How China Is Giving Companies a Value-Added Break: QuickTake Q&A

Why China is Giving Companies a Tax Break

China is easing the tax burden on businesses. It’s part of a broader push to shift the economy toward innovation- and consumption-fueled growth and away from investment-led expansion. The switch to a new tax regime, mostly completed in May, handed many companies a tax cut and will act as a driver for economic growth, economists say. Now all that’s missing is some of the all-important detail. That may emerge in coming months.

1. What was the big change?

All businesses now pay value-added tax -- a tax levied on a product whenever value is added at a stage of production or at the final sale. Previously, companies were taxed on revenue. So if a retailer pays a wholesaler 120 yuan for a bottle of wine it later sells for 200 yuan, it no longer pays tax on the whole amount but on the 80 yuan difference. Sectors including construction, property, finance and consumer services were last to switch to the new system, joining trailblazers such as manufacturers.

2. What’s still missing?

Some of the fine print. For instance, will companies offering financial products pay different taxes on different products or a single tax on all sales? Will small online-only food suppliers get to pay the same 6 percent tax as regular food sellers instead of their current 17 percent rate? The government is working on this kind of detail, and Finance Minister Xiao Jie, a former chief of the tax administration, may give some guidance during China’s annual legislative meeting in March.

3. Has the economy benefited?

Last year alone, corporations saved 500 billion yuan ($72.8 billion), representing something of a fiscal stimulus package. In addition, low-end manufacturers are receiving tax breaks on research and development to help them modernize.

4. Who foots the bill?

Cash-strapped local governments face more financial stress because most of the value-added tax revenues are heading to central government. The revenue-based business tax went entirely to local governments. Now they get 30 percent of the VAT. The Beijing government has agreed to lift that proportion to half during a transition period lasting two to three years, as well as provide some extra funds.

5. What about tax dodgers?

The idea is that businesses now have an incentive to demand receipts from suppliers, to justify their value-added obligations. That’s bad news for companies that shunned offering receipts so that they could avoid paying taxes.

6. Who are the winners and losers?

Small businesses with less than 500,000 yuan in annual sales are cheering. Their tax rate dropped to 3 percent from 5 percent. Big companies with multiple units got a break as many internal transactions became tax-deductible. Land purchases also became deductible, a boost for the property sector. Labor-intensive industries suffer because wages paid directly to individual workers aren’t deductible, though payments to outsourcing companies that supply labor are deductible, because receipts are provided. Banks’ tax burden increased because most of their expenses (labor costs, travel and entertaining clients) are not deductible.

7. Did foreign companies benefit, too?

The tax code applies equally to foreign and domestic companies. McDonald’s Corp.’s Chinese unit got a tax break of 450 million yuan in 2016 as a result of the overhaul. Still, like domestic companies, overseas corporations complain about how long it takes to get taxes reimbursed and the scale of the administrative changes required by the tax overhaul.

The Reference Shelf

  • A QuickTake explainer on China’s debt bomb.
  • A Bloomberg story on last year’s tax changes.
  • A Bloomberg BNA article on the delay in VAT implementation in asset management.

— With assistance by Yinan Zhao

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