Evaluating Economic Employer Doctrine Principles under Chinese Secondment Rules
China reclassifies foreign secondment wage recharges as taxable service fees whenever the local entity operates as the true economic employer under Bulletin 19.
Non Markup Cost Certification
Meaning
Official documentation confirming that a service provider has passed through specific expenses without adding a profit margin is necessary for certain tax filings. The non markup cost certification is a process used in intragroup transactions to separate the pure cost of a third party service from the value added by the affiliate. The State Taxation Administration requires this certification to ensure that multinational groups are not hiding a profit margin inside what they claim are simple cost reimbursements.
The boundary of the concept applies to expenses like travel costs, third party software licenses, or external consulting fees that are paid by one entity on behalf of another. For these costs to be deductible in China without a withholding tax on a fictional profit, the provider must prove that they charged the exact amount they paid. This prevents the erosion of the local tax base through the inflation of service fees.
It is a vital tool for the transparency of cross border financial flows.
Verification Process
Validating that a payment represents a true reimbursement requires a detailed review of the original invoices and the accounting records of the service provider. The non markup cost certification involves the preparation of a statement that links each item in the intercompany invoice to a corresponding third party payment. In some jurisdictions, this statement must be certified by an independent auditor or a public accountant to be accepted by the tax bureau.
The Chinese authorities look for evidence that the provider did not apply any internal overhead or management fee to the third party cost. This level of detail is necessary because any markup would change the nature of the payment from a reimbursement to a service fee. A service fee is subject to different tax rates and requires a more complex filing process.
Expense Eligibility
Identifying which types of costs can be passed through without a markup is a common challenge for corporate finance departments. The non markup cost certification is generally reserved for out of pocket expenses that are clearly identifiable and are incurred for the sole benefit of the recipient entity. If a parent company pays for a global insurance policy and allocates a portion of the premium to its Chinese subsidiary, this is a prime candidate for cost certification.
However, the time spent by the parent company’s employees in managing that insurance policy cannot be included in the non markup cost. This internal labor is considered a service and must be priced according to the arm’s length principle, usually with a markup. The distinction between a third party cost and an internal service cost must be maintained throughout the billing cycle.
Tax Treatment
The primary motivation for obtaining the certificate is to simplify the tax withholding process and to avoid disputes with the authorities. When a payment is backed by a non markup cost certification, the Chinese tax bureau may allow it to be remitted without the application of corporate income tax at the source. This is because there is no profit being realized by the offshore provider on that specific portion of the invoice.
However, value added tax may still apply depending on the nature of the underlying expense. The certification must be presented to the bank during the foreign exchange remittance process to justify the tax treatment. If the certification is missing or incomplete, the entire payment may be treated as a service fee with a deemed profit margin, resulting in a higher tax bill.
The final cost of doing business is reduced when these pass through expenses are handled efficiently.