All FIEs in China must follow new annual examination guidelines with immediate effect
Foreign-invested enterprises (FIEs) registered before December 31, 2011 in China are required to submit to the government-conducted 2012 annual cooperative examination which will last from March 1 to June 30 this year.
The annual inspection, designed to ensure that FIEs conduct business in compliance with the country’s legal requirements, is jointly conducted by the following government departments:
Local office of the Ministry of Commerce
Administration of Industry and Commerce (AIC)
State Administration of Foreign Exchange
Starting on March 1, FIEs are required to log onto the online annual inspection system (www.lhnj.gov.cn) and fill out the necessary information for a preliminary inspection. If the company passes this preliminary inspection, it should submit a signed annual cooperative examination report and other prescribed financial information – including the report, the audited financial statements and other materials (all signed and stamped) – to the governing administrative body by June 30.
FIEs may also obtain the hard-copy examination documents from the same AIC office from which the original business license was obtained.
The complete checklist of documents required by the authorities for checking and renewal can be found in our previous article “2012 Annual Legal Tax Documentation Renewals Due.”
The inspection procedures and requirements can vary depending on the region.
For example, in addition to attending the cooperative examination, Shanghai-located FIEs and FIE branches shall go through a separate annual examination conducted by the AIC between March 1 and June 30. They shall file a declaration for inspection at the Shanghai AIC web site (www.sgs.gov.cn) or the state AIC web site (www.saic.gov.cn), and submit documents in accordance with related provisions.
For detailed procedures and requirements at your location, please contact your closest Dezan Shira & Associates regional office.
FIEs’ representative offices (ROs) are required to submit an annual report between March 1 and June 30 to the AIC, providing information on the legal status and standing information of the foreign enterprise, ongoing business activities of the RO, and an audited expenses report. More details on ROs’ annual reporting can be found in our previous article “Annual Compliance Procedures for China Representative Offices.”
Annual Compliance for JVs, WFOEs and FICEs
While annual inspection is considered as the last step in the annual compliance procedures for FIEs, it is critical that companies complete their annual financial statements and tax filings beforehand.
The annual financial statements and auditor’s report should be completed before the end of April in order to meet the May 31 tax filing deadline. The annual audit of a joint venture (JV), wholly foreign-owned enterprise (WFOE) and foreign-invested commercial enterprise (FICE) is more complicated than that of an RO. In addition to the key considerations for an RO audit mentioned in our previous article, the following points should be kept in mind:
Generally, enterprises can provide reasonable bad debt provisions according to the end balance of their accounts receivables. However, the tax authority has the power to adjust any unapproved provided bad debt allocations and reassign them as subject to income tax.
Prior to the annual audit, and the subsequent settlement of taxes with the tax bureau, there are items that need to be calculated and presented in the accounts as mandatory fund dispersals.
By law, WFOEs need to specify the amount for the reserve fund in its articles of association. This must not be less than 10 percent of after-tax profits, and the reserve fund must be contributed to until a ceiling (of 50 percent of the total registered capital in the company) is reached. Once this amount is achieved, no further amounts need to be contributed to the reserve fund.
Appropriations to other funds should be made in accordance with the articles of association and a board resolution.
Special attention to inventories
Inventory comprises raw materials, components, and finished products. Many companies do not adequately control inventory utilization and disposal. Common problems include discrepancies between bills of lading and goods received, improper storage of raw materials and safeguarding inventory and the illegitimate disposal of scrap materials and containers.
For both trading and manufacturing companies, inventories must form a significant proportion of total assets, and auditors will therefore pay close attention to inventory valuation. Inventory valuation is done based on the purchase invoices or cost calculation sheet, but auditors will also confirm the inventory existence and proper stocktaking procedure.
In terms of stocktaking procedure, make sure to:
Observe whether the stocks are neatly kept, whether large items are properly piled and marked
Check that counting is systematic to ensure everything is accounted for and accounted for only once
Pay attention to high value items
Investigate whether discrepancies arise between the physical count and stock records
Note any items that appear to be damaged, obsolete or slow moving
Internal audits and business reviews throughout the year are also recommended in order to improve process and, in China especially, establish a control system to reduce the risk of irregularities. Such audits and reviews complement financial statements and often raise serious issues that management may not be aware of, whereas statutory audits tend to be centered on financial figures.
Fixed assets include houses, buildings and structures, machinery, mechanical apparatus, means of transport and other such equipment, appliances and tools related to production and business operations with a usage period of 12 months or more.
Fixed asset purchases should be recorded in the fixed assets account and annual depreciation should be calculated and allocated to expenses.
All construction in progress items should be transferred into fixed assets when they are put into use with any interest expenses. The disposal gain or loss should also be recorded and approved by the tax authority.
Residual value can be determined based on the nature of the assets and conditions.
Depreciation for transportation facilities (except aircraft, trains and vessels) is four years and for electronic equipment three years. If assets need to be updated frequently, the depreciation period can be shorter (limited to 60 percent of the statutory minimum depreciation period).
Although not a material issue with much cost, FIEs should not forget to pay stamp duty on all books, records and applicable contracts. Fines for non-compliance outweigh the dutiable value.
All FIEs also need to submit the Annual Taxation Consolidation Reporting Package, authorized by a certified public accountant (CPA) firm, to the tax bureau by the end of May each year.
In this reporting package, a CPA firm verifies all the taxes payable, including value-added tax, business tax (BT), consumption tax, corporate income tax, and other taxes on the basis of the audit result.
CIT is the most important issue disclosed in this report. The related taxable elements, and in particular items involved in CIT (such as income, cost and expenses) should be specified in detail, while the auditing firm should make the CIT reconciliation between financial profit and taxable profit in accordance with PRC CIT regulations.
If the audited taxes are different from the taxes paid, the FIE should discuss the discrepancy with the tax bureau. Should the audited tax figure be lower than the figure paid, the FIE would need to apply for a tax rebate or tax reduction for the fiscal year in question. Should the audited tax figure be higher than the paid tax, the FIE will need to pay the balance due to the tax bureau upon submitting the report.