Risky business in permanent establishments

Many foreign companies are unaware that their business may be subject to Chinese corporate income tax if such business creates a Permanent Establishment (PE) in China. In a recent notice, the State Administration of Taxation clarifies in great detail how PE conditions apply to a foreign company's domestic activities, and gives local tax bureaus better technical tools to identify and pursue PEs for due taxes. This initiative simultaneously serves as a reminder to all foreign businesses operating directly in China that the tax authorities are increasingly assertive about pursuing PE taxpayers. Considering the size of the potential liabilities, businesses must seriously consider PE-risk when establishing and implementing their business models in China.

PE risk is crucial to foreign companies that engage in business through people or a fixed place of business in China without establishing a Chinese-registered subsidiary or representative office. However, even businesses that do have a legal set-up in China must beware. It is not uncommon for part of the business to be done directly by the foreign entity, or for the foreign entity's managers to be sent to China to take charge of the local business; both circumstances may result in a PE for related income.