22 October 2016
China's State Administration of Taxation is preparing to expand the VAT reform to bring more service industries under the ambit. Photo: Xinhua
China's State Administration of Taxation is preparing to expand the VAT reform to bring more service industries under the ambit. Photo: Xinhua

China VAT reform: What it means for property market

China is preparing to expand its initiative to replace business tax (BT) with value-added tax (VAT).

From May 1, a revamped tax reform will cover four more service sectors – construction, property, financial services, and the so-called life services industries.

The tax rate for construction and property sectors has been set at 11 percent, while the rate for financial services and life services will be 6 percent.

It’s worth noting that both construction and property sectors would enjoy transitional arrangements, which would allow companies to choose whether they would like to use the simple tax rate of 3 percent without any deductible items or apply for the 11 percent VAT rate with deductibles.

In the meantime, four industries including nursery, healthcare, education and lottery services will continue to enjoy preferential tax treatment, according to finance ministry officials.

It’s estimated that more than 97 percent of tax payers will pay less tax under the VAT regime, saving a total of over 300 billion yuan. Sectors like manufacturing that already use VAT would also save over 300 billion yuan of tax payment due to more deductible items.

The tertiary sector accounted for 56.6 percent of China’s fixed-assets investment last year, compared with 52.6 percent in 2012. And it also made up a bigger share of the total GDP.

Last year, tax payers in the tertiary sector jumped by nearly 40 percent in number from the year before. The growth rate is far above the national average of 13 percent in taxpayer expansion rate.

There are worries that some firms might misuse deductible items. For example, companies might snap up properties in order to save tax.

In the real estate sector, the tax rate will rise to 11 percent under the VAT reform. However, all new value-added tax will be deducted within two years. That has stoked concern that the rule might be abused or that it could prompt companies to buy more properties.

That said, increased property deals would mean more fixed-asset investments. That can help stabilize the realty market and shore up the economy. It would help draw down inventory of commercial property.

Many expenses and costs will be eligible for deductions from the tax bill.

But one should bear in mind that only the real-estate used for production and operational purposes — such as factory buildings, office facilities — is eligible for deduction. Residential property used for employee welfare is not eligible for the benefit.

In that sense, it’s unlikely that the new tax regime would trigger a massive property buying spree.

As for the construction sector, data has shown that it has annual output worth around 1.6 trillion yuan. Companies involved in the business will be subject to 11 percent VAT, instead of 3 percent BT, under the new tax regime.

Companies will be able to deduct many raw materials costs — such as those related to cement and steel — from tax bills. The tax burden will be less in the end if the firms take care to establish an orderly invoice system from upstream to downstream sectors.

Also, the potential impact on financial service sector has attracted a lot of public attention. The sector has a number of fragmented areas, and the tax calculation can be very complicated. That has always been one of the major hurdles for the tax reform.

The tax rate for the financial service sector will increase from 5 percent to 6 percent under the new regime.

However, the actual tax burden may not necessarily increase given various deductible items.

Generally speaking, mainland banks may pay lower tax, while brokerage and insurance companies may see lesser benefit.

This article appeared in the Hong Kong Economic Journal on April 25.

Translation by Julie Zhu

[Chinese version 中文版]

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Senior investment banker

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