China and Hong Kong Special Administrative Region (SAR) updateJuly 16, 2012
In our last update on mainland China, we reported that October 2011 saw the announcement by Chinese Premier Wen Jiabao that a Value-Added Tax (VAT) pilot program would be introduced in Shanghai in January 2012, replacing the business tax in selected industrial sectors. Following the early success of that pilot, it looks likely that the program will be extended to Beijing and other locations during 2012.
In China’s 12th Five-Year Plan (2011–15) announced in March 2011, one of the stated goals was to roll out indirect tax reform across China. The VAT pilot program represents a necessary first step toward resolving the issue of duplicate taxation on goods and services in China.
In the existing Chinese taxation system, many goods and services are subject to the Business Tax (BT) regime when sold, but also to VAT when manufactured, with a lack of input tax credit under BT causing double taxation. The pilot will make a larger volume of services VAT-able rather than BT-able.
Since Shanghai’s implementation of the VAT pilot program from 1 January 2012, anecdotal evidence suggests a 40% reduction in tax burden for small-scale VAT taxpayers.
The Commissioner of the State Administration of Taxation (SAT) emphasized in a 1 April 2012 article in the China Economic Daily newspaper that the government will continue to support the convergence of VAT and BT.
Although reports in the same paper on 26 March 2012 stated that full VAT reform may lead to a CNY100 billion (US$15.87 billion) reduction in tax revenue nationwide, continuing strong growth in tax revenues for the country will provide a solid foundation for the reform program.
Administratively, the State Tax Bureau (instead of the Local Tax Bureau under the current BT system) would be responsible for the administration and collection of the combined VAT system.
Beijing is expected to be the next municipality to introduce the VAT pilot program, possibly as early as 1 July 2012, according to a series of reports posted by China’s mainstream media.
Meanwhile, certain provinces and municipalities, such as Jiangsu in central China, Guangdong province including the Pearl River Delta, and two municipalities (Tianjin in the north and Chongqing in the southwest), have also reported their intentions to apply the pilot VAT program.
China’s 2011 tax revenues display strong and steady growth
Tax revenue growth in China certainly seems more than strong enough to support such reforms. Revenues for tax year 2011 grew by 22.6% year-on-year to CNY8.97 trillion (about US$1.42 trillion) from CNY7.32 trillion (about US$1.16 trillion) according to the Ministry of Finance on 15 February. According to IMF estimates of GDP, that CNY8.97 trillion represents around 19.8% of total GDP.
As a comparison, US federal (i.e., excluding state) tax receipts were US$2.173 trillion in 2010, representing around 15.4% of GDP. The U.S. Office of Management and Budget estimates that tax receipts will rise rapidly in the coming four to five years, due largely to a continuing recovery and the potential expiration of the Bush era tax cuts.
It will be interesting to continue comparing the total tax take, taxes as a percentage of total GDP and composition of tax revenues in China and the United States over that time period. China’s 22.6% revenue growth rate was very close with that of 2010 of 23%, the Ministry said in its press release, reflecting the solid, fast economic growth, high consumer prices and strong corporate performances.
Production-related taxes rose the most in actual yuan terms in 2011, with receipts from VAT and turnover tax growing 15% to CNY2.43 trillion and 22.6% to CNY1.37 trillion yuan, respectively, again unchanged from 2010.
Reflecting strong corporate performance, revenues from corporate income tax (currently levied at 25% on a worldwide basis) grew 30.5% from 2010 to CNY1.68 trillion, quashing 2010’s 11.3% growth rate. Corporate income taxes accounted for 18.7% of the China’s total tax revenues.
A further reason for the increase may be attributed to stronger tax enforcement. As an example, in the taxation of nonresidents China in 2011 collected 44.97 billion yuan (about US $7.14 billion) from dividend withholding tax and 8.9 billion yuan (about US $1.41 billion) from the transfer of shares, increases of 63.63% and 36.03% respectively.
However, tax revenue growth decreased quarterly as 2011 progressed, Ministry of Finance figures show. After racing ahead with 32.4% growth in the first quarter of 2011, tax revenue was growing by 6.8% in the fourth quarter of 2011.
The Ministry of Finance attributed the quarterly decrease to a slowing economy, a decrease in the tax burden and a slight cooling in the property sector. Without doubt, the wider slowing of the economy reflects the slowdown that was felt almost exclusively around the world as countries feared contagion from the Eurozone crisis.
It will be interesting to see whether quarterly growth reaccelerates in 2012 or whether the Eurozone will continue to have such a dampening effect.
Beijing Social Security Management Center announces new series of social security audits
Stronger tax enforcement was also reflected in more recent news media report that the Beijing Social Security Management Center (BSSMC) will commence an audit of the social security compliance in 2011 of up to 1,300 entities, including representative offices of foreign offices.
The audit process will be centered in Beijing, and companies will be randomly selected for audit. Following on 2011’s rising focus on social security issues, the audit process will study whether eligible employees have been properly enrolled in the social security program and whether their contribution base for 2011 is accurate.
Although the social security audit is an annual process, the 2012 process comes at a critical time, with foreign nationals being required to enroll for social security purposes for the first time in October 2011.
Any identified under-reporting of social security contributions may attract late payment interest of 0.05% per day on the amount due and additional penalties which may be as much as three times the total amount due may be imposed, in addition to the total social security due.
Hong Kong: new Advance Pricing Agreement Departmental Interpretation effective from 2 April 2012
On 3 January 2012, the Hong Kong Inland Revenue Department (HKIRD) announced that it planned to introduce an Advance Pricing Agreement (APA) program in Hong Kong by April 2012.
This was followed on 18 January 2012 by the release of a draft version of Departmental Interpretation and Practice Note 48, Advance Pricing Arrangements (DIPN 48), which outlined its proposed approach to administering, negotiating and concluding APAs.
Draft DIPN 48 was then opened to a consultation process, with 29 March 2012 seeing the release of the final version of DIPN 48 containing a number of clarifications from the earlier draft. DIPBN 48 now supports the Hong Kong APA program, which was rolled out on 2 April 2012.
The threshold for an APA application is HKD80 million (about US$10 million) for tangible transactions, HKD40 million for service transactions and HKD20 million for intangible transactions.
According to DIPN 48, an APA will not have retrospective application, and years prior to an APA can still be subject to audit. DIPN 48 also sets out the detailed guidance on the application, information and documentation requirements, and process for securing an APA, including the possibility of holding a pre-filing meeting on a no-name basis, which should be welcomed by the taxpayers.
Although Departmental Interpretation and Practice Notes are not binding in the Hong Kong courts, DIPN 48 nonetheless provides useful guidance for companies and practitioners wishing to understand HKIRD’s views in this area, so the introduction of an APA program has been widely applauded.
- Becky Lai, +852 2629 3188, email@example.com
This article was first published in the Ernst & Young Global Tax Policy and Controversy Briefing which can be accessed using the link below: