Preface

Bankrupt enterprises adopting the reorganization approach need to pay attention to the issue of high taxable income generated by the bankrupt enterprise as a result. Conducting tax planning in advance and considering how to reduce the tax burden of the bankrupt enterprise from the perspective of business operations is a major issue that bankrupt enterprises need to focus on during the reorganization process. Combined with China's existing tax policies, the main aspects to focus on are as follows:

I. Fully Utilize the Amount of Losses from Previous Years

In accordance with the current tax law regulations, the total profit of a bankrupt enterprise in each tax year can be used to offset the losses of the previous 5 consecutive tax years, and the eligible carry-forward period can be extended to 10 years (or 8 years). Bankrupt enterprises can fully utilize the unoffset losses to reduce the income from debt restructuring.

However, it should be noted that in accordance with the provisions of the Enterprise Income Tax Law: "Enterprise income tax shall be levied on a corporate person basis". When the bankrupt entity is a group enterprise, losses may be scattered among different legal entities within the group and cannot be used across legal entities.

II. Dispose of Inefficient and Invalid Assets

For inefficient and invalid assets held by bankrupt enterprises, impairment should have been accrued in accordance with accounting regulations, and the assets have almost no value upon evaluation. However, in accordance with tax law regulations, if the assets have not been actually disposed of (sold externally or written off in accordance with regulations), the impairment loss cannot be deducted before enterprise income tax.

Therefore, bankrupt enterprises should dispose of inefficient and invalid assets in the same tax year in which the income from debt restructuring is recognized, so as to reasonably increase the deductible amount before enterprise income tax and reduce the enterprise income tax burden.

III. Utilize Preferential Enterprise Income Tax Policies for Restructuring

According to the provisions of the Notice of the Ministry of Finance and the State Taxation Administration on Several Issues Concerning the Enterprise Income Tax Treatment of Enterprise Restructuring Business (Caishui [2009] No. 59, hereinafter referred to as Document No. 59):

1. If the taxable income confirmed by an enterprise through debt restructuring accounts for more than 50% of the enterprise's total taxable income in that year, it may be evenly included in the taxable income of each year within a period of 5 tax years.

2. Where an enterprise conducts debt-to-equity swap business, it shall temporarily not recognize the gains or losses from debt settlement in respect of the two businesses of debt settlement and equity investment, and the tax basis of the equity investment shall be determined based on the original tax basis of the creditor's rights. Other relevant enterprise income tax matters of the enterprise shall remain unchanged.

When a bankrupt enterprise undergoes bankruptcy reorganization, if the income from debt restructuring exceeds 50% of the taxable income of the current year, it may choose the preferential policy of deferring the recognition of taxable income for 5 years. If debt-to-equity swap is selected as the reorganization method, it may enjoy the tax preference of temporarily not recognizing taxable income if the prescribed conditions are met. In such cases, the creditor shall also not recognize the loss from debt restructuring for this part.

In addition, when the losses of a group enterprise are scattered among different legal entities, enterprise merger may be carried out in accordance with the provisions of Document No. 59 to transfer the losses of the merged enterprise to the merging enterprise for continued offset. However, it should be reminded that the document stipulates the limit of losses of the merged enterprise that can be offset by the merging enterprise:

Fair value of the net assets of the merged enterprise × the interest rate of the longest-term national bonds issued by the state by the end of the tax year in which the merger occurs

Therefore, if the fair value of the net assets of the merged enterprise is negative or zero, this method cannot achieve the purpose of transferring the deductible losses.

IV. Tax Matters Related to the Introduction of Strategic Investors

Generally, when an enterprise introduces strategic investors, it is usually in two ways: existing shareholders transfer their existing shares, or the enterprise issues new shares. However, in reorganization, bankrupt enterprises usually obtain the equity held by the original shareholders to compensate for debts or introduce strategic investors.

For this special transaction, it is necessary to decompose it into two transaction items for tax treatment:

1. Original shareholders transfer their equity
2. The bankrupt enterprise transfers its own equity to introduce strategic investors

The price of the equity transferred by the original shareholders to the bankrupt enterprise usually needs to be clearly specified in the reorganization documents to avoid tax uncertainty for the original shareholders in tax treatment. When a bankrupt enterprise transfers its own equity to introduce strategic investors, it can also fully utilize the preferential tax policies for restructuring to strive for tax incentives.

V. Aspect of Specific Tax Types

Although the main purpose of enterprise bankruptcy reorganization is to solve the debt problems of bankrupt enterprises, in order to reasonably reduce the tax burden of bankrupt enterprise reorganization and optimize the operating resources of bankrupt enterprises after reorganization, a series of restructuring activities are often arranged through planning during the reorganization to achieve the goal. At this time, full consideration should be given to the applicability of preferential tax policies for restructuring of various tax types.

1. Enterprise Income Tax

In accordance with tax law regulations, the enterprise income tax treatment of enterprise restructuring is divided into general tax treatment provisions and special tax treatment provisions applicable under different conditions.

2. Value-Added Tax (VAT)

During the reorganization process of a bankrupt enterprise, if it transfers all or part of its physical assets, real estate, land use rights, together with the associated claims, liabilities and labor force to other units and individuals through merger, division, sale, replacement and other means (which may be transferred multiple times), such transfer is not within the scope of VAT taxation, and the transfer of goods involved shall not be subject to VAT.

If a bankrupt enterprise goes through the cancellation of tax registration after the completion of the transfer, the input tax that has not been deducted before the cancellation of registration can be carried forward to the new taxpayer for continued deduction.

3. Land Appreciation Tax

• If an enterprise undergoes overall restructuring in accordance with the Company Law, land appreciation tax shall be temporarily exempted.
• In the case of enterprise merger or division, if the investor subject of the new enterprise is the same as that of the original enterprise (the investment ratio may be changed), the transfer or change of real estate from the original enterprise to the new enterprise after merger or division shall be temporarily exempt from land appreciation tax.
• If a unit or individual (excluding real estate enterprises) invests with real estate at a assessed price, the transfer or change of the real estate to the invested enterprise shall be temporarily exempt from land appreciation tax.

4. Deed Tax

If an enterprise undergoes restructuring, and the original investor subject of the enterprise continues to exist and holds more than 75% of the equity (shares) in the restructured (changed) company, and the restructured (changed) company succeeds to the rights and obligations of the original enterprise, the deed tax shall be exempted for the restructured (changed) company to take over the land and house ownership of the original enterprise.

Special Provisions for Bankrupt Enterprises:

• If a creditor takes over the land and house ownership of a bankrupt enterprise to compensate for debts, the deed tax shall be exempted;
• If a non-creditor takes over the land and house ownership of a bankrupt enterprise and signs labor contracts with all employees of the original enterprise with a service period of not less than three years, the deed tax shall be exempted;

• If labor contracts with a service period of not less than three years are signed with more than 30% of the employees of the original enterprise, the deed tax shall be reduced by half.

Conclusion

Tax planning for enterprise bankruptcy reorganization is a systematic project that requires the comprehensive use of various means such as loss offset, asset disposal, restructuring preferential policies, and the introduction of strategic investors, while taking into account the applicable conditions of preferential tax policies for various tax types. Bankrupt enterprises and their administrators should attach great importance to tax planning work and reduce the reorganization tax burden to the maximum extent within the scope of legality and compliance, so as to create more favorable conditions for the rebirth of the enterprise.