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Khoonming Ho |
Lewis Lu |
On March 24 2016, China's Ministry of Finance and the State Administration of Taxation jointly issued Circular Cai Shui [2016] 36 (Circular 36) which contains the Value Added Tax (VAT) rates and rules applicable to the expansion of China's VAT system to several key sectors such as real estate and construction, financial services, and lifestyle services, which take effect from May 1 2016.
China's indirect tax system has, for many years now, been a bifurcated system with VAT broadly applying to the goods sectors, and Business Tax (BT) applying to the services sectors. Given that BT is essentially a tax on business which cascades throughout a supply chain, and is generally regarded as being an inefficient form of taxation, the Chinese government has been embarking upon a programme of progressively replacing BT with VAT since 2012. While the early stage of the VAT reform programme involved the VAT rules for certain sectors being implemented progressively on a province-by-province basis, in more recent times the implementation of VAT has been done nationwide on an industry-by-industry basis.
This final stage represents a 'big bang' approach, with all remaining sectors transitioning from BT to VAT nationwide with effect from May 1 2016, and they are:
Real estate and construction;
Financial services; and
Lifestyle services, which encompasses hospitality, food and beverage, healthcare, education, cultural and entertainment services, and a general residual category of any other services which are still subject to BT.
These three key industries represent, in policy terms, the most difficult industries to apply a VAT to, and moreover, in financial terms they are the most significant industries contributing to local government revenues. From a policy perspective, they can present challenges in applying a VAT to their services, given that:
the value added in financial services can be difficult to measure on a transaction-by-transaction basis, which explains why most countries exempt them from a VAT;
gains from real estate transactions may arise from passive activity (that is, simple increases in property values), or from actively improving the property, such as building and construction. The real estate industry also affects a broad range of stakeholders, from experienced developers, to investors, to speculators and private individuals. It is also subject to many other types of taxation already; and
lifestyle services can be consumed for business purposes or for private purposes, and differentiating between them can be difficult. In many cases they are also primarily cash based businesses where tax compliance may not be high.
When fully implemented, China's VAT system will be one of the broadest-based systems among more than 160 countries in the world which have now implemented a VAT (or equivalent tax). China's VAT system will be unique by international standards in applying VAT to virtually all financial services (including interest income), and in applying VAT to real estate transactions involving not only B2B and B2C transactions, but C2C as well – an outcome not known to exist in any other country. It would not be surprising to see other governments follow China's lead and expand their VAT systems, especially if China is able to implement these changes successfully.
For more insight into the BT2VAT initiative, visit www.internationaltaxreview.com for information put together for ITR by the Chinese SAT and Minister Wang Jun.
Khoonming Ho (khoonming.ho@kpmg.com) and Lewis Lu (lewis.lu@kpmg.com)
KPMG China
Tel: +86 (10) 8508 7082 and +86 (21) 2212 3421
Website: www.kpmg.com/cn
