Worldwide transfer pricing reference guide 2014

China (continued)
Frequency of tax audit and transfer pricing scrutiny by the tax authority (continued)
audit. The likelihood of the transfer pricing methodology being challenged is characterized as medium.
In 2012, 175 transfer pricing audits were concluded, resulting in an aggregate tax liability adjustment of CNY34.6 billion. This amount is
slightly higher than the CNY2.4 billion aggregate adjustment in 2011. Additionally, the value of self-assessed anti-avoidance adjustments
significantly increased in 2012, reaching CNY28.3 billion, as compared to CNY20.8 billion in 2011.
In 2013, the Chinese tax authorities continued to focus on certain industries, such as automotive, pharmaceutical and retail. Additionally,
topics such as market premium, location savings, and local marketing intangibles remain focus areas, which are likely to give rise to
transfer pricing scrutiny.
In addition, intangible property and share transfer are the targeted areas under the SAT’s examination strategy. The Chinese tax
authorities are arguing for the use of income method when valuing intangible property or share transfer transactions. The first reported
case involving the use of the income method to a share transfer was concluded, resulting in an additional tax payment of CNY11 million.
APA opportunity
APAs are available in China. Guidance regarding the APA process and procedures is provided in Articles 46 through 63 of Guoshuifa 2.
The duration of an APA is generally between three and five years. Enterprises no longer need to have 10 years of operating history
before applying for an APA. Moreover, the ban on enterprises with a major tax evasion history has been lifted as well. Annual related
party transaction volumes must only be greater than or equal to CNY40 million, rather than the previously required CNY100 million.
Applications for APAs involving more than one in-charge province can be submitted directly to the tax authority in Beijing.
The China Advance Transfer Pricing Arrangement Annual Report (2012) was published in June 2013. China signed 12 APAs in 2012,
including 3 unilateral APAs and 9 bilateral APAs. In total, 85 APAs were signed between 2005 and 2012.
Finally, negotiation of bilateral APAs has become an increasingly effective tool in mitigating transfer pricing risks. Since 2009, there
has been a continual decline in the number of unilateral cases, with a sharp increase in bilateral cases. China signed 29 bilateral APAs
between 2005 and 2012, and more cases are in the application and negotiation process.
Expected reaction to OECD Report on BEPS
Most of the areas and action items addressed in the BEPS reports are in line with the current enforcement environment in China. As
an observing country, China is expected to closely monitor the development of OECD BEPS discussions and is likely to issue relevant
regulations corresponding to BEPS actions in the near future.
• Intangible: SAT already recognizes the difference between legal title and substantial control of the intangibles. Through transfer pricing
audits and APA negotiations, the SAT has advocated that profits associated with intangibles should be appropriately located according to
value creation. In particular for R&D service providers in China, the SAT has taken the position that if the foreign service recipient’s R&D
activity depends on critical mass or a big cluster of technical capabilities sitting in the Chinese contract R&D center, China may deserve a
profit-split result instead of a cost plus remuneration.
• Country-by-country reporting: SAT has already been keeping close watch on aggressive international tax structures. The current China
CITL includes the General Anti Avoidance Rules (GAAR), which has granted authority to the SAT to use appropriate methods to adjust
arrangements without business substance. In recent years, the SAT has also increased its participation in information exchange with
overseas counterparties who have treaty or information exchange agreements with China. Therefore, China is likely to proactively
respond to the country-by-country reporting under the OECD initiatives.
• Documentation Masterfile: Guoshuifa 2 requires Chinese taxpayers to disclose global value chain information and group’s consolidated
financial report in the contemporaneous transfer pricing document. In practice, the SAT has increasingly requested global information in
transfer pricing controversy cases. Therefore, it is expected that China will welcome the documentation Masterfile approach.
Worldwide transfer pricing reference guide
66