The long-anticipated wave of tax payments has finally reached the circle of China's wealthiest individuals. It appears the first case of a billionaire selling stock to raise cash for tax obligations may have already emerged, catching the market's attention this week as shareholders of the hotpot giant felt the shockwaves.

Investors in Haidilao International Holding Ltd were left reeling after shares fell 9.14% in one session, followed by another 4.11% drop the next day. The trigger for this sudden sell-off was an unexpected reduction in holdings by Shu Ping, the wife of founder Zhang Yong. The move has puzzled many market watchers, as it defies conventional logic.

Just this May, Zhang had increased his stake by purchasing 11.35 million shares at HKD 13.39 per share, spending HKD 152 million. However, in a swift turn, his wife sold 259 million shares through 16 block trades during the pre-market auction period, raking in a staggering HKD 2.75 billion. What makes this even more unusual is the pricing: the shares were sold at HKD 10.62, representing a direct loss of 20% compared to Zhang's recent purchase price. This unconventional strategy has led the market to search for explanations beyond a simple desire to cash out.

In a research note, Morgan Stanley speculated that this reduction may be linked to new tax regulations concerning offshore trusts for mainland residents. This refers to the announcement jointly issued by the Ministry of Finance and the State Taxation Administration on July 24th, which outlined matters related to individual income tax on offshore trusts. This document, dubbed the "21st Announcement" by industry insiders for its tightening grip on trusts, has fundamentally rewritten the rules for individual income tax collection on these structures.

So, how does the 21st Announcement achieve this "look-through" approach to trusts? First and foremost, its penetrating force is the core element. The announcement clarifies that no matter how many layers of BVI or Cayman shell companies a trust is nested within, it will be treated as a "transparent entity" for tax purposes. This means taxation is applied directly to the ultimate beneficiaries who contributed the assets. Furthermore, any income generated during the trust's existence, whether actually distributed or not, must be reported annually by the resident individual.

Secondly, the entire lifecycle of a trust is now broken down into three stages, each subject to taxation. The first stage is taxation upon establishment. Transferring assets into an offshore trust is now deemed a transfer of property. The individual is required to pay 20% individual income tax on the balance after deducting the original cost and reasonable expenses from the property's market value at the time of transfer. In principle, this is retroactive for three years, meaning assets placed into trusts from 2023 onwards are subject to this establishment tax.

The second stage involves supplementary taxation on accumulated income. Regardless of when a trust was established, if a Chinese tax resident controls an offshore trust, any historical income already realized by the trust, including dividends and proceeds from asset sales, must be supplemented with a 20% tax during a specified window period, even if it hasn't been distributed to the individual. For example, Haidilao has distributed cumulative dividends of approximately HKD 14 billion since its listing eight years ago. With Zhang Yong and his wife holding roughly 50% of the shares, their trust account would have received around HKD 7 billion, translating to a supplemental tax bill of HKD 1.4 billion at the 20% rate.

The third stage covers taxes on stock reductions. For reductions that have already been completed in the past, any profits retained in the trust and not previously declared must be reported and taxed at 20% as property transfer income during the window period. Similarly, any future stock reductions by the trust will also be subject to the 20% tax on the gains. In the case of Haidilao's recent sale, the HKD 2.75 billion (approximately RMB 2.5 billion) raised would incur an additional 20% tax, amounting to roughly RMB 500 million.

Furthermore, the anti-avoidance clauses are described as being more "sharp." Transfers of benefits from a non-resident trust to a resident are now treated as distributions. Even individuals who have acquired foreign citizenship but derive their primary economic interests from within China can still be classified as resident individuals. This particular provision seems almost tailor-made for certain immigrant entrepreneurs. Notably, Zhang Yong and his wife, Shu Ping, hold Singaporean citizenship.

For over a decade, offshore trusts have been a crucial tool for Chinese entrepreneurs managing their global wealth. This is especially true among companies listed in Hong Kong, where many founding families hold shares through offshore entities in the BVI or Cayman Islands, using trust arrangements for long-term control. On one hand, these structures serve purposes like wealth succession, risk isolation, and family governance. On the other hand, they have operated as a "tax avoidance backdoor" for the wealthy. However, these strategies have been rendered ineffective by the 21st Announcement. The look-through taxation rules have, for the first time, presented a clear tax bill for the dividends and appreciation that have been sitting undeclared within these trusts.

The question now is, who else, besides the Zhang Yong couple, might face significant supplemental tax liabilities? A list of potential tax bills for internet tycoons' offshore trusts has circulated online, suggesting that Colin Huang of PDD, Lei Jun of Xiaomi, and Jack Ma of Alibaba could face the highest bills at RMB 50 billion, RMB 50 billion, and RMB 17.5 billion respectively. However, this list seems sensationalist. The trusts of these prominent figures were mostly established before 2023, and the figures seem to be calculated based on the potential tax on the market value of their stock holdings. Importantly, they would only trigger the actual tax liability if they sell shares; as long as they hold, no tax is due.

But who might realistically need to pay taxes? First, consider the establishment tax. The look-back period for assets placed into trusts extends to 2023, and for larger amounts, the collection period can be further extended under tax administration laws. For billionaires who set up trusts before their Hong Kong IPOs, the assets placed were pre-IPO company equity. The more the company's valuation skyrocketed, the greater the appreciation, and thus, the higher the supplemental tax on the initial placement. For example, Yu Kai of Horizon Robotics might owe around RMB 1.2 billion. Yan Junjie of MiniMax could face a bill between RMB 1.3 billion and RMB 1.9 billion. The four founders of Guming might collectively owe between RMB 2.7 billion and RMB 3.1 billion, with the largest shareholder, Wang Yun'an, potentially liable for RMB 1.4 billion to RMB 1.7 billion. The most severe case could be Zhang Junjie of Chagee. Based on an IPO valuation of USD 5.3 billion, he might owe USD 360 million in establishment tax. However, with the stock price having halved, his stake is now worth only USD 800 million, meaning he would have to sell off a significant portion just to cover the tax bill.

The second part of the liability stems from historical income. Wu Yajun of Longfor Group might need to pay between RMB 2.5 billion and RMB 3 billion in back taxes, as Longfor is known for its generous dividends in the property sector, accumulating substantial income within the trust. Pan Shiyi and Zhang Xin of SOHO China, who have engaged in large-scale share reductions and asset sales, could face a bill of RMB 2 billion to RMB 3 billion. The Xu Shihui family of Dali Foods, known for consistently large dividend payouts, might owe around RMB 1.5 billion. Wang Ning of Pop Mart could be liable for RMB 530 million from share reductions and dividends. Liu Qiangdong of JD.com, whose trust's BVI entity received roughly RMB 4 billion in dividends over four years, might owe around RMB 800 million. Other potentially affected parties include the Jinjiang family entrepreneurs behind Anta and Xtep, as well as Sun Hongbin of Sunac, all of whom could face significant supplemental tax payments.