China Allows Zhongguancun High-tech Enterprises to Take Enhanced Deductions for R&D Expenses

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Jan. 17 – In order to promote the construction of the Zhongguancun National Innovation Demonstration Zone (NIDZ), a major technology hub in Beijing known as “China’s Silicon Valley,” China has issued pilot policies that allow high-and-new-technology enterprises (HNTEs) located in the zone to take an enhanced deduction for research and development (R&D) costs.

The Ministry of Finance and the State Administration of Taxation jointly issued the “Circular on the Pilot Policies Related to the Enhanced Deduction of R&D Expenses for the Construction of Zhongguancun National Innovation Demonstration Zone” (Caishui [2010] No.81) on October 8, 2010. The circular clarifies to which enterprises the policy applies, activities that can qualify as R&D, expenses within the scope of qualified R&D expenses, the principle of enhanced deduction itself, treatments of R&D activities in distinct types of entities, and related administrative procedures of R&D enhanced deduction.

Enterprises eligible for the R&D enhanced deduction treatment must be HNTEs that are verified by Beijing HNTE recognition and administration institutions, registered in the NIDZ, and report their tax payment on a regular basis.

According to the circular, R&D activities include continuous R&D for the purpose of scientific and technological knowledge acquisition, innovative application of emerging science and technologies, or substantial improvement of technology, skills and products (services).

Qualified R&D expenses include:

  • Design fees for new products, expenses for new skill formulation, expenditures for technical materials, information as well as translation services directly related to R&D activities
  • Expenses for materials, fuel and power consumed directly for R&D activities
  • Salaries, wages, bonuses and allowances of employees directly engaged in R&D activities as well as social security fees paid on their behalf
  • Depreciation expenses, rentals and relevant maintenance and testing expenditures for appliances and equipment exclusively used for R&D activities
  • Amortized expenses of intangible assets such as software, patent rights, non-patented technologies exclusively used for R&D activities
  • Developing and manufacturing costs of equipment and moulds exclusively used for testing and experiments
  • Expenditures for on-site exploration technology and clinical trial of new medicines
  • Expenditures for verification, appraisal, review and recognition of R&D results

When the R&D expenses recorded into the profit and loss account of the current period do not include any intangible asset, the enterprise can subtract an additional 50 percent of R&D expenses; when the R&D expenses constitute an intangible asset, the enterprise can spread the cost of the intangible asset over a period of no less than 10 years at the 150 percent rate.

If R&D takes place in jointly developed projects, each party involved shall calculate the enhanced deduction based on their own proportion of R&D expenses. If R&D is outsourced to a different entity, the principal – instead of the entrusted entity – is entitled to the enhanced deduction. If R&D is conducted among enterprises within a group, not only is the parent company responsible for an R&D project proposal, but the beneficiary parties shall also sign a legal contract to clarify the R&D expense sharing arrangement among them.

At the end, the circular requires the establishment of separate R&D expenditure accounts in relevant companies. Companies can only claim the enhanced deduction at the end of every tax year.

Compared to a previous circular Guoshuifa [2008] No.116, that also allows the R&D enhanced deduction for eligible enterprises nationwide, Circular No.81 provides more generous treatment to enterprises in the NIDZ and covers more expenses such as social security payments and maintenance and testing expenses for equipment directly used for R&Ds.

Foreign investors interested in taking advantage of these government incentives may contact Dezan Shira & Associates’ Beijing office for assistance with applications. Please send emails to beijing@dezshira.com or download the firm’s brochure here.

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