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Asian Tax Review: A Midsummer Day's Silliness

By Laurence E. Lipsher - Email Editor

Dear Valued Reader,

Shakespeare wrote about the giddiness, the silliness of what we often do during the good old summertime. Yes, sirree, that man was right! Crazy things happen when you encounter summer weather, and tax bureaucracies can act silly as well. Take Hong Kong, for instance.

News of a Hong Kong cigarette tariff during the first week of August was blocked on television by our friendly local censors. When I went to the South China Morning Post website, I was able to find an article on the tariff, but I was blocked from the site when I clicked on it. However, I was able to get research material sent to me secretly by friends in Hong Kong.

An individual may bring in no more than 19 cigarettes without incurring the new tax. Smokers who purchase a pack of 20 at the duty-free shops along the border (and every government entity on this side of the border has a piece of the action in them) and want to bring the unopened pack to Hong Kong must fill out a form, queue up for nearly a half-hour, and pay an extra HKD 1.20 for one cigarette at Customs and Excise before passing through immigration, where, because of a vague writing of the law, immigration officials view an opened pack with 19 cigarettes in it as acceptable. Also, there are no smoking rooms available in this bureaucratic shuffle, so those single cigarettes taken from the pack are supposedly being thrown away. Hmm ... I wonder who is eventually smoking them. What amazes me is that so many people are apparently willing to pay for this inconvenience.

I can go along with the concept of making it more difficult to smoke, but somehow I think that the cost of enforcement on both sides of the border will exceed that HKD 1.20 per cigarette.

Duty-free shops at the border are now using "ambassadors" to escort the buyer of a pack of cigarettes to customs. Before this enactment, travelers to Hong Kong had been permitted three packs of cigarettes, without having to fill out forms, wait for 20 minutes, or pay HKD 1.20 to be legal.

That the number of cigarettes being brought in has gone from an unimaginable amount to near zero is an understatement. One store openly admitted that it is now down to 30 cigarette customers a day (with customers switching to alcohol). Let's assume there are 10 duty-free stores that are worth anything. Then 30 x 10 = 300 x HKD 1.20 = HKD 360 per day in revenue. I will not even attempt to guess the cost of implementing this system, but I can't help but think that it must be a whole lot more than HKD 360 a day. Although I have no problem banning cigarettes, I am not willing to pay that much for it.

The South China Morning Post on August 2 discussed what was apparent to anyone who's lived around these environs for a long time: Because the mainland does not have restrictions on duty-free tobacco, luggage is not being checked on the way out of China, coming to Hong Kong. Buy cartons - not packs - just outside the border area, pack them away, and nonchalantly go through the Hong Kong side, where as a practical matter of risk management, the chances of being checked are low. Unless inspections are increased - and I do not see this happening within the confines of the Hong Kong budget - people will take the risk, take joy in breaking this unenforceable law, and hamper the antismoking cause in the long run.

HKD 360 a day in revenue as the return for the cost of enforcement? What could the lawmakers possibly have been thinking? And why has this subject been banned from television and print media in China? Perhaps the government was serious in its intent, but it seems silly to me. Summer madness!

Summer Rage

Police in Hunan Province have offered a reward to find the man who allegedly caused an explosion in an office of the State Administration of Taxation (SAT) in the capital of the province, Changsha.

An initial investigation revealed that the explosion was a planned attack, and local police have offered a CNY 100,000 reward. The suspect could only have been raging against something likely to be viewed as legitimate. Were this to have taken place in a rural area, I’d have guessed that corruption was the cause of rage, but in the capital of the province? That rage can only come from stepped up, relatively transparent enforcement.

I wrote a couple of years back of how pleasant it was to visit the local tax office, where there was a friendly receptionist awaiting your visit, smiling as he helped you - far more pleasant than my last visit to an IRS office, where I had to go through a metal detector first and then go to a telephone in a waiting room void of humanity. (See Tax Notes Int'l, Apr. 14, 2008, p. 143, Doc 2008-7187, or 2008 WTD 77-8.) What does this mean for the future of Chinese tax offices?

Property Tax...Again

Here we go again with China's property tax: Beijing's National Business Daily recently quoted an unnamed source from the Ministry of Finance who said that China will start levying a property tax in 2012 as part of measures to regulate the volatility of real estate prices. This launch (and 2012 sounds logical, as this is a far more significant bureaucratic change than the government can possibly imagine) will be on a much smaller scale than had previously been announced. I can't help but think that Shenzhen will be the focus for initiating a property tax, for two reasons. First, the municipality is broke - it has already sold all its land and needs income to function - so revenue can only come from new methods of taxation, that is, the property tax. Second, Beijing must flex its muscles down south. The government virtually took over Shanghai a few years ago, limiting its independence after a messy pension fund scandal. (See Tax Notes Int'l, Sept. 24, 2007, p. 1169, Doc 2007-19578, or 2007 WTD 188-7.) While Beijing can’t do much in Hong Kong, where the board game of Monopoly is far more a reality than it ever could have been in Atlantic City, N.J., it can show who's in charge right next door in Shenzhen.

I think that the scaled-down version of the property tax will be initiated first in Shenzhen because the central government is not going to support the municipality, and without a tax base, something drastic must happen within a reasonable amount of time. Beijing comes next, simply because the central government has to practice what it preaches and set an example where it has the most strength. Then, my fearless forecast is that these two municipalities will be followed shortly thereafter by Chongqing. About a year from now, the definitive plans for property tax implementation will be announced. I guess you’ll just have to wait for me to write about it at that time.

Property tax implementation is interesting in Chongqing, both because of its current tax program regarding property and because of a housing policy that China Daily, the official English-language arm of the country, seems to be supporting. This is a policy that, while lofty in its goals, will need tax incentives to truly gain developer participation.

Chongqing's property tax seems far more like an excise or luxury tax because it takes in a combination of both the number of square meters of building space that a family directly or beneficially owns and the value of accumulated property. You fall above either and you're going to be subject to some hefty taxes. This is being done to fundamentally change the culture of real estate in China from one in which trading mentality borders on high-risk gambling.

Whether this type of program can raise sufficient tax to support a city like Shenzhen is open to conjecture. Frankly, I doubt it. What this excise tax does is try to stabilize home prices that have already increased beyond the reach of many in the middle class.

Apparently price stability comes first, then the revenue raising.

China Daily, in an August 3 editorial, praised Hong Kong economist Lang Hsien Ping for concluding that the Chongqing model for real estate development is the only model that can save China's real estate market. When the government, in its newspaper, says "only," I think that this should be examined.

True, this is not tax but urban economic policy. Yet taxation does tend to go along in order to finance the policy, so let's briefly look at the Chongqing model:

1. Four thousand square meters of public rental housing would be built in three years. This housing would provide living space for 1-2 million residents.

2. Three million farmers would be granted Chongqing hukou (an urban residency card for the city); the benefits from this alone are likely to be far more than the farmers would ever make. In turn, the farmers would have to surrender their homesteads to the government, and that land would be the land on which the public rental housing would be developed.

3. Information technology industry clusters would be developed within this massive new housing development. Both HP and Cisco have agreed to considerable investment in Chongqing, and within these clusters, to produce hardware, of which 80 percent of parts and materials are produced locally. There are other companies coming inland to western China, which will be serviced for global shipping from a new four-runway airport (JFK, Heathrow, and Hong Kong have only two runways each) being built between Chongqing and Chengdu.

There will be tax matters going along with all of this. First, luring developers to invest in and build 4,000 square meters of housing requires some form of tax incentive - it won't happen otherwise. Then, assuming that the learning curve has been passed and that you can actually develop a viable new city of 2-3 million in a relatively short period of time, taxes will have to be raised to finance municipal operations. Without the culture of corruption, already embedded within the older municipalities, one can potentially start off fresh and develop a transparent, "orthodox," Western-style (with Chinese characteristics, of course) property tax system. Once again, only time will tell, but it looks like the government is supporting some pretty lofty goals.

Relatively Serious Tax Items

The SAT tweaked its procedures regarding registration requirements for nonresident taxpayers on June 21. Guoshuihan [2010] No. 290 changes the requirement for the signature on the registration form from being that of the primary tax authorities to that of the tax authorities who received the tax documentation or applications. Whether this will expedite matters if one files with the wrong SAT office is still open to conjecture. Frankly, I'm not willing to test this one out. Guoshuihan No. 290 also is more specific regarding the identification of the taxpayer and the years involved. This is one attempt to eliminate fraudulent names on the tax rolls.

Most interestingly, perhaps, is that withholding agents are now required to complete the registration procedures in accordance with Article X of the Non- Residential Tax Treatment Management Notice, regardless of whether the taxpayer has previously provided all the relevant information to the tax authorities. If the taxpayer fails to provide all required information to a withholding agent, that agent cannot complete procedures. It definitely appears that the original plans to make the Chinese certified withholding agent a quasi-representative of the bureaucracy, rather than of the taxpayer, is going to be a reality sooner than people realize.

The SAT on July 26 released the "Operating Guidelines on Tax Exemptions for Overseas Corporate Income." This was effectively backdated to January 1, 2010, and applies to Chinese entities that are doing business and paying taxes outside China, and that can now take a credit for these taxes paid against their Chinese taxes. The credit applies to creditable foreign income tax, and the guidelines are specific in excluding interest or penalties paid from this amount. It further elaborates on tax cooperation for income derived from Hong Kong, Macao, and Taiwan, even though there is no tax information exchange agreement between the mainland and Taiwan. This is significant, not because I think there will be adherence to the law - yet. But the fact that the SAT is actually bringing this up indicates that it is on the agenda and that Chinese corporations with foreign entities had best start considering including their worldwide data on their tax returns, because it will be demanded of them sooner than they think.

Shanghai is trying to keep its employees happy. Through June 2010, employers had a tax deduction expense of CNY 9,876 toward employees' mortgage payments. Effective July 1, that amount increased to CNY 10,698. While it doesn't quite cover inflation, every little bit helps. What is happening in this matter throughout the rest of the country? Your guess is as good as mine.

I'll end this article with a political comment made by U.S. Treasury Secretary Timothy Geithner about not extending the Bush-era tax cuts for taxpayers with taxable incomes over $250,000. I will not do any political posturing here. What I will refer to is Geithner's statement regarding China's currency. He said that what mattered was how far and how fast China will allow its currency to rise in value against the dollar.

The renminbi will rise... but far more slowly and with a smaller increase than Geithner would like. The cold, hard fact of the matter is that the U.S. is no longer China's most important trading partner. That title belongs to nations surrounding China. These countries fear economic instability far more than you can imagine, and China is aware of this. China will do nothing to upset the economic apple cart of its neighbors (including Japan). After its economic needs are satisfied, then and only then will China take into consideration the currency revaluation that Geithner would like to see. Cordial economic relations with neighbors matter, as does inflation, which is starting to be felt in China. And there are always those long-term nonperforming loans resulting from the Chinese stimulus. Tax implementation will address these issues in China first; currency revaluation will come after.

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By Laurence E. Lipsher

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