Editor's Note: In market operations, some enterprises holding special administrative licensing qualifications often adopt the contract operation mode to entrust both their qualifications and business premises to third parties for operation, so as to monetize resources. However, if such a mode lacks standardized tax compliance arrangements, it is likely to trigger disputes over tax payment and liability division. Combining a typical case of contracted operation of a commercial and trade enterprise, this article explores core issues such as the attribution of liability for paying tax arrears, the identification of tax-paying subjects and compliance paths, so as to provide practical reference for relevant enterprises.

01 Case Introduction

A certain commercial and trade enterprise holds a business license approved by the local tax and market supervision departments, and has legally obtained the Tobacco Monopoly Retail License. It has long been engaged in the retail business of tobacco, alcohol and various small commodities under its own storefront. To optimize operational efficiency, the enterprise signed a Contract Operation Agreement with a natural person Zhang in 2018, with the core provisions as follows: the contracting party (commercial and trade enterprise) shall provide its legally valid Tobacco Monopoly Retail License, business premises and relevant qualification documents required for operation in its own name; the contractor Zhang shall independently formulate business strategies, recruit staff, bear all operating costs and risks, and implement a "self-financing and self-profit-and-loss" mode; the contractor shall pay a fixed annual contract fee to the contracting party, which shall not participate in specific operation and management nor share operating profits.

However, during the subsequent performance, the contractor Zhang failed to go through the temporary tax registration with the tax authorities in accordance with the law, failed to establish standardized accounting books, and failed to independently fulfill the tax declaration obligation for the income generated during the contracted operation period. At the same time, the contracting party (commercial and trade enterprise) also failed to fulfill the reporting obligation to the competent tax authorities on the contracted operation matter, the contractor's identity information and the operation period in accordance with the relevant provisions of the Tax Collection Administration Law.

When carrying out a special tax risk assessment, the local competent tax authority found abnormalities in the tax declaration data of the store under the name of the commercial and trade enterprise through data screening, and thus initiated a tax inspection on the ground that the enterprise was suspected of off-book operations. From the perspective of the cooperation mode between the two parties, this is a typical contracted operation activity. Due to the contracting party's failure to fulfill the reporting obligation and the contractor's failure to go through tax registration and tax declaration in compliance with regulations, there is indeed a problem of underpaid taxes. Then, who shall bear the liability for paying the underpaid taxes incurred during the contractor's operation: the contractor or the contracting enterprise?

02 Determination of the Tax-Paying Subject During the Contracted Operation Period

The core of the above problem lies in how to determine the tax-paying subject during the contracted operation period. The provisions of China's current tax law on this matter are somewhat different, and a comprehensive judgment needs to be made in combination with the relevant clauses of procedural law and substantive law.

Article 49 of the Detailed Rules for the Implementation of the Tax Collection Administration Law stipulates: "Where a contractor or lessee has independent production and operation rights, conducts independent accounting in finance, and regularly pays contract fees or rent to the contract-offering party or lessor, the contractor or lessee shall pay taxes on its production and operation income and gains and accept tax administration; however, unless otherwise stipulated by laws and administrative regulations. The contract-offering party or lessor shall report the relevant information of the contractor or lessee to the competent tax authority within 30 days from the date of contracting or leasing. If the contract-offering party or lessor fails to make the report, it shall bear joint and several liability for tax payment with the contractor or lessee."

As a principled provision at the procedural law level, this clause clarifies the core standard for identifying the tax-paying subject, that is, the contractor can become an independent tax-paying obligor only if it meets the three conditions of "independent production and operation rights, independent financial accounting, and regular payment of contract fees or rent". However, this clause is difficult to apply directly in this case because the core of the contractor Zhang's operation relies on the tobacco monopoly qualification of the contracting party, and the legal basis for its external operation is the administrative license of the contracting party, not completely independent production and operation rights, which does not meet the application requirements of this clause. Therefore, from the perspective of procedural law, Zhang does not have the conditions for being identified as an independent tax-paying obligor.

It should be noted that the Detailed Rules for the Implementation of the Tax Collection Administration Law belongs to the category of procedural law, while in substantive laws such as value-added tax and income tax, there are specific provisions on the identification of tax-paying subjects in the contracted operation relationship.

In terms of value-added tax, there are two documents governing the identification of tax-paying subjects in the contracted operation relationship: Article 10 of the Detailed Rules for the Implementation of the Interim Regulations on Value-Added Tax stipulates: "Where a unit leases or contracts its business to another unit or individual for operation, the lessee or contractor shall be the tax-paying obligor." This clause is relatively principled in expression and identifies the contractor as the tax-paying obligor in the contracted operation relationship; Article 2 of the Measures for the Pilot Program of Levying Value-Added Tax in Lieu of Business Tax (Caishui [2016] No. 36) further refines the provisions: "Where a unit conducts business in the form of contracting, leasing or affiliation, if the contractor, lessee or affiliate (hereinafter collectively referred to as the contractor) conducts business in the name of the contract-offering party, lessor or affiliated party (hereinafter collectively referred to as the contract-offering party) and the contract-offering party bears the relevant legal liabilities, the contract-offering party shall be the tax-paying obligor. Otherwise, the contractor shall be the tax-paying obligor." There is a certain contradiction between the two documents in expression. In practice, when handling such disputes, tax authorities often refer to the more specific determination logic stipulated in Caishui [2016] No. 36.

Specifically in this case, Zhang conducts business in the store of the commercial and trade enterprise with the Tobacco Monopoly Retail License held by the enterprise. Consumers conduct transactions based on trust in the qualifications of the commercial and trade enterprise, and the legal liabilities for the quality of relevant commodities and sales behaviors are also borne by the commercial and trade enterprise as the contracting party. Therefore, the tax authority is likely to, in accordance with the legislative spirit of Article 2 of Annex 1 to Caishui [2016] No. 36, identify the commercial and trade enterprise as the tax-paying subject for value-added tax and pursue the payment of the underpaid value-added tax accordingly.

In terms of income tax, the rules for identifying tax-paying subjects are clearer, with the core basis being the normative document of the State Taxation Administration - Notice of the State Taxation Administration on Issues Concerning the Levying of Taxes on Income Obtained by Individuals Engaging in Contracted or Leased Operation of Enterprises and Institutions (Guoshui Fa [1994] No. 179), which stipulates: "1. After an enterprise implements contracted or leased operation by an individual, if the industrial and commercial registration remains that of an enterprise, regardless of its distribution method, it shall first pay enterprise income tax in accordance with the relevant provisions on enterprise income tax. The income obtained by the contractor or lessee in accordance with the provisions of the contracted or leased operation contract (agreement) shall be subject to personal income tax in accordance with the relevant provisions of the Personal Income Tax Law, specifically: (1) If the contractor or lessee does not have ownership of the operating results of the enterprise and only obtains a certain income in accordance with the provisions of the contract (agreement), such income shall be taxed as wages and salaries, applying the nine-level progressive tax rate of 5% to 45%. (2) If the contractor or lessee only pays a certain fee to the contract-offering party or lessor in accordance with the provisions of the contract (agreement) and owns the operating results of the enterprise, the income obtained by the contractor or lessee shall be taxed as income from contracted or leased operation of enterprises and institutions, applying the five-level progressive tax rate of 5% to 35%."

According to the above provisions and implementation standards, contracted operation does not change the statutory tax-paying subject of enterprise income tax. The enterprise must first pay enterprise income tax, and the after-tax profits can be distributed between the contracting party and the contractor, after which the contractor shall pay personal income tax on his income. Therefore, for the commercial and trade enterprise in this case, although Zhang is the actual operator, the enterprise itself is very likely to be required by the tax authority to bear the main liability for paying the tax arrears.

03 Can the Tax Authority Qualify the Contract-Offering Party for Tax Evasion and Impose Penalties?

After determining that the commercial and trade enterprise as the contracting party shall bear the liability for paying the tax arrears, the more critical risks focus on the identification of tax evasion qualification, administrative penalties and subsequent criminal liability for the crime of tax evasion. In practice, when tax authorities find that an enterprise has underpaid taxes, they often tend to identify tax evasion on the ground of false tax declaration or underreporting of income, but this identification lacks sufficient legal support in the contracted operation mode, and the enterprise can effectively defend itself through legal remedy procedures.

The identification of tax evasion must strictly follow the statutory constitutive elements. According to Article 63 of the Tax Collection Administration Law, the constitution of tax evasion requires the simultaneous satisfaction of subject elements, fault elements, act elements and consequence elements. Among them, subjective intent is the core element for identifying tax evasion, and the tax authority bears the burden of proof for this. If it fails to prove, it shall bear the corresponding adverse legal consequences. In this case, the contractor Zhang operates independently and is responsible for his own profits and losses. The commercial and trade enterprise as the contracting party does not participate in the actual operation and decision-making, nor does it include the tobacco sales income and corresponding costs generated during the contracted period into its own financial accounting. The enterprise neither obtains illegal interests by concealing this part of income nor uses relevant cost bills for value-added tax deduction and pre-tax deduction, and does not have the subjective intent of tax evasion on the whole and has not committed the objective act of tax evasion. This fact is a key basis for the enterprise in its defense. In practice, tax authorities sometimes ignore the sufficient proof of subjective intent in the law enforcement process, while courts conduct more prudent and strict review of the identification of tax evasion in administrative litigation, and pay more attention to judgment based on the substantive business logic.

From the perspective of tax handling procedures, if the inspection bureau intends to qualify this case as tax evasion and impose penalties, it shall first serve the Notice of Tax Administrative Penalty Matters on the enterprise, specifying the facts, reasons and basis for the proposed penalty. After receiving the notice, the enterprise has the legal right to apply for a hearing, which is a key node for defending against the qualification of tax evasion. The enterprise should seize the opportunity to systematically collect and submit evidence including the complete Contract Operation Agreement, proof of not participating in actual operation, and financial isolation vouchers showing that income and costs are not included in the enterprise's accounting, with the core of demonstrating that it has no subjective intent of tax evasion. If the tax authority still identifies tax evasion and issues the Tax Handling Decision and Tax Administrative Penalty Decision after the hearing, the enterprise should resolutely initiate legal remedy procedures. It should be particularly noted that administrative reconsideration or administrative litigation for the fine part does not require the prior payment of the fine, while reconsideration for the tax arrears payment decision requires the prior payment of the full amount of taxes or the provision of corresponding guarantees. If the enterprise has difficulties in paying temporarily, it may form a tax arrears status, but this does not affect its legal right to seek remedies for the penalty decision.

Striving to change the qualification of tax evasion is of important legal significance. On the one hand, the general time limit for pursuing the payment of taxes for non-tax evasion acts is five years, while tax evasion can be pursued indefinitely; on the other hand, the qualification of tax evasion is directly related to whether the enterprise faces the criminal risk of the crime of tax evasion. From the perspective of judicial practice, courts are increasingly strict in the review of such tax administrative disputes, and it is not uncommon for the tax authority's tax evasion penalty decision to be revoked. Therefore, even if the tax authority makes a preliminary identification, the enterprise can still rely on professional forces to strive to reverse the identification through administrative reconsideration, administrative litigation and other channels. Even if the penalty decision is ultimately maintained, as long as the enterprise is still within the statutory remedy procedure, the tax authority shall not transfer the case to the public security organ, which provides an important buffer for the enterprise to gain time and resolve criminal risks. If the enterprise ultimately fails to reverse the qualification of tax evasion, the case may be transferred to the public security organ for filing and investigation on the charge of the crime of tax evasion. At this time, the enterprise should accurately grasp the differences in the liability identification logic between tax administrative law enforcement and criminal justice, and actively explain the substantive operation to the judicial organ by providing professional legal opinions and submitting favorable evidence, so as to effectively avoid the final occurrence of criminal risks.

04 Tax Compliance Suggestions for Enterprises' Contracted Operation

While the contracted operation mode activates enterprise qualifications and assets and improves operational efficiency, it is also accompanied by complex tax risks. The disputes over liability for paying tax arrears and potential legal consequences revealed in this case undoubtedly sound the alarm for enterprises adopting similar modes.

Firstly, the core of pre-prevention lies in standardized contract management. Enterprises must sign written Contract Operation Agreements, clearly stipulate core clauses such as the contract period, business scope and payment method of the contract fee, avoid verbal agreements or de facto contract status without renewal after expiration, and prevent the failure to identify the contracted relationship due to contract defects. Moreover, the agreement should clearly stipulate that all taxes and fees incurred during the contracted operation period shall be borne by the contractor, and refine the specific responsibilities for tax and fee payment, liability for breach of contract for overdue payment and loss recovery mechanism. Although the tax-paying obligor at the tax law level is the contracting party, the internal transfer of tax liability can be realized through civil contract agreements. Once a tax risk occurs, the enterprise can claim compensation for losses from the contractor in accordance with the contract. In addition, the enterprise should fulfill the reporting obligation to the competent tax authority before contracting and assist the contractor in going through the temporary tax registration.

Secondly, the key to in-process traceability lies in solidifying the facts of contracted operation. If a written contract is not signed due to objective reasons, the enterprise should pay attention to the retention and collection of business traces to ensure that the authenticity of the contracted relationship is traceable. Specifically, it should keep communication records with the contractor, proof materials of the contractor's independent operation (such as employee recruitment contracts and salary payment records), and regular business trace evidence (including property fee payment vouchers, water and electricity fee payment records, fire inspection cooperation documents, and receipt documents for special commodities such as tobacco).

Finally, active response after the event and the legal exercise of rights are important guarantees for risk prevention and control. Once facing tax inspection or audit, the enterprise should sort out the relevant evidence materials in a timely manner, take the initiative to communicate with the tax authority to explain the substantive situation of the contracted operation, and clearly clarify the liability boundary from the factual and legal levels. When necessary, it can rely on the strength of professional tax and legal personnel to carry out professional defense around core disputes such as the identification of tax-paying subjects and the qualification of tax evasion, so as to maximize the protection of its legitimate rights and interests, effectively block the spread of risks to the criminal field, and reduce unnecessary losses.

In summary, contracted operation is by no means "a mere contract and neglect of responsibility". Contract-offering enterprises must face up to the legal liabilities behind it. Only through sound compliance arrangements can they effectively manage the accompanying tax risks while enjoying the flexibility of the operation mode.