The recycling business of recyclable resources is prone to the risk of false invoicing. In practice, to strengthen tax management, some tax bureau in certain regions require recycling enterprises to sign affiliation agreements face-to-face with individual sellers affiliated under their name to be recognized as affiliated. This requirement aims to clarify the criteria for determining affiliation relationships and prevent the occurrence of phenomena such as forged affiliations. However, this requirement may exacerbate the contradictions in the operation of affiliated businesses in the recycling industry, leading to further increases in tax risks for recycling enterprises. This article intends to analyze the causes of the affiliated operating model in the recycling industry and introduce two perspectives on the establishment of affiliated relationships in practice. This analysis aims to provide insights into the practical challenges and business risks of the "face-to-face signing" requirement.

I. Analysis of the Causes of the Affiliated Operating Model in the Recycling Industry

(I) Inability or unwillingness of individual sellers to issue invoices for the sale of waste materials, alleviating invoice difficulties to some extent through affiliation operations.

Local state-owned or large-scale enterprises that use waste materials are usually general taxpayers. The taxable amount for VAT payable is the balance after deducting the current input tax amount from the current output tax amount. Therefore, if natural person individual sellers or small-scale individual sellers sell goods to waste enterprises in their own name, the waste enterprise can only obtain a VAT special invoice or a VAT general invoice with a tax rate of 3%, compared to the 13% tax rate VAT special invoice issued by the recycling enterprise. This difference in tax rates is negligible for deduction. Therefore, some waste enterprises prefer to conduct business with recycling enterprises ,or require individual sellers to be affiliated to the recycling enterprise and conduct business with waste enterprises in the name of the recycling enterprise and issue VAT special invoices with a tax rate of 13%.

(II) Qualification requirements for recycling operations and the need to collect waste materials to sell to qualified waste suppliers according to regulations.

Nearly 90% of the goods in the recycling industry come from individual sellers, with only 10% of goods directly sent from waste-producing enterprises to recycling or waste-utilizing enterprises. Among individual sellers, natural person individual sellers account for a significant proportion. However, Article 6 of the revised "Management Measures for Recycling of Recyclable Resources" in 2019 stipulates that "to engage in the business of recycling of recyclable resources, it must meet the conditions for administrative registration of industry and commerce. After registration with the industry and commerce, it can engage in business activities." Some tax bureaus in certain regions also explicitly state: "According to Article 8 of the 'Administrative Measures for Tax Registration,' taxpayers engaged in production and operation who obtain a business license from industry and commerce shall declare tax registration within 30 days from the date of obtaining the business license. Therefore, the 'waste supplier' that meets the requirements should be a unit or individual industrial and commercial household that has completed industrial and commercial registration and related procedures and has declared tax registration in accordance with the law. Engaging in recycling of recyclable resources and tax registration management." The provision that individuals cannot engage in the business of recycling recyclable resources in their natural person capacity leads to the practice of individual sellers either selling goods to recycling enterprises privately or choosing to be affiliated under the name of recycling enterprises. However, to ensure sufficient cash flow, recycling enterprises cannot stockpile a large quantity of goods. Hence, the affiliated operating model is prevalent in the recycling industry.

(III) Large waste-producing enterprises have qualified supplier lists, and individual sellers need to be affiliated under registered suppliers.

The recycling industry has always been a hotspot for tax issues. To reduce tax risks and ensure the quality of goods, many state-owned and large waste-producing enterprises have established qualified supplier lists. Through bidding and other investment methods, they specify supplier enterprises. Only enterprises in the list have the right to accept procurement offers. Waste enterprises sign contracts, accept goods, issue invoices, and complete fund turnover only with registered suppliers. These large waste-producing enterprises often monopolize large buyer markets in local areas. To smoothly conduct business with these waste-producing enterprises, local individual sellers and small and medium-sized enterprises can only be affiliated under the name of registered suppliers, promoting the continuation of a large number of affiliated businesses in the industry.

II. Is a Affiliation Agreement a Necessary Condition for Recognizing an Affiliation Relationship?

In practice, with the issuance and interpretation of the "Announcement of the State Administration of Taxation on Issues Concerning Taxpayers Issuing VAT Special Invoices to the Outside" (State Administration of Taxation Announcement No. 39 of 2014) and its interpretation, as well as the release of the "Reply on How to Determine the Nature of Activities That Falsely Open VAT Special Invoices in the Name of a Company Affiliated with 'Affiliation'" (Legal Research Office [2015] No. 58), the view that "affiliation invoicing that meets the conditions is not considered falsely opened" has been widely accepted. However, there is still a divergence of views on how to prove the existence of an affiliation relationship. It mainly divides into two perspectives:

(I) Viewpoint 1: The judgment standard for affiliated operations is the substance of the transaction.

First, Announcement No. 39 did not require both parties to the affiliation to sign an agreement; it can be considered an affiliated operation if it meets the conditions.

Those holding this view believe that the interpretation of Announcement No. 39 specifies the business model of affiliated operations: "If the affiliated party sells goods, provides taxable services, or services subject to VAT on behalf of the affiliated party to the taxpayer who receives the invoice, it should be regarded as the taxpayer of the affiliated party. The affiliated party, as the seller of the goods or the provider of taxable services or services subject to VAT, issues a VAT special invoice to the taxpayer who receives the invoice in accordance with relevant regulations, which falls within the scope specified in this announcement." The above regulations do not explicitly state that the existence of an affiliation operation is based on the affiliation agreement. It is generally believed that Announcement No. 39 and its interpretation require the affiliated party to meet the following conditions when conducting business:

(1) Sign contracts and conduct business in the name of the affiliated party.

(2) Settle funds through the affiliated party's account.

(3) Issue a VAT special invoice to the taxpayer who receives the invoice in the name of the affiliated party, with the content matching the actual business.

Second, the fulfillment of the characteristics of borrowing, independent accounting, and temporality can be considered as constituting an affiliated operation.

The main features of affiliated operations are:

(1) Borrowing behavior. Affiliated operations involve the affiliated party operating in the name of the affiliated party, making it essentially a borrowing relationship. This borrowing relationship mainly manifests as the borrowing of intangible assets such as qualifications, technology, and management experience, rather than tangible property.

(2) Independent accounting behavior. Affiliated operations are a form of independent operation, and the most significant characteristic of independent operation is independent accounting.

(3) Temporary behavior. Affiliated operations are a form of borrowing, and the nature of this borrowing determines the temporality of affiliated operations.

Supporters of the transactional substance view believe that the above regulations cover the characteristics of affiliated business operation, and the Civil Code does not explicitly specify the affiliated agreement as a mandatory agreement. Therefore, as long as the business of both parties involved in the affiliation meets the aforementioned characteristics and there is an agreement to affiliate, tax bureau should recognize the existence of their affiliated relationship.

Third, Judicial precedents support the transactional substance view.

In the case of Chen v. Company M, the prosecutor pointed out that Chen and Company M did not sign any affiliation agreement, and there was no cooperation relationship between the two parties. Company M was not involved in actual operations, so Chen and Company M did not constitute an affiliation relationship, and Chen constituted "making others falsely open invoices for oneself."

However, the court held that affiliated operations mainly have three characteristics: borrowing behavior, independent accounting behavior, and temporary behavior. The relationship between Chen and Company M conforms to these three characteristics of affiliated operations and should be recognized as an affiliation relationship. According to Announcement No. 39 and its official interpretation, as well as the provisions of Legal Research [2015] No. 58, if invoices are issued to the taxpayer who receives the invoice in actual sales of goods in the name of the affiliated party through an affiliation, and the affiliated party issues a VAT special invoice to the taxpayer who receives the invoice, it should not be considered a crime of falsely opening VAT special invoices. Chen's actions did not constitute a crime of falsely opening VAT special invoices.

(II) Viewpoint 2: A written affiliation agreement is a necessary formal requirement for recognizing an affiliation relationship.

In practice, many tax bureau and courts do not recognize actual affiliation behaviors without a affiliation agreement. Even if there are real goods transactions and the number and amount of invoices are consistent with actual transactions, it may be considered that there is no affiliation relationship. Consequently, it may be concluded that the affiliated party actually supplies goods, and there is no real goods transaction between the invoicer (affiliated party) and the invoiced party. In criminal cases, based on considerations of actual supply, the court may ultimately convict and sentence for the crime of illegally purchasing VAT special invoices.

III. What Impact Will the Requirement of "Face-to-Face Signing" Affiliation Agreements Have on the Recycling Business of Recyclable Resources?

In practice, some waste-producing enterprises lack awareness of tax risk management and establish "affiliation relationships" with recycling enterprises in the name of individual sellers. The affiliation (affiliated party) and the recycling enterprise (affiliated entity) lack a civil agreement for affiliated operations. Moreover, the dispute between the substance of the affiliated transaction and its legal form makes it difficult for tax bureau to accurately judge the affiliation relationship. Therefore, in some regions, tax bureau propose that the establishment of affiliation relationships in the recycling industry must be based on the face-to-face signing of affiliation agreements between recycling enterprises and individual sellers. While this practice may reduce the occurrence of the above situations to some extent, it may also trigger an outbreak of tax risks in the recycling industry.

(I) Recycling enterprises face numerous individual sellers and struggle to ensure the implementation of face-to-face signing.

The entry barrier to the recycling industry is low, and natural persons and individual industrial and commercial households account for a large proportion of recycling entities in the entire industry, usually small in scale and relatively dispersed. Typically, local recycling enterprises with a certain scale need to connect with hundreds or even thousands of individual sellers. Such a large number of individual sellers makes it difficult for recycling enterprises to achieve full coverage of "face-to-face signing." In addition, many individual sellers are not engaged in recycling of recyclable resources for an extended period, only temporarily selling waste materials externally. If recycling enterprises are required to sign affiliation agreements with all individual sellers and update the affiliated list in real-time, it will significantly increase the management costs of recycling enterprises.

Moreover, for the convenience of business operations, some individual sellers may choose to cooperate with multiple recycling enterprises. The difficulty of requiring individual sellers to sign affiliation agreements with each recycling enterprise is high, and it is also detrimental to the expansion of new sources of individual sellers for recycling enterprises. This situation contradicts China's development and transformation of the recycling industry, the deepening of measures to integrate waste classification and recycling points, and the integration of "two networks" of waste classification points and waste material collection points.

(II) Recycling enterprises can only sign affiliation agreements with major individual sellers or may not obtain recognition.

After many years of development, the recycling industry has formed a relatively mature recycling network in some regions. Local recycling enterprises only connect with several major individual sellers ("major sellers"), and major sellers connect with numerous other small individual sellers ("minor sellers"). Through this business model, they reduce operating costs. This model has become relatively mature in the recycling industry and has been recognized by the industry.

Especially for the logistics and warehousing costs of the transportation of waste materials, such as waste steel and other scrap metals, they are extremely high. Therefore, in practice, minor sellers usually directly transport goods to waste-utilizing enterprises. The names of minor sellers, recycling enterprises, and waste-utilizing enterprises are the only ones reflected in the transportation documents and invoice information. The existence of major sellers is not evident. Even if a recycling enterprise signs an affiliation agreement with a major seller, if the tax bureau do not recognize it, the defense based on the business relationship between minor sellers and major sellers may not be feasible. This may lead to the outbreak of tax risks for recycling enterprises.

(III) There is a possibility of tax risks erupting in completed affiliated business operations.

Due to the requirement of "face-to-face signing," only parties who have signed a written affiliation agreement can be recognized by tax bureau for the existence of an affiliation relationship. For business operations that have been conducted before and did not sign a written affiliation agreement, even if there is an actual affiliation relationship between the two parties, tax bureau may not necessarily recognize it. The business may be deemed as falsely opened, leading to the eruption of tax risks.

IV. Conclusion

The business model of affiliated operations has developed for decades and has become an indispensable part of the recycling industry. Due to the inherent characteristics of the recycling industry, which is decentralized upstream and concentrated downstream, individual sellers inevitably establish affiliated relationships with recycling enterprises to ensure the normal operation of the industry chain. Waste enterprises also need to legally and compliantly obtain VAT special invoices through affiliated operating models. However, whether the existence of an affiliation relationship should be based on the substance of the transaction or the legal form is not yet clear. This has led to numerous contradictions in tax treatment and criminal judgments in practice.To clarify this judgment standard, some tax bureau require recycling enterprises to "face-to-face" sign affiliation agreements with individual sellers. However, this requirement will increase the management costs of recycling enterprises significantly, and its effectiveness in solving the problem of false invoicing in the industry remains uncertain.