China Withholding Tax on Cross-Border Payments

A Chinese company pays three foreign suppliers on the same day: a consultancy in Singapore that never set foot in China, a software licensor in Ireland whose product runs on servers in Shanghai, and a bank in Hong Kong that lent it money. All three invoices are for 1,000,000 yuan. The tax withheld on each is 0, 160,000 and 160,000.

Nothing about the amounts explains that. It comes from two separate legal tests — one for enterprise income tax, one for VAT — that look at different things, and from a classification question that decides which test applies at all.

Two taxes, two different tests

Cross-border payments out of China can attract two withholding obligations, and they are assessed independently. Getting one right does not get you the other.

The enterprise income tax rate deserves a note. Article 4 of the Enterprise Income Tax Law sets 20% for income described in Article 3(3), and Article 91 of State Council Order No. 512 reduces that to 10%. The 10% is what gets applied in practice, and it applies to the gross amount — no deduction for the foreign supplier's costs, no allowance for expenses incurred outside China.

Where the income is sourced

Article 7 of State Council Order No. 512 sets out the sourcing rules, and the split matters enormously:

• Services — sourced where the service is performed.
• Interest, rent and royalties — sourced where the enterprise that bears and pays the income is located.

That single difference explains most of the confusion in this area. A Singapore consultancy that performs all its work in Singapore and emails the report to Shanghai has not generated China-source income. The service was performed outside China, so Article 3(3) does not reach it, and no enterprise income tax is withheld — even though a Chinese company paid the invoice.

Reverse the facts slightly and the answer holds. The same consultancy sends two staff to Shanghai for three weeks to do the work on site. Now the service is partly performed in China. If the supplier has no establishment in China, the China-source portion becomes taxable at 10%; if it does have one, the profit attributable to that establishment is taxed on a net basis at 25% instead. This is where permanent establishment analysis starts to matter.

Royalties and interest do not have this escape hatch. The rule looks at the payer, not at where anything happens. An Irish licensor that never sends anyone to China still has China-source royalty income the moment a Shanghai company pays for the right to use its software in China. Likewise a Hong Kong bank's interest is China-source if a Chinese company bears it.

When VAT applies to a foreign supplier

VAT uses a different test. Article 4(4) of the VAT Law treats a sale of services or intangibles as occurring in China where the service or intangible is consumed in China, or where the seller is a Chinese entity. Article 15 then makes the purchaser the withholding agent, computing the withheld amount as sales amount × rate.

Article 4 of State Council Order No. 826 defines what "consumed in China" means, and the first limb carries the decisive exception: a sale by a foreign supplier to a Chinese purchaser is consumed in China except for services consumed on site outside China.

A wording change worth knowing. Under the pre-2026 VAT pilot rules (Caishui [2016] No. 36, Art. 13), services wholly performed outside China fell outside the scope. Since 1 January 2026 the test is whether the service is consumed on site outside China. The shift from "performed" to "consumed on site" is not cosmetic — a service can be performed abroad and still be consumed in China, and under the new wording that is taxable. Arrangements that relied on the old phrasing should be re-examined.

Two consequences follow. A foreign consultant working entirely abroad and delivering a report by email is outside both taxes. A foreign consultant whose service is consumed in China — training delivered to a Shanghai team over video, for instance — owes no enterprise income tax (service performed abroad) but does trigger 6% VAT withheld by the Chinese payer.

Service fee or royalty? The classification decides everything

This is the most consequential judgement in the whole area, and the most frequently disputed. Moving a payment from "service fee" to "royalty" changes the enterprise income tax from zero to 10%.

The dividing line is what the foreign party is actually supplying:

The last row is where disputes live. Tax authorities look at whether the Chinese party obtained a right to use an intangible (royalty) or merely received an output (service). A perpetual licence to install and modify source code reads as a royalty. A monthly subscription to a hosted platform, where nothing is transferred, reads as a service. The label on the contract is evidence but not decisive — substance governs.

Because the gap is a full 10 percentage points, misclassification in either direction is expensive: too far one way and the company under-withholds and faces back tax plus late fees; too far the other and it overpays tax it could have avoided.

Interest, and why deposits are different

Interest paid to a foreign lender is China-source under Article 7(5) — the borrower is in China and bears the cost — so 10% enterprise income tax applies. The VAT treatment is less obvious than it looks. Lending is a financial service, the borrower consumes it in China, so 6% VAT is withheld by the Chinese payer.

Interest on a deposit is different: Article 6(4) of the VAT Law puts deposit interest outside the scope of VAT entirely. So a Chinese company placing funds with a foreign bank does not withhold VAT on the interest it receives — the direction of payment is reversed anyway. The distinction matters most when structuring intercompany funding, where the question of whether an arrangement is a loan or a capital contribution drives both taxes.

Treaty relief, and the 10% ceiling

China's tax treaties generally reduce the domestic rate on royalties and interest, often to 5% or 7%, and sometimes to zero for interest paid to governments or qualifying financial institutions. The same mechanism governs dividends, covered in the dividend withholding note. The relief is not automatic.

Under STA Announcement No. 35 of 2019, the non-resident judges its own eligibility, claims the benefit at the time of filing, and keeps the supporting documents for later inspection. There is no advance approval. The documents must show residence in the treaty partner, beneficial ownership of the income, and that the arrangement is not one of the conduit structures addressed by STA Announcement No. 9 of 2018.

Withholding at the treaty rate without having the evidence is a common and expensive error: the payer is treated as having under-withheld, and the difference plus late fees falls on the payer, not on the foreign recipient who is by then beyond reach.

Worked example

Three payments of 1,000,000 yuan each, contract amounts stated exclusive of VAT. The Chinese payer withholds:

The effective burden on the two taxable payments is 16%. Where a treaty reduces the royalty rate to 5%, the second row falls to 110,000 — a saving of 50,000 for producing a residence certificate and a beneficial ownership declaration.

Watch the net-of-tax clause. If the contract says the foreign party receives 1,000,000 after Chinese tax, the withholding is computed by grossing up, and the cost to the payer rises above the figures above. A contract drafted on a net basis without running the gross-up is one of the most reliable ways to discover an unbudgeted 16% at the point of remittance.

What triggers penalties

• Paying without withholding. Article 37 makes the payer the withholding agent, and liability for failure sits with the payer. Under Article 38 the authority can recover the tax from other amounts payable to the same non-resident.
• Late payment. Withholding is triggered at the time of payment or when payment becomes due — not at year end. Deferring the remittance does not defer the obligation.
• Foreign currency. STA Announcement No. 37 of 2017, Article 4 fixes the exchange rate by reference to the date the withholding obligation arises, so a moving rate changes the tax base.
• Claiming a treaty rate without evidence. As above — the shortfall is recovered from the payer.
• Classifying a licence as a service. The most common substantive exposure, and one that surfaces years later in an audit rather than at the border.

Sources and current status

• Enterprise Income Tax Law of the PRC, Articles 3(3), 4, 37 and 38 — as last amended 29 December 2018.
• State Council Order No. 512, Articles 7 (sourcing), 91 (10% rate), 103 (gross income) and 104 (payer).
• VAT Law of the PRC (Presidential Order No. 41), Articles 4(4), 6(4) and 15 — effective 1 January 2026.
• State Council Order No. 826, Article 4 — definition of consumption in China, effective 1 January 2026.
• Caishui [2016] No. 36, Article 13 — the pre-2026 test, cited only to show the wording change.
• STA Announcement No. 37 of 2017 — collection mechanics and foreign currency conversion.
• STA Announcement No. 35 of 2019 — treaty benefits by self-assessment with documents retained.
• STA Announcement No. 9 of 2018 — beneficial ownership assessment.

Status note. The VAT position changed on 1 January 2026 with the VAT Law and State Council Order No. 826. Guidance written before that date, including much of what still ranks well in search results, tests services by where they were performed. The current test is where they are consumed on site, which reaches further.

This is a plain-English reference, not tax advice. Classification outcomes turn on contract terms and facts that cannot be assessed from a summary, and local practice on documentation varies between bureaus. Confirm with a licensed practitioner before remitting.