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Taxation on Foreign Employees in China
The Individual Income Tax Law in China defines 11 income categories, where each type hosts a different tax rate, exceptional conditions or deductions. To identify the taxation on foreign employees, the expats in China need to go through a set of complex rules and criteria defined under the tax laws. This process involves:
- Finding out the eligibility for taxation
- Evaluating the liabilities and related deductions
- Correlating the time spent in China with the amount of tax applicable
- Determining the cases where exemption is possible.
Furthermore, there will be a need to seek assistance from China’s taxation consultant to work out the most profitable income package for your team or yourself.
Determining the applicability of taxation on foreign employees
Certain factors are used to determine if a foreign worker in China is subject to taxation. These factors include the source of expats income, the location where the employer is based and the time already spent by the foreign employee on China’s soil. The foreigner’s income for taxation is calculated on the basis of the individual’s working period within China, even if his/her employer is based outside China
Calculation of time spent in China
There are 4 cases to evaluate the time spent by a foreign employee in China. Let’s take a look:
Case # 1: The 90-day rule
This case applies to a foreign employee who has worked in China, either cumulatively or collectively, for less than 90 days in a tax year. Such an employee is required to pay individual income tax for the work done in China and for which he/she received the salary from a China’s local entity, business or even an individual.
There will be tax exemption on the income earned while working outside China or on the salary paid by a foreign employer outside China. The 90 days limits extend to 183 days if a double taxation agreement is signed between China and the foreign country. This condition, however, may vary on the basis of dual agreement treaty signed with a particular country.
Case # 2: One-year rule
This case applies to a foreign employee living in China for more than 90 days but less than a year during the tax year. Such an employee is subject to individual income tax for all the income sourced in China, including the salary paid by both the foreign employers as well as China’s local entities, for his/her work in China. The foreign sourced income, i.e., the one earned while working outside China in the tax year is not subject to individual income tax.
Case # 3: Foreign individual living in China for more than a year but less than 5 years
Such an employee needs to pay individual income tax on the income earned from both China’s local employers as well as the foreign entities for all the work conducted in China. Tax is also applicable to the income earned from China’s local employers during any temporary absences from the country. However, if any income is earned from foreign employers during the period of temporary absence from China is not subject to any tax. The maximum allowed temporary absence is up to 30 continuous days and 90 days cumulatively.
Case # 4: Foreign individual living in China for more than 5 consecutive years
A foreign employee who has lived and worked in China for more than 5 consecutive years is subject to the tax liabilities similar to those of a resident of China. This, however, largely depends on the duration of his/her period of stay in China starting from the sixth year.
As per the tax laws, if a foreign individual resides in China for 1 year in the sixth or any following year, he/ she is considered as a local resident individual. Hence, he/she is subject to individual income tax on all the income globally earned for that specific year. In the event of his/her stay in China for less than a year in sixth or any following year, he/she will be subjected to the tax on China-sourced income only, and the one-year rule will be applicable.
This rule needs to be understood by both the foreign employees and employers with expats residing in China, as their tax may reduce significantly if the long-term stay in China is appropriately managed. It is to be noted that the 5 year threshold resets if a foreign individual lives in China for less than 90 days in a single tax year, starting from the sixth year. In this case, the 90-day rule will apply to his/her tax.
Deriving amount of taxation on foreign employees
The below table lists the tax brackets and the corresponding tax rates, for a straightforward evaluation of the tax amount that a foreign employee has to pay.
Once you have established your tax bracket, below formulas can be used to derive a final payable tax amount.
Monthly Taxable Income = Monthly Income – Standard deduction of RMB 4,800 – Allowances
Payable Tax Amount = Monthly Taxable Income * (Applicable tax rate – Quick calculation deduction)
Allowances that are exempted from taxation
Tax authorities in China facilitate the foreign employees to deduct allowances before calculating the final tax amount from their monthly salary. The non- taxable benefits that can be deducted off the monthly salary before tax calculation include:
- Relocation expenses (both before the start of employment or while working in China)
- The allowances for meals, laundry, and housing
- Allocated allowances for children’s education and language learning
- The agreed personal travel expenses (usually 2 round trips to the foreigner’s home country) and allowances for business travel
It should be kept in mind that the China tax bureau will only allow an exemption on these allowances if they are explicitly listed out in the employee’s contract. Hence this should be a mandatory part of salary negotiations.
Salary deductions in lieu of taxation on foreign employees
A standard deduction of RMB 4,800 is applicable to all the foreign employees working in China. Some cities in China also deduct different allowances from a foreign employee’s salary. One such example is the social security payment for foreigners, which is deducted from the individual’s income.
Please feel free to contact us if you need any assistance in understanding the rules regarding taxation on foreign employees. Our team possesses years of experience in helping out the expats by carrying out all the processes on their behalf.