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Asian Tax Review: A Fast and Furious Tax Year-End in China

By Laurence E. Lipsher - Email Editor

Date : Jan 26, 2010

Dear Valued Reader,

Is it simply my imagination, or is it that more laws, rules, and regulations affecting taxes in China have been passed recently than in any period since taxation began in the People’s Republic of China? I actually had the opportunity to ask that question recently.

My wife and I were at a preholiday party with a Chinese attorney who has offices in both Guangzhou and Beijing, a Dutch managing director of a Belgian construction company headquartered in Guangzhou, and another Dutchman who heads quality control supervision of a marine vessel repairs/refittings firm — another European company doing business in China.

It’s not my imagination. Tax and economic policy changes are taking place to counteract some negative effects that are an unintended result of China’s vast economic stimulus program. There are so many new edicts coming down, each at its own pace, from one central government jurisdiction or another, that unless the rule, regulation, or law has been received by the office involved, or understood by the personnel of that office, or financed by someone else for implementation because there are not enough funds to cover the costs of implementing every new policy and law, then there is taxation chaos when dealing between one jurisdiction and another.

China has reintroduced a 5.5 percent tax on the sale of residential property, extending the holding period after which there will be no tax. This policy is intended to discourage the commodities trading culture of residential real estate in Asia, in which speculators, rather than home buyers, control the market; in which residential prices in China’s 70 largest cities rose 5.7 percent in November 2009, year on year; and in which prices rose 1.2 percent, month on month, between October and November 2009. There’s a bubble out there, and there’s a limit on how far it can grow. Can the government deflate it? Good question! As far as I’m concerned, all the 5.5 percent tax will do is increase the sales price by that amount (because it is really not enough to slow things down) and cause just a bit more cynicism in those who now find themselves out of the home-buying market in China.

Of course, actions toward gently deflating that bubble must come from the government first and not from either investors or real estate developers. If more effective action does not happen soon, things could get rather interesting. Some pure, unadulterated greed is causing development at a frightening pace. Investors and developers are not bothered by holding empty, unsold properties — there is a feeling that holding on to built but empty properties will still bring in a bigger yield than investing money elsewhere. Yet there is a limit as to just how much can be built and how long it must be held. Loans given by the big banks will decrease from CNY 10 trillion to 11 trillion in 2009 to CNY 8 trillion in 2010. Yet that is still double the amount before the economic tsunami. These loans continue to go into construction of luxury real estate. At the current pace, supply soon will exceed demand big time — it is inevitable. And sometime luxury real estate just might become very affordable in China, bringing in more home buyers with regained aspirations.

Now for an auto tax, one that will also affect the public: The Chinese government announced during the first week of December that it was partially rolling back a tax incentive on small-car purchases in 2010. Tax on small cars (with an engine capacity of up to 1.6 liters) is increasing from 5 percent to 7.5 percent for 2010. Market analysts had expected that the tax, originally rolled back to 5 percent a year ago, would be continued in 2010, and this sent Chinese auto stock shares falling.

Last year’s tax rollback helped Chinese automakers sell 42 percent more cars in 2009 than in 2008, did its fair share to enlarge a carbon footprint (although the country is starting to do some environmentally friendly projects one would normally not expect), and made China’s urban areas the most gridlocked anywhere. Yet the role model for use of the auto as the driving force in economic expansion comes from no place else than the U.S. after WWII. It worked then, and it is working now in China.

To me, though, the most important thing to come out of Beijing vis-à-vis the use of the automobile to drive the economy in the future is an increase in subsidies for vehicle owners trading in their old vehicles for new ones. Currently, trade-ins would get between CNY 3,600 and CNY 6,000 when they upgraded. This is a sort of ‘‘cash for clunkers’’ thing, but the autos that are likely to be traded in are not really clunkers — they are pretty close to new. Starting in January 2010, those trading in will get between CNY 5,000 to CNY 18,000, a substantial stimulus. In effect, this will create a used car business the likes of which has never existed or, frankly, been permitted (legally) in the country. I never thought I’d live to see the day that I’d look at someone and judge him with the thought, ‘‘Would I buy a used car from this man?’’

Dow Jones got it right but wrong at the same time in the December 13, 2009, Dow Jones Newswires: ‘‘Taiwan Hopes to Sign Double Taxation Deal With China.’’ The headline was correct, but the body described the deal essentially as a double taxation avoidance agreement, which could not happen because if that were the case, it would mean recognition by the P.R.C. that Taiwan is a separate jurisdiction, which is certainly not going to happen.

The Cross-Straits Financial Cooperation Agreement, which will be an economic stimulus for both sides, was going to have a tax information exchange agreement, but at the last minute it was eliminated from the agreement. Starting in 2010 Taiwan is including offshore income as part of its alternative minimum tax calculations, and the Taiwanese and P.R.C. tax officials are quite anxious to find out more about all those Taiwanese businesses on the mainland. Taiwanese businesses operating in China were hellbent on not having a TIEA. Those businesses exerted a lot of pressure to take it off the agenda. I’ll bet, though, it will be back — soon.

Taiwan’s Finance Ministry stated that the breakdown of cross-strait negotiations on a tax pact was mainly the result of a dispute over levying income tax on China-based business people according to where they reside or get paid, the Taipei Times reported December 24, 2009. China has a 25 percent corporation income tax, and its individual income tax can go as high as 45 percent. Taiwan’s corporate tax, under its new AMT, which would bring the Taiwanese businesses in China under Taiwan’s tax umbrella, would be 20 percent, and Taiwan’s individual income tax rate is nowhere near that of the P.R.C. The matter of tax audits and tax enforcement is what concerned Taiwan’s businesses the most. Taiwan is a bit more adept at getting more realistic information out of its filers, and this is what the P.R.C. is interested in because of other tax matters: the business tax, VAT, and transfer pricing issues that, with better audit control, would raise tax revenues in the P.R.C. even with corporate tax revenue going to the Taiwan side under a cross-straits agreement. At this time, it is simply too hot a political potato for President Ma Ying-jeou’s government to push for.

The P.R.C. State Administration of Taxation (SAT) would like to find out more about Taiwanese businesses in China, their owners, how much they are really making, and where they are going. The Taiwanese government wants more revenue to help revive its own economy. This will eventually be a very mutually beneficial TIEA for both sides. I remain hopeful that there will be some mutually agreed ‘‘fishing expeditions’’ with full and complete cooperation from the tax bureaucracies on both sides of the strait. There’s going to be some interesting fishing soon taking place when a TIEA actually is reached — and it will happen — and I just know there will be some big fish caught!

Until next time,

By Laurence E. Lipsher

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