The Annual Compliance Review – Audit in China

The deadline for the Annual Compliance Review in China is on 31 May. Although it seems that there is still a long time until the deadline, there is an incredibly huge amount of work to do before you can hand in your annual audit reports.

There are three reasons why you should not underestimate the time needed for preparing the annual audit. First of all, the Chinese Tax Bureau takes the deadline seriously and will not make any exceptions. Companies which cannot manage to hand in their audit report in time will definitely face fines. Second, the preparation of all documents is a very time-consuming task. Finally, the company has to assign an authorized CPA firm in advance to prepare and finish the annual audit report.

Law requires that the annual compliance review has to be done by a Certified Public Accountant (CPA) in order to ensure the compliance of all tax regulations. This constitutes an advantage for both – the Tax Bureau as well as the company itself, since not being in compliance will result in penalties. The amount of the fines lies between 10,000 and 30,000 RMB for ROs and goes up to 200,000 RMB for WFOEs. Additionally, the second advantage of this requirement is the ensured tax efficiency for the company.

Types of Annual Compliance Review

There are 3 different audit reports:

1) Statutory Annual Audit

2) Annual Foreign Currency Audit

3) Annual Tax Audit & Clearance

Statutory Annual Audit

This is the general audit for which balance sheet, income statement and cash flow statement, prepared according to Chinese GAAP, are necessary. In order to simplify and shorten the whole audit process, foreign business should maintain a proper bookkeeping throughout the year. (for more information, read our article on Accounting in China)

Annual Foreign Currency Audit

This special audit is for the State Administration of Foreign Exchange (SAFE). This report displays and analyzes the Foreign Investor’s Equity. However, the company itself can file this currency audit. It is not necessary to get it done by an authorized CPA firm. Special Foreign Exchange regulations for this document apply.

Annual Tax Audit & Clearance

The purpose of this audit is to compute the taxable profit based on the company’s turnover and cost. This also includes a separate corporate income tax audit report for companies who generate more than 30,000,000 RMB turnover, more than 100,000 RMB losses or want to use the previous carry forwarded loss for the current year.

Why the Annual Compliance Review is so important

• Review whether a company is abiding by the regulatory related guidelines or not
• The auditor determines the cause of violated rules and recommends ways to prevent future deviations
• Reaching a conclusion that an outcome complies or does not comply with a standard is not simple, especially in domains governed by complex regulations (e.g. occupational health and safety, environmental, employment practices, health care, insurance, government grants and contracts, employee pensions and benefits, tax etc.)
• Ensure reasonable, allowable, and properly documented reimbursements
• Examine the company’s investment portfolio to assess whether maximum maturity, foreign investments, degree of diversification, and credit ratings of issuers conform to board mandated investment policies
• Review company practices for compliance with the Labor Law
• Provide annual certification, prepared by a certified public accountant, that a company has followed debt covenant requirements
• Determine whether cost accounting practices meet accounting standards
• Evaluate whether the company is properly withholding and remitting income, social security, and Medicare contributions

Although the annual audit seems like a burden, one should rather think of it as a “Company Health Check”. Thus, the reports reveal the company’s performance and help analyze the internal structure in regard to cost and tax efficiency.