Incoterms_® and Commercial Contracts

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1. Introduction

Under the Chinese Constitution, land is publicly owned and cannot be transferred, though it is possible to transfer the right to use land. Ownership of urban land is vested in the State whereas agricultural land is owned by collectives. Typically, the State grants land-use rights for periods ranging between 20 and 70 years. Land-use rights are treated as intangible assets and may be amortized.¹

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2. Land Appreciation Tax

Gains from the transfer of real estate are subject to a tax on excessive profits, which applies to all individuals and entities realizing such gains.

The Provisional Regulations on Land Appreciation Tax (the Land Appreciation Regulations)² define “real estate” as including land-use rights and buildings, but not land.³ On February 1, 2007, the State Administration of Taxation (“SAT”) implemented the Notice on Questions Concerning Settlement of Land Appreciation Tax over Real Estate Development Enterprises to improve collection of the Land Appreciation Tax.

Transfers of agricultural land-use rights are not subject to Land Appreciation Tax.

While Land Appreciation Tax applies to transfers, it is not applied to leases of land-use rights and buildings.

According to the Detailed Rules for the Implementation of the Provisional Regulations on Land Appreciation Tax (the Land Appreciation Rules),⁴ Land Appreciation Tax is levied only if there is a transfer for value, and it does not apply in the case of inheritance or gifts of the land.

Taxpayers must register real estate agreements with their local tax office within seven days of their conclusion and must pay the taxes due within the time limit specified by the local tax office. Until the tax is paid, title of the property cannot be transferred to the purchaser.⁵

The amount of the gain is the proceeds of the transfer less the cost of acquiring the property, development expenses, repair and maintenance expenses, relevant tax payments and other amounts considered by the Ministry of Finance to be deductible.⁶

Land Appreciation Tax is charged at progressive rates stipulated in article 7 of the Land

Appreciation Regulations:

• a 30% rate is applied to the amount of the gain which does not exceed 50% of the deductions;
• a 40% rate applies to the amount of the gain which exceeds 50% but is less than 100% of the deductions;
• a 50% rate applies to the amount of the gain which exceeds 100% but is less than 200% of the deductions; and
• a 60% rate applies to the amount of the gain that exceeds 200% of the deductions.

Individuals and enterprises are eligible for tax reduction or exemption in respect of the Land Appreciation Tax in the following situations:

• individuals deriving a gain from the transfer or disposition of a residence are exempt from the tax if they have lived in the residence for five years or longer and the transfer or disposition is in relation with their work or improvements of their living conditions; a reduction of 50% in the tax payable is available where the individual has lived in the residence for three years but less than five years;
• transfers of property as a result of inheritance or gifts are exempt from Land Appreciation Tax;⁷
• for property developers, the sale or transfer of non-luxurious residential accommodation is exempt provided that the amount of land appreciation is less than 20% of the sum of the acquisition and development costs;⁸ and
• where, due to construction requirements of the State, real estate is repossessed according to law, the Land Appreciation Tax is not due.⁹

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3. Income from real property

Various taxes are imposed on income from real property situated in China.

Depending on whether the landlord is a corporation or an individual, the landlord is subject to foreign income tax, individual income tax, business tax and other local taxes such as property tax.

Income from rentals of land-use rights and buildings is referred to as rental or leasing income.

Payments made for the use of industrial, commercial or scientific equipment are not taxed as income from real property.

3.1. Source

The source of rental or leasing income is generally the place where the property rented or leased is located, regardless of where the payment is made.¹⁰

3.2. Taxable income

Rental income is taxed as income from the lease of property. ¹¹ Rental income is taxed at a rate of 20% for individuals.¹² For all enterprises, rental income is taxed at a rate of 33% in 2007 and 25% as of January 1, 2008.¹³

Non-residents are taxable on rental and leasing income arising from sources in China.

Residents are taxable on rental and leasing income from all sources. A credit is available for foreign tax paid on amounts received from sources outside China.¹⁴

3.3. Foreign enterprises/non-resident individuals

Foreign enterprises that are landlords without establishments in China are generally subject to foreign income tax and business tax in respect of their real estate activities carried on in China.

Non-resident individual landlords are subject to Business Tax that their tenants are required to withhold. [Page1005:]

4. Business Tax

Rental income is subject to 5% business tax, regardless of whether the landlord is a corporation or an individual.¹⁵ Business Tax is levied on the gross rental income from real property and therefore could be a considerable tax burden for the landlord. Business tax is withheld by the appointed withholding agent together with income tax. Business tax paid is deductible in computing taxable income for foreign income tax purposes.

Certain maintenance expenses may be deducted to calculate income from real property.

Special rules apply to non-resident overseas Chinese who receive rental income from China. Overseas Chinese are permitted to deduct the expenses of property tax and maintenance, but the amount of the deduction is limited to RMB 800 from each payment.

Companies and enterprises may deduct all losses and expenses incurred in gaining or producing such income.¹⁶ Buildings and other property that produce rental or leasing income may be depreciated.¹⁷ Additionally, as stated above, business tax paid is deductible in calculating income for foreign income tax purposes.

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5. Withholding Tax for non-residents

A 20% withholding tax is imposed on non-residents in respect of rental or leasing income derived from Chinese sources. The rate of withholding tax can be reduced to 10% under the tax incentive scheme for foreign income tax purposes. The rate reduction is not applicable to individuals who are landlords.

Generally, the tenant/payer is required to withhold the taxes. A payer of income from real property to a resident may also be required to withhold individual income taxes from each payment if the amount exceeds the prescribed deduction of RMB 800.¹⁸

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6. Urban Real Estate Tax

Pursuant to the Provisional Regulations Governing Urban Real Estate Tax (the Urban Real Estate Regulations),¹⁹ the Urban Real Estate Tax is charged in those cities and towns designated by provincial governments.²⁰ It may be applied to individuals and all types of enterprises. At present, however, this tax is mainly applicable to foreign individuals and foreign enterprises.

The taxpayer is the owner of the real estate. Where the property is mortgaged, the mortgagee pays the tax. Where the mortgagee does not inhabit the property or where there is a dispute, the tax is paid by the user of the property on behalf of the owner or mortgagee.²¹

Tax is levied on buildings on an annual basis at the rate of 12% of the residual value or 18% of the standard rental of the real estate. Tax is levied on land at the rate of 15% of the assessed value that varies according to the location and condition of the land.²²

Tax is payable to the local government where the property is situated. Taxes are payable annually or by instalments as determined by the local government.²³

Under article 4 of the Urban Real Estate Regulation, the following properties are exempt from the tax:

• land and buildings owned and used by military units, government agencies and social organizations;
• land and buildings owned and used by public schools and registered private schools;
• land and buildings used as parks, scenic spots or historic sites or for other similar purposes;
• land and buildings used exclusively for mosques or lama shrines; and
• land and buildings used exclusively for temples of other religions to which tax exemptions are granted by the government.

Local governments may grant reductions or exemptions from Urban Real Estate Tax.

Further, according to article 5 of the Urban Real Estate Regulations, the following tax reductions and exemptions may be granted by provincial governments:

• a three-year tax exemption for newly constructed buildings, starting from the month when the new building is erected;
• a one-year tax exemption for renovating old buildings, provided that the renovating cost exceeds half of the new construction expense starting in the month in which the renovations were completed; and other special conditions.

However, according to notices issued in 1957 and to a State Administration of Taxation (SAT) reply of January 21, 1997, the above tax reductions and exemptions are no longer applicable to enterprises with or without foreign investment, but are only available to Chinese citizens and overseas Chinese and their families, including persons from Hong Kong and Macau.

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7. House Property Tax

The tax is levied pursuant to the Provisional Regulations on House Property Tax (the House Property Regulations)²⁴ on houses and other buildings, but not land by the local government authority of the city, town, county or municipality where the property is situated.

In general, Housing Property Tax is payable by the owner of the property. However, where the property is owned by the State and used by a business unit, the latter pays the tax. Where the property is subject to a mortgage, the tax is paid by the mortgagee.

The tax is levied on an annual basis.

The tax rate is either 1.2% of the assessed value of the property or 18% of the annual rental income. However, a deduction of 10% to 30% (as determined by local governments) of the assessed value or rental income is allowed when arriving at the taxable base.

The following properties are exempt from House Property Tax:

• buildings owned and used by governmental bodies and social organizations, such as public schools, hospitals and child-care centres;
• houses owned by private individuals who occupy them as their dwellings; and
• parks, scenic areas, historic sites and buildings used for religious purposes. Further exemptions may be decided by the Ministry of Finance or by local government authorities.

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8. Farmland-use Tax

Pursuant to the Provisional Regulations on Farmland Occupation and Use Tax (the Farmland Regulations), individuals, businesses and institutions that use farmland for non-farming purposes are liable for Farmland-use Tax.²⁵ The revenue from Farmland-use Tax is intended to be used to increase agricultural production.

“Farmland” is defined as “land used to grow crops, as well as paddy fields, dry cropland, tea and mulberry plantations, orchards, medical herb gardens, fish ponds and vegetable plots”.

Units and individuals that exploit farmland owned by the State or by collectives for construction or other non-farming purposes are liable to pay the tax. Its rates vary depending on the population density of the farmland location. They range from RMB 2 to RMB 10 per square metre for land that is located in a county where per capita farmland is less than 1 mu.²⁶ The lowest tax rate is RMB 1 to RMB 5 for land in a county where the per capita farmland is more than three mu per head.

The exact rate of the tax is determined by the government of the province, autonomous region or municipality directly under the central government where the land is located. These rates may be raised by not more than 50% in the Special Economic Zones (SEZs) and other coastal areas.

The conversion of farmland to military purposes, railways (other than a railway built for the commercial use of a corporation), airports, schools, kindergartens, hospitals, etc. is exempt from the farmland-use tax.

A notice from the SAT issued in 1996 states that exemptions also apply to farmland used by Foreign Invested Enterprises (FIEs). However, this exemption does not apply to enterprises that are wholly owned by Hong Kong investors.²⁷

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9. Urban and Township Land-use Tax

Under the Provisional Regulations on Urban Land-use Tax (the Urban and Township Regulations), all units and individuals who use land located in cities and towns are subject to tax.²⁸ The tax rates vary from RMB 0.50 to RMB 10 per square metre in large cities and from RMB 0.20 to RMB 6 per square metre in county towns and mining areas.²⁹ In less developed inland areas and autonomous regions, reduced rates may be obtained from the local governments.

Under article 6 of the Urban and Township Regulations, the following types of land, among others, are exempt from urban and township land-use taxes:

• land used by State organs, military units and people’s organizations for their own purposes;
• land occupied by units financed by the State for their own purposes;
• land occupied by religious temples, shrines, parks and places of historic interest;
• land occupied by municipal administrations, public squares and green belts; and
• land directly exploited for production in agriculture, animal husbandry or fishing.

Land developed in mountain areas and wastelands may, upon specific approval, be exempt for five to ten years.

Land for energy, transportation and water conservancy and other land stipulated by the Minister of Finance may also be exempted.

The Urban and Township Regulations do not apply to FIEs.³⁰ However, based on the notices and regulations issued by the State Council, it is understood that FIEs are required to pay certain fees to use urban land in China.

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10. Deeds Tax

According to the Provisional Regulations on Contracts Tax (the Deeds Tax Regulations), tax is imposed on contracts for purchases and sales, mortgages, bequests or exchanges of real property in China.³¹

Chinese citizens are liable to the Deeds Tax.³²

In the past, there had been some doubt whether Foreign Enterprises (FEs) and foreigners are liable for Deeds Tax. But a notice issued by the Ministry of Finance has made it clear that they are indeed.³³

Where FEs or individuals acquire homes, a tax of 6% on their value is due. The tax rate is reduced by half when the purchaser is an overseas Chinese from Hong Kong, Macau or Taiwan. The tax is payable in Chinese currency.

10.1. Tax base

For transfers of ownership of land-use rights and sale of real estate, the basis for determining Deeds Tax is the price.

The fair market value is used to compute the tax payable on gifts.³⁴

10.2. Taxable persons

The tax is levied on individuals and enterprises, including State-owned enterprises, which were previously exempt.

10.3. Exemptions

Exemptions are provided:

• for military units, social and cultural organizations and State administrative departments or units purchasing houses and land used for educational, medical, scientific and military purposes; and

• for State employees who buy their first homes. ³⁵ Tax deductions or exemptions may be granted for rebuilding their homes if they are destroyed by an event of force majeure in certain circumstances.³⁶

10.4. Tax rates

The deeds tax rates range from 3% to 5%. The provincial tax authorities are allowed to decide the applicable tax rates in individual cases.

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10.5. Administration and collection

Liability to pay Deeds Tax arises on the date on which the taxpayer signs a contract for the transfer of land-use rights or buildings, or the date on which the taxpayer obtains other documents in the nature of a contract of transfer of ownership to land-use rights or buildings.³⁷ Taxpayers must report their tax liability to the competent tax authorities within ten days after the liability has arisen. The competent tax authorities determine the assessable period in which the tax due must be paid.³⁸

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11. Urban Maintenance and Development Tax

This tax is levied in accordance with the Interim Regulations on Urban Maintenance and Development Tax.³⁹

Taxpayers are individuals and entities that are liable for the agricultural nature product tax, value added tax (VAT) and Business Tax. The tax base is the aggregate amount of tax payable under the agricultural nature product tax, VAT and Business Tax.

The rate is 7% for taxpayers located in cities, 5% for taxpayers located in townships and 1% for other taxpayers. Some local governments apply reduced rates. In Shenzhen SEZ, for example, the rate is 1% for all taxpayers.

The tax is payable at the same time as product tax, VAT and business tax.

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12. Stamp Tax

Under article 1 of the Provisional Regulations on Stamp Tax (the Stamp Tax Regulations),⁴⁰ tax is due from all individuals and entities that write or obtain contracts for purchase and sale (0.03% of the sale price), for construction projects (0.03%), for the lease of property, for the insurance of property conveyances and for the issue of certificates of registration of rights.

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