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Business> Legal-Ease
UPDATED: December 25, 2006 NO.51 DEC.21, 2006
The Annual Audit (I)
All FIEs are required to prepare annual financial statements, including balance sheets and income statements for their annual Chinese audit

All FIEs are required to prepare annual financial statements, including balance sheets and income statements for their annual Chinese audit. Such accounts must be in accordance with the Chinese Accounting Standards for Business Enterprises and there are now no differences between standards for domestic and foreign enterprises. FIEs, including their legal representatives, must take full responsibility for these financial statements.

China uses a calendar fiscal year to impose statutory audits, so those for 2006 are nearly due and must be filed by April 2007 at the latest. These statements will be used for calculating the FIEs' taxable and distributable profits. Thus, an annual audit by a firm of Certified Public Accountants (CPA) registered in the People's Republic of China is required under Chinese law.

Broadly, the audit system for foreign businesses in China operates as described below, apart from some minor regional differences in audit practice for WFOEs and JVs that we will identify.

National audit principles

In China, the following audit requirements exist: submission of the Audited Financial Report, the Foreign Exchange Audit Report and the Annual Report.

These need to be prepared and submitted to seven different government departments, namely the bureau of foreign trade and economic cooperation, the financial bureau, customs, the State Administration of Taxation, the local tax bureau, the administration of industry and commerce, and the State Administration of Foreign Exchange (SAFE).

FIEs may also need to submit to both the national tax bureau and local tax bureau the Annual Taxation Consolidation Reporting Package, authorized by a CPA firm by the end of April 2007. In this reporting package, a CPA firm shall verify all the taxes including value-added tax, business tax, consumption tax, foreign enterprise income tax (FEIT), and other taxes on the basis of the audit result.

The FEIT is obviously the most important issue to be disclosed in this report. The related taxable elements, and in particular items involved in FEIT such as income, cost and expenses, are specified in detail, while the auditing firm shall make the FEIT reconciliation between financial profits and taxable profits in accordance with China's FEIT regulations.

If the audited taxes are different from the taxes paid by the FIE, the FIE shall discuss the variation with the tax bureau.

Additionally, there are some regional reporting variations.

FIEs in Shenzhen

Shenzhen FIEs are exempted from the requirement of providing an additional Annual Tax Final Declaration Report authorized by a local CPA firm to tax bureaus, although authorities in other Pearl River Delta cities do require it.

FIEs in Shenzhen need to complete the annual audit and obtain two audit reports: a general one and one addressing foreign currency issues. Only after the local CPA firm has performed the audit for your FIE can you submit the documents to the seven government authorities. All submissions should be completed before the end of May 2007.

Furthermore, as part of year-end closing formalities, FIEs also need to complete the final enterprise income tax declaration and final value-added tax "exemption, reduction and refund" declaration in order to satisfy the tax bureau's requirements.

FIEs in Shanghai and east China

As noted, all FIEs must receive an annual audit and provide specific documents to all relevant government authorities, including the local tax bureau, SAFE, the administration of industry and commerce, the finance bureau, etc. These submissions should all be completed before the end of April 2007 in Shanghai. When a CPA firm verifies and adjusts FEIT the main items involved in these adjustments are generally identified as being unreasonable management fees to headquarters, large entertainment expenses, penalties for illegal transactions and penalties for late payment.

If a WFOE or JV does not receive an annual audit, the operational certificates of the company will not be renewed. In that case, the FIE would not be allowed to conduct business. The government would normally achieve this by immediately not allowing the FIE to purchase pre-printed invoices from the local tax bureau.

FIEs in Beijing and north China

Similar to Shanghai and Shenzhen, Beijing FIEs need to submit necessary documents to:

· Administration of industry and commerce: an annual inspection report, business license, audit report (only for businesses established for over one accounting year) and certificate on capital verification.

· SAFE: an annual inspection report, audit report, foreign exchange income and expenses spreadsheet prepared by a CPA firm, foreign exchange register, etc.

· Local tax authorities: an annual inspection report, tax register (copy), business license (copy) and audit report.

· Finance bureau: an annual inspection report, financial register (copy) and audit report.

The deadline for the filing of annual audits is the end of April 2007. Unqualified enterprises include those FIEs whose business activities breach the law, enterprises with no business address, those whose capital investment was not injected in time, and those with no transactions in a continuous year or half a year after opening.

As the statutory audit procedure has no major variances in China, CPAs will focus on the balance of the main accounts on balance sheets and income statements, and are duty bound to express an assured audit opinion to FIEs and the Chinese Government. Please note there are no differences in audit requirements between WFOEs, FIEs and JVs.

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