Western Technology Ltd (WTL) Value Added Tax
Western Technology Ltd (WTL) is an encouraged enterprise established in Western region and is a value added tax (VAT) general taxpayer. The provisional income statement (extract) for the year 2020 showed a turnover of RMB80,000,000 and a net profit of RMB30,000,000, before setting off loss incurred for the year 2014 of RMB1,000,000, if applicable, and after crediting and charging the following items (except for those items stated otherwise) (Note: This is only a part of provisional income statement, BUT not a complete income statement):
Notes RMB Cost of goods sold 1 20,000,000 Other incomes 2 6,000,000 Expenses: Interest expenses 3 7,000,000 Administration expenses 4 11,000,000 Selling expenses 5 8,000,000 Non-operating expenses 6 5,000,000
Closing inventory was valued on first-in-first-out basis. If weighted average cost basis is adopted, the cost of goods sold would be decreased by $1,000,000.
The other incomes included the following items:
RMB (a) Share of profit (net of profits tax) from a partnership in Country A (see (i) below) 1,670,000 (b) Dividend from a subsidiary company which is registered in Shanghai and subject to enterprise income tax at 15% 1,700,000
Other items included in the other incomes are all taxable.
The partnership has paid profits tax in Country A at a rate of 16.5% in respect of WTL’s share of profit. Country A did not sign any tax treaty with China.
The interest expenses are comprised of:
RMB (a) Interest expense on a bank loan (Loan-1) (see (i) below) 2,000,000 (b) Interest expense on another bank loan (Loan-2) (see (ii) below) 5,000,000 7,000,000
The bank loan (Loan-1) was applied for financing construction of a research laboratory. The research laboratory was put into use in February 2021.
WTL borrowed another bank loan (Loan-2)) of RMB100 million to finance its normal daily business operation on 1 January 2020, with an interest rate of 5% per annum, which was the same as the prevailing interest rate charged by other financial institutions in China. Originally, the loan was secured fully by WTL’s immovable property located in overseas.
With effect from 1 July 2020, the bank sold the equitable right of the loan to its overseas related party, which then sold the equitable right of the loan to WTL’s related company in Country A, Advanced Technology Ltd (ATL). ATL is a tax resident in Country A and did not carry on business in China. No transfer pricing documentation has been prepared in relation to Loan-2. The weighted-average equity of WTL for the year 2020 was RMB40 million.
The administration expenses included the following items:
RMB (a) Research and development expenses (see (i) below) 4,000,000 (b) Royalty fee (see (ii) below) 2,000,000
(i) All research and development expenses are qualified for additional deduction. Out of RMB 4 million, RMB 1.9 million was paid to a foreign entrusted party, which has performed the qualifying research and development activities for WTL. WTL has submitted all the necessary reports to the tax bureau for the annual enterprise income tax filing.
(ii) The royalty fee was paid to an unrelated company, which is a Hong Kong tax resident. The fee was paid for the right to use a patent in China.
Other administration expenses are all tax deductible.
The selling expenses included entertainment expenses of RMB2,000,000. The remaining selling expenses are all tax deductible.
The non-operating expenses included the following items:
Cash donation of RMB3,800,000 made to an approved charitable organisation in China;
Goods which had a cost of RMB400,000 were donated to a secondary school. The amount of RMB400,000 was recorded as a donation under non-operating expenses. The normal selling price of the goods was RMB600,000.
Other non-operating expenses are all tax deductible.
- a) WTL’s enterprise income tax (EIT) payable on its own operation (19 marks),
- b) WTL’s EIT payable on share of profit from the partnership in Country A (5 marks), and
- c) WTL’s withholding EIT for each relevant item of income for the year 2020 after taking into consideration the necessary transfer pricing adjustments (6 marks).