As of the end of 2024, China elevated 14 out of 18 tax categories from administrative regulations to formal laws, marking a milestone in aligning domestic practices with international standards. Central to this transformation is the Value-Added Tax (VAT) Law, which represents China’s largest tax category and reflects years of legislative refinement to meet evolving economic, cultural and technological needs.

The new VAT Law, effective from 1 January 2026, consolidates decades of VAT practice into a streamlined framework of 38 articles in six chapters, covering critical areas such as tax rates, taxable amounts, collection methods and preferential policies.

This article analyses the main updates to the China VAT Law and their effects on foreign invested enterprises (FIEs), assisting senior executives, accounting and tax professionals in examining their businesses’ internal processes and adapting tax planning, daily workflows, and operational risk management.

Certainty in VAT rates: stability amid transition

The new VAT Law retains the three-tier tax rates, i.e. 13%, 9%, and 6%, while simplifying collection methods for specific sectors. Notably, transactions previously taxed at 5%, such as labour dispatch services, HR outsourcing, real estate sales, property leasing, and land-use rights transfers, may now fall under a unified 3% simplified rate, a key change in the updated VAT framework.

This adjustment reduces tax burdens for taxpayers in particular industries. Foreign businesses in real estate, logistics, or outsourcing are suggested to prioritise rate reclassification assessments to optimise cash flow and mitigate risks of commercial disputes. For example, companies should review contracts with stakeholders to reallocate potential tax savings, update billing systems to align with revised rate classifications, and monitor transitional guidelines for specific sectors.

Redefined VAT treatment rules: providing clarity for cross-sector transactions

The new VAT law clarifies definitions of “mixed sales” and “sideline business” to reduce ambiguity for cross-sector transactions. The updated framework shifts focus to the primary business activity driving the transaction to determine the applicable VAT rate.

Under the new China VAT Law:

• Mixed Sales is defined as a single taxable transaction with two or more tax rates. Transactions with multiple tax rates are taxed according to the primary business activity’s applicable rate – a departure from the previous requirement that such sales must combine goods and services within the same transaction.
• Sideline Business is defined as two or more taxable transactions with different tax rates. Entities must still separately account for sales at different rates. Non-compliance triggers the highest rate.

This streamlined approach reduces compliance complexity by aligning taxation with the economic substance of the transaction, enabling businesses to classify their primary activities over rigid goods-versus-service distinctions. Foreign companies with diversified operations – such as retailers engaging in leasing – should strengthen internal accounting systems to ensure accurate activity classification and mitigate overpayment risks.

Enhanced flexibility for companies in waiving VAT preferential treatments


Historically, taxpayers are allowed to voluntarily forfeit preferential treatments (e.g. exemptions, reduced rates), but subject to a uniform 36-month lockout period regardless of taxpayer classification (general or small-scale). Article 27 of the new VAT Law retains the 36-month restriction but limits its scope to the specific preferential treatment waived, meaning forfeiting one benefit does not preclude eligibility for other incentives.

The explicit exclusion of small-scale taxpayers underscores the government’s commitment to sustaining support for micro and small enterprises (MSEs), reflecting a policy shift toward tailored, growth-oriented measures for this critical sector. This adjustment aligns with China’s broader objective of institutionalising MSE-friendly frameworks while maintaining fiscal discipline.

Narrowed scope of “deemed sales” in new VAT Law: Simplifying intra-entity transfers

The new VAT Law removes the prior classification of cross-regional goods transfers between branches or jurisdictions as deemed taxable transactions. Under the new framework, intra-company transfers – such as inventory movements between headquarters and branches – will no longer incur VAT.

This reform particularly benefits foreign enterprises in the trading and wholesale business sectors, which frequently redistribute goods across locations. Historically, many businesses deferred output VAT payments on unsold inventory, but the elimination of deemed sales now simplifies compliance by exempting such transfers.

For manufacturers, the change raises considerations around reconciling input VAT credits (claimed at production sites) with output VAT liabilities (accrued at sales branches). Companies must now reassess VAT carryover processes, transactional records, and alignment with accounting or income tax practices to avoid discrepancies.

Additionally, asset transfers tied to investments, profit distributions, or similar activities are explicitly excluded from deemed sales treatment, as these inherently fall under taxable transactions. However, further clarification around free-of-charge services is expected to be addressed in forthcoming implementing regulations.

Potential impact of input VAT deductibility on loans

Under current regulations, businesses are unable to deduct input VAT credits related to loan services. However, if upcoming implementing rules do not introduce further restrictions, VAT incurred on interest payments from loans or financing activities could become deductible, potentially reducing corporate borrowing cost. This shift would directly impact financial mechanisms, such as group cash pooling, margin trading, bill discounting, sale-leaseback financing, on-lending, and other “principal-guaranteed” financial instruments or asset management plans. While this policy adjustment may stimulate financial market engagement, details – including eligibility criteria and procedural requirements – await formal clarification from authorities.

Standardised input VAT credit refunds: Balancing efficiency and compliance

The China VAT Law explicitly grants taxpayers, including foreign enterprises, the right to choose between refunds or carry-forward of excess input VAT credits, aligning with international tax practices. While China has actively promoted input VAT refund policies over the past three years to ease pandemic-related cash flow pressures, implementation remains inconsistent. Tax authorities often impose multi-layered reviews on refund applications, demanding detailed justifications for input VAT sources, which leads to processing delays.

However, fraudulent practices – such as inflating input VAT credits, underreporting output VAT by concealing revenue, fabricating qualifications, and submitting false declarations – highlight the need for stricter oversight. Moving forward, implementing rules are expected to establish unified standards, streamlining procedures, improving compliance, and reducing the risk of abuse.

Conclusion

China’s new VAT Law strikes a balance between continuity and innovation, emphasising legal clarity, digital governance, and cross-border alignment. Foreign invested companies are recommended to update tax management systems to accommodate redefined categories, revisit contracts and pricing models to reflect rate changes, and engage advisors to navigate transitional uncertainties. By proactively adapting to these shifts, businesses can convert regulatory complexities into competitive strengths, ensuring resilience in China’s fast-evolving market landscape.

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Effective since 8 April 2025, China’s instant VAT refund initiative allows eligible international visitors to receive VAT refunds directly at the point of purchase, as opposed to claiming refunds upon departure.​

The policy, which was piloted in major tourist destinations like Beijing, Shanghai, and Shenzhen, has now been expanded across the country. Foreign tourists (non-resident status will be verified through passport and visa) can obtain immediate tax rebates by presenting their passports at designated tax-free retailers equipped with digital invoicing systems. The hope is that this streamlined process will not only enhance the shopping experience but also encourage tourists to spend more during their stay.​

Retailers participating in the programme are required to be registered under China’s Tax-Free Retail Programme and must operate digital invoicing systems integrated with the State Taxation Administration’s platforms. The policy stipulates a minimum eligible purchase amount of RMB 500 per shop, per day, with refunds applicable only to eligible goods and potentially subject to final customs checks.​

According to China Briefing, refunds will be based on standard formulas. For example, on a RMB 1,000 purchase with a 13% VAT and an 80% refund rate, a tourist would receive around RMB 92 back.

The implementation of this policy aligns with China’s broader economic strategy to boost spending in the local economy amid global trade tensions. By simplifying the tax refund process, like it has also done with its visa requirements, China hopes to attract more international tourists and enhance their spending within the country. In 2024, the country recorded 64.88 million border crossings by foreign nationals, marking an 82.9% increase year-on-year. The first quarter of 2025 saw 17.44 million crossings, up 33.4% compared to the same period in 2024.​

According to the China Daily, economists project that inbound consumption in China could generate between $1.7 trillion (£1.2 trillion) and $4.5 trillion (£3.3 trillion) over the next decade. The instant VAT refund policy is expected to play a significant role in achieving this target by making shopping in China more attractive to foreign visitors.​

However, the success of this policy hinges on widespread retailer participation and the robustness of digital infrastructure to handle real-time transactions. Experts suggest that ensuring that a broad range of shops and goods are integrated into the refund programme, along with leveraging technologies like artificial intelligence (AI) to boost the efficiency of processing, could further enhance the shopping experience for tourists.​

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China has long maintained strict foreign exchange controls over funds entering and leaving the country, which means that foreign investors face a series of compliance challenges before they can move funds out of the country. With the current pace of regulatory changes and with banks adopting various anti-money laundering procedures, many foreign investors are naturally concerned about their ability to move funds and, most importantly, repatriate profits from China.

Foreign investors in China are advised to use the various methods available to them to optimize the tax liability that will result from funds leaving the country. This article examines the four primary ways that Foreign Invested Enterprises (FIE) can repatriate profits from China as well as the application of transfer pricing.

Profit Repatriation (Dividends)

Dividends to shareholders are the most common method for FIEs in China to repatriate profits to foreign entities despite being a fairly costly method of profit repatriation. Companies must first pay corporate income tax (CIT) on its profits and then, of the gross income from dividends paid to overseas entities, a withholding tax of 10 percent is paid to the relevant tax authorities unless a preferential rate has been granted under a Double Tax Agreement. In addition, FIEs who wish to repatriate profits must place at least 10 percent of net profits in a reserve account, up to a specified limit, for later reinvestment in the business.

Profit repatriation is also a lengthy process. It can only begin after annual tax reports have been filed and CIT paid – usually by the end of June in the following fiscal year. If applicable, it can then take up to two months to apply for a preferential tax rate under a Double Tax Agreement and to register the application with the State Administration of Foreign Exchange (SAFE). Additionally, the company must first fully top-up the registered capital and settle any accumulated losses carried forward from previous years before it is eligible to pay dividends to shareholders.

Service fees

Another method FIEs have of repatriating profits is through service agreements. Certain functions may be carried out at the group company level, or by a related party in exchange for a service fee. These functions, such as accounting, HR, information technology, and marketing can be charged by the group company in order to repatriate funds overseas.
In general, VAT and other surtaxes must be withheld by the FIE, in addition to a 25 percent CIT on deemed profits of 15 to 50 percent which must be paid before remittance can be made outside of China. While CIT exceptions and other preferential treatment for intercompany service agreements exist, these are only available on a case-by-case basis and are subject to pre-approval by the relevant tax authorities. Businesses are advised to plan ahead.

It’s important to note that service agreements signed with foreign entities must be registered with the tax authorities within 30 days. The authorities also reserve the right to question the validity of these service agreements, scrutinising two areas in particular:

• Were services actually delivered and where?
• Were service fees calculated in accordance with the arm’s length principle?
  Given their potential for misuse, service agreements between related parties have become a focus of tax authorities. It’s important that the necessary steps be taken to ensure such agreements are done in compliance with PRC law.

Royalties

Fees paid to an overseas entity in relation to the use of intellectual property are similar to service fees in that they are both tax efficient and relatively convenient for the business. As with service agreements, 6 percent VAT and 10 percent CIT must be withheld by the FIE and paid to the relevant tax authorities before remittances can be made. Royalty agreements must also be registered with the trademark bureau and detailed royalty agreements provided, including the rationale for calculating royalty fees.

Foreign Loan Interest Payments

The final method of repatriating profits overseas is through foreign loan interest payments. According to PRC law, the total investment of an FIE in China can exceed its registered working capital by between 30 to 70 percent, depending on the size of the investment. The difference between the two figures can then be registered as a foreign loan on which the FIE pays interest to its parent company at a rate not exceeding the official interest rate provided by the Bank of China. FIEs are required to withhold VAT at 6 percent and other surtaxes, as well as a 10 percent CIT on such interest payments.

Businesses can decide how much of the difference between total investment and working capital they wish to register as a foreign loan with the State Administration of Foreign Exchange.

How Transfer Pricing works

Transfer Pricing is an accounting practice that relates to intercompany payments made in exchange for good or services. Transfer pricing allows for tax savings as companies can redistribute earnings amongst groups or related parties. However, due to the potential for misuse, the tax authorities will often carefully examine both parties involved in such transactions, in particular, focusing on:

• How each party benefited from the transaction
• The necessity of the services in question
• The rationale for determining the price
• In the case of royalties, how much value the company derived from using the intangible assets
  Thus, it’s important that intercompany transactions are accompanied by detailed supporting evidence and are carried out in compliance with PRC law should they be challenged by the tax authorities.

Additional Considerations

When choosing methods of profit repatriation, FIE’s should consider the options available in their unique business situations, and keep in mind that the tax authorities in China reserve the right to question the validity of many of the methods discussed. It’s also important that the business conducts thorough cashflow forecasts before repatriating profits in order to avoid potentially increasing its working capital in the future should it need additional funding.

It’s also worth mentioning that China provides qualified non-resident foreign entities a special deferral of withholding tax for profits derived from resident companies in China should they be invested in industries outlined in the Catalogue of Encouraged Industries for Foreign Investment. To take advantage of the full range of profit repatriation methods available and achieve an optimal tax liability, foreign investors are encouraged to plan ahead.

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