企业合并税务

SC Group PRC Tax Analysis on the Proposed M&A Project 23 November, 2010 Content I. Our Understanding II. PRC Tax Implications 1) Merger 2) After the merger • Option I – Spin-off • Option II – Transfer assets to CM III. Other Consideration IV. Appendix 2 I. Our Understanding SC Group is mainly engaged in manufacturing business and has several PRC entities in China. Currently, the Management would like to restructure its holding structure within the Group. The current holding structure can be depicted as follows: 3 100% SC Asia Limited (“SC Asia”) BS International Industrial Limited (“BS”) SC (South China) Limited (“SCHK”) MK Industrial (Shenzhen) Limited (“MK”) The Group 100% SC (Shenzhen) Co., Ltd (“SCSZ”) 100% I. Our Understanding Based on the Management’s decision, SCSZ will be merged with MK in Shenzhen. Under the proposed merger, SCSZ will be merged into MK by way of absorption and MK will be the surviving entity. After completion of the merger, the Management will consider the following options: Option I: The surviving MK will be divided into two separate entities, namely MK A and MK B shortly after the merger. MK A will hold the land use right and buildings located in Shenzhen, relevant trademark and a Mission Hill Country Club Membership, while MK B will continue to conduct its intended business as before the spin-off. In this connection, the shareholder of MK B shall be changed from BS to another group related company, SCHK, and BS shall remain as the sole shareholder of MK A. Once the change of shareholding is completed, MK A will be sold to a third party through BS subsequently. Option II: The surviving MK will sell its trademark and a Mission Hill Country Club membership, and the land use right and building located at Shenzhen to a PRC subsidiary of CM separately without dividing into two separate entities after the completion of the merger. 4 II. PRC Tax Implications – Merger The proposed restructuring plan can be depicted as follows: 5 SCSZ SC Asia BS SCHK MK Merger New MK SC Asia BS SCHK 20% 80% II. PRC Tax Implications – Merger Fact: SCSZ merged into MK PRC Tax Implications: 1. SCSZ is required to pay back the exempted/reduced EIT for previous tax holidays as its operating period is less than 10 years 2. The net operating loss (“NOL”) of SCSZ can be utilised by MK according to Caishui [2009] No.59. The estimated NOL to be utilized = Net fair asset value of SCSZ x Longest-term government bond yield rate of the current year end 6 II. PRC Tax Implications on the Merger Under Asset Transfers 7 Taxes Tax Rate Applicable Scope Taxpayer Value Added Tax (“VAT”) 17% The transfer amount of inventory, while the VAT can be credited by the buyer (if bonded can be exempt from VAT under bonded transfer ) Seller (creditable against output VAT) 2% Sales of second-hand fixed assets (purchased prior to 1 Jan. 2009) Seller (non-creditable against output VAT) 17% Sales of second-hand fixed assets (purchased after 1 Jan. 2009) Seller (creditable against output VAT) Business Tax (“BT”) 5% Transfer of intangible assets & Sales of properties Seller Enterprise Income Tax (“EIT”) 25% Gain from transfer of the assets, if any. If transferred at net book value, there would be no gain, but it will be subject to tax bureau's assessment on the arm's length basis for related party transactions. Seller 8 II. PRC Tax Implications on the Merger Under Asset Transfers Taxes Tax Rates Applicable Scope Taxpayer Deed Tax (“DT”) 3% (Applicable DT rate for Shenzhen) The amount of transfer of land use rights or property rights Buyer Land Appreciation Tax (“LAT”) 30%-60% Appreciation amount on disposal of land use rights or property rights Seller Re-evaluation of Customs Duty (“CD”) and Import Value Added Tax Applicable rates for Customs Duty and 17% for Import Value Added Tax For disposal of the tax-exempted equipment under custom supervision, the dutiable price shall be calculated based on the residual period of custom supervision. Seller Stamp Duty (“SD”) 0.03% or 0.05% The contract sum of signed contracts for transferring inventory and other assets (including intangible assets) Seller and Buyer * All related party transactions should be conducted on an arm's length basis. Otherwise, the tax bureau is authorized to make adjustment. II. PRC Tax Implications - Option 1: Spin off (after the merger) After the merger, the new MK will be split into two companies with each company separately owned by different shareholders. 9 MK Hold: -Land use right -Trademark -Club Membership - Keep existing operating business activities BS SCHK MK A MK B BS SCHK 20% 80% 10 Taxes Tax Rate Applicable Scope/Description Taxpayer VAT 17% The transfer amount of inventory, while the VAT can be credited by the buyer (if bonded can be exempt from VAT under bonded transfer) MK A (creditable against output VAT) 2% Sales of second-hand fixed assets (purchased prior to 1 Jan. 2009) MK A (non-creditable against output VAT) 17% Sales of second-hand fixed assets (purchased after 1 Jan. 2009) MK A (creditable against output VAT) EIT 25% Gain from transfer of the assets. If assets were transferred at net book value, there would be no gain. However, it is subject to tax bureau's assessment on the arm's length basis for related party transactions. Mei Kei A SD 0.03% or 0.05% The contract sum of dutiable contracts for transferring inventory and other assets (including intangible assets) MK A and MK B II. PRC Tax Implications - Option 1: Spin off (after the merger) The PRC tax implications on transfers of relevant assets are summarized as below: After the spin-off, BS will sell MK A to a third party. The PRC tax implications are summarized as below:  Since MK A would only hold a land use right, a trademark and a Mission Hill Country Club Membership, and would not have any operating activities, it cannot fulfill the requirements for electing special reorganization tax treatments, i.e. both the original enterprise and the enterprise being separated continue to carry on, in substance, the original business activities before the spin-off. Please refer to the Appendix for the details of those requirements for electing special reorganization tax treatments.  Hence, the tax treatment should follow the ordinary reorganization and Circular Guoshuihan [2009] No. 698 regarding the State Administration of Taxation on Strengthening the Administration of Enterprise Income Tax on Incomes from Non-resident Enterprises' Equity Transfers (“Circular 698”) will apply. 11 II. PRC Tax Implications - Option 1: Spin-off (after the merger)  PRC Tax treatment under Circular 698 12 II. PRC Tax Implications - Option 1: Spin-off (after the merger) BS MK A Offshore China Sale to a third party Calculation of gain • Gain = Sales proceeds - cost of equity interest • Cost of equity interest: Amount of capital contribution to the PRC company or the consideration paid by the transferor to acquire the equity interest • No exclusion of retained earnings (which creates potential double taxation on retained earnings) • Gain is calculated in foreign currency. Sales proceeds are calculated in the same foreign currency as the initial contribution or acquisition of the equity interest, using the exchange rate at date the consideration was paid. • Thus, if, in a foreign currency term, there is no gain, then no PRC tax would apply – even if there would be a gain in RMB if the cost and sale proceeds were converted into RMB at the acquisition date and the date of sale, respectively.  PRC Tax treatment under Circular 698 13 II. PRC Tax Implications - Option 1: Spin off (after the merger) BS MK A Offshore China Sale to a third party Calculation of gain (con’t) • If acquisitions of equity interest occurred at different times and in different currencies, the gain is calculated in the foreign currency in which the initial acquisition was made. • Subsequent investment amounts are calculated in the initial foreign currency based on the exchange rate at the date of the subsequent investment. A weighted average method is used to determine the cost of the equity interest sold.  PRC Tax treatment under Circular 698 14 II. PRC Tax Implications - Option 1: Spin-off (after the merger) BS MK A Offshore China Sale to a third party Compliance requirements: PRC Buyer • The PRC buyer is the withholding agent. If the PRC buyer fulfills its withholding obligation to withhold the tax due, then the non-resident seller, BS, has no compliance obligations. • If, however, the PRC buyer fails to fulfill its withholding agent obligations, the non-resident seller, BS, must file a tax return within 7 days after the transfer or the receipt of the consideration (whichever is earlier). The Management is also considering to directly sell the land use right, a trademark and a Mission Hill Country Club Membership to another third party, i.e., a PRC subsidiary of CM, after the completion of the merger, without dividing MK into two entities. 15 CM Sell land, trademark & membership MK II. PRC Tax Implications - Option 2: Transfer a portion of assets to CM (after the merger) II. PRC Tax Implications – Option 2: Transfer a portion of assets to CM (after the merger) Below is the summary of tax item related to the sales of a land use right, a trademark and a Mission Hill Country Club Membership: 16 Tax Item MK CM EIT • Land use rights: Income derived from the sales of land use rights would be a taxable income for EIT purposes • Trademarks: Income derived from the sales of trademarks would be a taxable income for EIT purpose. • Membership: Income derived from the sales of membership would be a taxable income for EIT purpose. The land use right, the trademark and the club membership would be regarded as intangible assets, and such costs be amortized in accordance with the contract period for EIT purposes. BT • Land use rights: 5% of the selling price • Trademarks: 5% of the selling price • Membership: 5% of the selling price N/A SD • Land use rights: 0.05% of the contract sum • Trademarks: 0.05% of the contract sum • Membership: 0.05% of the contract sum • Land use rights: 0.05% of the contract sum • Trademarks: 0.05% of the contract sum • Membership: 0.05% of the contract sum LAT • Land use rights: 30% - 60% on appreciation amount from transferring the land use right N/A DT N/A • Land use rights: 3% of the purchasing price III. Other considerations 17 Option I • The spin-off would be time consuming as it generally takes several months or even longer to obtain the approval of relevant government authorities, such as Shenzhen Trade and Industrial Bureau, Shenzhen Administration of Industry and Commerce, etc. • Tax basis of assets and liabilities for EIT may be challenged by the in- charge tax bureau. As such, a transfer pricing analysis in this respect would be necessary and the transaction price should be determined on an arm- length basis. • If MK A will be sold to a third party immediately after the spin-off, tax treatments for special reorganization will not be applicable. Option II • MK would possibly have a LAT liability as the appreciation from the sale of land usage rights is subject to LAT. The LAT impact could be substantial. IV. Appendix – Restructuring Rules According to relevant tax circular, Caishui [2009] No.59, there are five general conditions for a transaction to be classified as a special reorganization and be applicable to special tax treatments: 1. Bona fide business purpose: The transaction must have a bona fide business purpose and the primary purpose of the transaction must not be to reduce, avoid or defer tax payments. 2. Prescribed ratios on amount of assets or equity transferred. 3. Continuity of business operations: There must be no change in the original business operating activities of the involved company for consecutive twelve months after the reorganization. 4. Prescribed ratio on amount of equity payments required. 5. Continuity of ownership: The major transferor must not transfer the acquired stock for consecutive twelve months after the acquisition. For a corporate restructuring that satisfies all the above mentioned conditions, the parties involved may elect for special tax treatments which are essentially a tax deferral treatment. 18 IV. Appendix – Restructuring Rules Other than aforementioned five conditions that should be met with, in the event of a merger where the equity consideration received by the shareholders of the merged enterprise is at least 85% of the total consideration, or no consideration is received for merger of enterprise under common control, the following special reorganisation tax treatments could be adopted: 1.The tax basis of assets and liabilities of the dissolved enterprise being transferred to the surviving enterprise shall equal to the dissolved enterprise’s original tax basis of the transferred assets and liabilities. 2.All of the income tax attributes of the dissolved enterprise prior to the merger shall carry over to the surviving enterprise. 3.The maximum net operating loss of the dissolved enterprise, which may be utilized by the surviving enterprise, is equal to the FMV of the net assets of the dissolved enterprise times the bond yield of the government bond with the longest maturity term of the current year end in which the merger occurred. 19 IV. Appendix – Restructuring Rules If certain required conditions are fulfilled, the merger would be qualified as a Special Reorganization. On the contrary, if certain required conditions cannot be fulfilled, the merger would be regarded as an ordinary reorganization and the relevant tax treatments shall be as follows: 1. The surviving enterprise shall determine the fair market value (“FMV”) of assets and liabilities being received from the dissolved enterprise. 2. The dissolving enterprise and its shareholders shall follow the enterprise income tax treatment on liquidation of a company. 3. The tax loss of the dissolved enterprise shall not be carried over to or be utilized by the surviving enterprise. Under an ordinary reorganization, the dissolved enterprise (i.e., SCSZ) shall recognize a gain or loss on transfers of all the assets and liabilities being transferred to the surviving enterprise. In addition, according to our previous experience, the tax bureau may require a third party valuation report for the purpose to determine the FMV of the assets or liabilities being transferred. 20 IV. Appendix – Restructuring Rules Special Reorganization – Spin-off In order for a spin-off transaction to qualify for a special reorganization tax treatment, the transaction must meet the afore-mentioned five conditions plus the following additional conditions: 1. The shareholders receive the shares of the spin-off enterprise based on the original proportion of their shareholding in the enterprise being spin-off. 2. Both the spin-off enterprise and the enterprise being spin-off continue to carry on, in substance, the original business activities before the spin-off. In a spin-off, the tax basis of the assets and liabilities received by the spin-off enterprise is the same tax basis as in the hands of the transferor before the transfer. 21 IV. Appendix – Restructuring Rules Ordinary Reorganization – Spin-off If the spin-off reorganization does not fulfill all of the aforementioned conditions, it will be treated as an ordinary reorganization. As such, the enterprise being spin-off will recognize a taxable gain/loss arising from the transfer of its assets and liabilities at fair value at the time of the transaction. For the spin-off enterprise, i.e. MK B, the tax basis of the assets and liabilities transferred from the enterprise being spin-off, MK, will be the FMV of the assets and liabilities being transferred. Shareholders of MK would be deemed to have received a distribution from MK if MK continues to exist after the spin-off. The above distribution normally would be treated as a dividend if it is paid in cash. However, the current M&A rules do not provide any guidance on the tax treatment if the distribution exceed retained earnings and reserves. If MK does not survive, the transaction will be treated as a liquidation for enterprise and its shareholders would recognize a taxable gain or loss, which is equal to the FMV of the assets and liabilities being transferred minus the tax basis of the corresponding assets and liabilities, the liquidation expenses, and related taxes and fees in accordance with the EIT implementation rules. 22 IV. Appendix – Restructuring Rules Ordinary Reorganization – Spin-off The NOLs of the related split-off enterprises cannot be used to offset each other’s income. If MK continues to be eligible for tax incentives under the transitional rules in Article 57 of the EIT law after the spin-off, it can continue to enjoy its own unused tax incentives for the remaining incentive period. However, where MK was the entity entitled to the tax incentives and is dissolved after the spin- off, MK B will not be entitled to the incentives of MK in Option I. 23