Tax Risks and Compliance Strategies for VIE Structure Enterprises Challenges and Deliberations Post Circular 69

Analysis of Tax Risks and Compliance Strategies for VIE Structure Enterprises New Challenges Post Circular 69

In recent years, with the rapid development of China's capital market and the advancement of internationalization, an increasing number of enterprises using the Variable Interest Entity VIE structure have chosen to go public overseas. This structure allows Chinese companies to circumvent domestic legal restrictions on foreign investment in certain industries by setting up offshore companies, thereby facilitating overseas financing. However, following the release of the Notice on Further Regulating Issues Related to the Administration of Enterprise Income Tax for Indirect Transfers of Non-Resident Enterprises in 2025, commonly referred to as Circular 69, VIE structure enterprises face new challenges regarding tax compliance.

I. Overview of the VIE Structure and Its Tax Characteristics

The VIE structure is typically used in industries such as internet, education, and media, which are subject to foreign investment restrictions. In this model, these enterprises register a wholly-owned subsidiary domestically as the actual operating entity while establishing an offshore company in places like the Cayman Islands. A series of contractual agreements then enable the offshore company to control the domestic subsidiary. Under this arrangement, the shareholders of the offshore company effectively exert control over domestic operations through contracts rather than equity, thus bypassing the negative list of foreign investment restrictions.

From a tax perspective, enterprises under the VIE structure must contend with dual taxation issues one from domestic tax laws on their domestic income, and another from potential capital gains taxes or other forms of taxation faced by offshore investors. Due to the complexity of cross-border transactions involved in the VIE structure, accurately defining whether these transactions constitute taxable events has become a focal point for tax authorities.

II. Impact of Circular 69

Circular 69 aims to strengthen regulatory oversight of indirect transfers of non-resident enterprise equity, particularly those involving unreasonable tax practices through the VIE structure. The document explicitly states that if a non-resident enterprise’s indirect equity transfer leads to significant changes in the equity structure of a Chinese resident enterprise, relevant assets must be reassessed based on market fair value, and corresponding corporate income tax must be paid accordingly.

This policy adjustment undoubtedly increases the operational costs and tax compliance risks for VIE structure enterprises. For instance, when an offshore company transfers its shares in a domestic subsidiary to another party, tax authorities will scrutinize the transaction price more rigorously to determine whether it has been artificially undervalued to reduce tax liabilities. Companies unable to provide sufficient evidence proving the fairness of the transaction price may be required to pay back taxes or even face administrative penalties.

III. Response Strategies

In light of the new challenges posed by Circular 69, VIE structure enterprises should adopt proactive measures to enhance their tax risk management. First, they should establish robust internal tax management systems to ensure all cross-border transactions comply with local laws and regulations. This includes conducting regular tax health checks, hiring professional advisory teams for consulting services, and keeping databases of relevant policies and regulations up-to-date.

Secondly, at the operational level, enterprises can mitigate potential tax risks by optimizing their financial structures. For example, reasonably arranging cash flows, avoiding unnecessary related-party transactions, and fully utilizing tax incentives can help alleviate burdens. Additionally, maintaining good communication with supervisory tax authorities is crucial; only through cooperative relationships can enterprises better handle various situations that may arise in the future.

Finally, it is noteworthy that the Amendment to the Personal Income Tax Law of the People's Republic of China was officially implemented in 2018, introducing provisions regarding anti-tax avoidance. This means both individuals and enterprises must exercise greater caution in handling their financial affairs to avoid losses due to violations of regulations.

IV. Conclusion

In summary, after the issuance of Circular 69, VIE structure enterprises face unprecedented pressure regarding tax compliance. To effectively address this situation, enterprises not only need to deeply understand the evolving trends of relevant policies and regulations but also continuously improve their management systems and adopt scientifically sound response measures. Only by doing so can they maintain a competitive edge in the fierce market environment.