Chinese companies doing business in the U.S. often find it most effective to send some of their current employees to the U.S. to start projects, open new factories, and borrow when their skills and knowledge of company operations can be critical in a situation. their expertise. While this is good business practice, both Chinese companies and their employees should understand their U.S. tax obligations to ensure they do not incur civil or criminal penalties.
What is a permanent establishment (PE) under the US-China tax treaty?
A permanent establishment or PE is a term used in international tax treaties to describe when a company establishes a connection with a jurisdiction such that the jurisdiction taxes the company’s profits. International tax treaty provisions are generally more favorable than domestic provisions and can be offered to tax treaty partners on an optional basis. The conclusion of the Sino-US tax agreement is to help individuals and entities avoid double taxation and prevent tax evasion. Article 5 of the agreement defines a permanent establishment, describing the conditions or activities for a Chinese company to constitute a permanent establishment, allowing the US to assess whether a company is subject to federal income tax. The agreement also describes several ways of forming a permanent establishment. One way is to form an on-site permanent establishment through a fixed place of business in the United States, and the other way is to form a service permanent establishment according to the type of work performed. The agreement also refers to a number of activities that do not constitute a permanent establishment.
On-site permanent establishments include:
- Management place
- production workshop
- A mine, oil or gas well, quarry, or other place where natural resources are extracted
A site permanent establishment can also refer to a construction site, project, rig or vessel when working for a specific period of time as stipulated in the agreement.
A service PE is one in which a company provides services through employees or other persons and those activities aggregate for more than six months in any twelve-month period in the United States. For the same project or related projects, the six-month period begins on the date the first employee enters the United States and ends on the date the last employee leaves the United States. In addition, a permanent establishment is established when an employee has the right and can regularly exercise the authority to enter into contracts in the United States.
What are the tax reporting requirements in the United States after the establishment of a permanent establishment?
Once a permanent establishment is formed, both the foreign company and its foreign employees working in the United States are subject to U.S. tax obligations. Foreign corporations are obliged to pay corporate income tax (1120-F tax return) to the federal government and to file the related returns in a timely manner. They are also subject to employment taxes (including Social Security and Medicare taxes) and are obliged to withhold their employees’ wages and personal income taxes.
For foreign employees working in the United States, if their company constitutes a permanent establishment in the United States, they must file tax returns and pay taxes even if they stay in the United States for less than 183 days.
What are tax planning opportunities?
In order to avoid the complexity of a permanent establishment, a Chinese company can set up an independent company in the United States, and use this company to hire American employees and declare wages. In this case, the U.S. corporation would be subject to the tax obligations of other U.S. corporations but not the foreign corporation.
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Tax treaties generally do not apply to state taxes ; even if the foreign corporation does not have a permanent establishment in the United States, it may still be subject to state taxes. Companies should also carefully consider researching federal and state taxes. If your foreign company needs to handle the taxation and accounting work of a US company, please contact us for assistance.