China repeals the historical tax exemption on dividends paid to foreign individuals: key implications for Spanish investors

On September 1, 2026, China's Ministry of Finance and the State Taxation Administration jointly issued Announcement [2026] No. 27, formally repealing the long-standing individual income tax (IIT) exemption on dividends and profit distributions received by foreign individuals from foreign-invested enterprises incorporated in China (FIEs). 

The exemption, originally introduced under Item 8 of Article 2 of the Circular on Several Policy Issues Concerning Individual Income Tax (Cai Shui Zi [1994] No. 20), had been in effect for over three decades. Its removal marks a significant shift in China's tax treatment of foreign individual investors and calls for a careful reassessment of the available alternatives, particularly for investors who are tax residents of countries with which China has concluded a Double Taxation Treaty (DTT), such as Spain.

Background and rationale

When China opened its economy to foreign investment in the early 1990s, the government introduced a series of preferential tax measures aimed at attracting foreign capital. Among these, the IIT exemption on dividends distributed by FIEs to their foreign individual shareholders, introduced under Cai Shui Zi [1994] No. 20, was one of the most notable.

The rationale was straightforward: by removing the tax burden at the shareholder level, China sought to encourage direct foreign investment by individuals at a time when FIEs were a critical vehicle for channeling foreign capital into the country. For over thirty years, this exemption meant that foreign individuals receiving dividends from their Chinese FIE investments bore no IIT liability in China on such income. The exemption applied regardless of the investor's country of residence, the amount of the dividend, or whether a DTT was in place.

Revoke IIT exemption policy: 20% withholding tax on foreign individual shareholders

With the issuance of Announcement No. 27, dividends and profit distributions paid by FIEs to foreign individuals are classified as "income from interest, dividends and profit distributions" and subject to IIT at a rate of 20% on the gross amount. The withholding and compliance obligations are as follows:

• The FIE distributing the dividend is required to withhold and remit the tax to the Chinese tax authorities by the 15th day of the month following the month of payment.
• Where the FIE fails to withhold, the foreign individual becomes personally liable and must settle the tax by June 30 of the year following the year in which the dividend was received.
• Where the tax authority has set a specific time limit for payment, that time limit must be observed.

Double Taxation Treaties: reduced rates under the Spain-China DTT

For foreign individual investors who are tax residents of countries with which China has concluded a DTT, the domestic 20% rate may be reduced in accordance with the applicable treaty provisions. DTTs with countries such as Spain, France, United Kingdom, Belgium, Germany, the Netherlands and Switzerland, among others, may provide for preferential rates on dividend income.

In the case of the DTT between Spain and China, Article 10 establishes two distinct limits on dividend withholding:

• A 5% rate applicable to dividends paid to a company (other than a partnership) that directly holds at least 25% of the capital of the distributing company, that qualifies as beneficial owner of the dividends. 
• A 10% rate applies in all other cases, provided that the recipient is the beneficial owner of the dividends. This residual category includes dividends paid to individual shareholders.

Prior to Announcement No. 27, the 10% treaty rate had limited practical relevance for foreign individuals, due to the domestic exemption under Cai Shui Zi [1994] No. 20 made it unnecessary to invoke the DTT. As a result, there is virtually no precedent for individual investors applying the 10% rate under the Spain-China DTT on dividend income from China. Going forward, Spanish individual investors will need to proactively claim this treaty benefit for each dividend distribution. In the case that the treaty benefit has not applied with the competent tax authority in China, the treaty benefit does not active automatically.

Beneficial ownership and the defense file

Access to the reduced 10% DTT rate is conditional on the recipient qualifying as the "beneficial owner" of the dividends under Chinese domestic tax rules. While the beneficial ownership assessment for individuals is generally expected to be more straightforward than for corporate structures, investors should be aware that the Chinese tax authorities conduct post-filing verifications on virtually every treaty benefit application. It is therefore essential to prepare a comprehensive defense file in advance containing all the relevant supporting documentation, so as to be in a position to respond to the tax administration's enquiries within the short timeframes typically allowed. 

For a detailed discussion of the post-filing verification process and the preparation of defense files, we refer to this previous publication.

A critical perspective for Spanish investors: the foreign tax credit limitation in the Personal Income Tax

Beyond the immediate tax implications in China, the repeal of the exemption raises a particularly important issue for Spanish individual investors: the potential limitation of the foreign tax credit (deducción por doble imposición internacional -DDII-) under the Spanish Personal Income Tax (Impuesto sobre la Renta de las Personas Físicas -IRPF-).

Under the Spanish Corporate Income Tax Act (Ley del Impuesto sobre Sociedades -LIS-), Article 31 explicitly provides that the foreign tax credit is limited to the maximum withholding rate established under the applicable DTT. The position is clear for corporate taxpayers: any withholding tax paid abroad in excess of the treaty rate cannot be credited against Spanish corporate income tax.

However, the equivalent provision for individuals, Article 80 of the IRPF Act, does not contain an express reference to the DTT limit. Article 80 allows individuals to credit the lesser of (i) the foreign tax effectively paid, or (ii) the amount resulting from applying the taxpayer's average effective tax rate to the portion of the taxable base that was taxed abroad. This textual difference has given rise to a live and controversial debate in Spain, with the Spanish tax authorities (Administración Tributaria) generally taking the position that the foreign tax credit for individuals is, in practice, capped at the maximum rate provided under the applicable DTT, in this case, 10% under the Spain-China DTT for dividend income.

This interpretation means that, if a Spanish individual shareholder were to bear the full 20% domestic withholding tax in China without successfully invoking the DTT, only 10% could potentially be credited against Spanish IRPF liability. The remaining 10% would represent a definitive cost to the investor.

The Spanish tax authorities have consistently applied this capped interpretation in practice. However, the Superior Court of Justice of Madrid (Tribunal Superior de Justicia de Madrid), in its judgment no. 30/2026, of January 26, 2026 (appeal no. 456/2023), has challenged this position, holding that the full amount of foreign tax effectively withheld on dividends is deductible under Article 80 IRPF without being limited by the maximum rate established under the DTT, which represents a significant departure from the administrative practice followed to date. Until the Supreme Court of Spain (Tribunal Supremo) issues a ruling on this matter, the question remains unresolved.

Given this uncertainty, the most prudent course of action for Spanish individual investors is to secure the application of the reduced 10% withholding rate at source in China. By doing so, the investor not only reduces the effective tax burden in China but also eliminates the risk of being unable to fully credit the foreign tax paid in Spain. The 10% rate at source would be fully consistent with the maximum rate accepted by the Spanish tax authorities for the purposes of the DDII, thereby avoiding potential litigation and ensuring a clean foreign tax credit position in the IRPF return.