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Different Tax Practice of Family Holding Company
In Taiwan, a family holding company can be a useful tool for deferring dividend taxation and covering personal expenses of family members However, according to tax practitioners in China, Chinese tax officers may view such arrangements as criminal tax evasion.
This highlights the differences in tax and legal culture between the two countries.
In both Taiwan and China, there are more favourable tax treatments for investing indirectly through a holding company than for holding shares in an investor’s personal name. One of the main advantages of
indirect investment is the deferral of taxation on dividends. However, under certain circumstances, indirect investment may be treated as tax evasion in Taiwan. From the perspective of the Chinese tax authorities, the indirect holding structure would be further classified as tax evasion, if the case
meets certain requirements. This article begins with the tax treatment and practice of family investment companies in Taiwan.
Advantages and risks associated with family investment companies in Taiwan
Compared to a direct personal holding, Taiwan’s first tax advantage of an indirect investment is the indefinite deferral of the 28% dividend tax at the expense of the 5% retained earnings tax. Second, the indirect investment and an interest therein is taxable for estate and gift tax purposes and subject to a much higher exemption amount (i.e., $80,000 per year for gift tax; $400,000 for estate tax) and more favorable progressive rates than the individual income tax. Third, the sale of the shares of the family investment company, either in whole or in part, is an income tax-free capital gain.
Almost all family investment companies in Taiwan also play a role as a vehicle to carry personal assets and consumption, such as luxury apartments, sport cars, restaurant dining and travel expenses. That’s because Taiwan’s individual income tax has limited the deduction of personal expenses, even though the expenses are related to salary and other income. Although, Article 38 of Taiwan’s Income Tax Law also has limitations on business expenses and denies deductions for expenses related to personal life. However, the determination of deductions in a real case is not black and white and rarely becomes the focus of tax audit. Even if certain luxurious expenses, such as the cost and depreciation of a Lamborghini Aventador, were found in a family investment company, the worst outcome is to disallow the deduction and increase the tax payable accordingly, which is 20% of the disallowed expenses.
Advantages and Risks associated with Family Investment Company in China
The tax treatment of family investment companies in China is similar to that in Taiwan and appears to be even more favorable. The dividend distribution tax of 20% can be deferred indefinitely without paying any retained earnings tax. The sale of the shares and interests of the family investment company is subject to a capital gains tax of 20%. There is currently no estate or gift tax. However, the Chinese tax authorities are paying attention to the relationship and transactions between investors and their family investment companies. According to the tax regulations promulgated by the Chinese Ministry of Finance, the personal assets held and consumption assumed by the family investment company will not only be disallowed for deduction, but also estimated as the investor’s imputed individual taxable income. There are some cases that are treated as investors’ illegal tax evasion to put personal expenses into company expenses. In addition, the cash and capital borrowed by the investors from the family investment companies will be imputed as taxable dividends and interest distributed to them.
The Tax Planning of Family Investment Company is not Risk-free
The arrangement of family investment company is a common practice to secure tax deferral benefits in Taiwan and China and to pass the family’s corporate wealth to the next generations. Although that’s the background reason why listed companies in Taiwan and China are almost either held by family investment companies or family investment companies themselves, such arrangement is not as omnipotent as the family wishes. Each family investment company must meet a minimum standard of corporate governance. Also, unexpected tax costs or penalties will be incurred if a family investment company acts as more than a custodian and administrator of family assets, but as a cashier for family expenses.
