From News, page 3, issue no. 383, Sept 1, 2008
Translated by Zuo Maohong
Original article: [Chinese]

A 150-billion-yuan tax cut formula under the Value-added Tax (VAT) Reform has been submitted to the Chinese State Council, and might come into effect on January 1 next year, tax officials told the EO.

While many considered the formula an attempt to stimulate the Chinese economy, which faced risks of contraction, tax officials said it was a further push for tax reform.

The reform was aimed at shifting from a production-based VAT regime to a consumption-based system, which is practiced in most countries.

Under the former regime, companies could not get deductions on their tax bills for spending on machinery and capital assets, while the latter system permitted these expenses to be written off.

The 150-billion Formula
Unlike previous rumors that the reform would only take place in certain industries, the new rule would be applicable in all industries except some restricted by Chinese law, according to local tax officials.

The EO learned that many provinces and cities had begun preparation for the reform, and some had already worked out the cost in implementing the reform.

A tax official told the EO that by the Finance Ministry's estimation, the reform would cause a national revenue loss of between 100 and 150 billion yuan.

"The reform aims to improve the tax system. It will definitely stimulate the economy, but this is not the ultimate objective," said the above official, adding: "No matter how the macro-economy performs, the reform should move on."

Market watchers generally believed the nationwide reform was favorable to the manufacturing sector, especially technology-intensive companies that invest heavily in machinery.

Some held that a possible economic downturn in China had pushed the government to consider stimulus policies such as tax reductions and additional government spending.

There were analysts who went further in projecting that the new rules might come into effect ahead of schedule if the economy worsened, as some said, "It could even be next month."

The Road to Reform
In 1994, when China reformed its tax system, a consumption-based VAT regime was suggested; however, out of fear of worsening inflation, the government decided to adopt the production-based system, which could curb spending as it prevented core investment expenses to be waived from tax bills.

Scholars, finance and tax experts had expected the reversal of the regime one day when inflation eased. The wait dragged on for 15 years.

Pilot programs paving the way for the VAT regime shift had taken place since July 2004 in selected places and industries in northeastern China, but with limitations set on the deductible amount.

As the cries for reform grew louder, both coming from business communities and tax experts, the Ministry of Finance finally declared in July 2007 that it would extend the new system to another 26 cities.

The limited implementation areas, as many academicians and officials explained, was out of consideration that China was facing risks of an overheated economy then, and a nationwide reform might stimulate investment and worsen the situation.

Professor An Tifu at Renmin University of China had been advocating the consumption-based VAT regime for years. He said the same consumption-based VAT regime should be applied to all, and not as preferential policies in some selected places.

This July, the reform was extended to another five cities in eastern Inner Mongolia, where industrialization was still underdeveloped. One month after that, the State Council added areas badly hit in the May 12 earthquake into the reform list.