The Alternative Investment Management Association

Alternative Investment Management Association Representing the global hedge fund industry

QFII and RQFII – a Clearer Tax Policy is Necessary to Catering for the Ongoing Development

By Jeremy Ngai, Tax Partner, Danny Yiu, Tax Partner, PricewaterhouseCoopers


First published in Q1 2013 edition

The Chinese government authorities have been making continuous efforts in promoting the development of China’s capital markets to attract more foreign investors through the QFIIs and RQFIIs scheme. However, the unclear taxation on capital gains arising from the trading of A-shares and domestic debt securities has always been a prime concern to the QFIIs/RQFIIs and its investors. 

I.    A snapshot of the developments of QFII and RQFII in 2012

A wider group of participants for the QFII and RQFII schemes

In July 2012, the China Securities Regulatory Commission (CSRC) amended the QFII Regulations to lower the previous high entry threshold requirements for QFII license application. In addition, according to a CSRC official, foreign private equity investors may apply for the QFII license as asset managers. In April 2012, the CSRC announced to increase the RQFII quota by RMB 50 billion (increasing the total quota to RMB 70 billion). Subsequently, the CSRC announced to further increase the total quota to RMB 270 billion (more than 10 times the initial quota). These increases demonstrate the Chinese government’s commitment to open up the Chinese capital markets and to boost the A-share market. Currently, the investment of RQFII together with QFII is about 1.5% to 1.6% of the A- share market. The Chairman of the CSRC, Mr Guo Shuqing, mentioned in his speech at the Asia Financial Forum on 14 January 2013 in Hong Kong the possibility of further boosting the size of the quota by another 10 times.

Furthermore, currently, an eligible applicant to the RQFII scheme is limited to a Hong Kong subsidiary of a Chinese asset management company or securities house. Recent news reports indicated that China and HK regulators are in discussion to open the RQFII scheme to all Hong Kong-based financial institutions. 

As a result of lower entry requirement and more quota for applications, we have seen a trend that institutional investors who used to invest via another QFII license holder have decided to redeem and set up their own investment scheme. Therefore, it is expected that more QFII license holders may have to find a way to satisfy the cash flow requirements by actually remitting the accumulated realised profits outside China. Amongst other concerns for outward repatriation, they see a pressing need for a clear tax policy with respect to gains derived in China.

More flexibility for QFIIs’ and RQFIIs’ investments in China

The amended CSRC Regulations also allow QFIIs to broaden the scope of investment into a wide variety of products including stock index futures and inter-bank bonds. In addition, the cap of the aggregate amount of shareholding of all foreign investors in a single A-share listed company is lifted from 20% to 30%, whereas the cap of shareholding of a single foreign investor remains unchanged at 10%.

In the meantime, the CSRC has also taken another step to expand the scope of RQFIIs’ investments.  Initially, RQFIIs were required to invest no less than 80% of its approved quota in bonds and other fixed income products, and no more than 20% in equities and related products. Now, the investment allocation requirement has been relaxed to allow the RQFII license holders to issue A-shares Exchange Traded Fund (ETF) products which effectively allow RQFII to freely invest in A-shares.

These new rules will make the QFII and RQFII schemes more appealing to foreign investors. The rapid developments require a thorough understanding of complex Chinese taxation issues for all the investment portfolios so as to harvest the true potential of the emerging opportunities ahead.

A simpler set of requirements for QFIIs’ repatriation

In December 2012, the State Administration of Foreign Exchange (SAFE) released new Measures to delegate the approval authority from the SAFE to custodian banks with respect to profits repatriation. It has made it possible for QFIIs to remit profits overseas through its custodian bank directly as long as all the required documents (including a tax payment certificate) are available. This would simplify and accelerate the remittance procedures. The new SAFE Measures also allow QFIIs to repatriate more frequently. They are allowed to outward remit investment principal and profits by batches as long as the total monthly remittance amount does not exceed a newly defined cap - 20% of the total onshore assets of the QFII as at the end of the previous year. Further, remittance by Open-ended China Funds1 can now be processed on a weekly basis as compared with only once a month previously.

However, as the long-standing tax issue on the capital gains derived by QFIIs remains unclear, getting a tax payment certificate can still be very time-consuming. QFIIs that are eager to get money out of China may wish to explore on a case by case basis with their custodian banks and tax authorities. 

II.    China’s tax regime governing QFIIs and RQFIIs

China’s tax regime governing QFIIs and RQFIIs has been in a state of flux and has created uncertainties for foreign investors with investment in China’s capital market. This is because the current Corporate Income Tax (CIT) laws and regulations have not specifically stated that QFIIs/RQFIIs are subject to taxes in China with respect to the gains on disposal of investments, nor if they are totally exempted from taxes in China. Back in 2011, there was speculation in the market that the Chinese tax authorities are in the process of drafting detailed implementation rules to enforce the tax collection on A-shares trading gains derived by QFIIs. During the past year, the CSRC has apparently been putting a lot of efforts driving towards a "friendly" tax policy.  However, so far there is no written or official announcement from any Chinese authorities.

Hot topics on QFII’s and RQFII’s taxation

Strictly speaking, QFIIs/RQFIIs should technically be liable to 10% China withholding income tax (WHT) on gains derived from disposal of investments (including A-shares and bonds) in China under the prevailing PRC income tax regime. Nevertheless, as a matter of practice, the Chinese tax authorities had not collected capital gains tax of A shares derived by QFIIs so far. As such, there are a number of key questions that require consideration by QFIIs/RQFIIs and clarification by the Chinese tax authorities.

  • If the Chinese tax authorities do decide to actively enforce tax collection, would it apply retrospectively, e.g. from 1 January 2008, or even from the inception date of the QFII scheme?
  • Would a QFII/RQFII be regarded as having a permanent establishment (PE) in China? Specific situation and circumstances should be looked at, and the PE status should be assessed thoroughly based on its own merits and justification on a case-by-case basis. What are the “do’s and don’ts”, if any, that the QFIIs/RQFIIs should follow to mitigate the PE risk?
  • How do we calculate taxable gains for China WHT purposes for a QFII/RQFII that does not have a PE in China i.e. trade-by-trade basis versus on a netting basis? Can trade-related expenses (stamp duties and commission), be deducted against the gains? Can the trading losses sustained be carried backward or carried forward to set off its taxable income?
  • How does the Value-Added Tax (VAT) Transformation Pilot Program rolled out in Shanghai, Beijing and a number of locations since 2012 affect the turnover tax regime of QFII/RQFIIs?
  • Can a tax treaty protect the QFII/RQFII from capital gains tax?

Tax treaty protection on capital gains tax is a critical issue if the decision is to impose tax on gains on disposal of A shares and domestic debt securities. Where the QFII/RQFII is viewed as a tax resident of a jurisdiction whose treaty with China allows the taxing right to rest with the resident jurisdiction rather than the sourcing jurisdiction, the QFII/RQFII would be exempt from such tax on gains in China. Therefore, it is worthwhile to drill down to the following issues before concluding whether a particular QFII/RQFII is eligible for treaty protection. 

  • Is a QFII/RQFII considered as a tax resident of a foreign jurisdiction? The next question is, for purpose of the tax residence test, should the Chinese tax authorities look at the QFII/RQFII or the underlying investor level and if so how many layers? Given the existence of different commercial arrangements between QFIIs/RQFIIs and the underlying investors, each type of account should be assessed on its own merits and justification. Under the new SAFE measures, QFIIs can open up to six securities funds accounts for different clients (as compared to one client account under previous rules). While this would provide a clearer segregation of client assets, a more transparent holding structure of client assets may have unforeseen tax implications when identify the applicant of double tax treaty, should there be a need to apply for treaty protection. 
  • Can QFII/RQFII be entitled to treaty benefits? If feasible, what are the application procedures to claim treaty benefits?
  • How to determine the land-rich listed shares in treaty claims, especially after the Chinese tax authorities has recently clarified the definition of “immovable property” and the relevant issues relating to the assessment of the 50% threshold in value in the context of Article 13.4 of the China-Singapore Tax Treaty? 

III.    Conclusion

We believe that the taxation policy on gains on disposal of A shares and domestic debt securities for QFII and RQFII should be resolved together and everyone in the market is anxiously looking forward to a decision upon which they can build and grow the QFII/RQFII business with certainty. During the past year, although the CSRC has been seen to be putting a lot of effort towards a "friendly" tax policy, regrettably, no conclusion has yet been reached by the Chinese tax authorities. Ideally a win-win solution is to offer a blanket tax exemption to offshore investors or else, if the final decision is to impose tax, to offer a simple and efficient treaty application procedure for the eligible QFII and RQFII to seek treaty protection. Such measures are consistent with international practice and will send a reinforcing signal on promoting A-share market and internationalisation of RMB. 

Before China’s tax regime governing QFIIs/RQFIIs is clarified, it is imperative for QFIIs/RQFIIs to constantly review whether they are sufficiently prepared for the potential China tax exposure. In relation to products offered by QFIIs/RQFIIs to investors, both parties should bear in mind the tax uncertainty upfront and make appropriate commercial arrangements and disclosures accordingly.

Reprinted with the permission of PricewaterhouseCoopers Ltd. Copyright 2013 PricewaterhouseCoopers Limited. All rights reserved. The information in this article, which was assembled on 29 January 2013 and based on the laws enforceable and information available at that time, is of a general nature only and readers should obtain advice specific to their circumstances from their professional advisors.



[1] “Open-ended China Funds” refer to an open-ended securities investment fund launched offshore by a QFII via public placement and at least 70% of fund assets are invested in China.

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