China Plans to Cut Corporate and Personal Tax Rates

By Dezan Shira & Associates
Editor: Jake Liddle

Last week, China’s Premier Li Keqiang announced that the government plans to cut corporate and personal tax rates. Li announced these plans as a part of the publication of the annual Government Work Report.

To cut corporate taxes, the government plans to simplify China’s four-tier VAT system to three tiers and introduce several other tax breaks. To cut personal tax rates, the government plans to offer new deductions and reform individual income tax (IIT) brackets.

These reforms will produce tax savings of RMB 350 billion (US$50.7 billion) this year, following the claimed RMB 570 (US$83 billion) cuts made last year affecting every sector, along with the full implementation of the country’s business tax to VAT reform in May 2016.

The statement came following complaints from enterprises of growing tax burdens amidst a slowing economy.

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VAT rate simplification

Citing aims to create a simple, transparent, and fairer tax environment, the government vowed to simplify the structure of VAT rates, reducing the four tax brackets to three.

Although the government did not specify which tax bracket will be removed, market observers have speculated that it is most likely that the 13 percent bracket will be removed, as it will cause the least disruption to businesses.

Removing the 17 percent bracket would put excessive strain on other sources of tax revenue, while removing the six percent bracket would cause more complaints from enterprises. The move will require balance and consideration of implications across the board.

Corporate tax cuts

While Li claims that RMB 570 billion worth of tax cuts were made last year, there is conflicting evidence for this: government statistics report a growth of tax revenue, reaching RMB 13 trillion (US$1.8 trillion), a 4.3 percent increase on the previous year. Furthermore, overall tax revenue after the May 2016 VAT reform stood at RMB 5.22 trillion in 2016, up from RMB 5.04 trillion in 2015.

As a result, many corporations and entrepreneurs have expressed disappointment with the overall reform, and feel overburdened by increased taxation at a time when the domestic economy is experiencing a downturn. According to China’s finance minister Xiao Jie, this year’s tax cut will be aimed at smaller innovative and technology enterprises. The government states in the work report that it will conduct two main tax cuts this year:

• The corporate income tax (CIT) will be cut by half for entities who are able to prove their pre-tax profits are less than RMB 500,000 (US$72,300), instead of the previous threshold of RMB 300,000 (US$ 43,400);
• 75 percent of R&D expenses can be used to deduct tax, as opposed to the previous threshold of 50 percent for companies registered with tax authorities as technology firms.

This correlates with the country’s campaign of nurturing entrepreneurship and innovation as part of its ‘Made in China 2025’ strategy, which aims to guide the economy away from heavy manufacture.

As such, the reforms do little for the manufacturing sector, which suffers the most from high tax burdens, often being hit by multiple tax types depending on the nature of operation, while dealing with rising labor costs, exports slowdown, and environmental issues.

Personal tax cut

The government is also exploring making tax cuts for individuals. The Work Report claimed that families will be able to claim a deduction for educational costs for a second child, supporting the revoking of the one child policy.

Meanwhile, a reform for IIT is being considered: the IIT rules that were set in the 80s are now outdated, and do not reflect current economic shifts and inflation. This will involve lowering the top IIT bracket of 45 percent to 25 percent, and levying IIT on income sources.

An actual timeline for the IIT reform was not given, and may not be a near term prospect. Nevertheless, a dialogue has been started, with members of the National People’s Congress comparing the high rates of mainland IIT compared to that of Hong Kong’s 15 percent and Singapore’s 22 percent.

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Positive developments

The work report regarding tax provides response to the complaints about high tax burdens. Propositions for simplifying the VAT structure should theoretically lighten the tax burden for enterprises. However, as VAT is controlled by the central government, coordination between the central and local governments will be instrumental in realizing actual benefits for enterprises.

The proposed tax cuts further support the aim to nourish smaller innovative tech companies and entrepreneurs, and provides investors a promising opportunity. Additional efforts to reduce tax burdens for individuals will be welcomed, but given the complexity of an IIT reform, it is unlikely to arrive in the immediate future. Nevertheless, the government is addressing the increase in taxation during a time when the economy is slowing.

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