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The new Regulations for the Implementation of the Individual Income Tax Law of the PRC, which came into force on the 1st of January 2019, have not only changed the computation method of China’s Individual Income Tax (hereinafter referred to as ‘IIT’) but have also introduced new income categories and the yearly reconciliation timeframe. As this is now the second year of implementation of the IIT reform, it’s time for individuals to complete their annual IIT reconciliation filing for 2020.
In this article, we will go through the key requirements of the IIT regulation and also draw attention to the consequences for individuals and companies after a three-year transition period ends in December 2021 for the tax-free allowances for foreign employees and the special taxation on yearly bonuses. Both changes will significantly increase the tax burden of individuals and/or companies and there’s no better solution than facing all the available scenarios in advance.
As applied in the last fiscal year, individuals shall pay IIT on the five income categories listed below:
Comprehensive income, which was previously limited to salaries and wages, consolidates salaries and wages, income from labour services, income from manuscript remuneration, and income from royalties under the same progressive tax treatment, with seven tax brackets and corresponding rates ranging from 3% to 45%.
The IIT calculation method is based on a cumulative and progressive rate that takes into consideration the total income generated over the year, rather than during each month, although the IIT payment is due on a monthly basis.
By the 30th of June each year, all China-resident taxpayers shall submit the IIT reconciliation for the previous year in order to confirm that the IIT prepaid during the year matches the income generated over the same period and, in case of any discrepancy, to rectify the difference.
The latest regulations identify three types of situations in which taxpayers are exempt from yearly IIT reconciliation:
IIT yearly reconciliation procedures play a key role in ensuring that the IIT prepaid during the year matches the total tax payable calculated via the yearly overall individual income, especially in situations where more than one source of income coexists and/or employees have changed employer during the same financial year.
Individual taxpayers have the statutory obligation to complete the IIT reconciliation based on their cumulative income for the year (unless belonging to one of the exempt categories mentioned above) and are responsible for covering any difference in the final IIT calculation (i.e., to arrange a top-up or a refund).
Employers shall be responsible only for the calculation and declaration of the IIT generated via their own business-related activities (i.e., during the provision of wages and salaries).
At the beginning of 2021, the State Taxation Administration released an announcement related to this year’s IIT filing with clarifications on the implementation of the rules and their interpretation, which differ slightly from 2020 as it now emphasises that the responsibility lies with the individual employee.
The 2020 IIT filing can be submitted from the 1st of March and no later than the 30th of June 2021.
There are three ways for taxpayers to proceed with the annual IIT reconciliation:
Tax authorities have rolled out an official app (个人所得税) with the aim to simplify the reconciliation procedure in a user-friendly app that is available for all taxpayers.
Considering that the app is a relatively new tool for tax monitoring and management, it is available in only one version for both Chinese nationals and foreigners. The latter must have a mainland Chinese phone number and will have to visit their local tax bureau to collect a tax identification number which can be used in lieu of the unique code available on Chinese ID used by Chinese nationals to log in to the app.
Although taxpayers bear the ultimate responsibility from the perspective of the tax authorities for the IIT being settled at the year end, taxpayers can delegate their employers (acting as withholding IIT agents during the year) or a professional trusted third party to carry out the reconciliation on their behalf by signing a relevant power of attorney to be used upon declaration.
Moreover, taxpayers bear the ultimate responsibility for the authenticity and completeness of the information submitted. The fines for omissions or late filing have a direct impact on the personal credit rating of the individual who, therefore, should be fully aware of and knowledgeable towards individual tax compliance matters.
All supporting documents and data should also be kept by the taxpayer in case of any tax inspection in the future. Alternatively, the withholding agent should assist the taxpayer in completing the reconciliation filing by providing the necessary information and handling the process, if requested.
According to the policy, by the 31st of December 2021, foreign taxpayers will no longer enjoy the preferential policy of tax exemptions, including (but not limited to) housing allowance, language training fees and children’s education fees. Thus, the special IIT deduction process will be unified for all taxpayers in China, regardless of their country of origin.
From the 1st of January 2022, expats will have access to the same IIT deductions items granted to Chinese employees, which are:
According to the IIT Special Deduction Procedure (Trial Implementation), the six deductions mentioned above will be deducted according to a standard amount. For example, the applicable deduction amount for housing rent in Shanghai will be RMB 1,500 per month (or RMB 18,000 per year). Below is a table summarising the deduction types and amounts, although the amounts may differ by city:
|Item||Applicable scope||Deduction amount||Remarks|
|Children's education fees||Preschool education||Expenses for the full-time academic education of a taxpayer’s child shall be deducted to the extent of RMB 1,000 per month for each child
||Parents can choose to deduct 100% of the deduction amount via one parent or choose 50% of the deduction amount each; the specific deduction method cannot be changed within a tax year
|Continuing education expenses||Diploma education||RMB 400 per month, up to 48 months
||Individuals who receive continuing education and meet the deduction requirements can choose to deduct via their parents or they can choose to deduct by themselves|
|Professional qualification||RMB 3,600 in the year that the related certificate is issued
|Healthcare costs for serious illness||Taxpayer's individual payment for medical expenses that is within the scope of the medical insurance directory
||Medical expenses above RMB 15,000 and not exceeding RMB 80,000 can be deducted when processing the annual IIT filing
|Housing mortgage||First residential property purchased by the taxpayer or their spouse
||1,000 per month for no more than 240 months
|Expenses for elderly care||Taxpayer needs to support dependents aged over 60
||RMB 2,000 per month for the taxpayer who is an only child
||When a taxpayer is not the only child, the deductible amount of RMB 2,000 per month shall be apportioned equally between the taxpayer and their siblings, with no more than RMB 1,000 per month apportioned to each person
|Housing rent||Taxpayer and spouse do not have residential property in the city where they work
||There are three applicable deduction amounts according to different city sizes: (a) RMB 1,500 per month (b) RMB 1,100 per month (c) RMB 800 per month
The following example provides a better understanding:
|Before (CNY)||After (CNY)|
|Yearly gross salary||600,000||600,000|
|Housing allowance per month||20,000||20,000|
|School allowance per year||200,000||200,000|
|Home visit expenses per year||50,000||50,000|
|Difference||Carlotta will pay CNY 137,500 per year more than before|
Lastly, it is worth mentioning that until the 31st of December 2021, annual bonuses will enjoy a beneficial tax treatment, but starting from the 1st of January 2022, annual bonuses will become part of the comprehensive income category that is taxable at the standard rate.
Undoubtedly, the IIT reform will bring new challenges to companies in the near future as the termination of the tax-free allowances for foreign employees and the beneficial tax treatment for yearly bonuses will cause a significant increase in the labour costs for companies.
As a consequence, companies should budget for such costs and plan solutions in advance to allocate their workforce efficiently, eventually reviewing their global mobility policy, and relocating and/or renegotiating salary packages with their staff. There are certain locations in China, such as Shenzhen, Hainan Free Trade Zone and the Greater Bay Area, that are promoting the employment of local and foreign talents by granting reduced taxation rates on salaries, incentives/deductions for employers and simplified rules for obtaining work permits.
It is still unclear at this stage whether there will be further changes to the policies, aiming to extend the transition period, reduce the tax rates or introduce other benefits, especially to encourage the employment of foreign talents. In the meantime, we suggest that companies be prepared for the changes and plan the best and most efficient solution in advance to preserve their human capital.
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