Home >> News & Publications >> Newsletter

Newsletter

搜尋

  • 年度搜尋:
  • 專業領域:
  • 時間區間:
    ~
  • 關鍵字:

Substantial Operating Business in Taiwan CFC Rules


Frank Lin/ Alvin Chen/Peter Wu

In order to prevent profit-seeking enterprises or individuals from setting up controlled foreign companies (hereinafter referred to as "CFCs") in countries or regions with low-tax burden to retain surplus without distribution and avoid Taiwan's (Republic of China) tax burden,  Taiwan promulgated Article 43-3 of the Income Tax Act on July 27, 2016 and Article 12-1 of Income Basic Tax Act on May 10, 2017 to establish a CFC system for profit-seeking enterprises and individuals, and both have been approved by the Executive Yuan and will come into effect in 2023.
 
Generally speaking, because the main purpose of a profit-seeking business or an individual to establish a CFC is to retain overseas surplus, the CFC is usually a paper company that does not rent offices or hire employees, and does not actually operate a specific business. Therefore, one of the elements for foreign profit-seeking enterprises to constitute a CFC and apply to Taiwan CFC system is "insubstantial operating business". According to Article 43-3, Paragraph 1, Subparagraph 2 of the Income Tax Act and Article 12-1, Paragraph 1 of the Income Basic Tax Act, if an overseas affiliated enterprise carries out substantial operating business in the country or region of domicile, the profit-seeking enterprises or individuals are exempted from including the surplus of overseas affiliated enterprises in the income tax.
 
In this regard, the Ministry of Finance promulgated the "Regulations Governing Application of Accrued Income from Controlled Foreign Company for Profit-seeking Enterprise"(hereinafter referred to as the "Profit-seeking Enterprise CFC Regulations") and the "Regulations Governing Application of Income Calculations from Controlled Foreign Company for Individual" (hereinafter referred to as the "Individual CFC Regulations") on September 22 and November 14, 2017, respectively, which clearly state the requirements for substantial operating business as following (see Article 5, Paragraph 2 of the Profit-seeking Enterprise CFC Regulations, and Article 5, Paragraph 2 of the Individual CFC Regulations):
 
1.   The controlled foreign company has a fixed place of business location in its registered place and recruits employees to carry out substantial operating business at the local area; and
2.   The sum of its investment income, dividends, interest, royalties, rental income, and profits resulting from the sale of assets (referred to as "passive income") accounts for less than 10% of the sum of its net operating revenue and non-operating revenue, provided that, however:
(1) The revenue and income of its overseas branches is calculated neither in the numerator nor the denominator of the fraction.
(2) Where a controlled foreign company develops intangible assets, or develops, builds, and produces tangible assets at its registered place, the royalty income, rental income, and sales profits derived from such assets shall not be calculated in the numerator of the fraction.
 
In addition, Article 5 Paragraph 2 of the Profit-seeking Enterprises CFC Regulations stipulates that, where a controlled foreign company under the control of a bank, securities company, futures company, or insurance company approved by the competent authority of the Republic of China is mainly engaged in the respectively approved banking, securities, futures, or insurance business at its registered place, the core business income of such controlled foreign company shall not be calculated in the numerator of the fraction. This is considering that these financial industries are licensed industries in most countries, and their operations are usually licensed and highly regulated, therefore, there is less tax avoidance.
 
To sum up, the formula for calculating the passive income ratio is as following:
 
(Current Year Investment Income + Dividends + Interest + Royalties + Rental Income + Profits from the Sale of Assets – A – B – C) / (Net Operating Revenue + Non-Operating Revenue – A) < 10%
 
Profits resulting from the sale of assets
= According to the Q&A of the Ministry of Finance, they only refer to the profits from the sale of assets. If there are any losses from the sale of assets, they are excluded.
A
= The revenue and income of the overseas branches.
B
= The royalty income, rental income, and sales profits derived from assets (excluding loss from the sale of assets) that are intangible assets developed by CFC or tangible assets developed, built and produced by CFC at its registered place.
C
= The core business income of CFC, where a CFC under the control of a bank, securities company, futures company, or insurance company approved by the competent authority of the Republic of China is mainly engaged in the respectively approved banking, securities, futures, or insurance business at its registered place.
 
Let us take an example. Taiwan Company A wholly owns Cayman CFC. Cayman CFC rents offices and recruits employees in Cayman. Its main business is the research and development of artificial intelligence software, and Cayman CFC’s financial information for a certain year is as following:
 
(1)      The sum of its investment income, dividends, interest, royalties and rental income for the year was US$1 million, US$100,000 of which is the income of overseas branches of Cayman CFC.
(2)      Cayman CFC developed artificial intelligence software in Cayman and authorized Company B in the United States for use, and obtained a royalty income of US$700,000 in that year.
(3)      Cayman CFC also sold two real estates in that year, one of which earned US$500,000, and the other lost US$600,000.
(4)      Cayman CFC's net operating revenue and non-operating revenue for that year was US$5 million.
 
Based on the above information, the passive income ratio of Cayman CFC for that year is calculated as following:
 
(1,000,000 + 500,000 - 100,000 - 700,000) / (5,000,000 - 100,000) 14% > 10%
 
Even though Cayman CFC has an office in Cayman and recruits employees for software research and development, the passive income ratio accounts for more than 10%, which does not meet the requirements of substantial operating business.
 

Whether CFC has substantial operating business is not only determined by whether their renting offices or recruiting employees, but also by the detailed analysis of CFC's annual financial information. Therefore, it is recommended to consult professionals for assistance in processing CFC filings, so as not to get penalty from the competent authorities for failing in declaration. Lee and Li's tax team is composed of tax experts with domestic and foreign attorney's and accountant's licenses. We are familiar with the latest trends in domestic and international tax laws, and work closely with L&L, Leaven & Co., CPAs with a deep understanding of tax collection practices. If you have any questions about the new CFC tax system, please feel free to contact our tax team at any time. 

回上一頁