The reduction of nominee shareholding refers to the actual shareholders or contributors of the company for other considerations, in the name of others (including natural persons and organizations) as shareholders for the company's industrial and commercial registration, through the dissolution of the relationship between the shareholding in their own name directly holding shares. From the legal point of view, the restoration of shares held in lieu is the act of affirmation of the manifestation of the right of the hidden shareholders, but due to China's tax law has not yet made clear the nature of the "shares held in lieu of", resulting in practice for the shares held in lieu of the restoration of the tax should be paid, which should be the party to pay the tax, and so on, lack of a direct legal and regulatory basis. This article intends to summarize the different practical treatments of tax administration of shareholding reversion, and suggest the tax-related risks and coping strategies of this kind of business.

I. Practical Treatment of Individual Income Tax under the Scenario of Restoration of Substitute Shareholding

According to the existing public cases and the information disclosed in the announcements of listed companies, the enforcement caliber of taxation in different regions on whether the restoration of shares held on behalf of others should be subject to individual income tax is not uniform. Generally speaking, there are the following three kinds of differences in the practical treatment:

(I) Adoption of formal taxation principle: deemed transfer of equity shares

At present, the mainstream tax treatment of nominee share restoration adopts the form principle, i.e., according to the commercial appearance, it is regarded as the transfer of equity from the prominent shareholder to the hidden shareholder. For the income from the transfer of nominee shares, the tax obligation is borne by the nominee shareholder.

Xiamen Municipal Taxation Bureau pointed out in its reply to the "Proposal on Reducing the Double Tax Burden of Actual Contributors under the Relationship of Xiamen Equity Holding" (No. 1112 of the Fourth Session of the 13th Municipal Committee of the Chinese People's Political Consultative Conference), that the holding agreement only regulates the civil legal relationship within the parties concerned, and it does not constitute any adjustments or changes in the capital contribution of the shareholders. The income derived from the transfer of equity by the nominee shareholder shall be subject to personal income tax in accordance with "income from transfer of property". This answer coincides with the logic of the above treatment.

(II) Low price or gratuitous transfer is deemed to be justified

Article 13 of the Measures for Administration of Individual Income Tax on Income from Equity Transfer (for Trial Implementation) specifies the specific circumstances under which the transfer of equity is deemed to be justified even though the price is low, including "transferring the equity to the spouse, parents, children, grandparents, grandchildren, brothers and sisters, as well as those who bear direct support or alimony obligations to the transferor, and those who bear direct support or alimony obligations to the transferor, and those who bear direct support or alimony obligations to the transferor". If both parties to the shareholding have the above relationship, even if the shareholding is regarded as a transfer of shareholding, both parties to the shareholding do not need to pay individual income tax because the tax authority recognizes that they have not obtained any income from the transfer or the income obtained is low.

(III) Substantive taxation principle: the termination of shareholding relationship is not a transfer of shares.

Those who hold the position of substantive taxation believe that the essence of the reversion of shareholding lies in the termination of the entrustment relationship, and that the two parties to the shareholding sign an equity transfer agreement for the purpose of registering the transfer of shares, and that, in fact, the ownership of the shares before and after the reversion of shareholding is controlled and owned by the hidden shareholder, and that the reversion of shareholding does not give rise to taxable income and does not involve the payment of personal income tax.

II. Taxability and Taxable Subjects of Restoration of Substitute Shares

Whether or not the restoration of nominee shares is taxable involves the analysis of the nature of the act, which still has to return to the understanding of whether the change of a hidden shareholder to a prominent shareholder is a transfer of equity, and furthermore, it will also have an impact on the confirmation of the taxable subject.

(I) Company law affirms that the actual shareholders have the right to the investment interests.

From the viewpoint of civil legal relationship, "nominee shareholding" is a kind of proxy relationship established between the hidden shareholders and the prominent shareholders. In the company law, the effective establishment of shareholding should meet two requirements: First, there is no prohibitive provisions, such as listed companies due to the public interest, China's regulatory requirements, the equity must be clear, clear, does not allow equity holdings; Second, the actual contributor and the nominal shareholders entered into a contract of shareholding does not exist in invalid circumstances prescribed by law.

On the basis of the effective establishment of the shareholding relationship, according to the provisions of Article 25 of the Provisions of the Supreme People's Court on the Application of the Company Law of the People's Republic of China on Certain Issues (III) (Legal Interpretation [2011] No. 3), "where a dispute arises between the actual contributor and the nominal shareholder over the vesting of the investment rights and interests, the actual contributor shall claim the rights from the nominal shareholder based on the fact that the actual contributor has fulfilled the obligation of the capital contribution. If the actual contributor claims rights from the nominal shareholder on the ground that he has actually fulfilled his capital contribution obligation, the people's court shall support the claim. The people's court shall not support the nominal shareholder's denial of the actual contributor's rights on the grounds of the company's shareholders' register or the registration of the company's registration authority." It can be seen that, although the nominal shareholders have the appearance of the rights of shareholders based on the records of the shareholders' register and the registration of the company's registration authority, the above records cannot override the economic substance of the actual shareholders' rights in respect of their capital contributions and investment interests.

(II) Under the principle of substantive taxation, the nominee shareholder is not subject to personal income tax.

According to the principle of income tax, there is a tax obligation only when there is gain. As mentioned above, the principle of substantive taxation emphasizes that tax should be levied on the basis of the substance of the taxpayer's business activities rather than the surface form. In the process of restoration of nominee shareholding, the "transfer" of shareholding from nominee shareholders to actual shareholders is only an appearance, or a means to dissolve the relationship of entrusted shareholding, with the purpose of changing the registration of shareholding from nominee shareholders to actual shareholders and realizing the unity of the appearance of the right and the economic substance. According to the principle of substantive taxation, since the reduction of proxy shareholding has not changed the economic substance of the actual shareholders' investment interests, the aforesaid change of shareholding does not constitute a transfer of shareholding, and this economic behavior does not generate income from the transfer of shareholding, and thus no personal income tax is required to be paid.

According to the current tax law, the Announcement of the State Administration of Taxation on Income Tax Issues Relating to the Transfer of Restricted Shares of Listed Companies by Enterprises (Announcement of the State Administration of Taxation No. 39 of 2011) only deals with the situation where the restricted shares held by an enterprise on behalf of an individual are directly changed to the name of the actual owner, which is not regarded as the transfer of the restricted shares, and is not required to pay enterprise income tax. In fact, the reduction of nominee shareholding to make the hidden shareholders famous and the situation belongs to the adjustment of the appearance of the public, reveal and restore the actual situation, therefore, the reduction of nominee shareholding can refer to the application of the provisions, not as a transfer of equity treatment, no income tax.

(III) Confirmation of taxable subject in the absence of proof of shareholding relationship

In practice, even if the relationship of shareholding exists objectively, some taxpayers are unable to provide sufficient supporting materials, so that the tax authorities do not recognize the legal relationship, and can only accept the determination of transfer of equity due to the inability to prove the economic substance and make tax adjustments in accordance with the fair price, and bear the tax obligations set out in the decision of the tax reimbursement.

On the one hand, in this case, there is still a debate between formal taxation and substantive taxation for the recognition of the taxable entity. Formal taxation considers that the nominee shareholder should bear the tax liability for the transfer of shares held in lieu of shares in order to make the tax treatment more in line with the principle of statutory taxation. Substantive taxation, on the other hand, recognizes that the actual shareholders should bear the tax obligation based on the final attribution of economic benefits, reflecting the requirement of the principle of taxing according to ability.

On the other hand, the manifestation of hidden shareholders as a transfer of equity should be recognized in the same way as the transfer of nominee shares to other subjects. In the case of (2021) Anhui 04 criminal final 102 heard by the Intermediate People's Court of Huainan City, Anhui Province, Bao Mou and Li Mou held 20% and 40% of the equity of a certain pharmaceutical company, respectively, of which the shares held by Li Mou were to help Bao Mou to hold the shares on behalf of Bao Mou. On January 17, 2017, Bao Mou and Li Mou transferred 51.09% of the equity of a certain pharmaceutical company (of which 40% of the equity was held by Li Mou, and 11.09% of the equity of Bao Mou) to Yin Mou and received a transfer price of 70 million yuan in March of the same year. transferred to Yin Mou, and received the transfer price of 70 million yuan in March of the same year. On February 15 of the same year, Bao declared 51.09% of the shares at RMB 3.26 million in the false Equity Transfer Agreement for payment of individual income tax, and the tax inspector required Bao, as the actual taxpayer, to bear the tax obligation for the tax not declared in full in accordance with the law on the transfer of the equity (the tax owed by Li). The court held that Bao transferred his equity interest in a company to another person and then adopted deception and concealment means to make a false tax declaration, avoiding the payment of tax amounting to more than RMB 6,950,000 in total, and the amount of tax evaded was huge and accounted for more than 30% of the taxable amount, and his behavior constituted the crime of tax evasion. The court held two final hearings and finally ruled that Bao had committed the crime of tax evasion and was sentenced to four years' imprisonment and fined RMB 500,000 yuan. It can be seen that the case in the confirmation of the transfer of shares held on behalf of other subjects of the taxable subject of the principle of substantive taxation, "penetration" of the nominal shareholder Li to the actual shareholders of Bao to pursue the criminal responsibility of tax evasion.

In summary, we believe that the essence of income tax is to tax the economic gains of taxpayers, can prove the authenticity of the relationship, in accordance with the principle of substantive taxation, on behalf of the stock transfer does not occur, does not produce taxable income, not subject to income tax. Only when the shareholding relationship is not established or is not proved, the actual shareholders, as the actual owners of the equity and the ultimate owners of the investment income, should be the ultimate bearers of the tax burden. Therefore, following the principle of substantive taxation in determining the taxable subject of the transfer of shares held in lieu of shares as the actual shareholders not only takes into full consideration of the tax burden of the subject of the transaction, but also meets the requirements of quantitative taxation and is more conducive to the realization of tax fairness.

III. Tax Risks of Substitute Shareholding Restoration

(I) The practice of tax administration of reversion of nominee shareholding emphasizes on the legal form.

In individual income tax collection and management practice, it is complicated to verify the economic substance behind the reversion of nominee shareholding. In order to improve administrative efficiency and avoid the tax risk of a large number of shareholdings being changed from "real transfer" to "fake nominee shareholding", the tax treatment prefers to characterize the transaction from the perspective of legal form. In order to improve administrative efficiency and avoid the tax risk of a large number of equity transfer from "real transfer" to "fake holding", the tax treatment is more inclined to the legal form to characterize the transaction. On the one hand, tax authorities often recognize the reduction of shareholding as equity transfer and levy individual income tax on equity transfer in accordance with the law. On the other hand, in accordance with the form of taxation and the spirit of the "Letter from Xiamen Municipal Taxation Bureau of the State Administration of Taxation on the Reply to the Handling of Proposal No. 1112 of the Fourth Session of the Municipal Thirteenth Chinese People's Political Consultative Conference" (Xiamen Taxation Letter [2020] No. 125), the nominee shareholders will be regarded by the tax authorities as the taxpayers for the transfer of the shareholdings.

(II) Requirement to check tax-paid certificates for registration of changes in shareholdings

Article 15 of the Individual Income Tax Law makes it clear that in the case of transfer of real estate by an individual, the real estate registration agency has the duty to check the tax-paid certificates of individual income tax related to the transfer of the real estate when applying for the transfer registration. By coincidence, the registration authority of market entities also has the duty to check the tax-paid individual income tax certificate related to the equity transfer when handling the change registration. At present, the country, including Hainan Province, Tianjin, Hunan Province, Shenzhen City of Guangdong, Zhuhai City of Guangdong, Zhongshan City of Guangdong, Qingdao City of Shandong Province, Hefei City of Anhui Province, and Hohhot City of Inner Mongolia, has issued express circulars to clarify the requirement that the individual transferring the equity for the registration of the change of the individual income tax certificate should be verified. In this case, the hidden shareholders, in particular, should focus on solving the tax authorities will be held in lieu of shares to restore the nature of the transaction is attributable to the general sense of the transfer of equity, to avoid actually bear a huge amount of personal income tax burden.

(III) Judicial confirmation of rights does not affect the characterization of tax law

As mentioned above, the restoration of shareholding and the dissolution of shareholding relationship are regarded as equity transfer, and 20% personal income tax should be paid on the income from equity transfer before the registration of equity change. In practice, in order to avoid the high tax burden, some parties to the shareholding attempted to file a lawsuit with the court to confirm that the shareholding is owned by the hidden shareholders through the court's judgment or ruling to change the shareholding directly into the name of the hidden shareholders. The hidden shareholders argued that the change of shareholding was not in the form of transfer of shareholding for the purpose of transferring the shareholding, and therefore no personal income tax should be levied.

There is a misunderstanding in this viewpoint. According to Article 3 of the Measures for Administration of Individual Income Tax on Income from Equity Transfer (for Trial Implementation) (Announcement of the State Administration of Taxation No. 67 of 2014), the transfer of equity interests includes the following circumstances: (i) sale of equity interests; (ii) repurchase of equity interests by the company; (iii) when the issuer issues new shares in the first public offering, the shareholders of investee enterprise will offer the shares held by the investee enterprise in the form of a public offering to the Investors; (d) the equity is judicial or administrative organs forced to transfer; (e) equity investment or other non-monetary transactions; (f) equity against debt; (g) other equity transfer behavior. The judicial confirmation of the right belongs to the "equity by the judicial authorities forced transfer" situation, through the judicial decision or ruling to confirm the equity holding relationship established in accordance with the law, and can not play a role in preventing the tax authorities will be held in lieu of the reduction of the characterization of the shares for the "transfer of equity", and also cannot Against the inspection and adjustment of the tax authorities, can not produce the effect of reasonable tax avoidance. Moreover, due to the long period of judicial decision and the uncertainty of the result, it is rare to terminate the entrusted holding relationship through litigation.

(IV) Unfair pricing of proxy shares is easy to be adjusted by tax.

In the form of taxation conditions, the reduction of proxy shares is treated as equity transfer for tax purposes, which means that "equity transfer income" should be determined in accordance with the principle of arm's length transactions. If the parties concerned set the price arbitrarily without justifiable reasons, in the case of high appraisal price of the equity, it may lead to the hidden shareholders need to bear a higher tax burden. A transfer at par, at low price or at no cost is likely to attract the attention of the tax authorities and may even be subject to tax adjustments.

IV Risk Response of Substitute Shareholding Restoration

(I) Carefully selecting the subject of nominee holding to enhance the reasonableness of the nominee holding relationship

In the process of restoration of nominee shares, unfair pricing is very easy to be adjusted by tax. However, some subjects with special status relationship as the nominal contributor of equity can enhance the rationality of the nominee holding relationship. According to the State Administration of Taxation Announcement No. 67 of 2014, Item 2 of Article 13, if the equity is transferred to the spouse, parents, children, grandparents, grandchildren, brothers and sisters who can provide legally valid proof of their identity relationship, as well as the dependents or alimony of the transferor who have direct obligations of dependency or alimony, the obviously low income from the transfer of the equity is considered to be justified. Therefore, if the actual contributor chooses a proxy subject with whom he or she has a private social relationship such as relatives, friends or other affiliations, not only can it generate tax savings compared to a simple business partner proxy situation, but it is also more likely to be considered as reasonable in the IPO audit.

In fact, in the aforementioned Aladdin, Shanghai Hongying, crown stone technology, etc., the proxy shares restore, proxy shares on behalf of both sides have a kinship relationship, regardless of whether to block the proxy shares restore the determination of the equity transfer, have realized $ 0 proxy shares return.

(II) Retention of proof of the relationship between the nominee shareholding to strengthen the substantive tax reasoning

In the personal income tax collection and management of proxy shareholding reversion, the tax authorities would have paid more attention to the legal form. When the taxpayer is unable to provide sufficient materials to prove the objective existence of the legal relationship, it is difficult to fight for the favorable treatment of substantive taxation, and can only be forced to accept the decision to pay tax at fair price. Therefore, the establishment of the equity holding relationship between the two parties should be fixed in writing to clarify the rights and obligations of the nominal shareholder and the actual shareholder, indicating the nature of the capital contribution, the mode of capital contribution, the purpose and whether it is actually and fully funded. At the same time, save the actual shareholders to the nominal shareholders for the transfer of capital transfer records, as well as the actual shareholders of the real participation in the company's profit distribution vouchers and other materials to prove the authenticity of the relationship between the shareholding.

In addition, should strengthen the exchange and communication with the tax authorities, on the change of equity from the nominal shareholders registered as the actual shareholders do not change the economic substance, does not produce taxable income to fully reasoning, and strive for substantive tax, to maximize the protection of their legitimate rights and interests.

(III) Arguing the reasonableness of gratuitous reversion and realizing the reversion of equity interests

According to Article 13 of Announcement No. 67 of 2014 of the State Administration of Taxation, in addition to the aforementioned transfer of equity interests to subjects with certain identity relationships, the following three circumstances of obviously low income from equity transfers are also regarded as justified: first, effective documents can be produced to prove that the investee enterprise has been significantly affected in production and operation due to national policy adjustments, resulting in the transfer of equity interests at a low price; second, the relevant laws, government documents or The enterprise's articles of association stipulate that the transfer price is reasonable and true, and there is sufficient evidence that the transfer price is reasonable and true for the internal transfer of equity interests held by the enterprise's employees that cannot be transferred to the outside world; and thirdly, the two parties to the transfer of equity interests are able to provide effective evidence to prove the reasonableness of the other reasonable circumstances. The third circumstance is of underpinning nature, the scope of which depends to a certain extent on the understanding of the enforcement authorities.

Against the background that the current tax law does not specify the tax treatment of shareholding, and the tax administration caliber of tax authorities around the world is inconsistent, both parties of shareholding may try to argue the reasonableness of the "transaction" at a low price or at no cost, so as to apply the State Administration of Taxation Announcement No. 67 of 2014 to realize the reversion of the shareholding.