China Severance Update: New Tax Treatment Rules for Employee Termination Payments — Key Takeaways
China’s State Taxation Administration (STA) and Ministry of Finance (MOF) jointly issued Announcement No. 2 of 2024 on February 15, 2024, extending the preferential tax treatment for severance payments (离职补偿, severance compensation, lízhí bǔcháng) through December 31, 2027. The update preserves the existing 3× threshold — severance up to 3 times the local average annual salary (上年度当地职工平均工资, previous year local average employee salary, shàng niándù dāngdì zhígōng píngjūn gōngzī) remains fully exempt from Individual Income Tax (IIT) — but introduces new reporting procedures, clarifies the treatment of dual-contract employees, and imposes tighter timelines for tax filing.
What Changed and What Stayed the Same
The core exemption formula remains unchanged. Under Article 4 of Caishui [2018] No. 164, severance payments within 3 times the local average annual salary are IIT-exempt. For example, in Shanghai, where the 2023 average annual salary was 121,830 RMB, the exemption cap is 365,490 RMB. Any severance exceeding that amount is taxed as regular employment income at progressive IIT rates.
What changed under Announcement No. 2 of 2024:
- Extension: The preferential treatment, which was set to expire on December 31, 2023, is now extended through December 31, 2027 — adding 4 more years of tax relief.
- New reporting requirement: Employers must now file a Severance Payment Tax Return (离职补偿金税务申报表, severance payment tax return form, lízhí bǔcháng jīn shuìwù shēnbào biǎo) within 15 calendar days of making the payment, rather than at the next regular tax filing cycle.
- Dual-contract clarification: For employees with both an employment contract and a service agreement, only payments made under the employment contract qualify for the exemption. Service-related termination pay is treated as business income and taxed at the full rate.
- Penalty hardening: Late filing now incurs a daily late fee of 0.05% of the unpaid tax, capped at 50% of the underpaid amount — up from 30% under the previous regime.
The Shanghai average salary rose 6.9% year-over-year from 113,960 RMB in 2022 to 121,830 RMB in 2023, meaning the exemption cap increased by approximately 23,610 RMB in just one year. Across major cities, Beijing’s 2023 average of 115,000 RMB yields a cap of 345,000 RMB, while Shenzhen’s 137,300 RMB average translates to a cap of 411,900 RMB. These city-level differences are critical for foreign employers managing multi-location workforces.
New Reporting Requirements for Employers
The most operationally significant change is the compressed filing timeline. Previously, employers could report severance tax at the next monthly or quarterly IIT filing. Under the new rules, the Severance Payment Tax Return must be submitted to the local tax bureau within 15 calendar days of the payment date. Failure to do so triggers the daily late fee of 0.05%, which accumulates rapidly. For a severance payment of 500,000 RMB with a late filing of 30 days, the penalty alone would be 7,500 RMB (500,000 × 0.05% × 30).
The new return form requires disclosure of the following data points:
- Employee name and tax ID
- Total severance amount (gross)
- Local average annual salary for the prior year
- Exempt portion (3× cap) and taxable portion
- IIT withheld and paid
- Date of payment
Foreign employers should note that the local average salary used must be the most recent full-year figure published by the local Bureau of Human Resources and Social Security. Using an outdated figure — even by one year — results in an incorrect exemption cap and may trigger a tax underpayment assessment. In a 2023 audit, a Suzhou-based manufacturing company was penalized 186,000 RMB for using the 2021 average salary instead of the 2022 figure, which was 8.2% higher.
Key Comparison: Pre-2024 vs. Post-2024 Rules
| Dimension | Pre-2024 (Caishui [2018] No. 164) | Post-2024 (Announcement No. 2 of 2024) |
|---|---|---|
| Exemption threshold | 3× local average annual salary | 3× local average annual salary (unchanged) |
| Expiration date | December 31, 2023 | December 31, 2027 (extended 4 years) |
| Filing timeline | Next regular IIT filing cycle | Within 15 calendar days of payment |
| Dual-contract treatment | Ambiguous; often disputed | Only employment contract payments qualify |
| Late filing penalty | Up to 30% of underpaid tax | Up to 50% of underpaid tax + daily 0.05% |
| Reporting form | Standard IIT return (no separate form) | New Severance Payment Tax Return required |
| Real-world example (Shanghai 2023) | Exempt up to 341,880 RMB (3× 113,960) | Exempt up to 365,490 RMB (3× 121,830) |
The table above highlights that the core exemption structure is preserved, but the operational burden on employers has increased significantly. The 15-day filing window and the new separate form require tighter coordination between HR, payroll, and tax teams. Foreign companies that outsource payroll should verify that their third-party provider can generate the new return form and meet the shortened deadline.
Impact on Foreign Employers in China
The update directly affects foreign-invested enterprises (FIEs) and their employees. High-earning expatriates receiving severance packages that exceed the local cap are now subject to immediate IIT withholding at progressive rates ranging from 3% to 45%. For a Beijing-based executive with a total severance of 800,000 RMB and a cap of 345,000 RMB, the taxable portion of 455,000 RMB would be taxed at a marginal rate of approximately 30%, resulting in IIT due of roughly 136,500 RMB.
The dual-contract clarification is particularly relevant for foreign companies that structure senior hires with both an employment contract and a consulting services agreement. Only severance paid under the employment contract qualifies for the 3× exemption. Any compensation under the service agreement is treated as business income and taxed at a flat 20% rate (plus surcharges), with no exemption. This change closes a previous loophole where companies allocated a larger portion of termination pay to the service contract to reduce IIT exposure.
Additionally, foreign companies with employees covered under the China-US Tax Treaty or the China-EU Tax Treaty should note that the treaty provisions on termination payments do not override the domestic exemption framework. The tax treaty may provide relief for double taxation, but the domestic IIT exemption threshold and filing timeline still apply. In a March 2024 advisory, the Shanghai Tax Bureau confirmed that treaty benefits must be claimed separately via the annual IIT reconciliation, not at the point of payment.
3 Critical Pitfalls for Foreign Employers
Cost: Up to 50% of underpaid tax plus daily late fees. In a Suzhou case, a company was penalized 186,000 RMB for using outdated data.
Fix: Always use the most recent full-year average salary published by the local Bureau of Human Resources and Social Security for the city where the employee is registered. Update this figure annually in your payroll system.
Cost: Daily late fee of 0.05% of unpaid tax, capped at 50%. For a 500,000 RMB severance with 30-day delay, the penalty is 7,500 RMB plus potential assessment.
Fix: Create an internal trigger in your HR system that flags severance payments immediately. Assign responsibility to a tax specialist or payroll provider to file the new return within 10 business days to allow a buffer.
Cost: Full tax reassessment at 20% business income rate plus penalties. For a 300,000 RMB service-contract severance, the tax due could be 60,000 RMB (20%) plus a penalty of up to 30,000 RMB (50% of underpaid).
Fix: Separate employment contract payments from service agreement payments in your termination documentation. Only the employment contract portion qualifies. Consult a labor law advisor before structuring dual contracts for new hires.
NEXT STEPS
- Review your payroll system — Ensure it is updated to generate the new Severance Payment Tax Return form and enforce the 15-day filing deadline. If you outsource payroll, request written confirmation from your provider that they comply with Announcement No. 2 of 2024. Read more: China Payroll Compliance Guide.
- Audit recent severance payments — For any termination payments made since January 1, 2024, verify that the correct local average salary figure was used and that the new return was filed. Correct any errors proactively to avoid penalties during the next tax bureau audit cycle. Read more: China Labor Law Termination Checklist.
- Train your HR and finance teams — Conduct a half-day workshop on the updated rules, focusing on the 15-day filing timeline, dual-contract treatment, and city-specific exemption caps. Use real scenarios from your workforce to test understanding. Read more: China HR Training Templates.
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