equity obtained by the shareholders of the acquiree shall be determined according to the original tax base of the acquired equity.
• The tax base of the acquiree’s equity obtained by the acquiror shall be determined according to the original tax base of the acquired equity.
• The tax base of the various original assets and liabilities of the acquiror and the acquiree and other related income tax matters shall remain unchanged.

Besides, the tax payment could be deferred. For example, in debt restructuring, for the part paid by equity, the taxable income amount may be included averagely in the taxable income amount of each year in five tax years.

Stamp tax

The stamp tax levied on corporate shareholders engaged in equity transfer is the same as that for individual shareholders.

VAT (where applicable)

If the transfer of equity involves the transfer of financial commodities, general VAT taxpayers are subject to VAT at a rate of six percent. Small-scale VAT taxpayers are subject to a three percent VAT levy rate. Both general VAT taxpayers and small-scale taxpayers can only issue general VAT invoices for this kind of transaction.

Land appreciation tax (where applicable)

If the equity being transferred is mainly made up of land use rights, above-ground buildings, and attachments, the transfer will be subject to a land appreciation tax as well. Calculation of land appreciation tax is based on the appreciation amount gained by the taxpayer through the transfer of real estate (i.e., the balance of the proceeds received by the taxpayer on the transfer of real estate after deducting the sum of deductible items), and should be levied in accordance with a four-step progressive tax rate. The tax rate ranges from 30 percent to 60 percent.

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