What is Circular 7?

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One of the most important jobs of a corporate lawyer is to issue spot and if need be, recruit colleagues in a specialized practice area like intellectual property, employee benefits or tax to opine on a particular issue. Issue spotting is a skill (remember the bar exam?) and it can be particularly tricky when dealing with cross border transactions.

Defining Circular 7

I recently completed a transaction involving a target company with assets in China and the issue of Circular 7 was raised pretty early on. Circular 7 refers to a tax provision by China’s State Administration of Taxation that provides that:

“a nonresident enterprise transferring shares in an offshore intermediary enterprise that directly or indirectly holds an equity interest in a PRC enterprise re subject to PRC tax on the gains from the transfer if the PRC tax authorities determine that the arrangement lacks a bona fide commercial purpose and re-characterizes the indirect transfer as a direct transfer of the PRC enterprise”.

Why Circular 7 Matters to Lawyers

Tax is an area I leave to the experts given the many fine nuances and the financial risks if tax assessment/tax planning is not done well. If you’re interested in learning more about Circular 7, please see the linked article above from Deloitte. Otherwise, remember that if you are working on an M&A where a target company has a connection to China, Circular 7 may be an issue. You may not be able to opine on its particulars, but in spotting this potential issue, you have definitely made a value add to the transaction.

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