Keywords: China, State Administration of
Taxation, SAT, FIVCIEs
On 13 December 2010, the State Administration of Taxation (SAT)
granted a big gift to the private equity industry by confirming the
flow-through treatment of RMB fund in the form of FIVCIEs (Foreign
Invested Venture Capital Investment Enterprises).
FIVCIEs as investment vehicles were introduced by the Ministry
of Commerce in 2001 and modified in 2003. In 2003, the SAT issued a
tax circular — , the "Notice on Certain Questions
Regarding Payment of Income Tax by Foreign Invested Venture Capital
Companies" (GuoShuiFa  No. 61, "Circular 61"),
which provided for flow-through treatment of FIVCIEs formed as
non-legal-person cooperative joint ventures (CJVs).
The tax transparency of FIVCIEs became uncertain in 2008 when
China unified its income tax law. The new income tax law no longer
has the provision in the old foreign income tax law that granted
the flow-through treatment of non-legal-person CJVs. This lack of
guidance caused great uncertainty in the private equity industry,
which had frequently relied on FIVCIEs to make investments in
After continuous lobbying efforts by the interested parties, the
SAT finally confirmed on 13 December 2010 that Circular 61 remained
effective under the new tax law. This confirmation was given by a
public notice (SAT Notice No. 26 of 2010, "Notice 26"),
which addresses the effectiveness of tax circulars issued under the
old tax law. Besides Circular 61, there are 1841 other circulars
remaining effective under the new law.
Without Circular 61, a FIVCIE would be a taxable entity in China
and its foreign investors would need to pay an additional level of
withholding income tax on dividends distributed by FIVCIEs.
Circular 61 eliminates this double taxation. It provides that
FIVCIEs can be considered transparent for tax purposes, i.e., the
FIVCIE itself does not need to pay income tax; instead, each
investor of the FIVCIE will pay income tax for its allocated share
of the income. In addition, if a FIVCIE entrusts all of its
investment activities to a separate fund manager, the foreign
investors in the FIVCIE will be treated as foreign enterprises
without establishment (a PRC tax term equivalent to the tax treaty
concept of a permanent establishment) in China. This means that the
foreign investors will be subject to withholding tax (at a rate of
10 percent, as compared to 25 percent normal corporate income rate)
only for PRC-sourced income, mainly from dividends of portfolio
companies or capital gains on the disposal of portfolio companies.
Those withholding taxes can be reduced or even avoided by foreign
investors through careful planning, including the use of tax
treaties, which may offer withholding tax rates lower than 10
Notice 26 will likely revive FIVCIEs as a vehicle for foreign
investment in RMB funds. Compared with the new vehicle of limited
partnerships, an FIVCIE is a tested one with certainty in approval
procedures, foreign exchange conversions, deal execution and now
tax treatment. Foreign investors may consider going back to using
FIVCIEs for RMB fund formation.
Copyright 2011. JSM, Mayer Brown International LLP
and/or Mayer Brown LLP. All rights reserved. Mayer Brown is a
global legal services organization comprising legal practices that
are separate entities ("Mayer Brown Practices"). The
Mayer Brown Practices are: JSM, a Hong Kong partnership, and its
associated entities in Asia; Mayer Brown International LLP, a
limited liability partnership incorporated in England and Wales;
and Mayer Brown LLP, a limited liability partnership established in
the United States. The Mayer Brown Practices are known as Mayer
Brown JSM in Asia.
This article provides information and comments on legal
issues and developments of interest. The foregoing is not a
comprehensive treatment of the subject matter covered and is not
intended to provide legal advice. Readers should seek specific
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