China: Countdown for the CIT Annual Filing – Tax Adjustments for Previous Years in Focus

As one of the most important aspects of annual CIT filing, enterprises not only need to clarify the adjustments of income and expenses of current year, but also need to analyse and settle the cross-period issues, retroactive expenditures, tax and accounting differences and other tax matters related to previous years, to ensure the tax compliance of the returns.

For the case that enterprises should have obtained but did not actually obtain invoices and other deduction vouchers in previous years and did not make pre-tax deduction in corresponding year of expenses, but obtain the deductible vouchers in subsequent years, the expenses can be retroactively deducted from the income of the year, in which the expenses occurred, but the retroactive period shall not exceed five years.

It should be noted the previous years’ expenses cannot be directly deducted in the year in which the deductible vouchers are received, but shall retroactively adjust the taxable income of previous years. If loss carry-forward is involved, the CIT returns of each year need to be adjusted retroactively. Therefore, in practice, it is necessary to confirm with the competent tax authorities to coordinate how to make correction to previous years’ returns.

If enterprises did not actually pay salaries and wages to employees before 31 May of the following year which were already accrued, taxpayers cannot deduct the expense before CIT and shall increase the taxable income. Once the costs are actually paid in subsequent years, the taxable income of the year of payment can be reduced accordingly.

If enterprise received the invoice and booked the expense of the overseas service fee, but did not declare and pay withholding taxes before 31 May of following year, the expenses cannot be pre-tax deducted and tax upwards adjustment shall be performed. After the withholding tax are paid upon actual payment or due payment in the following years, the tax downwards adjustment could be performed to reduce the taxable income.

It is commonly seen that accounting principles and tax regulations may have different treatment on same issues. For example, according to accounting standards, fixed assets are generally depreciated on a straight-line basis, while tax laws allows a one-time pre-tax deduction of fixed assets under certain conditions. In this case, the enterprises need to perform tax adjustment for the difference in the annual CIT filing. Due to the long accounting depreciation term of fixed assets, especially machines and equipment, enterprises should prepare clear fixed assets ledgers to accurately calculate the corresponding adjustments for each year.

During the filing period (before 31 May of following year), enterprise can make corrective declaration by itself when errors are found. After 31 May, for the errors found in the declaration, enterprise can directly make one corrective declaration online through the Electronic Tax Bureau. If a second or more corrective declaration is required, taxpayer shall take the initiative to contact competent tax authority to open the online access for timely correction.

In practice, the tax authority are very cautious about tax downwards adjustment in large amount and retroactive deduction of previous years’ expenses. Enterprises are usually required to prepare relevant information or special reports to explain the authenticity of the expenses. Therefore, enterprises shall fully understand the policies on pre-tax deductions and keep supporting documentation for follow-up inspection conducted by tax authority.