updated 10:42 PM CEST, Jul 30, 2020

China reported to begin citizenship-based tax collecting in Hong Kong, as experts ponder Beijing's plan

Hong Kong Hong Kong

China has begun coming after some of its citizens living abroad to collect taxes – making good on its previously-disclosed plans to get some of its taxpayers who are resident outside of the country to contribute to their home country’s tax coffers, Bloomberg, the South China Morning Post and other major media organizations have reported over the last few days.

The news quickly caught the eye of many American expat taxpayers and U.S. tax experts, since until now, the U.S. has been the only major country in the world which taxes on the basis of citizenship rather than residency. Most expat American advocacy organizations, such as the American Citizens Abroad, have been calling for years for the U.S. to replace its citizenship-based tax (CBT) regime with a residence-based tax (RBT) system. 

In its report, Bloomberg noted that Chinese state-owned enterprises operating in Hong Kong – which has one of the lowest tax rates in the world – had “told mainland Chinese expats recently to declare their 2019 income so they can pay taxes at home”.

The Bloomberg report, which cited as its source “people familiar with the matter”, added that Chinese state-owned enterprises (SOEs) were also said to be imparting this message to Chinese expats working in such other countries as Singapore.

“China, which charges taxes of as high as 45%, revised its income tax rules [in January of] last year to help authorities start collecting money from its citizens worldwide – similar to what the US does with Americans living abroad,” the Bloomberg report continued.

“But Beijing only disclosed detailed instructions this year on how to file such taxes, catching many [Chinese] expatriates flat-footed.”

As long ago as January of 2015, though, China's plan to tax its overseas citizens was reported by the New York Times. "The Beijing billionaires who set up cryptically-named companies in the British Virgin Islands to hold their fortunes are in the cross hairs" of China's tax authorities, the NYT article began.

"So are the Guangdong salesmen living and working in Africa and Latin America. 

"China's tax officials are now demanding that citizens start reporting exactly how much money they earn overseas." 

According to the NYT, China's decision to embrace worldwide taxation dates back to the early 1990s, when, "still a very poor country", it sent teams of tax officials to the United States, Britain, Germany and other nations to seek advice on drafting a modern tax code. 

"The team paid a long visit to the Internal Revenue Service and was given a two-volume bound copy of the United States tax code and a five-volume copy of IRS regulations.

"Chinese officials chose the American definition of income, with its worldwide scope, in issuing their tax code in 1993."  

'First step of Beijing extending
its reach to millions of Chinese abroad'

The South China Morning Post meanwhile, Hong Kong's English-language newspaper and news website, posted its story on China's efforts to enforce its extra-territorial tax regime last Thursday. It reported that China’s tax authorities were "tightening personal income tax law by extending the dragnet to income earned globally, with employees of state-owned enterprises based in Hong Kong first to feel the pinch, according to people involved in the matter".

It added: "SOE workers hired in the mainland and expatriated to the city received a directive this week to declare their 2019 salaries, and make up any shortfall caused by the different tax rates in the two regions, they said, declining to be identified because of the sensitivity surrounding the matter.

"The order from the State Tax Administration is seen as the first step of Beijing extending its reach to millions of Chinese working and studying abroad.

"Many countries have cooperated and strengthened the global exchange of income and tax information in recent years, primarily to screen the flow of money to combat money laundering and terrorism financing."

Scale of Chinese CBT scheme unclear 

Tax experts asked about China's apparent move into citizenship-based taxation said it was too early to be able to tell how extensive the Chinese authorities are planning to make their scheme. However, they noted that the fact that China, Hong Kong and Macau are all signatories to the OECD's recently-launched, global automatic tax information exchange program, the CRS (Common Reporting Standard), would help Beijing to at least begin to search out those who were stashing undeclared wealth outside of China's borders. 

However, they noted that if China were to go down the same route the U.S. did with its citizenship-based regime, it, too, is likely to encounter a push-back from those targeted by it, to the extent that a push-back might be posible. 

This is because as this and other publications have regularly reported, the costs, inconvenience and complications of the U.S. system of CBT are considered so significant that in addition to renouncing their American citizenships in droves over the past decade, expats and their advocacy organizations have been lobbying for years to get Washington lawmakers to move the U.S. to a “residence-based tax”, or RBT, regime – or at least to allow a “same-country exemption” for those American expats whose non-U.S. wealth and income are in the country in which they now happen to live and pay taxes to.

Some said the new tax policy could drive yet more wealthy Chinese individuals to participate in "citizenship by investment" programs that cash-strapped countries around the world have launched in recent years, in an effort to boost their economies. One of the earliest and most successful of these programs was the one Canada launched in 1986, which attracted a disproportionately large number of Chinese applicants before the Canadian government ended it in 2014. 

U.S. as future Chinese tax haven? 

Meanwhile, where China’s move to a citizenship-based tax (CBT) regime could begin to become particularly interesting and potentially disruptive, a number of U.S. expat tax experts told the American Expat Financial News Journal, would be if large numbers of wealthy Chinese investors were to take advantage of the fact that the U.S. is the only major country that has chosen to remain outside of the Common Reporting Standard, which, as mentioned above, China and its two Special Administrative Regions have signed up to.

In theory, at least, some say this could make the U.S. well-placed to be a tax haven of choice for Chinese expats around the world, because the U.S. will not automatically be informing Beijing of the assets its citizens have on deposit in U.S. financial institutions.

(The U.S. has stayed out of the CRS because it has its own information-exchange program known as FATCA (Foreign Account Tax Compliance Act), which obliges non-U.S. banks and other financial institutions to report to the U.S. – under terms of intergovernmental agreements between the U.S. Treasury and the various foreign tax authorities – on any financial accounts their institutions hold on behalf of American citizens.)

FATCA came into force well before the CRS, even though the CRS is said to be largely modeled on FATCA, and the U.S. has managed to resist, thus far, pressure from some foreign governments to replace FATCA with the CRS.

As Bloomberg, the Financial Times and other media organizations have reported in recent years, the fact that the U.S. isn't signed up to the CRS has contributed to the growth in assets held in the U.S. on behalf of individual foreign investors, particularly in certain states that have sought to accommodate such investors, including Delaware, Nevada and South Dakota.

Ross McGill, founder and chairman of UK-based TConsult and a FATCA expert, was skeptical that U.S. financial institutions, at least, would see a rush of Chinese tax-avoiding wealth coming their way.

For one thing, there is talk of some "reciprocity" of information being shared by the U.S. with countries that are providing it with information about U.S. taxpayer assets being held in their institutions, he said, although no data has been published as to the scale of this information exchange. 

While a "framework differential" between the CRS and FATCA might suggest the existence of a "systemic flaw/loophole that could theoretically be exploited", McGill added, he said he thought "that, for China at least, there would be an over-riding fear factor acting as a drag on that flow, not least [owing to a] fear ofthe sequestration of assets".

"A Chinese person opening an account in the U.S., meanwhile, in order to use that as the base for investing outside the U.S., would make little financial sense," he went on.

"And the situation with Hong Kong would only exacerbate the situation."

CBT's 'attractions' to governments

William Byrnes, a professor at Texas A&M Law School of international tax, wealth, and risk management in Fort Worth, Texas, said he had sometimes wondered in the past "when the rest of the world would move to CBT" because of its attractions to governments that wish to track and tax their wealthiest citizens, however unpopular and costly such schemes are in practice.

"If the U.S. does it and justifies it based on 'services' – primarily military in nature – [that it provides] U.S. citizens wherever they're located, then why would China not also do it?" he added.

"As says the U.S., if a taxpayer citizen does not like it, then expatriate, and pay whatever exit tax is due.

"Like the U.S., China will now have the advantage of criminalizing the status of its national expats who are not in tax and financial reporting compliance with the 'new' China CBT regime, which I suggest [will] replicate America's FATCA and FBAR regimes."

Number of potential Chinese CBT taxpayers 

In terms of numbers, the exact number of Chinese expats who are likely to be affected by China’s move to an expatriate tax regime aren’t known, Bloomberg noted in its report. But it said Chinese state media have reported that there are “about 60 million ethnic Chinese living overseas”.