How to Save Tax for Start-ups in China

Due to the large investments in the early phase, start-ups often encounter fund shortage in its infancy. It is important to adjust tax-related business and architecture, within the limits sanctioned by law, in order to develop a practical tax paying scheme based on the characteristics of the enterprises, with the aim of reducing the tax burden and increasing the profits. Moreover, tax planning also helps enterprises properly utilise the capital and make the right investment decisions.

Tax Saving Principles

To achieve the optimum results, enterprises should observe the following principles during tax planning:

• • Cost effectiveness: Implementation of any tax saving scheme should consider the costs of implementation while saving the tax. In addition, attention should be paid to the overall tax burden, instead of the burden of an individual tax item.
• • Long-term execution: Tax planning is a gradual process. When choosing a tax paying scheme, enterprises should not simply focus on the tax burden in a specified period of time, but evaluate the long-term benefits brought by the scheme to the enterprises.
• • Flexible adjustment: The tax law and enterprise business model will change with the economic environment. When implementing the tax saving scheme, enterprises should pay close attention to the changes in the government's tax laws and regulations, and make adjustments in time based on the actual situation of enterprises.

Tax Saving Methods

Unlike well-established enterprises, start-ups need to think twice about matters such as site selection, recruitment, capital allocation, financing, and etc. Therefore, when designing and developing tax saving schemes, tax accountants should choose the optimum tax saving methods based on characteristics of the start-up enterprises.

• • Site Selection

  To encourage investors to set up enterprises in some specified regions, the government will launch some tax preferential policies in these regions, for example, Shenzhen Qianhai and Shanghai Pilot Free Trade Zone.

• • Selection of Optimum Financing Method

  In their infancy, enterprises require a large amount of capital. Common financing methods include loans by financial institutions, loans by shareholders, and loads by associated enterprises. The result of tax saving scheme varies with each financing methods.

• • Recruitment of Specific Groups

  Enterprises can make use of the employment preferential policies of the government to save tax. For commercial enterprises, service-type enterprises, and some processing enterprises, if they employ people who have been registered as unemployed in the Human Resources and Social Security Department for more than one year and hold a valid Employment/Unemployment Registration Certificate, for a new position with at least one-year labour contracts, and pay social security insurance in accordance with the law, the business tax, urban construction and maintenance tax, educational surcharge, local educational surcharge and corporate income tax of such enterprises can be deducted by RMB 4,000 per year per employee (+30% at most) for 3 years.

• • Listing of All Losses and Expenditures

  Enterprise business operation involves a lot of expenditures, including salaries, travel expenses, loss on bad debt, depreciation, and interest expense. When designing a tax saving schemes, enterprises should include all the expenditures, losses, and deducted amount that are specified by related laws and regulations in the costs of the schemes.

• • Careful Selection of Material Cost Calculation Methods

  The material cost is an important constituent of the product price. How to include the material cost to the enterprise costs directly affects the cost and profit of an enterprise of that period. Enterprises can choose the calculation methods of material cost based on their actual situations. As the material cost is, generally, always increasing, adopting the last-in-first-out method to calculate the material cost will likely include more material costs of the period; while adopting the first-in-first-out method will likely include less material costs of the period. If enterprises are currently in tax holidays, they would better choose the first-in-first-out method. For these enterprises, the more profits obtained, the larger the amount of tax exemption. On the contrary, if enterprises are currently in the taxable period, the last-in-first-out method is recommended.

• • Transfer Pricing

  If the tax rates of an enterprise and its associated enterprises differ a lot, the enterprises can divide or transfer the profit by means of transfer pricing.

• • Carry-Over of Losses

  According to the tax laws of China, the annual losses of an enterprise can be carried over to the next year. If the profits of the next year are insufficient to cover the losses, the losses can continuously be made up in five years. This regulation gives great flexibility to enterprises on tax saving, as follows:

  • 1. If an enterprise has occurred losses that can be recouped in the previous five years, the enterprise should confirm the business income in time;
  • 2. Payment of some current controllable fees (such as advertisement fees) can be advanced or delayed, depending on the income status; and
  • 3. If an enterprise intends to purchase or merge an unprofitable enterprise, the merged enterprise is not qualified as an independent taxpayer after the merger. Losses of the merged enterprise that are currently not recouped can be paid off by the acquiring company year by year.

Tax planning is an activity that integrates professional knowledge of laws, finance, investment, and trade. Planners must have a good command on tax laws and accounting, as well as rich practical experience so as to choose different tax saving methods according to the situation of the enterprise. In addition, implementation of any tax saving scheme is accompanied by risks while it brings benefits to enterprises. Enterprises should enhance the standard-compliance and actual benefits of tax saving schemes. It is recommended that enterprises invite professional tax consultants to make a comprehensive plan for all the tax-related business of enterprises and obtain a safe and effective tax saving scheme.