On 22 January 2020, in response to concerns being raised, the State Administration of Taxation and the Ministry of Finance jointly issued the Announcement on Individual Income Tax Policies Relating to Overseas Income (Announcement No.3), which provides detailed guidance on the definition of overseas income, calculation of taxable income, overseas tax credit, declaration requirements and other compliance considerations.
There are two categories of taxable income that determine how China's income tax is calculated: firstly, domestic and foreign income and foreign income is combined and tax is calculated. Income such as employment income (not including bonuses subject to special taxation rates), business income from both China and overseas is combined. Secondly, income from other foreign sources, such as income from a bonus (subject to beneficial tax treatment), capital gains and dividends, is not combined with China-sourced income.
As an individual’s total income tax liability is based on calculations for these two different categories of income, taxpayers will need to understand how tax is determined on their China and foreign income.
Having determined taxable income and potential tax due, a key concern is whether double taxation may arise. Announcement No. 3 provides clarity on how double taxation can be prevented, allowing tax paid abroad to be claimed as a foreign tax credit, up to a maximum of the China tax due on that income.For the tax paid in Hong Kong and other countries (where the tax year does not end on 31 December) additional clarification was shared in Announcement No.3 outlining the process for claiming a foreign tax credit.
Importantly for Chinese employees working in Hong Kong or other countries, as income tax rates in mainland China are up to 45%, the foreign tax credit may be considerably lower than the mainland taxes due, resulting in additional tax being due. For China-domiciled individuals who are not employees of SOEs, further compliance scrutiny may be applied in the coming years where compliance with global taxation of residents is pursued. For employees with roles that involve spending some time in China, careful planning will be required to manage scenarios where differing interpretations of double tax treaties and conflicting domestic laws could create issues of double taxation.
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