China: The Opportunities And Challenges Of The Simplified Procedure Of Cost Sharing Agreements -- Key Takeaways From Announcement 45

Last Updated: 12 August 2015
Article by Rose Zhou, Richard Bao and Julie Zhang

On June 16, 2015, China State Administration of Taxation ("SAT") promulgated the [2015] No. 45 Announcement on Standardizing the Administration of Cost Sharing Agreement ("CSA") (hereinafter "Announcement 45"). CSA is a framework agreement between different enterprises for determining the costs and risks of collectively developing or acquiring assets, services and rights, and the nature and scope of prospective earnings in terms of assets, services and rights between the parties involved.

Announcement 45 aims to implement the Decision of the State Council on Cancelling Items Requiring Non-administrative Approval (the "Decision"), streamline the administration process, and transform the "reporting to SAT" mechanism to "filing with local in-charge tax authority". Unlike previous application mechanism, the administrative threshold of applying for CSA will be lowered.

Recently, the Organization for Economic Cooperation and Development (OECD) released discussion draft on CSA in relation to the OECD's Base Erosion and Profit Shifting ("BEPS") Action Plan under Action 8 (transfer pricing ("TP") valuation with respect to transfers of intangibles). Announcement 45 is also issued as a proactive response to BEPS.

This alert probes into issues related to CSA under Chinese laws and regulations and reveals the opportunities and challenges for Chinese taxpayers through the introduction of Announcement 45.

Scope of application: following the provision of The Implementation Measures for Special Tax Adjustments (Trial) ("Circular 2")

Announcement 45 does not specifically mention the application scope of CSA, which could be understood that the provisions given in Circular 2 shall be continually adopted, per which, CSA mainly applies to the following two types of transactions:

  • Joint development or transfer of intangible assets; and
  • Joint provision/reception of services, generally concerns group purchasing and group marketing planning.

CSA for joint development and transfer of intangible assets is the commonest CSAs. Each party of the CSA holds a proportionate share of right to the intangible assets arising from the R&D and all parties are granted an independent right to use such assets. Such rights might be in the form of the legal ownership or economic ownership and the participating parties shall not pay royalties for using the aforesaid assets.

CSA service usually applies to group purchasing and group marketing planning. For instance, to enhance efficiency and realize centralized control, a group corporation might arrange a CSA between the headquarter and certain subsidiaries, under which the headquarter shall make and collectively control group marketing decisions and the subsidiaries, based on such decisions, shall carry out marketing planning and implementation activities in their local areas.

One point for attention is that for other types of business, in particular certain routine and supporting services, based on our literal interpretation of the existing laws and regulations, CSA does not apply. Whether CSA could be applicable to these kinds of businesses in practice should be based on the specific situations.

Supervision mechanism: Relax administrative approval while reinforce follow-up administration

Announcement 45 removes the provision of "within 30 days upon conclusion of CSA, an enterprise shall report level by level the CSA to the SAT for record-filing purpose" in Article 69 of Circular 2, and states that tax deduction of costs contributed in a CSA does not require the approval of the tax authorities, provided that within 30 days of conclusion (amendment) of a CSA with related parties, an enterprise shall submit a copy of the CSA to the local tax authorities and also hand in the Enterprise Annual Related Party Transaction Report of People's Republic of China as a appendix while filing the corporate income tax ("CIT") annual return.

Special attention should be given to the fact that Announcement 45 expressly states the focus of tax authority in supervision shall be the follow-up administration of CSA, specifically:

  • Tax authorities shall conduct special tax adjustments for CSA that does not follow the arm's length principle and cost-benefit matching principle; and
  • During the execution of CSA, in case the benefits obtained by a participating party is not equal to the cost contributed and no compensation adjustment is made based on the actual facts, tax authorities shall conduct special tax adjustments.

Focus: Arm's length principle and cost-benefit matching principle

Announcement 45 reiterated the administrative philosophy of CSA given in Circular 2 and stressed the significance of arm's length principle and cost-benefit matching principle in such kind of arrangements.

Under Circular 2, parties of CSA are entitled to the benefits of development and transfer of intangible assets or engagement in services and meanwhile, assume corresponding costs of such activities. Costs borne by related parties shall in general be equal to that undertaken by the non-related parties for the purpose of obtaining the aforesaid benefits under comparable conditions. Thus, the idea of cost match benefit constitutes the cornerstone of CSA. Accordingly, key elements of CSA could be summarized as:

  • Benefits obtained by parties of CSA could be rationally and accurately calculated;
  • Costs assumed by parties of CSA could be rationally and accurately calculated; and
  • Allocation basis of cost contribution of CSA could be rationally determined.

When the anticipated benefits to be obtained by parties of CSA are determined, in case of any inconsistency between the actual benefit received and anticipated benefits, balancing payments should be made to modify the costs contribution of the participating parties.

Balancing payment means a sum of fund used to rectify the cost contribution ratio of parties of CSA. As a cost on the part of the payer, such payment will raise its contribution ratio and correspondingly, on the part of the payee, upon receipt of such payment, its cost contribution ratio in the CSA shall fall down. One thing worthy of note is that in practice, such balancing payment could be two-way, that is, the Chinese party could be a payee to accept such payment, it might also be a payer making such payment. Once compensation adjustment is associated with foreign exchange (foreign exchange settlement and receipt), it might draw the attention of tax authorities and thus requires careful treatment of enterprises.

However, though Circular 2 and Announcement 45 emphasize CSA's compliance with the arm's length principle and cost-benefit matching principle, they give no clear idea concerning methods for calculating the benefits, cost and allocation basis of cost contribution. Discussion on CSA under the BEPS Action Plan of OECD is currently in progress and Circular 2 is also undergoing revision in China, future administrative provisions concerning CSA is still uncertain.

Documents requirements

Per the requirements of Circular 2 and Announcement 45, we list the following documents which might need to be prepared in record-filing and follow-up administration of CSA:

Record-filing phase (not exhaustive):

  • Copy of CSA agreement: Announcement 45 explicitly provides that an enterprise should submit a copy of CSA agreement to tax authorities within 30 days upon conclusion (amendment) of CSA with related parties; and
  • Documents proving CSA's compliance with arm's length principle and cost-benefit matching principle, for instance, method for calculating benefits obtained by participating parties, cost contribution method and forms of contribution made by each party.

Follow-up management phase (not exhaustive)

  • Enterprise Annual Related Party Transaction Report of People's Republic of China: where an enterprise concludes (amends) CSA, it means the occurrence of transaction with related parties and no matter such agreement is carried out or not, this report shall be submitted as an appendix in CIT annual return; and
  • Contemporaneous documentation associated with CSA, for instance, other agreements entered into by parties of CSA for advancing CSA, comparison of anticipated benefits with actual results and corresponding balancing adjustment made etc. One point for notice is that an enterprise implementing CSA shall submit the contemporaneous documentation to the tax authorities before June 20th of the current year.

Practice of outbound payment under CSA

Dealing with the foreign exchange issues under CSA may easily draw the attention from tax authorities, especially cash repatriation to overseas related parties, where:

  • Initial cost contribution of participating parties;
  • On-going cost contribution of participating parties; and
  • Balancing payment.

However, Circular 2 and Announcement 45 do not give detailed provisions regarding the practice of outbound payment in connection with CSA, for instance, as such payment does not fall into the category of service fee or royalties, how shall it be designated and categorized? What documents are required when arranging such payment in addition to those required for general outbound payments? In practice, such issues should be discussed with the in-charge tax authorities and also pending further clarification in future tax regulations and rulings.

Tax implication of CSA

According to Circular 2, the tax treatments for an arm's length CSA are listed as below:

  • Cost contributed by an enterprise shall be deducted before tax in each year specified in CSA; and
  • Where balancing payment is made, the payment shall be included in the taxable income of the year during which such payment is made.

In light of this, cost borne under CSA could be deducted before tax and all the cost contributed shall not constitute royalties or service charge. For the payer of balancing payment, the payment shall be regarded as cost and be deducted before tax; however, for the payee, such payment shall be regarded as income to offset its overpaid cost.

Besides, when implementing CSA, turnover tax, withholding tax or CIT resulted from payment of service fee or royalties by an enterprise shall be exempted.

Key takeaways from Announcement 45

The promulgation of Announcement 45 streamlines the procedure and follow-up administration for CSA, which complies with the "simplified former administration and strengthened follow-up administration" mechanism adopted by tax authorities for tax issues at present:

  • On the one hand, time and administrative costs at early stage can be lowered so that eligible taxpayers could enjoy greater convenience and benefit of tax policy.
  • On the other hand, through strengthened follow-up administration and monitoring, tax authorities will find out historical incompliant tax behavior and carry out retroactive adjustment. Thus, taxpayers will be urged to make greater efforts in managing and mitigating tax risks.

Therefore, Announcement 45 streamlines the procedure while poses opportunities and challenges for taxpayers.


Announcement 45 transforms the "reporting to SAT" mechanism to "filing with local in-charge tax authority" in terms of CSA. Taxpayers can achieve tax optimization and enhance the flexibility of supply chain arrangement through a reasonable CSA in compliance with the arm's length principle. Meanwhile, a compliant CSA not only provides another solution to settle the intractable outbound payment, but also secures stability of tax administration for taxpayers.

Taxpayers are strongly advised to take full advantage of CSA, to seek TP and tax planning opportunities. Chinese taxpayers could actively probe into this opportunity with headquarter or other related parties and reasonably apply CSA to outbound payment model and group supply chain model.


Announcement 45 stipulates that tax authorities retain the right to reinforce follow-up investigation and adjustment on contributed costs not in compliance with arm's length principle and cost-benefit matching principle. However, Circular 2 and Announcement 45 lay emphasis on the two principles alone without setting forth detailed implementation and explanations. For instance, what is the pricing of intangible assets in CSA? How to quantify the costs and benefits of the participants? Such problems add to the uncertainty and risks when taxpayers implementing CSA.

How can Grant Thornton help you?

Our seasoned supply chain and TP advisors leverage our in-depth understanding of Chinese tax regulations and over fifteen years' first hand, real world experiences, when tailoring standalone or comprehensive solutions for different businesses under different circumstances.

1. Establishment of CSA

Announcement 45 simplifies former administration of CSA and facilitates enterprises in successfully carrying out their CSA. We can help you with CSA planning, implementation and follow-up management and ensure the smooth establishment and implementation of CSA.

  • Assist taxpayers in establishing proper CSA, including explore its feasibility, identify and strengthen its economic nature, seek a reasonable method and calculation basis for quantifying contribution and benefits;
  • Assist taxpayers in negotiating CSA with tax authorities, participating in technical discussions and negotiations with tax authorities; and
  • Provide guidance and suggestions on implementing CSA and follow-up management for taxpayers.

2. Recommendation and preparation for supporting documents

We can assist you in preparing supporting documents for establishment (or amendment) of CSA, including but not limited to:

  • CSA agreements
  • Other agreements signed by the participating parties for implementing CSA;
  • Documents proving CSA in compliance with the arm's length principle and cost – benefit matching principle; and
  • Contemporaneous documentation of CSA.

3. Assistance in outbound payment procedure under CSA

During the execution of CSA, we anticipate that taxpayers will need to communicate and make explanations with tax authorities when making outbound payments. We are glad to assist you walk through all the outbound payment procedures including preparing supporting documentation per the request of tax authorities, reviewing and submitting CSA, handling the inquiries from the tax authorities /SAFE / banks in terms of outbound payment and other procedures by virtue of our profound understanding of laws and regulations and years of practical experience.

Announcement of the State Administration of Taxation on Standardizing the Administration of Cost Sharing Agreements

Announcement of the State Administration of Taxation [2015] No.45

To implement the Decision of the State Council on Cancelling Items Requiring Non-administrative Approval (Guo Fa [2015] No.27), regulate the administration of cost sharing agreements, according to the Corporate Income Tax Law of the People's Republic of China and the implementation regulations thereof as well as the Law of the People's Republic of China on the Administration of Tax Collection and the implementation rules thereof, the relevant matters are hereby announced as follows:

1. An enterprise shall, within 30 days from the date when a cost sharing agreement among it and its affiliated parties is concluded or amended, submit a copy of the CSA agreement to the local in- charge tax authorities, and also hand in the Enterprise Annual Related Party Transaction Report of People's Republic of China as a appendix while filing the corporate income tax annual return.

2. Tax authorities shall reinforce the follow-up administration of cost sharing agreements and conduct special tax adjustments for cost sharing arrangement that does not follow the arm's length principle and cost-benefit matching principle.

3. During the period when an enterprise implements a cost sharing agreement, the benefit actually shared by a party thereto does not match the cost contributed thereby, the party shall make compensation adjustments in light of facts, otherwise the tax authorities shall conduct special tax adjustments upon investigation.

4. This Announcement comes into force on 16 July 2015, simultaneously repealing Article 69 of the Implementation Measures for Special Tax Adjustments (Trial) (Guo Shui Fa [2009] No.2).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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