China to reform VAT and Business Tax

Sun 19th Dec 2010

After years of internal discussion and pressure from the OECD, China has published initial plans to reform the much disliked VAT and Business Tax regimes.  The reform aims to improve tax collections, spread the tax burden and provide transparency for businesses.

Complex dual indirect tax system

Currently, Chinese VAT is charged at 17% on the production of goods and related processing services, as well as importing.  There is also a Business Tax regime, which ranges from 3% to 20%, on business services.  In both regimes, there is limited ability to deduct input VAT suffered on costs incurred.  This is contrary to the OECD guidance on consumption taxes, followed by the European Union and over 80 other countries.  This omission means much of the vital manufacturing industry’s trade is heavily distorted, impeding continuing growth.  China’s tax burden on enterprise is approximately 15% higher than the OECD average.

Reform towards global standard on its way

On November 18 2010, the Ministry of Finance published a document outlining the reform plans.  It is looking to reduce the double taxation caused by separate VAT and Business Taxes, and enable a fairer VAT input deduction system.  This would be a consumption-based tax, as promoted by the OECD, rather than the current production-led regime.  It would also help promote the development of the service sector, which China views as vital as the economy matures in the 21st century.  In particular, the Chinese government is keen to promote its outsourcing sector as it seeks to rival India in the global IT market.