On June 16, 2012 Denmark and China signed a new double tax treaty with a view to increasing investments in both countries. The new treaty replaces the old treaty from 1986 and will enter into force once it has been ratified in both countries. The new treaty makes several amendments of importance to Danish-Chinese cross-border business, including: A reduction of withholding tax on dividend payments, abolishment of matching credit for withholding tax, elimination of withholding tax on certain capital gains on shares and a change of the definition of permanent establishment. The following provides an overview of the key treaty elements.
Effective date
The new treaty will enter into force once it has been ratified in both countries. In Denmark, the Danish Tax Minister has announced that a bill for the adoption of the new treaty will be presented to Parliament in August 2012. The expected effective date is January 1, 2013.
Reduced withholding tax on dividends
Under the current double tax treaty, a withholding tax of 10% may be withheld on dividend payments from a Chinese subsidiary to its Danish parent company. The new treaty prescribes that withholding tax on dividends may not exceed 5% if the beneficial owner of the dividend is a company holding at least 25% of the share capital in the company declaring the dividend. 10% may still be withheld in all other cases. For Danish companies investing in China, the new treaty will mean a reduction of the current withholding tax provided that the Danish company meet the holding requirement. Chinese parent companies with a Danish subsidiary already benefit from Danish internal rules which will normally eliminate withholding tax on dividends entirely.
End to "matching credit"
The current treaty provides for "matching credit" with respect to credit relief for withholding taxes on dividends, interest and royalties. This means that a Danish resident company may get a full credit deduction against its Danish taxes for the Chinese tax calculated on an income item, even if the tax was not actually paid in China. The matching credit is abolished by the new treaty to the effect that Danish residents will only get credit for Chinese taxes actually paid.
Capital gains on shares - withholding tax
Under the current treaty tax may be withheld on capital gains on shares. The new treaty abolishes such withholding tax on shares not being shares in a group company. This means that only Danish companies that have held, directly or indirectly, at least 25% of the share capital of a Chinese company at any time for a 12-month period prior to the sale of the shares may be taxed of the gains in China. In all other cases withholding tax on capital gains on shares is abolished. Denmark does not normally tax capital gains on shares held by non-residents, so this amendment will not affect Chinese shareholders holding shares in Danish companies.
Permanent establishments - building sites and installations
If the activities of a foreign company constitute a permanent establishment in another country, the foreign company will be taxed in the country where the activities are carried out of income attributable to the permanent establishment. Under the current treaty, a building site, a construction, assembly or installation project constitutes a permanent establishment if these activities continue for more than six months. Installations (including ships and drilling rigs) used for exploration or recovery of natural resources constitute a permanent establishment already after three months. The new treaty allows building, construction or installation work to continue for 12 months before such activities constitute a permanent establishment.
Royalty tax
The new treaty provides for a reduced withholding tax on certain types of royalties. Although not set out in the current treaty, this rule is not a new rule, but is already set out in a protocol to the existing treaty and provides for a reduction of the 10% withholding tax on royalties to 10% tax on 70% of royalty payments, provided that the royalties are paid for the rent of industrial, commercial or scientific equipment.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
