Fabricated SAT Announcement 47: a Joke or a Trigger for an IIT Revolution?

August 19, 2011 Posted by China Briefing Reading Time: 4 minutes

Aug. 19 – Over the past week, a forged “official” document has attracted more attention than many real ones in China. The “famous” announcement – numbered 47 and disclosed under the name of the State Administration of Taxation (SAT) – was believed to be one of those recent SAT documents that clarify individual income tax (IIT) calculation issues, but has now been confirmed as a fake by the tax authorities. While people are surprised that even China’s governmental departments can be challenged by knock-offs, many hope the fabricated announcement – whose IIT calculation was widely considered more reasonable than recent announcements on the subject – can turn into a motivation for SAT to improve their current IIT collection system.

According to a report on the Chinese web portal Tencent, the fake “Announcement No.47” “clarified” the calculation methods of IIT on one’s annual bonus in one lump sum, various subsidies and dividends. For annual bonus in one lump sum, the document “stipulated” the following two effective ways of IIT calculation (to simplify the formulas to better illustrate the point, we hereby assume one’s monthly salary is higher than the IIT exemption threshold):

IIT on annual bonus in one lump sum = [(Total annual bonus in one lump sum ÷ 12) х Applicable monthly IIT rate – applicable monthly quick deduction] х 12
Or
IIT on annual bonus in one lump sum = Total bonus in one lump sum х applicable “newly made” IIT rate on total annual bonus in one lump sum – applicable “newly made” quick deduction

Since its “release” on August 13, “Announcement No.47” was so widespread – even reported in-depth by China’s state TV broadcaster CCTV and governmental press agency Xinhua News Agency – that nobody questioned its reliability until a real SAT announcement declaring the forgery appeared two days later on August 15. Interestingly, the reason why “Announcement No.47” attracted so much attention is the “improvement” it made to the current calculation method of IIT on annual bonus in one lump sum.

According to the SAT document No.9 issued in 2005 (guoshuifa [2005] No.9) – the real legally effective document concerning IIT on annual bonuses – the calculation of IIT on annual bonus in one lump sum follows the formula below (again, we assume one’s monthly salary is higher than the IIT exemption threshold):

IIT on annual bonus in one lump sum = Total annual bonus in one lump sum x monthly IIT rate applicable to 1/12 of total annual bonus in one lump sum – monthly quick deduction applicable to 1/12 of total annual bonus in one lump sum

Compared to the forged formulas, the existing formula counts the monthly quick deduction only once instead of 12 times, which means that, when the sum of one’s annual bonus was spread in 12 months, there are 11 months when the concept of the “progressive IIT rate system” was not applied in calculation. Therefore, the existing formula sometimes leads to the phenomenon that people who receive a higher amount of annual bonus could sometimes end up having less money left to himself/herself as a result of IIT payment.

For example, if a senior manager “A” receives an annual bonus of RMB420,000, and another senior manager “B” receives a total of RMB420,001, according to the newly issued IIT rate system that is going to take effect in September and following the existing formula for the calculation of IIT on bonus in one lump sum, A’s bonus (RMB35,000 x 12 months) should apply to the IIT rate of 25 percent, while B’s bonus (RMB35,000.08 x 12 months) should apply to the IIT rate of 30 percent. Therefore,

A’s IIT on annual bonus in one lump sum = Bonus total of RMB420,000 x applicable IIT rate of 25 percent – quick deduction of RMB1,005 = RMB103,995
B’s IIT on annual bonus in one lump sum = Bonus total of RMB420,001 x applicable IIT rate of 30 percent – quick deduction of 2,755 = RMB123,245.3

In the example above, B’s annual bonus was only RMB1 more than A’s, but in the end the total bonus income that actually goes to B’s pocket is RMB19,249.3 less than A’s.

In contrast, if A uses the first formula in the falsified “Announcement 47” to calculate his/her IIT payment, he will be liable for paying RMB92,940 while B will be paying RMB92,940.3 following the same formula. The final bonus income B has is RMB0.7 more than A’s, which in many people’s point of view shows more fairness, because B earns more.

A commentary on Tencent titled “The SAT Owes a Thank You to the Fabricated Announcement” hopes “Announcement No.47” can finally become a trigger for improvement in the SAT’s IIT collection. The widespread reports and analysis on the forged announcement have indeed helped the public see the drawbacks in the existing document more clearly, and this incident should become a motivation for the SAT to make more reasonable regulations to better protect the interests of individual taxpayers.

Dezan Shira & Associates is a boutique professional services firm providing foreign direct investment business advisory, tax, accounting, payroll and due diligence services for multinational clients in China. The firm specializes in assisting foreign enterprises with their tax obligations. For advice, please email tax@dezshira.com, visit www.dezshira.com, or download the firm’s brochure here.

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