China announces its next target: multinationals’ tax schemes

October 14, 2014, 9:31 AM UTC
The King of Bahrain Hamad bin Isa Al Khalifa Visits China
BEIJING, CHINA - SEPTEMBER 16: Members of a guard of honor look at Chinese President Xi Jinping (Front Right) during a welcoming ceremony for King Hamad Bin Isa Al Khalifa of Bahrain outside the Great Hall of People on September 16, 2013 in Beijing, China. At the invitation of Chinese President Xi Jinping, King Hamad Bin Isa Al Khalifa of Bahrain paid a state visit to China from September 14 to 16. (Photo by Feng Li/Getty Images)
Feng Li--Getty Images

After a year and a half of investigations into foreign companies using the country’s young anti-monopoly law, Chinese regulators have announced a new method of targeting multinationals.

An article and commentary piece in yesterday’s People’s Daily, the Communist Party’s mouthpiece, said the country must investigate multinationals who avoid China’s 25% corporate tax by shifting profits abroad. The report included a few recent examples of Chinese authorities going after multinationals for back taxes. In one, the State Administration of Taxation spent three years investigating a well-known multinational to recoup nearly 1 billion RMB ($160 million).

“China … not only provides labor, land, water and other resources, but also provides a huge market,” the newspaper wrote. “Paid so much, [multinationals] should leave a reasonable profit, to get proper tax,” it wrote, in reference to companies moving profits overseas.

The Chinese taking a closer look into corporate tax malfeasance follows a global trend. In America, the summer was dominated by tax inversions and debates about the general fairness of how corporations are taxed. Fortune’s Allan Sloan kicked things off with a July cover story about inversions before he testified before Congress about the practice he says “ threatens to undermine the American public’s already shrinking respect for big corporations.” The Obama administration has now clamped down on such deals.

Meanwhile in Europe, the E.U. has opened formal investigations into the “sweetheart” deals offered by member states such as Ireland and Luxembourg to companies like Apple Inc. and (AMZN), which allow them to operate across the E.U. while paying next to nothing in profit taxes. Ireland’s government is expected to close one of its more notorious tax loopholes later Tuesday when it presents its budget for 2015.

The regulators from China’s State Administration of Taxation said the country recouped 47 billion RMB ($7.6 billion) in income tax last year through investigations, a 100-fold increase since 2005. The regulators hint that that’s only the beginning. The report specifically mentions multinationals undervaluing their China-based businesses’ contributions to their global value chain and ignoring China’s “special market factors” that led income to be attributable to the country.

In one sense, the Chinese are following an established trend. Countries are waking up to businesses using tax loopholes to craft unfair—albeit legal— tax avoidance schemes.

But Chinese regulators are following a more worrisome trend in the country: the pressuring of foreign companies. For the past year and a half regulators have used the antimonopoly law, and the resulting price investigations, to impose large fines on companies including Johnson & Johnson, Mead Johnson Nutrition and Volkswagen. Fortune’s latest cover story explains why it’s happening.

The tougher tax treatment is another way to impose harsher regulations on multinationals in China, even if People’s Daily was quick to point out that Chinese multinationals, relatively new to the world stage, would be held to the same standards.

What appears in the People’s Daily is important because the newspaper provides a window into the Party’s thinking on any given day. One consultant in China described it to me as a kind Communist Muzak—something always on in the background. Stories and commentaries telegraph the Party’s intentions to its tens of thousands of leaders and set political boundaries on what’s acceptable and what’s not. Lately talk has focused on “hostile foreign forces” shaping Hong Kong protests and the troubles at foreign companies in the country.

Recently, the sentiment building against foreign companies in China is palpable. It has not only been reflected in the pages of People’s Daily, but in the pragmatic assessments of consultants and lawyers in the country. I recently spoke with an executive management consultant who said foreign companies such as GE weren’t wowing the Chinese as much anymore with their strategies or technology. On top of that, China isn’t in need of foreign investment. “We’ve come a long way, we don’t need that much money anymore,” he said, explaining why regulators might impose stiffer rules on them.

An antitrust lawyer said “a new line has been drawn” with respect to foreign companies in China. It wasn’t long ago that multinationals enjoyed tax advantages in the country from local governments eager for foreign investment.

Not only has that been scaled back, but it appears China is heading down the opposite path, one in which the conversation is not about how much multinationals receive, but how much pay.