CHINA Law and Practice Contributed by: Zhen Chen, Candy Tang, Flora Qian and Yan Zhao, Fangda Partners
3.5 Rules Concerning Permanent Establishments
ance, accounting, and certain deal-sourcing activities. However, some functions can be outsourced but only to licensed private fund service providers. See further relevant details in 2.9 Rules Concerning Service Pro- viders . Further, under CSRC and AMAC regulations, the private fund manager will remain responsible and liable to the investors and the regulators for the activi - ties of the service providers and such other parties that the functions are outsourced to. 3.8 Local Substance Requirements The private fund manager must be formed and domi - ciled within China and registered with AMAC before it can carry out fundraising, and manage and operate private funds in China. Under AMAC rules, it needs to have at least five full-time employees who have entered into employment agreements with the private fund manager and maintain social security records in the city where the fund manager is domiciled. Addi - tionally, the private fund manager must maintain its place of business with an independent office in the city of domicile or in another city that is convenient When shareholders, partners, or the actual control - lers of a private fund manager propose to transfer their equity, partnership interest directly or indirectly in the private fund manager that will result in a change of actual control, then the shareholders, partners or actual controllers must promptly notify the fund man - ager. The fund manager, in turn, must duly fulfil its information disclosure obligations to investors and carry out the applicable internal decision-making pro - cedures in accordance with the fund contract/LPA. A change of actual control, as well as changes in the controlling shareholder or general partner of the pri - vate fund manager, is classified as a material change, which must be filed with AMAC within 30 business days of such change. Additionally, legal opinions issued by a qualified PRC law firm must be submitted to confirm that the private fund manager continues to fully meet the requirements for a private fund manager after the change. for conducting business. 3.9 Change of Control
China does not have a general exemption explicitly eliminating the concept of a permanent establishment (PE) for private funds with a manager in China. How - ever, the Chinese tax authorities interpret the pres - ence of a foreign fund manager and its activities within China carefully to determine tax exposure. If a foreign fund manager maintains a fixed place of business, has employees or representatives in China, or conducts regular management activities within China, it may be considered to have a PE, subject - ing it to Chinese corporate income tax on the income attributable to that PE. While there is no blanket exemption for private funds with a manager in China, the risk of creating a tax - able PE can be mitigated through careful structuring, limited activities, and reliance on relevant tax treaty provisions. 3.6 Taxation of Carried Interest Carried interest is typically paid to the GP or an affili - ated special limited partner (SLP) of a private fund in China, and in certain rare scenarios, it is paid as performance-based management fees to the fund manager. In China, carried interest does not have a specific, dedicated tax regime but is generally taxed as income. Whether carried interest is treated as investment gains or service fees has no impact on the receiving entity’s income tax rates. Carried interest is typically paid to the GP (that is not the fund manager) or SLP, as it is reasonable to argue that the carried interest is not fee income based on fund management activities and, thus, VAT may be waived on the carried interest. In contrast, carried interest paid to the fund manager as performance-based management fees will be treated as fee income, which will otherwise be subject to an additional 6% VAT. 3.7 Outsourcing of Investment Functions/ Business Operations Private fund managers in China are prohibited from outsourcing their core functions such as investment decision-making and key investment operations to other persons. They may outsource certain other func - tions such as administrative support, legal, compli -
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