Can foreign enterprises in China remit undistributed profits in the form of loans?

A wholly foreign-owned enterprise (WFOE) may remit undistributed profits to a foreign related company with which it has an equity relationship by extending a loan. The WFOE’s interest income will be subject to 25 percent corporate income tax (CIT) and 5 percent business tax (BT), although the CIT paid in China may later be used to offset income tax liability incurred in the foreign country if there is a double tax avoidance agreement (DTA) in place.

Repatriating funds through an offshore loan has traditionally not been very common because of the intricate remittance procedure and repayment issues.

A new regulation (Circular 2) was promulgated by the State Administration of Foreign Exchange (SAFE) in January 2014. Under Circular 2, offshore lending is limited to 30 percent of the owner’s equity in the Chinese WFOE unless special approval has been obtained from SAFE. It replaces the formal approval requirement with a more streamlined record-filing procedure if the amount involved is less than 30 percent of the owner’s equity in the WFOE. The Circular further relaxed the two-year restriction on loan terms, so that WFOEs can apply for longer-term offshore loans according to their business needs. Although the approval process for offshore loans has been simplified, it remains to be seen how this will be interpreted and implemented at the local level.