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Country Commerce 2009 www.eiu.com © The Economist Intelligence Unit Limited 2009

notice also details the material that must be submitted, including evidence that the applicant has suffered damage because of the improper use of its trademark.

• Regulations Concerning Copyright in the Production of Digital Products, published in December 1999 by the National Copyright Administration of China, state the range of digital products in which copyright law must be respected, such as CD-ROMs, VCDs, DVDs and laser discs. Royalty standards, in force since July 1st 2000, give guidelines such as a royalty rate of 5�12% to use copyrighted material in digital products.

• Tentative Provisions Regarding the Administration of Software, published on March 30th 1998, ban the development, production and trading of software products that infringe on intellectual-property rights. Software producers must either hold the property rights to their products or have obtained specific permission from the holder of the rights.

Implementation and enforcement. With most of the legal framework now meeting international requirements, China�s focus is now on implementation and enforcement. The authorities project the image of having adopted a hard-line against infringements. Individual achievements, such as the discovery of 1,100 pirated compact discs at Dalian Capital International Airport in February 2008, get extensive coverage in the state-controlled media.

In March 2008 China launched two new campaigns, both expected to last until November: �Thunderstorm� targets �malicious, collective and repeated infringement, counterfeiting or imitation of patents�; and �Skynet� targets patent frauds. Results of the campaigns had not yet been made public in early 2009. The effectiveness of the campaigns have received mixed reviews, and foreign businesses and governments are generally dissatisfied with the enforcement of IPR regulations.

Patent disputes are usually settled through the courts, whereas technology-licensing disputes are resolved through arbitration. By contrast copyright infringements have received little court or administrative attention. Foreign experts say this pattern is beginning to change.

In addition, local patent-administration offices are becoming more aggressive in raiding suspected patent violators, making administrative solutions more attractive. And more copyright cases have resulted in the courts handing down substantial penalties against Chinese violators. A court battle is the only way a company can obtain compensatory damages, and the publicity of a court case can be a strong deterrent to other potential infringers.

In the first ten months of 2008, courts at all levels in China accepted 20,806 IPR cases, an increase of 36.9% on the same period in 2007. They handled 3,251 appeal cases over the ten-month period, a rise of 49.5% from a year earlier.

In January 2007 the Supreme People�s Court issued a notice ordering stronger penalties for IPR violations, including the confiscation of �all illegal gains and manufacturing tools� of IPR violators as well as the destruction of pirated products. Criminal penalties will be imposed on persons earning illegal income of more than Rmb30,000 or producing more than 1,000 pirated copies of CDs

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or DVDs, although it was unclear when such penalties would come into effect or how they would be enforced.

The State Intellectual Property Office (SIPO), an independent agency under the State Council (the cabinet), was formed in 1998 from the Patent Administration Office. SIPO�s establishment was originally to be the first step towards consolidating all IPR regulators, and it was eventually to take charge of the Trademark Office and the National Copyright Administration of China (NCAC).

Under the present arrangement, SIPO deals with patents, and the NCAC (part of the State Printing and Publishing Administration) deals with copyright and software. They also investigate violators but have far less leeway to conduct raids and impose punishments than the State Administration of Industry and Commerce (SAIC). The Trademark Office, an agency under the SAIC, handles registrations of trademarks, whereas the Trademark Review and Adjudication Board handles disputes. The SAIC and its local bureaux are the only government departments authorised within the context of their ordinary duties to investigate alleged infringers. Administrative decisions of both the SAIC and the NCAC can be appealed through the court system.

The China Copyright Protection Centre under the NCAC implements some of the parent agency�s functions, such as copyright trade negotiations and co-operation at home and abroad. It is responsible for authenticating copyrights of works imported from or exported to other countries and for registering publishing contracts of audio-video and electronic publications involving a foreign party.

Companies with a stake in IPR issues have organised themselves. Chinese software producers set up the China Software Industry Association in 1995 to raise IPR awareness and crack down on pirating. The Quality Brands Protection Committee, which by January 2009 had brought together 184 foreign companies, is engaged in active anti-counterfeiting efforts in co-operation with the Chinese government.

The recent appearance of several Chinese and foreign investigative agencies, which undertake assignments on behalf of foreign parties, has bolstered IPR enforcement. Foreign investigation firms are technically not supposed to operate in China, but they have in fact done so and with impunity; indeed, they have even submitted information to officials on behalf of clients.

Chinese criminal law provides for more-drastic penalties in counterfeiting cases that violate the public good. These penalties include long prison sentences and even capital punishment. If the bureau or court hearing the dispute decides that a violation has occurred, it can order the infringer to cease production and destroy related goods. The authority can also impose a fine and order the infringer to pay damages.

Intellectual-property law

Conventions. Paris Union, 1883�1967; World Intellectual Property Organisation (WIPO), 1967; Madrid Agreement Concerning the International Registration of Marks (Madrid Union), 1891�1967; Bern Convention for the Protection of Literary and Artistic Works; Universal Copyright Convention; Geneva Phonograms Convention; Patent Co-operation Treaty; International Classification of Goods and Services (Nice Agreement).

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Basic laws. Trademark Law of the People�s Republic of China (March 1983), Patent Law of the PRC (April 1985), Implementing Regulations of the Patent Law of the PRC (April 1985), Implementing Regulations of the Trademark Law of the PRC (January 1988), Copyright Law of the PRC (June 1991), Decision to Amend the Patent Law of the PRC (January 1st 1993), Detailed Rules and Regulations for Implementation of the Revised PRC Patent Law (January 1st 1993), Decision to Amend the Trademark Law of the PRC (July 1st 1993), Detailed Implementing Rules for the Trademark Law of the PRC (July 28th 1993), Decision to Amend the Patent Law of the PRC (August 25th 2000), Amendments to the Detailed Implementing Rules for the Patent Law of the PRC (July 1st 2001), Decision to Amend the Copyright Law of the PRC (October 27th 2001), Decision to Amend the Trademark Law of the PRC (October 27th 2001), Regulations for the Administration of Import and Export of Technology (January 1st 2002), Regulations on Protection of Computer Software (January 1st 2002), Amendments to the Detailed Implementing Rules for the Copyright Law of the PRC (September 15th 2002), Amendments to the Detailed Implementing Rules for the Trademark Law of the PRC (September 15th 2002), Regulation on Administration of Domain Names on China Internet Network (December 1st 2002), Decision on Revision of the Implementing Regulations of the Patent Law (February 1st 2003), Rules on the Recognition and Protection of Well-known Trademarks (June 1st 2003), Rules on the Registration and Administration of Collective Trademarks and Certification Trademarks (June 1st 2003), Implementing Rules of Madrid International Registration of Trademarks (June 1st 2003), Amendments to the Foreign Trade Law (April 6th 2004).

Patents

Types and duration. Twenty years for inventions, ten years for utility models and designs. These terms are not renewable. Novelty. Before the date of filing, no identical invention or utility model may have been disclosed in publications in China or abroad, publicly used in the country or filed previously with the State Intellectual Property Office (SIPO). Unpatentable. Scientific discoveries, rules and methods of intellectual activity, methods of diagnosing and treating diseases, animal and plant varieties, and substances obtained through nuclear transformation. But patents may be granted for processes used in producing animal and plant varieties. Fees. Applications: invention, Rmb900; utility model, Rmb500. Annual fees: invention, Rmb900 for the first to third year; Rmb1,200 for the fourth to sixth year; Rmb2,000 for the seventh to ninth year; Rmb4,000 for the tenth to 12th year; Rmb6,000 for the 13th to 15th year; Rmb8,000 for the 16th to 20th year. See below for annual fees for models. Examination: Rmb2,500. Annual application maintenance fee: Rmb300. Compulsory licences may be granted if another entity requests and is denied permission by a patent holder to work an unused patent on reasonable terms; if use of a patent is necessary to exploit a new, more technically advanced patent and the owner is not co-operative; during a state of national emergency or in other extraordinary circumstances; or if licensing is in the public interest.

Industrial designs and models

Duration. Patent protection for designs and utility models is ten years from filing date, with application for renewal of three years. Registration procedure. Foreigners and foreign enterprises with no habitual residence in China must appoint a patent agency designated by the State Council to act as an agent. All patent applications for designs and utility models must be filed with the SIPO and must include the title of the design or utility model, a description of it, the name of the inventor or creator, and the name and address of the applicant. For a design, drawings or photographs of it and the class to which that product belongs should be indicated. Applications for utility models should include with the description an abstract and any relevant technical claims. Upon rejection, an applicant or third party may request a re-examination by the SIPO. Fees. The fee for application is Rmb500. Annual registration fee for models is Rmb600 for the first to third year (agent fee, US$50); Rmb600 for the fourth and fifth year (agent fee, US$60); Rmb900 for the sixth to eighth year (agent fee, US$70); and Rmb1,200 for the ninth and tenth year (agent fee, US$80). Annual registration fee for designs is Rmb150 for the first to third year (agent fee, US$50); Rmb300 for the fourth and fifth year (agent fee, US$60); Rmb600 for the sixth to eighth year (agent fee, US$70); and Rmb800 for the ninth and tenth year (agent fee, US$80). An additional fee of Rmb100 applies for renewing a patent for models and designs (agent fee, US$80).

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Trademarks

Types and duration. Ten years from the approval date for registration, renewable for equal periods. Service trademarks are registrable since July 1993. The status of collective, associated and certification marks remains unclear. Legal effect. First to register is entitled to exclusive right to a trademark. However, since December 1984, when China joined the Paris Convention, nationals of other member nations may claim priority use of trademarks within six months of the date of the first filing. Registered trademarks must be used to avoid challenge to registration. Trademarks unused for more than three years may be cancelled. Not registrable. National flags and emblems, generic names of goods, words or symbols having direct reference to the nature of the product, words or symbols �detrimental to socialist morals or customs or having unhealthy influences�, commonly known foreign place names, and names of Chinese administrative districts at or above the county level. Fees. Application, Rmb1,000 (agent fee, US$370); renewal, Rmb2,000 (agent fee, US$390); appeal against rejection, Rmb1,500 (agent fee, US$340 and up); opposition, Rmb1,000 (agent fee, US$280 and up).

Copyrights

Types and duration. Copyrights are protected for the life of the author plus 50 years, or for 50 years from first publication in employment or made-for-hire situations. Copyright holders can license their rights for ten years (renewable upon expiration), after which the rights revert to the original owner. Legal effect. The various rights protected under the law include the right to receive compensation, use, distribute, amend, adapt and earn accreditation for the works, and also various derivative-work rights. In work-for-hire and employment situations, the copyright belongs to the author, except for computer programs, engineering designs and drawings of product designs and specifications (which belong to the employer). Registrable. Protection is granted to written, spoken, recorded, broadcast and artistic works; construction and product drawings; maps and charts; and computer software. Not covered are newspaper and media reports. It is unclear whether databases (such as directories and lists) fall under its provisions, and the implementing regulations failed to clarify this point. The fee for registering a copyright is US$400 (including official fees and attorney fees). However, as a signatory to the Bern Convention and the Universal Copyright Convention, China adopts the principle of automatic protection for copyright in accordance with international practice, and works need not be registered.

Patents. The State Intellectual Property Office (SIPO), an authority under the State Council, reviews patent applications and grants patent rights. There are 70 administrative authorities for patents, including 54 at the provincial level and 16 at the central ministerial level. They process applications and handle disputes relating to the patent rights of Chinese individuals or enterprises.

Foreign applicants with a residence or business office in China can use local patent-administration offices. Other foreign applicants must use specially designated agencies. The SIPO received 828,328 patent applications in 2008, 19.3% more than in 2007. China had received about 5m patent applications by the end of 2008, according to the SIPO. China accepted its first online patent application in early 2004.

Trademarks. Foreign companies wishing to register trademarks in China must go through the Trademark Office of the State Administration for Industry and Commerce. Implementing Rules for the Trademark Law, which came into force on September 15th 2002, stipulate that foreign companies with a presence in China can file directly; foreign companies without a permanent local business must use a Chinese trademark agent.

Foreign firms should carefully monitor the work of trademark agents and consider employing foreign law firms with experience in China to prepare

Registering property

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registration documents, and thus leaving the agent with the simple task of filing the prepared documents.

Copyright. China acceded to the Bern Convention in 1992; hence, copyright automatically comes into existence at the time of creation. Even so, China encourages the registration of computer software. Chinese companies can register copyrights with the National Copyright Administration of China.

This administration has handed over the responsibility of registering computer software to the China Copyright Protection Centre. Registration of software is no longer a precondition for filing infringement actions with either the courts or the administrative departments, following the promulgation of the Regulations on Protection of Computer Software on January 1st 2002.

Recent licensing agreements

Royal Dutch Shell (Netherlands/UK) signed a licensing agreement in November 2008 with Yunnan Yuntianhua Co, permitting the Chinese company to use Shell�s coal-gasification technology at a methanol plant in Shuifu county in the south-west of China. It was Shell�s third such agreement in recent months, following coal-gasification licensing agreements with Datong Coal Mine Group in September 2008 and Yongcheng Longyu Coal Chemical Co in July 2008. Shell�s coal-gasification technology offers a way of using coal to produce fertilisers and chemicals, or to produce synthetic gas for use in power generation. Financial details were not disclosed. Nokia of Finland entered into a cross-licensing agreement with Huawei Technologies Co in September 2008. The agreement gives Huawei access to Nokia patents in wireless standards. Nokia and Nokia Siemens Network are granted access to patents held by Huawei for third-generation mobile service technologies. Financial details were not disclosed. Mitsubishi Motors of Japan signed a technology-licensing agreement in July 2008 with Harbin Dongan Automotive Engine Manufacturing Co, a joint-venture manufacturer of electronic fuel-injection engines and other automotive components in which the Japanese company holds a 5.7% stake. Other partners in Harbin include Harbin Dongan Auto Engine Co (36%), Harbin Dongan Engine (Group) Co. (19%), Harbin Aircraft Industry (Group) (15%), Mitsubishi Motor Co (15.3%), Malaysia China Investment (9%) and Mitsubishi Motors Corp (5.7%). The agreement covered production of 4- and 5-speed automatic transmissions. No details were made available. GE Energy of the United States signed a licensing agreement with Guizhou Jinchi Chemical Co in February 2008, allowing the Chinese company to use GE Energy�s gasification technology for a project in Tongzi county, in south-west China�s Guizhou province. The technology enables Guizhou Jinchi Chemical Co to turn coal into synthetic gas, a mixture of primarily of hydrogen and carbon monoxide, which is used in the production of chemicals. It marked the US company�s 32nd gasification licensing agreement in China. Financial details were not disclosed.

To ensure the success of a technology-transfer deal, foreign suppliers should ascertain at the start whether the technology recipient has the authority to sign a technology-transfer deal with a foreign entity and has access to hard currency to pay for imported technology. Suppliers should also confirm that local planning authorities have approved the project by asking to see the project�s feasibility study and authorisation certificate.

Foreign investors looking for information on China�s technology priorities and potential technology-transfer projects can contact the provincial- or municipal-level foreign-investment commissions in most of China�s major cities. These commissions, along with local offices of the State Scientific and Technological Commission, often publish lists of advanced-technology projects for which China is seeking foreign participation. Most Chinese provinces and government ministries have become extremely competitive in recent years in seeking foreign investment; this has led to the creation of informative, bilingual and relatively

Negotiating a licence

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user-friendly websites at many levels of China�s bureaucracy that can be useful for gathering initial information.

China�s technology-implementing rules do not cover contracts for licensing trademarks. But the Provisional Measures for the Administration of Trade in the Importation of Technology and Equipment (implemented in March 1996) specifically cite trademarks linked to licensed patents or other licensed technology as falling within the purview of the technology-transfer regime. Where trademarks are not linked to a licensed technology, they are often licensed through a separate, less restrictive contract for a separate (possibly higher) fee.

A development policy for the steel sector in force since 2005 calls for de facto technology transfer, the US Trade Representative�s Office said in its December 2008 annual report to Congress. This is because the policy requires foreign investors in the steel sector to possess proprietary technology or intellectual property, though it bars them from holding controlling shares in steel ventures.

When the Chinese show reluctance to pay outright royalties or fees, foreign firms may resort to more-flexible and indirect forms of compensation. One pharmaceutical firm transfers manufacturing and managerial know-how but bills its client solely for the full international price of the bulk active ingredients it supplies. Other firms include technology in the price of knocked-down kits they supply to Chinese clients. One US company is helping its Chinese client to design a new product; in exchange, the Chinese firm has agreed to a part-sourcing contract.

There are no formal ceilings on maximum royalty rates or fixed rules on how to structure compensation agreements, but foreign licensers report that informal guidelines apply to some industries. There is more reluctance to pay for know-how (especially in its more intangible forms) than for patented inventions. The compensation terms established by a particular Chinese negotiating authority in earlier deals tend to establish benchmarks that succeeding licensers find difficult to surpass.

The Chinese generally try to discourage upfront compensation for technology transfer, preferring instead to spread the payments over the term of a contract and to defer final payment until the time the licensee is actually producing goods. Where the technology is to be licensed to an unrelated party (that is, not a joint venture involving the licenser), a lump-sum upfront payment may be preferable to a royalty, since it reduces risk to the licenser. China prefers that royalties be based on net sales or net value added, and Chinese negotiators try to whittle down the basis for payments by excluding such inputs as imported materials and parts.

For royalty-based agreements, the rate is generally 5�7% of net sales or 2�3% of gross sales. The rate can be lower�perhaps 2% of net sales�when the licence is part of a sale of equipment or when the technology in question is considered less advanced. Rates of around 5% or more are available when it is recognised that substantial research-and-development effort went into the technology.

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The Regulations for the Administration of Import and Export of Technology, issued by the State Council and implemented from January 1st 2002, cover a broad range of technology and patent transfers. They established three categories for imported and exported technologies: (1) freely imported and exported technology; (2) restricted technology; and (3) prohibited technology. The regulations clarify procedures for approval and registration of imported technology, replacing previous contradictory regulations in the field.

No prior application is necessary for freely tradeable technology, but registration is necessary after the technology has been imported. Registration is online via the China International Electronic Commerce Network. The Ministry of Commerce (MOFCOM) is responsible for registering technology imports for �large projects�, including ones that need approval from the State Council and ones funded partly by the national budget or by foreign-government loans. Provincial-level foreign-trade bureaux are in charge of registering other contracts involving the import of freely tradeable technology.

For restricted technology, an application for import licence must be filed with MOFCOM, which must process the application within 30 days. Upon approval of the licence, and after the technology-import contract has been signed, it must be resubmitted to MOFCOM, which must reply within ten days. The importer must also file a registration with MOFCOM after approval of the licence.

The licenser should keep the registration certificate that the MOFCOM provides, since the regulations require the certificate to be produced when applying for foreign-exchange settlements, including overseas remittances of royalties.

The 2002 regulations removed previous rules that restricted most technology contracts to ten-year terms and required the licensee to maintain confidentiality only for this period. The new regulations do not set a time limit, and it is now up to the contracted parties to determine whether the licensee may use the technology beyond the end of the contract. However, the regulations could make life harder for the licenser by imposing a series of new warranties. They

Administrative restrictions

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require the licenser to guarantee that he is the owner of the technology, that it is without glitches and will achieve the technological objectives described in the import contract. Foreign licensers must carefully limit the warranties to which they agree. The licenser might also require the licensee to meet certain competence standards before offering a warranty�to avoid becoming liable when a technology fails to perform because of incorrect use or inadequate provision of power or utilities on the part of the licensee.

Foreign companies interested in licensing the same technology to different end-users might have difficulties negotiating compensation. For example, authorities challenged one US company�s technology-transfer agreements with Chinese recipients on the grounds that the country should pay for the same know-how only once. But the contract with the original Chinese licensee included a non-disclosure clause that prevented sharing know-how. The US licenser eventually got around the objections by charging a �documentation� fee when it passed on technology.

The State Administration of Industry and Commerce provides some protection for foreign licensers of technology under Several Provisions Concerning Prohibition of Acts of Infringement of Commercial Secrets, which came into force in November 1995. �Business or commercial secrets� protected under the regulations include information relating to the design, procedures, product formulae, manufacturing process, manufacturing know-how, client lists, information on sources of goods, production and sales tactics, and the details of bids submitted in contract tenders. The commercial-secrets provisions also vest local authorities with the power to seize any secret materials that were unlawfully obtained, and either to destroy them or to return them to their rightful owners.

Competition and price policies

Strong lobbying by officials in the more-reform-minded coastal areas and special economic zones (SEZs) coupled with fears of massive rural unemployment has prompted the central government to become more tolerant of non-state enterprises throughout China. Four recent landmark events highlight growing official recognition of the importance of private enterprise:

• The National People�s Congress (NPC), the national legislature, adopted the long-awaited Property Law in March 2007, granting protection not just for public but also for private property.

• The NPC adopted a constitutional amendment in March 2004 that, for the first time, recognises and protects private property;

• The 16th Congress of the Communist Party decided in November 2002 to allow private entrepreneurs to enter the party ranks at; and

• Constitutional amendments passed in March 1999 elevated the status of the non-state sector.

Economic contradictions�celebrating free markets on the one hand while maintaining market-distorting practices like energy subsidies on the other�

Overview

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reflect China�s ambiguous embrace of capitalism. But there is no doubt that the overall trend in China is towards a liberalisation of the economy. On the negative side, private enterprises continue to have far less access to loans from the principal Chinese banks and face more red tape in obtaining approvals for various economic activities.

China�s first Anti-monopoly Law took effect on August 1st 2008, a year after it the Standing Committee of the NPC passed it, following 13 years of agonising preparation. (See Monopolies and market dominance for details.) China has other laws banning certain anti-competitive behaviour; for example, its foreign-technology import laws ban tied-selling arrangements between a licenser and licensee. China has promulgated several national laws bolstering market competition and consumer rights, including the following:

• Regulations Prohibiting Regional Barriers under the Market Economy, issued by the State Council and in force since April 21st 2001, targets the regional protectionism that had emerged in various forms. The regulations specifically state that local governments and authorities may not hinder the import of goods and services originating in other parts of China. This applies to crude and obviously illegal means (such as roadblocks to bar products from the outside) and to more-sophisticated methods (such as having local officials hint to local companies that they should buy only locally made goods). The regulations specify a range of penalties; these range from issuing notes of criticism to dismissal and criminal prosecution.

• Provisional Rules on Banning Exorbitant Profits, implemented on February 1st 1995, require businesses to display accurate price tags, forbid collusion between enterprises and dealers to set prices, and protect consumers from paying exorbitant prices.

• Law Concerning Protection of the Rights and Interests of Consumers, implemented on January 1st 1994, outlines the basic rights of consumers and obligations and liabilities of business operators providing goods or services. It also sets penalties for infringing the rights and interests of consumers.

The first Anti-monopoly Law, 13 years in the making, took effect on August 1st 2008. The Standing Committee of the National People�s Congress (NPC), the national legislature, passed the law in August 2007. It bans monopolistic arrangements (such as cartels) and monopolistic behaviour (such as price fixing and curbing competition). Monopolies will still be permitted in individual cases where they are believed to promote innovation.

The law adopts a wide definition of monopolistic behaviour, banning a range of practices, including not just fixing prices but also restricting sales, dividing up sales territories, and engaging in collective boycotts of certain transactions. It also bans all �other forms of monopolistic agreements�. The law defines dominant market position as a situation where one business has a 50% market share; two businesses have a combined 66% market share; or three businesses have a 75% market share. The law lists penalties that can be imposed for monopolistic behaviour, including fines of up to 10% of the sales turnover

Monopolies and marketdominance

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during the previous year for monopolistic agreements or abuse of dominant market position.

After the law entered into force in 2008, (1) the Ministry of Commerce (MOFCOM) set up the Anti-monopoly Bureau, (2) the National Development and Reform Commission (NDRC) established the Price Supervision Office, and (3) the State Administration for Industry and Commerce (SAIC) set up the Anti-monopoly and Anti-unfair Competition Bureau. This followed the rough division of labour among the three: MOFCOM is in charge of merger approvals; the NDRC handles cases related to pricing; and the SAIC targets alleged abuse of dominant market position. In November 2008 the Anti-monopoly Bureau of the MOFCOM issued its first public decision under the new law; the decision related to the acquisition by InBev, a Belgian beer maker, of Anheuser-Busch, its US rival (see Acquisition of an existing firm).

The Unfair Competition Law curbed some monopolistic behaviour; the law, implemented on September 1st 1993, defined specific business practices as constituting unfair competition. The law has applied to legal persons, other economic organisations (including foreign-invested enterprises�FIEs) and individuals engaged in business. Among the actions it defines as unfair are the following: use of bribes to sell or buy merchandise; restrictions by the government (including subordinate departments) on the entry or exit of merchandise from or to a local market; collusion in the submission or acceptance of tenders; restrictions imposed by businesses with legal monopolies (such as utilities) requiring the purchase of products from designated business operators; spreading of false information injuring the reputation of competitors; and selling merchandise below cost to force competitors out of business.

The central government has acknowledged that the Unfair Competition Law has had only a limited effect on monopolistic practices. As part of its anti-inflation campaign of the mid-1990s, the central government introduced Provisional Rules on Banning Exorbitant Profits, in January 1995, to curb price gouging by enterprises and retailers.

Further decentralisation of economic control and intensification of competition from a variety of sources are weakening the state-run monopolies that have dominated major industries. Competition, which is coming from rural township enterprises, joint ventures and foreign imports, has further intensified since a law implemented in December 2004 has opened China�s domestic market to FIEs (see Freedom to sell).

Although the central government has been curbing the power of some state-run monopolies (like telecoms and foreign-trade companies), it has had to reinstate certain monopolies. For example, a two-year drop in cotton production coupled with increasing demand from textile producers prompted it in 1994 to reintroduce its monopoly over cotton pricing, marketing and sales; the measures were abandoned only in September 1999. Similar price pressures in the oil sector prompted the government to reinstitute state monopoly control over prices, marketing, and the import and export of oil and oil products.

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The telecoms industry, once a huge, all-encompassing and inefficient state monopoly, has been split into several companies. All are still large by any standard, but they are meant to compete with each other. China now has two fixed-line operators, China Telecom Group and China Netcom Group, which were initially divided geographically but are being encouraged to compete, and they are actively expanding into each other�s turf. China Netcom, originally focusing on northern China, established two separate entities, Netcom North, covering ten provinces in northern China, and Netcom, in 15 southern provinces. There are two cellular-phone operators: China Mobile and China Unicom. China Telecom Satellite and China TieTiong (previously China Railcom) provide fixed lines for leasing. China Mobile took over China TieTong in May 2008, but the latter was promised relative independence in operations.

Foreign-trade companies are one example of an industry where anti-monopoly measures may gradually benefit foreign investors. The business was originally the exclusive province of state-owned enterprises, but entry by non-state enterprises has gradually become easier.

China has continued to encourage mergers in a bid to create large, competitive local conglomerates (based on the model of South Korea�s chaebol) that can withstand the pressure of foreign competition. This massive merger drive could involve thousands of state-owned enterprises (SOEs) in the coming years.

There is some room for foreign participation in this merger programme. The Provisional Rules on the Merger and Acquisition of Domestic Enterprises by Foreign Investors came into force on April 12th 2003; the rules permit two types of operations: (1) equity acquisitions, where foreign investors buy existing shares of a Chinese enterprise or subscribe to new shares issued by a Chinese enterprise; and (2) asset acquisitions, where foreign investors buy the assets of a Chinese enterprise. An updated version of the provisional rules, published in September 2006, specify when mergers and acquisitions require the approval by Chinese authorities. These include instances in which at least one of the parties in the merger has annual sales of Rmb1.5bn or more and holds 20% of the Chinese market; or the Chinese partner is an industry leader, has a famous brand or employs more than 2,000 people.

Regulations on Mergers and Divisions of Enterprises with Foreign Investment, which came into force on November 1st 1999, combines previous regulation and best practice on the rights and obligations of merging and dividing foreign-invested enterprises (FIEs), approval authority, capital requirements and share distribution. Specifically, it seeks to ensure that a foreign shareholding does not fall below 25% after mergers or divisions in types of FIEs where this minimum percentage is required. It also states that an FIE may not participate in a merger if the registered capital has not been paid in full, or if the FIE has not yet commenced operations.

For a merger between a joint venture (JV) and an SOE, JV regulations require prior approval from all partners and from the original approval-granting authority. The resulting merged enterprise would presumably be some sort of JV, in which control would be based on the shares of registered capital held by each partner. In practice, however, such mergers rarely occur. Instead, the

Mergers

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partners generally create a separate entity through contributions of assets and cash from existing enterprises, which are in effect left with the same terms of ownership structure.

The Company Law provides that a joint-stock company seeking to undertake a merger must notify its creditors and give them 90 days to raise objections. All parties involved enter into a merger agreement, and they must make three separate announcements of the merger in approved publications. Each party then submits the agreement along with an application for merger to the appropriate administrative department. On receiving the department�s consent, the parties submit the same application to the examination authorities and for approval by the two companies. The newly merged entity must then apply to the authority in charge of registration of enterprises to amend its registration.

Chinese authorities used to discourage foreign-invested enterprises (FIEs) from selling their products on the domestic market but that has changed dramatically in recent years. First, amended regulations governing equity joint ventures (EJVs), promulgated on July 22nd 2001, loosened previous requirements �encouraging� ventures to sell their products in foreign markets. Under the rules, foreign EJV partners no longer have to commit to exporting a high proportion of the venture�s output, and the EJV contract no longer has to specify what proportion of the total production it will export.

Then, the regulations abolished a rule that had generally banned domestic sale of most of a joint venture�s output unless the product was urgently needed or would substitute for imports. Previously, industrial and consumer-product joint ventures with major operations in China (like Alcatel, Motorola, Procter & Gamble, Siemens and Volkswagen) had to strike specific deals to permit some their output to go to the local market.

In addition, wholly-foreign-owned enterprises (WFOs) have been allowed since December 11th 2004 to engage in domestic wholesale and retail trade, although companies must apply for approval to the Ministry of Commerce. According to PricewaterhouseCoopers, an accountancy, foreign retailers are now growing both organically and through mergers. An enterprise�s exports may be handled by the foreign partner (using its knowledge of the international market), the Chinese partner or a third party (such as a foreign-trade company). Some products may require export licences. WFOs and JVs may set their own export prices. In particular, China maintains export restrictions on antimony, bauxite and a number of other minerals. But export prices for those items that involve export licences or quotas, that use inputs subject to import licences or that involve other state restrictions must be reported to the local office of the Ministry of Commerce. WFOs (but not JVs) also need clearance for the prices.

De facto price maintenance occurs in China through price controls on major goods and services at the wholesale and retail levels. Both state-owned enterprises and foreign-invested enterprises selling in the domestic market (and sometimes the international market) are subject to these controls.

Freedom to sell

Resale-price maintenance

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The State Development and Reform Commission�s Interim Regulations on the Prohibition of Monopolistic Pricing Acts, Article 5, published in June 2003, prohibits producers from requiring distributors to charge a fixed reselling price.

China began 2008 being extremely worried that inflation could spin out of control. Reflecting these concerns, the National Development and Reform Commission (NDRC) in January 2008 moved to control price increases for grain, edible oil, meat, milk, eggs and liquefied petroleum gas. In these product categories, major enterprises (not specifically defined) were to seek government approval ten working days in advance if they wish to increase prices.

However, the general economic slowdown brought about by the global financial crisis caused inflation to moderate towards the end of 2008. In December, as policy priorities shifted from inflation control to growth creation, the NDRC lifted the temporary price controls imposed in January on edible oil, grain meat, milk and eggs. It lifted the controls on liquefied petroleum gas in January 2009.

Market forces now determine the prices of more than 90% of products traded in China, and in general, prices remain controlled only for goods and services deemed essential. As at early 2009, the government maintained price controls on tobacco, natural gas and some telecommunication services. Certain products are subject to �guidance pricing��the government sets a basic reference price level, and companies are allowed to set their prices in a band typically 5% to 15% within this reference price. Petrol, kerosene, diesel fuel, cotton and fertiliser have guidance prices. Also subject to guidance are prices of certain services in transport, telecommunications and architecture.

In September 2008 the US government launched discussions with Chinese officials regarding a proposal by the NDRC to manage the prices of medical devices. The objective on the Chinese side was to keep medical services affordable, but the US concern was that implementation of the measure would restrict competition. In the talks with US officials, China agreed to seek the views of the medical-device-making industry before carrying out the price control system.

The government continues to control the prices of some goods sold domestically. An amended Pharmaceutical Law, implemented on December 1st 2001, allows the authorities to introduce price controls on drugs if they deem it necessary. Even for products where market-determined pricing is allowed, the amended law stipulates that pricing must be fair and not too far out of line with production costs. To ensure implementation of the rules, the law provides that drugs firms should offer precise and unbiased information about production costs to the authorities.

Price controls generally apply at the ex-factory level in the form of subsidies to state-owned enterprises to let them produce and sell goods to wholesalers and retailers at artificially low prices. The government has controlled the prices of imports through licensing and quota regimes, but China is now revamping these to reflect its new status as a member of the World Trade Organisation.

Price controls

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Exchanging and remitting funds

After months of anticipation, the People�s Bank of China (PBoC), the central bank, in July 2005 announced the end of the country�s long-standing peg of its currency, the renminbi, to the US dollar at a rate of Rmb8.28:US$1. The renminbi was pegged to a basket of ten currencies and allowed to fluctuate in value up to 0.3% up or down from the previous day�s closing; this trading band was increased to 0.5% in May 2007.

The State Administration of Foreign Exchange (SAFE) took another step to liberalise the currency in December 2005, when it granted licences to 13 banks to quote continuous buy and sell prices for the renminbi. These are the �Big Four� state-owned commercial banks (Industrial and Commercial Bank of China, Agricultural Bank of China, Bank of China and China Construction Bank); four other local banks (Citic Bank, China Merchants Bank, Bank of Communications and Fujian Industrial Bank); and the local branches of five foreign banks (Bank of Montreal, Citibank, HSBC, Standard Chartered Bank and ABN Amro). The currency�s core daily value thus reflects a weighted average of the banks� quotes and is published at the start of each trading day. In January 2006 the PBoC modified the system established the previous June by allowing over-the-counter renminbi trading.

The central bank designed these changes to make the exchange-rate regime more market directed and to improve the risk-management capabilities of financial institutions. Although they are not intended to allow a more rapid appreciation of the renminbi, they will probably have this effect anyway, though any appreciation will continue to be gradual.

Foreign-exchange (forex) outflow�a serious problem for China in the 1990s�subsided following government measures adopted in the late 1990s to strengthen administrative controls on forex dealings. China�s forex reserves grew to US$1.95trn at the end of 2008, an increase of US$417.8bn from the end of 2007. Rising reserves are attributable to the ongoing trade surplus and to recent policies banning prepayment of foreign debt not explicitly stipulated in a debt agreement, restricting forex trading by domestic bank branches and requiring financial institutions to conduct more-thorough checks on companies wishing to obtain forex.

Reflecting the fact that fund outflow is no longer the main challenge facing policymakers, whereas fund inflow and upward pressure on the currency is a growing issue, the State Council issued Regulations on the Administration of Foreign Exchange, implemented on August 1st 2008. Among other things, the regulations removed a requirement for Chinese enterprises and individuals to convert forex proceeds into the Chinese currency, and allowed Chinese enterprises and individuals to hold foreign exchange abroad.

To better track flows of foreign exchange across China�s borders, the regulations require that exporters set up a basic foreign-currency settlement account for collecting export proceeds and converting them into the local currency. Following up on the State Council regulations, the SAFE in November 2008 introduced a new rule ordering all legal entities, including FIEs to establish such

Overview

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accounts. The only exceptions were for FIEs with virtually no inflow or outflow of funds (that is, they remit funds across borders no more than twice a year, with the amount totalling less than US$100 each time).

The government maintains relatively strict exchange controls, but many foreign businesses believe it will have to simplify procedures, given the rapid increase in foreign trade and investment from China�s new status as a member of the World Trade Organisation. The authorities took one step in this direction in August 2005, with new rules allowing local residents going abroad for up to half a year to buy US$5,000 (up from US$3,000); those going abroad for more than half a year may buy US$8,000 (up from US$5,000).

Despite the plethora of restrictions still in place, the general trend over the past decade has been towards a gradual liberalisation of China�s forex market. The country reached its most significant milestone in December 1996 when it officially made the renminbi convertible on the current account. In doing so, China agreed to Article VIII of the International Monetary Fund, which prohibits discriminatory measures like restricting payments and transfers for international transactions and multi-currency practices. Extending this policy, China�s exchange authorities closed the country�s forex swap markets in December 1998.

China amended its rules on foreign-invested equity joint ventures (EJVs) in July 2001 to be consistent with the partial convertibility of the local currency. This change cancelled a previous requirement that EJVs maintain a balance of forex revenues and expenditures. The rule had become obsolete (and enforcement had ended) after current-account convertibility allowed foreign-invested enterprises (FIEs) to buy and sell forex at local banks for trade purposes.

Current-account convertibility, which allows importers and exporters to have free access to foreign exchange, has required China to remove all restrictions on payments by enterprises (including FIEs) for imports, labour and services; repayment of interest on foreign debt; and repatriation of profits by foreign businesses in China. Convertibility on the capital account is not expected in the near future. Capital-account transactions include those related to direct investment, international loans and securities.

The interbank market consists of designated state forex banks and approved foreign banks. They operate as members of the China Foreign-Exchange Trading System (CFETS) in Shanghai, a national centre linked by computer to regional forex-trading centres. The CFETS allows some small daily fluctuations in the renminbi�s forex rate, and it oversees trading of US dollars, Hong Kong dollars and Japanese yen.

The PBoC provides daily quotes of unified rates for the US dollar and other major currencies based on the previous day�s closing prices in the interbank market. The PBoC maintains a special hard-currency account for intervention if the rate fluctuates during the day outside a narrow, set band.

China issued a slew of measures to improve currency supervision in 1998�99, following the regional financial crisis. It has added few additional restrictions since then, although the authorities have announced occasional measures to

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raise regulatory capabilities. They also conduct periodic crackdowns, including on black-market currency transactions and on companies that overstate their imports to obtain hard currency.

Given the continued growth in exports and the rise in forex holdings, there appears to be no immediate outside threat to the stability of the currency. This gives regulators a rationale for standing pat on controls�and sometimes for relaxing them. For instance, the PBoC and the Hong Kong Monetary Authority (the central bank of the Special Administrative Region) signed a memorandum of understanding on November 19th 2003 allowing Hong Kong banks to accept renminbi-denominated deposits by individuals and tourism businesses, provide renminbi-based credit-card services and offer free exchange between Hong Kong dollars and renminbi. Customers face a daily exchange limit of Rmb20,000. From March 2006, Hong Kong banks have been allowed to offer renminbi current accounts.

Under 1996 rules, FIEs may make trade-related forex transactions without prior approval from the SAFE. FIEs need only take the related trade documentation to a designated forex bank to obtain hard-currency funds. All forex receipts and disbursements must flow through a �basic� and specialised forex accounts. China allows FIEs to set up a range of different forex accounts, depending on their purpose. Although the exact types of accounts on offer vary among the banks, basically they can be classified as follows:

• Accounts for receiving investment into the enterprise. Funds in this account are for purposes previously approved by the SAFE.

• Accounts for receiving proceeds of forex loans. Again, the SAFE is involved in approving the project for which the loan is intended; financial institutions must deny withdrawal if it is for purposes not covered by the loan agreement.

• Accounts to repay forex loans. For debt repayment to take place via this channel, the lender must submit a request to the SAFE for approval.

• Accounts for proceeds from disposal of assets.

The SAFE introduced relaxed rules, from July 2002, on forex accounts held by FIEs for receiving investment into the enterprise. FIEs no longer need prior approval from the SAFE or its local bureaux to convert forex on these accounts into renminbi. New regulations, implemented in May 2002, strengthened supervision of foreign currency used as capital contributions for foreign investments. The rules require accountants to check the forex registration certificates obtained by foreign investors to ensure that the funds have been paid into the investors� special account for capital investments.

In an important change, the SAFE issued new rules, implemented on October 15th 2002, abolishing a previous system whereby only FIEs could maintain limited amounts in special forex accounts; domestic enterprises had to sell all hard currency to designated banks. The new regulations allow all domestic enterprises (both FIEs and wholly-Chinese-owned companies) to hold a basic forex account for current-account or trade-related purposes. The account is capped at 80% of the enterprise�s trade-related forex receipts of the previous

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year (increased from 20% following regulations from the SAFE that came into force on May 1st 2006). For companies that had no trade-related forex receipts the previous year, the cap is set at US$500,000 (raised from US$100,000). Retained forex exceeding this limit must be sold into the local market; if the holder of the account does not do this of his own account, the bank must perform the sale within ten working days. Accounts that have not been active for one year will be closed.

The new system allows a certain degree of flexibility, since companies may be allotted a higher cap or allowed to open more than one account�in either US dollars or another foreign currency�if the nature of their business requires it. But in general, no locality in China is allowed to let the total cap exceed 25% of trade-related forex receipts of the previous year.

Annual forex inspections, launched by the SAFE in 1995, provide the supervision necessary to allow FIEs to buy forex from the designated banks making up the China Foreign-Exchange Trading System. Within the first three months of each year, FIEs must file a forex examination report (FEER) to qualify for forex privileges. The report requires FIEs to provide a vast range of information on their forex dealings, including compliance with capital-contribution requirements and agreed export undertakings as set out in joint-venture and other contracts.

In 1997 the SAFE combined the required documentation into a single consolidated annual report, dealing not only with forex but also with all aspects of an enterprise�s business. Individual sections of the report must have the approval of the relevant government departments and then go to the State Administration for Industry and Commerce (SAIC) for final approval. A joint circular issued in 1997 by a number of government departments, including the Ministry of Commerce and the SAIC, required categorisation of foreign enterprises in China into �satisfactory� and �unsatisfactory� groups, based on the acceptability of their annual audits. There is no sign that unsatisfactory FIEs are being penalised, but it is possible that in the event of a currency crisis�where the central bank is forced to ration forex�companies with �satisfactory� ratings would get preferential treatment.

An enterprise that meets the relevant forex requirements gets an approval stamped on its Foreign-Exchange Registration Certificate (FERC), which may then be presented to an approved forex bank so the enterprise can conduct forex deals without obtaining SAFE approval each time. Businesses that fail to submit a report or to meet forex criteria have to seek approval from local SAFE offices for each transaction before obtaining money through designated foreign-exchange banks.

An FIE must first apply to the SAFE to obtain a FERC. It must give the SAFE evidence of its legal existence, its assets and the purpose of the desired forex account. This requires submitting copies of the joint-venture contract, articles of association, the business licence issued by the SAIC and an investment-verification report issued by a certified public accountant registered in China. Only after obtaining this certificate may the FIE apply to the SAFE to open a forex account. Based on the applicant�s investment, the SAFE will determine the

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upper limit of deposits allowed on the account, but with the possibility of adjusting that upper limit for increased investment.

All forex receipts and disbursements must flow through the �basic� and specialised forex accounts. Companies from a country with an investment agreement with China are guaranteed convertibility of royalties arising from an investment or licensing agreement and convertibility of a foreign partner�s investment (to the extent of contributed registered capital) on liquidation of a joint venture. Funds are convertible at the exchange rate at the time of repatriation or transfer. Foreigners are allowed to hold any amount of renminbi in a domestic savings or current account. Locals are free to open US-dollar accounts at the Bank of China (the nation�s largest foreign-currency bank) or other state-approved banks.

When a foreign or joint venture company is dissolved in China, the remaining claims of the foreign investor may be remitted through the firm�s forex account upon approval from the State Administration of Foreign Exchange. Funds are convertible at the exchange rate at the time of repatriation or transfer.

Foreign investors may remit dividends and profits from foreign and joint ventures after they pay Chinese income taxes and meet all reserve-fund and labour-fund obligations. Funds are convertible at the exchange rate at the time of repatriation or transfer.

For joint ventures, the board of directors normally establishes dividend policies. Profits may not be distributed until the enterprise makes up losses from previous years. Dividend distributions must be according to the equity shares of the investing parties, and there is no cap on their amount.

Foreign-invested enterprises may freely remit their after-tax profits and dividends; they do not need prior approval from the State Administration of Foreign Exchange. Funds may be drawn either from forex accounts or by conversion and payment at designated forex banks, on the strength of an appropriate corporate-board resolution concerning profit distribution and proof from the appropriate authorities of tax payment.

Foreign-invested joint ventures (JVs) may borrow hard currency for their projects under Article 78 of the Implementing Regulations of the Law on Equity Joint Ventures, amended in July 2001. The loans must be reported to, but need not be approved by, the State Administration of Foreign Exchange (SAFE) or one of its branches. In this regard, foreign-invested enterprises (FIEs) are treated more liberally than Chinese enterprises.

To ensure that JVs are not too highly leveraged, however, guidelines governing permissible debt-to-equity ratios were set out in the Interim Provisions of the State Administration of Industry and Commerce Concerning the Ratio Between Registered Capital and Total Amount of Investment of Chinese-Foreign Equity Joint Ventures, of March 1987. The rules aim to inhibit investors who contribute a comparatively small amount of their own cash. Where the total amount of the investment (or total project cost) is less than US$3m, the registered capital (or actual equity contributions of the partners) must be at least 70% of the

Repatriation of capital

Profit remittances

Loan inflows and repayment

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project cost (that is, 30% may be borrowed). For projects valued at US$3m�10m, 50% may be borrowed; for those valued at US$10m�30m, 60% may be borrowed; and for those worth more than US$30m, 66.6% may be borrowed.

External borrowing by Chinese financial institutions or enterprises falls under the annual credit plan and is subject to stringent controls. All such loans must be approved by and registered with the SAFE. Rules apply to any foreign currency borrowed by national enterprises with terms of 365 days or more. The failure of Guangdong International Trust & Investment (Gitic) in late 1998 demonstrated that such rules were often disregarded; subsequently, the SAFE cracked down on these illegal practices. Foreign banks may not engage in any lending without approval from the SAFE. The Chinese authorities will not acknowledge unregistered debt.

The Administrative Measures on Domestic Institutions Borrowing International Commercial Loans, of January 1998, made international borrowing more difficult for domestic non-financial institutions. Domestic firms must overcome the following hurdles to be eligible to borrow from abroad: (1) to have been profitable in the preceding three-year period; (2) to have permission to conduct an import/export business; (3) to be in an economic sector encouraged by the state; (4) to have well-established financial control systems in place; (5) to have net assets amounting to not less than 15% of total assets for a trading business, or net assets of not less than 30% of total assets for a non-trading business; (6) to have an aggregate balance of international commercial obligations and foreign-related security obligations of no more than 50% of net assets expressed in forex; and (7) to have an aggregate balance of international commercial loans plus foreign-related security obligations of not more than the forex revenue for the previous year.

The People�s Bank of China (PBoC) and the SAFE in 1998 introduced new forex regulations for FIEs: (1) the Administrative Provisions on Foreign-Exchange Accounts Outside China required FIEs that seek to establish overseas accounts to submit to the SAFE a capital-verification certificate (verifying that the FIE�s registered capital has been contributed) prepared by a previously approved accounting firm; and (2) the Administrative Measures for the Borrowing of International Commercial Loans by Domestic Organisations required FIEs, which had not previously been considered domestic organisations, to comply with foreign-debt registration procedures. This regulation also required domestic and foreign enterprises to obtain approval from the SAFE to deposit borrowed funds overseas or to convert borrowed funds into renminbi.

The PBoC relaxed borrowing rules for FIEs in Circular 223, implemented in July 1999. Its major provisions were that FIEs may finance fixed-asset investment with forex-backed renminbi loans; that forex-backed renminbi loan terms may be extended up to five years; that FIEs may pledge forex equity contributions and current-account receivables to obtain renminbi financing; and that in the event of default, forex guarantees or collateral are to be realised at the exchange rate prevailing on the date of default.

Special loan accounts. The 1996 forex reforms require the establishment of special accounts to service foreign loans or forex loans from domestic financial

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institutions. The rules reiterate the need for strict control over foreign borrowing and call for the establishment of �debt-repayment funds�. Should forex be insufficient to service these loans, the debtors have recourse to the designated forex banks to convert renminbi for that purpose. But the banks need proof that the foreign debt has been registered, and the payment of principal and interest in renminbi must be approved. The account-holding bank must use a specialised account for repayment of loans when the period for repayment specified in the agreement has expired.

Loan guarantees. Measures for Control of the Provision of Security to Foreign Parties by Organisations within the People�s Republic of China, implemented in October 1996, stipulate that security provided to foreign-invested financial institutions inside the country is deemed security to foreign parties. The 1996 measures apply to domestic banks (but not foreign-invested banks) and to domestic enterprises and FIEs that are legal entities and that have the ability to repay debts in place of debtors. The measures require that, after the provision of security to a foreign party, the security provider must register with the local SAFE.

The government itself does not guarantee commercial loans, and it has restricted the number of financial institutions able to issue guarantees to foreign lenders. Similarly, provincial governments and authorities are not permitted to guarantee loan facilities. Any such guarantees given�verbally or in writing�are illegal and may not be honoured.

No restrictions apply to FIEs on foreign-loan payments. But such transactions must go through a venture�s forex account designated for this purpose. FIEs have access to the designated forex banks for converting renminbi.

The Ministry of Commerce, or one of its regional counterparts, must approve all licensing agreements. For joint ventures in which the foreign parent is providing technology, approval comes along with that for the Chinese investment. The 1996 forex reforms provide that once the authorities have approved a licensing agreement, payments or fees arising from it may be remitted without prior approval of the State Administration of Foreign Exchange. Foreign exchange (forex) may be drawn either from the basic forex account or by conversion of renminbi at designated forex banks on the strength of supporting documentation.

The 1996 foreign-exchange (forex) reforms, amended in October 2002, specifically authorise foreign-invested enterprises (FIEs) to retain partial proceeds from exports (or other earnings) in a basic forex account, up to a specified maximum, with one of the designated forex banks. However, the FIE must sell off all export receipts that exceed the limit in the local forex market within five days. FIEs requiring more forex for current-account needs, such as paying for goods and services, may obtain funds from the designated banks upon presentation of supporting documentation.

Regulations in October 2002 permitted domestic companies, which traditionally could not retain forex earnings, to hold a forex account for trade-related purposes. A State Administration of Foreign Exchange (SAFE) circular,

Remittance of royalties andfees

Restrictions on trade-relatedpayments

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implemented on September 1st 2003, allows local companies to keep forex earned from international contracting projects equivalent to 100% of forex receipts of the previous year.

Under the 1996 reforms, importers may buy forex upon presentation of documents, such as import contracts and payment notes, issued by a financial institution outside the country. For imports subject to quotas or licence requirements, forex may be bought upon presentation of relevant contracts and approvals. The SAFE liberalised rules as from April 1st 2003, abolishing the need to report the use of forex for three categories of trade-related payments: imports for re-export trade; imports of materials for overseas projects; and repayment of excessive parts of advance payments.

Foreign-trade corporations were issued digital identification cards in 1999 to communicate with customs offices via a computer link. This was intended to eliminate false import declarations. In future, all corporations authorised to engage in foreign trade will have their licences checked annually. Certain categories of imports continue to be strictly controlled via quotas or licensing requirements administered by the Ministry of Commerce.

Deliberate, arranged leading and lagging of payments is not a common practice in China, but there are no legal restrictions.

Corporate taxes

The new Corporate Income Tax Law, which the national legislature passed on March 16th 2007, implemented on January 1st 2008, fundamentally changed the tax regime under which foreign-invested enterprises (FIEs) operate. The new law, along with Detailed Implementation Regulations released in December 2007, sets a unified 25% taxation rate for both FIEs and domestic companies. The new regime includes some tax breaks, especially ones favouring new- and high-technological enterprises, and also companies operating in the country�s under-developed central and western regions (see Incentives).

This is a marked change from the previous tax regime, under which FIEs typically paid only 15% tax on income, whereas local companies faced a 33% tax rate. The reality was not quite as biased as the nominal rates would suggested, however, since many domestic companies enjoyed various exemptions. Hence, domestic companies really paid an average of only 25% in corporate income tax, and foreigners paid an average of 13%, according to figures published by the Chinese Academy of Social Sciences, the top government think-tank.

Even so, the difference was big enough that China repeatedly said it would eventually have to eliminate the preferential treatment of foreigners. This was especially so after China entered the World Trade Organisation in December 2001, since the presumption was that China would move to adopt �national treatment� of all companies for tax purposes. The new tax rules will make operating in China more expensive for foreign firms and will help domestic Chinese companies become more competitive.

Both the American Chamber of Commerce in China and the European Union Chamber of Commerce issued separate calls for existing preferences granted to

Overview

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foreign firms to be �grandfathered�. Partly in response to these appeals, the State Council on December 26th 2007 issued a special tax circular specifying the grandfathering regulations for companies that had been paying a 15% tax until then: they paid 18% in 2008; and will pay 20% in 2009; 22% in 2010; 24% in 2011; and 25% in 2012.

Although the speed of reform of corporate income taxes has been impressive, other reforms have moved at a painfully slow pace. For example, a reform to introduce a fuel tax to replace a plethora of fees (often arbitrarily levied by local provincial authorities) had been discussed for years; until 2008, however, it was implemented only in scattered areas, such as Hainan province. But with the steep decline in oil prices in the second half of 2008, the Chinese government saw a window of opportunity to impose the tax, adding about 16% to petroleum retail prices, with effect from January 1st 2009. There will probably be a transition period during which the other fees will gradually be eliminated.

Apart from the Corporate Income Tax Law, enterprises in China continue to operate under a system introduced in January 1994. The system includes indirect taxes that apply to both local enterprises and FIEs, and also value-added, business and consumption taxes.

The State Administration of Taxation (SAT) and its provincial and municipal offices administer China�s tax policies. The SAT and the Ministry of Finance together develop tax legislation and policy. Each locality in China boasts a state tax bureau under the SAT and a local tax bureau under the local government. This arrangement seeks to improve control over tax administration, and it represents a compromise between the central and local governments on the issue of sharing tax revenue.

The SAT and other government agencies have long tried to strengthen regulations and combat tax evasion. For example, the SAT issued rules, implemented on March 1st 2003, to reduce tax evasion by companies undergoing debt restructuring. If an indebted company, as part of a restructuring agreement with the creditor, pays back less than the full taxable value of the debt, the difference must be treated as taxable income. FIEs face suspicions that they engage in widespread tax fraud by transferring their profits overseas or by over-reporting their losses. SAT officials estimate that state coffers lose Rmb30bn every year because of tax evasion by multinational companies. Central-government authorities launched a campaign in 2002 urging representative offices to perform �self-examination� of their employees� income tax payments. Some municipal officials introduced a new four-grade rating system for companies in 2003, ranking them by criteria such as tax filing, tax registration, promptness of tax payment and infringements of rules. The best-scoring firms are subject to less frequent and less intrusive inspections.

To standardise the tax procedures for FIEs, the SAT issued the Audit Rules and Procedures for Foreign Tax Affairs in July 1999, based mainly on existing regulations made explicit for the first time. It issued a notice in August 2000 clarifying specific points in the 1994 legislation, including rules on consolidated filing by FIEs operating various businesses inside China. Profitable branches and establishments may offset their profits against losses made by affiliated

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businesses, although they must if possible choose businesses subject to the same or similar tax rates. The SAT, in a notice in April 2001, clarified the responsibilities of various local taxation authorities when dealing with consolidated filings, particularly when detecting and rectifying irregularities.

Under the Corporate Income Tax Law that came into force on January 1st 2008, the basic income tax rate that applies to foreign and domestic enterprises is 25%, with some enterprises eligible for preferential rates in certain circumstances. The new law will gradually phase out the preferential tax rates that foreign enterprises have enjoyed, mainly by virtue of having foreign ownership.

High- and new-technology enterprises, regardless of whether they are foreign or domestic, face a preferential 15% tax rate. In a related measure, the Detailed Implementation Regulations specify special income tax incentives for venture-capital firms that invest in unlisted high- and new-technology enterprises. Following two years of investment, the venture-capital firm can offset 70% of the invested amount against its taxable income.

A preferential 20% tax rate applies for small enterprises with modest profits, as long as they do not engage in economic activity prohibited or restricted by the authorities. Industrial enterprises qualify for this category if they have annual income of less than Rmb300,000, total assets of no more than Rmb30m and fewer than 100 employees. The criteria for non-industrial enterprises are annual income of less than Rmb300,000, total assets of no more than Rmb10m and fewer than 80 employees.

The Detailed Implementation Regulations permit companies to deduct from taxable income 50% of research-and-development expenditures. Similarly, they may deduct 100% of expenditures in the form of salaries to handicapped staff. For entertainment expenditures, 60% is deductible, but only up to an amount equal to 0.5% of sales income of the year. Advertising expenditures are deductible, up to an amount equivalent to 15% of business income of the year.

Certain tax holidays will remain in place even under the new laws and will be open to both foreign and domestic enterprises. For example, the State Council, the Ministry of Finance and the State Administration of Taxation issued Circular 1 in February 2008, providing the following incentives:

• Newly established software companies enjoy a two-year tax holiday and a 50% reduction of tax payment for three years, counting from the first year of profitability.

• Integrated-circuit makers with investment of more than Rmb8bn and an operation period of at least 15 years can enjoy a five-year tax holiday followed by five years with a 50% reduction in tax payments.

The new tax regime will probably gradually phase out other regulations from the past taxation regime, such as special privileges for high-tech companies, since the new rules concerning high- and new-technology enterprises have superseded them. However, grandfathering rules mean they will not disappear all at once.

Corporate tax rates

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Prior to the 2008 Corporate Income Tax Law, FIEs in specific areas paid income tax at a reduced rate of 24%; this applied to holiday-spending areas, coastal open cities and areas, open cities along rivers, open cities near borders and provincial capitals in the central parts of China. All of these FIEs had to begin paying tax at 25% from January 1st 2008, when the new law took effect.

Since January 1st 1994 representative offices have been subject to a business tax of 5% on gross income sourced in China and an enterprise income tax of 33% (15% for representative offices in special economic zones).

Foreign companies had criticised the lack of transparency and overly complex rules on taxation of representative offices, and the SAT issued new rules on July 1st 2003 to address the issues. The rules divided representative offices into the following three categories:

• Companies engaged in commercial, legal, tax, accounting, auditing, consulting and services are taxed on their actual income;

• Companies engaged in trade and trade-agency operations are taxed on a cost-plus basis; and

• All companies not under the two first categories pay taxes based on their actual income.

The SAT clarified the 2003 rules twice in 2004, in May and in June. The most welcome revision was to reinstate tax-exempt status for representative offices that are principal suppliers for affiliated manufacturing operations. More generally, the following income received is now subject to tax:

• commissions, rebates or handling charges for services performed (including acting as liaison during negotiations or introducing business deals) by representative offices acting on behalf of their head offices or as agents for overseas principals;

• rewards or periodic fixed fees based on the volume of commissioned services for services performed by representative offices for their clients (including clients of their head offices); and

• commissions, rebates or handling charges for services provided by representative offices for acting as agents for other enterprises in China or for assisting with negotiations or engaging in middleman services.

The following activities are exempt from tax:

• providing market surveys and business information or providing business liaison and consultation where no business or service income is received;

• acting as an agent for a Chinese enterprise outside China, with most of the activities conducted outside the country; and

• acting as representative offices set up by foreign governments, non-profit organisations or civil bodies engaged in non-taxable activities.

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Article 4 of the unified tax regulations defines arrangements through business agents, as do double-taxation treaties signed by China with various foreign countries. Although the tax-regulations� definition does not distinguish between dependent and independent agents, Chinese tax authorities have advised that use of an independent agent by a foreign company does not constitute a permanent establishment.

Corporate taxation, 2009 The following are two illustrations of the tax burden for an enterprise in China established after January 1st 2008. (For convenience, the amounts are in units of 1,000, which could apply to renminbi or dollars.) The first applies to an enterprise engaged in production, the second to an enterprise engaged in a non-production activity that is a payer of business tax.

Year 1 Year 2 Year 3 Year 4 Year 5Turnover (VAT exclusive)a 1,000 2,000 3,000 4,000 5,000Profits before taxes 100 200 300 400 500Production enterprise Income tax (25%) 25 50 75 100 115Profits after taxes 75 150 225 300 385Retained earnings, brought forward 0 75 25 0 100Dividend distribution 0 200 250 200 0Withholding income tax on dividend (10%)b 0 20 25 10 0Retained earnings, carried forward 75 25 0 100 485Non-production enterprise Business tax (at an assumed rate of 5%)c 50 100 150 200 250Profits after business tax but before income tax 50 100 150 200 250Income tax (25%) 12.5 25 37.5 50 62.5Profits after taxes 37.5 75 112.5 150 187.5Retained earnings, brought forward 0 37.5 12.5 25 25Dividend distribution 0 100 100 150 0Withholding income tax on dividend (10%)b 0 10 10 15 0Retained earnings, carried forward 37.5 12.5 25 25 212.5

(a) Value-added tax (VAT) is calculated on sale price and payable by purchasers. Export sales for most products are zero-rated, but VAT on domestic inputs, if any, may not be fully refunded upon export. Any non-refundable portion is treated as costs of the enterprise. (b) Withholdingincome tax on dividend is 10% under China�s domestic tax law, which might be reduced under tax treaty, if any. (c) Business tax is calculatedbased on turnover.

Source: PricewaterhouseCoopers, Hong Kong.

The taxable income of a foreign-invested enterprise (FIE) is defined as the amount remaining from its gross income in a tax year after deducting allowable expenses and losses. All documented costs are allowable except those expressly identified as non-deductible.

Non-deductible expenses include the following: costs to purchase or construct fixed assets; costs incurred on gains obtained through assignment or developing intangible assets; various income taxes paid; interest on capital; late-payment surcharges and fines incurred for various income tax payments; fines incurred for unlawful operations and losses sustained through the confiscation of property; losses from windstorms, fire and other natural disasters covered by insurance indemnity; donations and contributions other than those for public welfare and relief purposes; royalties paid to the head office; and the portion of entertainment expenses either exceeding established quotas or not relevant to production and operations.

Taxable income defined

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Foreign taxes levied on FIEs in China may be credited against Chinese corporate taxes. Interest on loans made to the Chinese government or Chinese state banks may be exempt from tax. Losses incurred by an FIE may be carried forward for five years; no carry-back is permitted.

According to the Detailed Implementation Regulations for the Corporate Income Tax Law, issued December 2007, depreciation according to the straight-line method is deductible and subject to minimum depreciation periods. These range from 20 years for buildings and structures, ten years for aircraft, trains and machinery, to three years for electronic equipment. Special depreciation rules apply for FIEs engaged in oil and gas exploration; the Detailed Implementation Regulations say the relevant departments under the State Council (Cabinet) will formulate these.

The Chinese tax year is the calendar year and tax quarters are calendar quarters. Foreign-invested enterprises (FIEs) must file provisional income tax returns with local tax authorities within 15 days of the end of each quarter. These instalments are generally calculated on actual quarterly profits.

Enterprises that have difficulty prepaying tax based on actual quarterly profits may make prepayments based on one-fourth of the profit for the preceding year, or by another method approved by the authorities.

Final settlement of tax liability must be within five months of the end of the year. Returns must be filed regardless of whether the enterprise�s operations resulted in a profit or a loss. FIEs that cannot file a tax return within the prescribed time because of special circumstances may apply to the local tax authority to extend the normal filing deadline. A State Administration of Taxation circular of June 24th 1998 states that such special circumstances include, among other things, natural disasters or shifts in national economic policy that make delays unavoidable. For both, a delay of up to three months is allowed. Tax forms are available from the local tax authority.

None.

The Detailed Implementation Regulations, released in December 2007, on the Corporate Income Tax Law of 2008 set a basic withholding tax rate of 10% on capital gains on income sourced in China. This also applies to net gains from the transfer of shares or equity interests in enterprises in China held by foreign-invested enterprises (FIEs) and from the transfer of shares in enterprises in China held by establishments or sites set up by FIEs in China. In December 2005, however, the State Administration of Taxation and the Ministry of Finance made qualified foreign institutional investors (QFIIs) exempt from taxes on the capital gains of their securities holdings to encourage more international demand for mainland�s equity and debt. A provisional exemption from withholding tax applies to net gains from a transfer by an FIE or foreign national of B-shares or shares in a Chinese enterprise listed overseas (such as in Hong Kong or New York).

Depreciation of fixed assets

Schedule for paying taxes

Capital taxes

Treatment of capital gains

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For gains on real property net of development costs, the Real-Property Gains Tax (RPGT) Provisional Regulation, implemented on January 1st 1994, introduced the following tax rates: zero for the portion of gains equalling up to 20% of the original purchase price; 30% for gains equalling up to 50%; 40% for gains equalling 51�100%; 50% for gains equalling 101�200%; and 60% for gains exceeding 200%.

The Ministry of Finance released implementing regulations for the RPGT in January 1995: Detailed Implementing Rules for the Provisional Regulations of China Concerning Land Value-Added Tax. These rules outline certain permissible deductions to calculate added value. The rules note that China will not levy taxes on real-property projects where agreements were reached before January 1st 1994. Exemption from property tax is also allowed where the property transfer is an owner-occupied residential unit and the resident has lived there more than five years. There is a half-exemption for those who have occupied a site for more than three years; those occupying a site for less time are subject to full tax.

RPGT applies to all types of land, structures and immovable property, including commercial, industrial and residential sites.

The tax regime provides for expense deductions and additional allowances, which help alleviate the effect of the RPGT on projects begun after January 1994. The implementing regulations provide for the full deduction of financing expenses and limited deductions for administration and selling expenses. Nonetheless, the tax regime applies a 5% business tax on the sale price of property and the standard 25% corporate profits tax. Hence, the effective tax on property income, despite allowable deductions, is close to 50%.

Because RPGT is a source of revenue for local governments, a foreign investor can sometimes negotiate a refund with a local government before committing to new projects. And since this is a transactional tax, there may be some flexibility in administration and collection procedures. But developers should proceed carefully and plan their tax structures assiduously to avoid exposing their projects to added tax liabilities.

The 2008 Corporate Income Tax and the Implementing Regulations make clear the abolishment of the tax exemption that was in place for dividends paid to foreign investors from profits in a foreign-invested enterprise (FIE), whether it is a wholly-foreign-owned enterprise or a joint venture. The 10% withholding tax applies, according to the Implementing Regulations. The Chinese authorities may decide to make dividends by new- and high-technology enterprises tax exempt, but there were still no definitive signals by February 2009 if this would be the case.

With effect from October 9th 2008, the State Council abolished a 5% tax on interest income from savings accounts. The move aimed to raise disposable incomes and boost domestic demand. The interest tax had earlier been reduced from 20%, in August 2007.

Taxes on dividends

Taxes on interest

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Withholding tax rates under double-tax treaties (%) Country of recipient Dividends Interesta Royaltiesb Country of recipient Dividends Interesta Royaltiesb

Albania 10 10 10

Macao Special Administrative Region 10 10/7 e 10

Algeria 10/5 c 7 10 Macedonia 5 10 10 Armenia 10/5 c 10 10 Malaysia 10 10 15/10 k Australia 15 10 10 Malta 10 10 10 Austria 10/7 d 10/7 e 10/6 Mauritius 5 10 10 Azerbaijan 10 10 10 Mexico 5 10 10 Bahrain 5 10 10 Moldova 10/5 c 10 10 Bangladesh 10 10 10 Mongolia 5 10 10 Barbados 5 10 10 Morocco 10 10 10 Belarus 10 10 10 Netherlands 10 10 10/6 Belgium 10 10 10/6 New Zealand 15 10 10 Brazil 15 15 25/15 f Norway 15 10 10 Brunei 5 10 10 Oman 5 10 10 Bulgaria 10 10 10/7 Pakistan 10 10 12.5 Canada 15/10 g 10 10 Papua New Guinea 15 10 10 Croatia 5 10 10 Philippines 15/10 l 10 15/10 k Cuba 10/5 c 7.5 5 Poland 10 10 10/7 Cyprus 10 10 10 Portugal 10 10 10 Czech Republic 10 10 10 Qatar 10 10 10 Denmark 10 10 10/7 Romania 10 10 7 Egypt 8 10 8 Russia 10 10 10 Estonia 10/5 c 10 10 Saudi Arabia 5 10 10 Finland 10 10 10/7 Seychelles 5 10 10 France 10 10 10/6 Singapore 10/5 c 10/7 e 10/6

This table is a summary and does not reproduce all the provisions relevant to apply withholding taxes in each tax treaty. Besides the above taxtreaties, some of these countries have entered into investment-protection treaties with China.

(a) Nil on interest paid to government bodies. Investors should refer to the individual tax treaties. (b) The lower rate on royalties applies for theuse of or right to use any industrial, commercial or scientific equipment. Investors should refer to the individual tax treaties. (c) The lower rateapplies to dividends paid by a company (not a partnership) and received by a company that owns at least 25% of the capital of the paying company. (d) The lower rate applies to dividends paid by a company and received by a company that owns at least 25% of the voting shares ofthe paying company. (e) The lower rate applies to interest paid to banks or financial institutions. (f) The higher rate applies to trademarks. (g) The lower rate applies where the beneficial owner of the dividend is a company that owns at least 10% of the voting shares of the payingcompany. (h) The lowest rate (that is, 0%) applies to dividends paid by a company (not a partnership) and received by a company owning at least 50% of the shareholding of the paying company or investment amounting to �2m. The lower rate (that is, 5%) applies to dividends paid by a company (not a partnership) and received by a company owning at least 10% of the shareholding of the paying company or investmentamounting to �100,000. (i) The lower rate applies to dividends paid by a company and received by a company owning at least 25% of the capitalof the paying company. (j) The lower rate applies to interest payable to organisations nominated by one�s government or tax authorities of bothsides. (k) The higher rate applies to artistic royalties/cinematographic films and tapes for television or broadcasting. (l) The lower rate applies where the beneficial owner of the dividend is a company that owns at least 10% of the shareholding of the paying company. (m) The lower rate applies to dividends paid by a company (not a partnership) and received by a company that owns at least 25% of the shareholding of the payingcompany. (n) The lower rate applies to technology or economic research or technology subsidies. (o) The lower rate applies where the beneficial owner is a company (other than a partnership) that holds directly at least 10% of the capital of the company paying the dividends.

Source: PricewaterhouseCoopers, Hong Kong

The State Administration of Taxation issued a regulation in December 2008, retroactive from January 1st 2008, imposing a 10% tax on interest earned by foreign banks lending to banks in China.

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Withholding tax rates under double-tax treaties (%) continued Country of recipient Dividends Interesta Royaltiesb Country of recipient Dividends Interesta Royaltiesb Georgia 10/5/0 h 10 5 Slovakia 10 10 10 Germany 10 10 10/7 Slovenia 5 10 10 Greece 10/5 c 10 10 Sri Lanka 10 10 10 Hong Kong Special

Administrative Region 10/5 i 7/0 j 7 South Africa 5 10 10/7

Hungary 10 10 10 South Korea 10/5 c 10 10 Iceland 10/5 c 10 10/7 Spain 10 10 10/6 India 10 10 10 Sudan 5 10 10 Indonesia 10 10 10 Sweden 10/5 c 10 10/7 Iran 10 10 10 Switzerland 10 10 10/6 Ireland 10/5 d 10 10/6 Thailand 20/15 m 10 15 Israel 10 10/7 e 10/7 Trinidad and Tobago 10/5 c 10 10 Italy 10 10 10/7 Tunisia 8 10 10/5 n Jamaica 5 7.5 10 Turkey 10 10 10 Japan 10 10 10 Ukraine 10/5 c 10 10 Kazakhstan 10 10 10 United Arab Emirates 7 7 10 Kuwait 5 5 10 United Kingdom 10 10 10/7 Kyrgyz Republic 10 10 10 United States 10 10 10/7 Laos 5 5 (in Laos) 5 (in Laos) Uzbekistan 10 10 10 10 (in China) 10 (in China) Venezuela 10/5 o 10/5 e 10 Latvia 10/5 c 10 10 Vietnam 10 10 10 Lithuania 10/5 c 10 10 Yugoslavia 5 10 10 Luxembourg 10/5 c 10 10/6 Non-treaty countries 10 10 10

This table is a summary and does not reproduce all the provisions relevant to apply withholding taxes in each tax treaty. Besides the above taxtreaties, some of these countries have entered into investment-protection treaties with China.

(a) Nil on interest paid to government bodies. Investors should refer to the individual tax treaties. (b) The lower rate on royalties applies for theuse of or right to use any industrial, commercial or scientific equipment. Investors should refer to the individual tax treaties. (c) The lower rate applies to dividends paid by a company (not a partnership) and received by a company that owns at least 25% of the capital of the payingcompany. (d) The lower rate applies to dividends paid by a company and received by a company that owns at least 25% of the voting shares ofthe paying company. (e) The lower rate applies to interest paid to banks or financial institutions. (f) The higher rate applies to trademarks. (g)The lower rate applies where the beneficial owner of the dividend is a company that owns at least 10% of the voting shares of the payingcompany. (h) The lowest rate (that is, 0%) applies to dividends paid by a company (not a partnership) and received by a company owning atleast 50% of the shareholding of the paying company or investment amounting to �2m. The lower rate (that is, 5%) applies to dividends paid by a company (not a partnership) and received by a company owning at least 10% of the shareholding of the paying company or investmentamounting to �100,000. (i) The lower rate applies to dividends paid by a company and received by a company owning at least 25% of the capitalof the paying company. (j) The lower rate applies to interest payable to organisations nominated by one�s government or tax authorities of both sides. (k) The higher rate applies to artistic royalties/cinematographic films and tapes for television or broadcasting. (l) The lower rate applies where the beneficial owner of the dividend is a company that owns at least 10% of the shareholding of the paying company. (m) The lower rate applies to dividends paid by a company (not a partnership) and received by a company that owns at least 25% of the shareholding of the payingcompany. (n) The lower rate applies to technology or economic research or technology subsidies. (o) The lower rate applies where the beneficialowner is a company (other than a partnership) that holds directly at least 10% of the capital of the company paying the dividends.

Source: PricewaterhouseCoopers, Hong Kong

A State Administration of Taxation circular issued in late 1998 seeks to encourage non-residents to make early payment of taxes on interest rent and royalties. Specifically, it states that non-residents must pay withholding tax during the period when interest rent or royalties by a local party is payable according to the terms of the contract. This holds even if the local party has not paid interest rent or royalties to the non-resident, and it has simply been accrued or expensed for accounting purposes.

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The withholding tax rate on royalties and fees resulting from the licensing of trademarks, copyrights, know-how and technical treaties is now generally 10%.

Under the Business Tax Law of 1994, technology transfers are subject to a business tax of 5% if the transfers are not made by establishments in China. A State Administration of Taxation (SAT) circular from January 1998 reinforced this rule, saying the 5% business tax applies to royalties and is to be deducted, along with withholding tax, from gross royalties by the transferee before paying the foreign transferor.

In April 2005 the SAT released a circular that stipulated new procedures on examining and approving applications for reduction or exemption of the 5% tax for royalties involved in technology import. Foreign companies can now apply for a tax reduction or exemption if the technology involved is considered advanced. The procedure aims to encourage the import of technology and to standardise the procedures for such tax reduction and exemption.

By January 2009 China had signed and ratified agreements with 88 foreign governments. It had also signed double-tax agreements with the special administrative regions of Hong Kong and Macau. The State Administration of Taxation issued a notice on April 13th 2001 to help foreign enterprises and individuals avoid double taxation. Under it, tax bureaux at all levels must issue the residence certificates needed by foreign enterprises and individuals. Although the notice does not change the criteria under which foreigners are classified as taxpaying residents of China, it does help them to provide the necessary documentation to avoid double taxation, that is, in both China and their home countries.

China and the Hong Kong Special Administrative Region signed a double-taxation agreement in February 1998. Under it, the Chinese side does not tax a Hong Kong enterprise�s gains from transport business in China, and vice versa. The arrangement also affected personal income taxes.

The Unified Tax Law of 1991 plugged loopholes involving transfer pricing. It did this by requiring foreign-invested enterprises (FIEs) to conduct business transactions with affiliated companies at arm�s length (that is, as if with an unrelated company). To verify this treatment, FIEs must regularly submit accounts to the local taxation bureau. Where intercompany charges or fees do not reflect an arm�s-length arrangement, tax authorities may make compensatory adjustments by reference to normal market rates or prices for similar services or goods.

The State Administration of Taxation (SAT) promulgated rules in April 1998 on taxing business dealings between affiliated enterprises. Those rules specify what constitutes affiliated enterprises, such as when one company holds at least 25% of another�s shares or when one company appoints more than half of another�s board. The rules say tax authorities should particularly target companies that have reported losses for more than two years and companies that engage in business with each other inside duty-free ports.

Taxes on royalties and fees

Double-tax treaties

Intercompany charges

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Documents

copyright cases

production of digital

ipr cases

range of digital products

trading of software

administration of software

patent disputes

copyright law