Editor's Note: Recently, the Ministry of Finance and the State Taxation Administration issued the "Guidelines on Major Tax Incentive Policies for Enterprise Merger and Reorganization", which is of great significance in guiding enterprises to apply tax policies legally and reasonably and reduce tax costs. At the same time, it has also attracted the attention of individual investors. According to the current tax policy, individual shareholders are not applicable to special tax treatment, so, do individual shareholders inevitably fulfill tax obligations in M&A transactions? This article intends to discuss this issue based on the cases of listing announcements in recent years.

I. Different "Fates" of Individual Shareholders in M&A Transactions that Meet the Conditions for Special Tax Treatment

(i) Junshixin: Individual shareholders are expected to pay more than 98 million yuan in individual income tax in the M&A transaction.

1. According to the "Report on Issuance of Shares and Payment of Cash to Purchase Assets and Raise Matching Funds and Connected Transactions" disclosed by Junshixin in May 2024, Junshixin intends to purchase 63% equity of Renhe Environmental Protection held by a total of 19 counterparties including Hunan Renlian, Hunan Renjing, Hong Yefan, and Yi Zhigang by issuing shares and paying cash. The transaction price (excluding the amount of supporting funds raised) was 2,196,810,000 yuan, of which: the share consideration was 1,869,485,310 yuan, accounting for 85.1%, and the cash consideration was 327,324,690 yuan, accounting for 14.9%.

2. Junshixin stated that this transaction is applicable to the special tax treatment of the Ministry of Finance and the State Administration of Taxation's "Notice on Several Issues Concerning the Enterprise Income Tax Treatment of Enterprise Merger and Reorganization Business" (Caishui [2009] No. 59, hereinafter referred to as "Article 59"). The corporate shareholders of Renhe Environmental Protection, Hunan Renlian and Hunan Renjing, are not required to pay equity transfer income tax; Hong Yefan and other individuals need to pay 9.809 million yuan in individual income tax.

(ii) Xiaolun Intelligent Manufacturing, Weikang Medical, Taifu Pumps: Individual shareholders are not required to pay individual income tax in M&A transactions.

1.Xiaolun Intelligent Manufacturing

According to the "Legal Opinion" publicly disclosed by Xiaolun Intelligent Manufacturing in November 2022, in March 2019, the company was divided into Xiaolun Co., Ltd. (surviving company) and Xiaolun Technology (newly established company) by way of spin-off, so as to The land and houses with a total book value of 25,235,200 yuan in the old factory area were stripped to the newly established Xiaolun Technology (controlled by the actual controller Wang Xiaolun and Zheng Xiuzhen). All the creditor's rights and debts before the spin-off were inherited by Xiaolun Co., Ltd. after the spin-off, and Xiaolun Technology assumed joint and several liability. The shareholder structure and shareholding ratio of the spin-off subject and Xiaolun Co., Ltd. are the same. The shareholders are the actual controller Wang Xiaolun (25%), Zheng Xiuzhen (48%) and Xiaolun Mechanical and Electrical Trade (27%).

Xiaolun Intelligent Manufacturing stated that, according to Article 59, this spin-off meets the conditions for special tax treatment for corporate restructuring, and has completed the filing for special tax treatment with the Wenzhou Longwan District Tax Bureau. Therefore, this spin-off does not involve the income tax payment of shareholder Xiaolun Machinery and Trade. And the actual controller and controlling shareholder Wang Xiaolun and Zheng Xiuzhen have no property transfer income and do not need to pay personal income tax.

2.Weikang Medical

According to the "Legal Opinion" publicly disclosed by Weikang Medical in May 2022, during the reporting period, Weikang Medical spun off its wholly-owned subsidiary Yiao Building Materials to Jiangsu Shengfan Mingming by way of spin-off. The income tax payer for the spin-off is Haopeng Industrial, Liu Chunliang and Suqian Hongjian Limited Partnership (later renamed "Shanghai Hongjian").

In response to the "Inquiry Letter" regarding the compliance of the tax treatment of the spin-off, Weikang Medical's lawyer stated:

(1) Haopeng Industrial

According to Article 59, this spin-off does not involve non-equity payment, and all shareholders of Weikang Medical obtain the equity of Jiangsu Shengfan Mingming, the spin-off enterprise, according to the original shareholding ratio, which is expected to meet the conditions for special tax treatment. Haopeng Industrial intends to choose special tax treatment and will submit written filing materials to the competent tax authority when declaring enterprise income tax in 2021, and report to the Jiangsu tax authority for confirmation.

(2) Liu Chunliang and Shanghai Hongjian partners

① In the currently effective individual income tax laws and regulations, it is not clearly stipulated that the spin-off of an enterprise shall be deemed as equity transfer, termination of investment and operation, or non-monetary asset investment.

② The spin-off of the issuer is essentially a spin-off of net assets (equity), which is expected to meet the conditions for special tax treatment in enterprise income tax. Assets and liabilities are based on the original book value as the basis for accounting and taxation. Individual shareholders do not have any income from transferring equity or assets, nor do they have the situation of terminating investment and operation.

③ According to the lawyer's inquiry, as a reference case in Jiangsu Province, Jiangsu Changling Hydraulic Co., Ltd. had two spin-offs in 2013 and 2015, both of which applied special tax treatment. There was no property transfer income during the two spin-offs, and no individual income tax was paid.

Therefore, Liu Chunliang and the partners of Shanghai Hongjian did not pay individual income tax on the spin-off of Weikang Medical.

3.Taifu Pumps

According to the "Sponsorship Work Report" disclosed by Taifu Pumps in April 2021, in 2016, the company's predecessor, Yiju Electromechanical, absorbed and merged Zhejiang Wanhao Electronic Technology Co., Ltd., which was directly held by the actual controller and his wife of Taifu Pumps. The company confirmed that it was an enterprise merger under the same control and applied special tax treatment. The company disclosed that no value-added tax, income tax, land appreciation tax, deed tax, or individual tax was levied on the absorption and merger. There is no subsequent tax risk.

For enterprise income tax, according to Article 59, the company's reorganization applies special tax treatment, and in May 2016, the company obtained a notice of acceptance from the Wenzhou, Zhejiang Provincial State Taxation Bureau that it meets the conditions for special tax treatment of enterprise income tax. For personal income tax, there was no profit distribution during the absorption and merger, so there was no need to pay personal income tax.

(iii) Why is there a dispute over whether individual shareholders should pay taxes in M&A transactions?

From the above cases, we can find that if the counterparty of the M&A transaction is a corporate shareholder, special tax treatment can be applied, but if it involves individual shareholders, there will be opposite tax treatments. Junshixin believes that individual shareholders are not applicable to the special tax treatment of Article 59, and need to pay individual income tax according to the tax item of "income from property transfer". Xiaolun Intelligent Manufacturing, Weikang Medical, and Taifu Pumps all believe that individual shareholders are not required to pay individual income tax in M&A transactions. Xiaolun Intelligent Manufacturing and Weikang Medical have undergone corporate spin-offs, and believe that spin-offs are not acts of transferring property or terminating investment and operations. According to the individual income tax policy, there is no need to pay individual income tax; Taifu Pumps has undergone a corporate merger, and believes that the corporate merger under the same control does not involve profit distribution, and individual shareholders do not need to pay individual income tax.

Why do companies have the same restructuring business and all meet the provisions of Article 59, there is no dispute over the application of special tax treatment by corporate shareholders, but there are differences among individual shareholders? It is necessary to find the answer from the tax policies for M&A transactions and individual income tax policies.

II. Interpretation of the Dispute over Whether Special Tax Treatment Applies to Individual Shareholders

(i) Analysis from a policy perspective

Judging from the title of Article 59, it is aimed at the issue of enterprise income tax treatment in enterprise merger and reorganization business. From this point of view, special tax treatment only applies to legal persons and not to natural persons.

The supporting administrative document "Announcement of the State Administration of Taxation on Issuing the Measures for the Administration of Enterprise Income Tax on Enterprise Merger and Reorganization Business" (Announcement No. 4 of the State Administration of Taxation in 2010, hereinafter referred to as "Article 4") Article 3 stipulates that "When an enterprise undergoes various mergers and reorganizations, the parties involved shall, according to the type of merger and reorganization, refer to the following enterprises respectively: (1) The parties involved in debt merger and reorganization refer to the debtor and the creditor. (2) The parties involved in equity acquisition refer to the acquirer, the transferor and the acquired enterprise. (3) The parties involved in asset acquisition refer to the transferor and the transferee. (4) The parties involved in the merger refer to the merging enterprise, the merged enterprise and the shareholders of all parties. (5) The parties involved in the spin-off refer to the spin-off enterprise, the spin-off enterprise and the shareholders of all parties. According to this, the identity of the shareholder can be a natural person. At the same time, combined with the provisions of Article 4, "The parties involved in the same merger and reorganization business shall adopt the principle of consistent tax treatment, that is, uniformly adopt general or special tax treatment", it can be understood that if individual shareholders constitute the parties to the merger and reorganization, they should follow the principle of consistency with corporate shareholders. Special tax treatment, but the question is that the title of the administrative document also clearly states "enterprise income tax", and it seems that there is still uncertainty about whether the scope of application of special tax treatment includes individual shareholders.

However, the State Administration of Taxation issued the "Announcement of the State Administration of Taxation on Several Issues Concerning the Administration of Collection and Administration of Enterprise Income Tax on Enterprise Merger and Reorganization Business" (Announcement No. 48 of the State Administration of Taxation in 2015, hereinafter referred to as "Article 48") to eliminate the above uncertainty. Among them, the first article updates the "parties" in Article 4, and at the same time clarifies that in M&A transactions, the transferor in equity acquisition, the shareholders of the merged company in the merger, and the shareholders of the split company in the spin-off can be natural persons. Natural persons among the parties shall handle tax matters in accordance with the relevant provisions of individual income tax. According to this, if the parties involved are legal persons, special tax treatment shall be applied in accordance with the principle of consistency. If natural persons are involved, the individual income tax policy shall be applied.

(ii) Analysis from the perspective of enforcement caliber

In addition, the differences in the enforcement caliber of tax authorities in different places on whether individual shareholders can apply special tax treatment have aggravated the problem of inconsistent treatment in practice.

1.Affirmative point of view

The Ningbo tax authorities believe that in an absorption merger, if the enterprise income tax treatment meets the conditions for special mergers and acquisitions, and the equity obtained by individual shareholders is valued at historical cost, individual income tax will not be levied for the time being.

2.Negative point of view

The Dalian tax authorities believe that in a corporate merger, individual shareholders shall pay individual income tax according to the liquidation treatment and under the item of "interest, dividends, and bonus income". The Hainan tax authorities believe that in the case of corporate spin-off and reorganization, it is generally divided into two tax acts: shareholder withdrawal of investment and reinvestment. For those involving changes or changes in the equity of individual shareholders, they shall be subject to "dividends, interest, and bonus income" or "income from property transfer" Pay taxes according to regulations. The Xiamen tax authorities believe that there are no special tax merger and reorganization regulations for individual income tax.

(iii) The author's point of view: Individual shareholders are not within the scope of application of special tax treatment

The author believes that, according to the principle of statutory taxation and Article 3 of the "Tax Collection and Administration Law", "Tax... tax reduction, tax exemption... shall be implemented in accordance with the provisions of the law; if the law authorizes the State Council to formulate regulations, it shall be implemented in accordance with the provisions of the administrative regulations formulated by the State Council." Provisions", tax incentives should be clearly stipulated by law. The special tax treatment postpones the time point when the taxpayer's obligation occurs, that is, the income is not recognized in the current period, and it has the characteristics of deferred taxation. It is essentially a kind of tax preference. Article 59 does not stipulate that individual shareholders can also apply special tax treatment. On the contrary, Article 48 stipulates that individual shareholders should apply the relevant regulations of individual income tax, so the scope of application of special tax treatment is limited to corporate shareholders and does not include individual shareholders. However, this does not mean that individual shareholders will inevitably pay individual tax costs in M&A transactions. It is still necessary to comprehensively analyze whether the tax obligation is established in combination with individual income tax policies.

III. Analysis of the Tax Obligations of Natural Persons in M&A Transactions from the Perspective of Individual Income Tax Policies

(i) Individual income tax is not required to be paid if the income from equity transfer is significantly lower but there are justifiable reasons

The essence of M&A transactions is to integrate resources and rearrange and adjust the net assets of enterprises. At the same time, special tax treatment requires that the ratio of equity payment shall not be less than 85%. Therefore, equity transactions involving individual shareholders in M&A are inevitable. The provisions on individual income tax on equity transfer by natural persons are mainly reflected in the "Announcement of the State Administration of Taxation on Issuing the Administrative Measures for Individual Income Tax on Income from Equity Transfer (Trial)" (Announcement No. 67 of the State Administration of Taxation in 2014, hereinafter referred to as "Article 67").

According to Article 3 of Article 67, "The equity transfer referred to in these Measures refers to the act of an individual transferring equity to other individuals or legal persons, including the following circumstances: (1) Selling equity; ... (5) Using equity for external investment or other non-monetary transactions; (6) Using equity to offset debts; (7) Other equity transfer behaviors", and Article 10 stipulates that "Income from equity transfer shall be determined in accordance with the principle of fair transaction". According to this, in an equity acquisition business, an individual shareholder transferring the equity of the transaction target to the acquirer can be regarded as an act of selling the equity. In the case of an enterprise absorption merger or spin-off under the same control, the change in the equity held by a natural person can be regarded as other equity transfer behaviors. It seems that individual shareholders should transfer outward at fair value, that is, the same as the general tax treatment of M&A transactions.

However, according to Article 12 of Article 67, "If one of the following circumstances is met, the income from equity transfer shall be deemed to be significantly low: (1) The declared income from equity transfer is lower than the share of net assets corresponding to the equity. ... (6) Other circumstances determined by the competent tax authority" and Article 13 stipulate that "the income from equity transfer that meets one of the following conditions is significantly low, and it is deemed to be justified: ... (4) Other reasonable circumstances where both parties to the equity transfer can provide valid evidence to prove their rationality". According to this provision, if the income from equity transfer is not measured at fair value, but based on the original tax basis of the equity, and justifiable reasons can be provided, it can be realized that in M&A transactions, individual shareholders do not need to pay individual income tax effect.

(ii) No taxable income of an individual occurs in an M&A transaction, which is a justifiable reason

M&A transactions can be divided into equity acquisitions, corporate mergers, corporate spin-offs, etc. according to their types. Even if the aforementioned businesses occur in the course of business operations, it does not mean that individual shareholders have realized taxable income. According to the income realization theory and the principle of ability-to-pay taxation, individual shareholders have not obtained any transaction consideration in the aforementioned businesses, have not realized an increase in net assets, and individual shareholders have no inflow of cash or other economic benefits. It does not have the corresponding ability to pay taxes, and of course it does not have the obligation to pay individual income tax, and it does not need to pay individual income tax. Specifically:

1. Equity Acquisition Transactions

Assuming that the acquiring enterprise intends to acquire 50% of all the equity of the acquired enterprise, and the equity payment of the acquiring enterprise at the time of the equity acquisition is 100% of the total transaction payment, that is, there is no non-equity payment. Under this transaction structure, it seems that the individual shareholders of the acquired enterprise transfer the equity to the acquiring enterprise, but they also obtain the equity of the acquiring enterprise. According to the principle of shareholder continuity, the original major shareholder who obtains the equity payment shall not transfer the acquired equity within 12 consecutive months, which means that the individual shareholder can still indirectly control the acquired enterprise by holding the equity of the acquiring enterprise. That is to say, the individual shareholder has not lost the original control over the acquired enterprise, which is the same as the effect of the individual shareholder directly controlling the acquired enterprise before the acquisition business occurred. The control right of the individual shareholder has not undergone a fundamental transfer. The basis of income tax levy is the fundamental change of ownership, and this ownership includes the control right over a certain subject. If the ownership does not change, there will be no income. Therefore, individual shareholders in equity acquisition transactions have not lost their original control, nor will they enjoy any economic benefits brought about by the acquisition of equity, that is, they have not realized income from equity transfer.

At the same time, the principle of ability-to-pay taxation requires that the amount of tax payable by a taxpayer should be determined according to the taxpayer's ability to pay or economic affordability. Those with strong ability to pay pay more tax, those with weak ability to pay pay less tax, and those with no ability to pay do not pay tax. Accordingly, individual shareholders have not obtained any income in substance or form, and they lack the ability to pay taxes, so they do not need to pay individual income tax, otherwise it would violate tax fairness.

2. Corporate Merger Transactions

From the perspective of the substance of the transaction, the merging party and the merged party under the same control are ultimately controlled by one party. Which party merges with which party, for the ultimate controlling party, that is, the individual shareholder, is just a change of hands. Individual shareholders still enjoy control rights and repayment obligations over the assets and liabilities of the merged company. Moreover, combined with the principle of business continuity, the merging company continues the business activities before the merger. Before and after the merger, the assets have not undergone fundamental changes in terms of actual business activities and ultimate ownership of rights. According to the market income theory of income realization theory, the fundamental change of ownership of assets and liabilities of the merging company is the realization of income, while individual shareholders still have control over the assets and liabilities of the merged company during the entire transaction process, and the ownership has not changed fundamentally. Therefore, individual shareholders have not realized income and do not need to pay individual income tax.

3. Corporate Spin-off Transactions

For corporate spin-offs, although one legal entity is split into two legal entities, the shareholding ratio of individual shareholders remains the same as before the spin-off, and they still enjoy the same rights and obligations to the two legal entities as before the spin-off. Therefore, individual shareholders have not realized income and do not need to pay individual income tax.

Accordingly, individual shareholders can provide the tax authorities with the filing materials for the enterprise's application of special tax treatment to prove that it has not realized taxable income, and to prove the rationality and legitimacy of its non-recognition of income, and there is no need to pay individual income tax. However, it should still be emphasized that, as mentioned earlier, there are disputes over whether individual shareholders can apply special tax treatment and whether there is an obligation to pay individual income tax in M&A transactions, and they still need to pay more attention to it.

IV. Tax Compliance Suggestions for Individual Shareholders in M&A Transactions

(i) Actively communicate with tax authorities and apply for advance tax rulings

At present, Shanghai, Beijing, Maoming and many other places have issued specific regulations on advance tax rulings, aiming to improve the certainty of tax collection and management and safeguard the legitimate rights and interests of taxpayers. In practice, enterprises can apply to the tax authorities for written notification of their opinions on the application of current tax laws, regulations, rules, and normative documents on how to apply the tax laws, regulations, rules, and normative documents to specific complex and major tax-related matters that are expected to occur in the future. Generally speaking, advance ruling opinions will not be arbitrarily revoked. Therefore, in terms of legal effect, advance rulings have a very strong guiding role for future tax-related matters of individual shareholders.

Enterprise A once submitted an application for an advance ruling to the Shanghai Municipal Tax Bureau on whether the M&A transaction could apply for special tax treatment of enterprise income tax. After investigation and research, and full communication with Enterprise A, the Shanghai Municipal Taxation Bureau believes that if the relevant materials provided by the enterprise are legal, true, accurate, complete, and the actual tax-related matters are consistent with those stated in the application materials, then A The company's M&A transaction meets the conditions for special tax treatment of enterprise income tax, and it can choose to apply special tax treatment, and issued a "Tax Advance Ruling Opinion Letter" to it. This move of the Shanghai Municipal Taxation Bureau not only provided clear tax guidance to Enterprise A, but also helped it avoid potential tax risks. Therefore, in the process of mergers and acquisitions, if it involves whether individual shareholders need to pay individual income tax, individual shareholders can submit relevant materials to the tax authorities in advance, actively communicate with the tax authorities and apply for tax rulings to improve the legality and certainty of tax treatment to resolve tax risks at the front end.

(ii) Seek help from tax professionals to minimize tax risks

Corporate mergers and acquisitions are complex in type, involve many stakeholders, and involve huge transaction amounts. The tax treatment of each mode and each link is different. This is an extremely complex and difficult matter for individual shareholders. Once the tax policy is applied incorrectly, it may lead to tax adjustments by the tax authorities, collection of overdue and unpaid taxes, and other adverse consequences. However, this is also an opportunity. If you can make good use of tax policies and make tax arrangements legally and reasonably, you can effectively reduce tax costs and maximize economic benefits. Therefore, it is necessary to invite tax professionals to intervene before the M&A transaction to help individual shareholders choose the best type of M&A transaction based on business conditions, apply tax policies well, and minimize tax risks.