Talking Tax After China’s National People’s Congress

Wen Jiabao gave his ninth (and probably final) annual concluding address of the 11th National People’s Congress (NPC) on March 13. It was a 3-hour press conference. When was the last time you heard a world leader spend three hours giving a press conference?

Although my Chinese borders on hopelessly pathetic, I’ve watched most of Wen’s annual press conferences. Wen speaks slowly and in short, direct sentences that allow him to measure exactly what he wants to say. Whether he wants to succinctly make his point or be purposely ambiguous, there is simply no way he will be misinterpreted by the people or the foreign press.

I love the NPC and Chinese People’s Political Consultative Conference (CPPCC) sessions because of the abundance of news articles recommending new tax ideas and concepts or ‘‘tweaking and fine tuning’’ what is currently in place to improve it. It is more than the meetings in Beijing, though — I genuinely believe that there is less editorial ‘‘reticence’’ than I’ve experienced in a long while. I think we are experiencing a period of increased press freedom in China — at least as tax policy is concerned.

I’m going to start off with the inheritance tax. The P.R.C. government owns the Global Times, a Beijing English-language daily, and often uses it as a sounding board for various tax proposals. Everyone interviewed in Wen Ya’s March 15 Global Times article ‘‘Inheritance Tax Proposal Meets Mixed Response’’ seemed to be in favor of an inheritance tax but offered alternatives for its inception and voiced concerns that it could be set up incorrectly.

Jia Kang, head of the Finance Ministry’s Research Institute for Fiscal Science of the Ministry of Finance, called for officialdom to be taxed first: ‘‘The tax should first be levied on officials, which is (alas) unfeasible in current China.’’ Officials may be reaping unjust rewards throughout the country, but come on — where in the world is this not so? Zhang Ming, professor of politics at Renmin University in Beijing, said, ‘‘it is difficult to define who is rich and to evaluate officials’ property since some of them have hidden incomes’’ This is a very distinct problem because China is a culture of trust with family and century-long family friends. You do not directly have to own anything if you have trusted people to front for you. When beneficial ownership is likely to never be uncovered, how can you tax that hidden wealth? And how can you find it if the bureaucracy is neither sizable enough nor adequately funded to pursue this area?

The property market in Wenzhou crashed last year as a bubble burst, causing small and medium-size enterprises that borrowed lots of money from non-bank lenders to fail. When only a few businesses fail, the system can cope with it, but there were more than just a few in the Wenzhou area — some of which were previously thought to be substantial — and the system simply went berserk.

In an op-ed in China Daily, Yang Guoying, an ‘‘economic commentator’’ and professor at the Yangzhou Tax Institute, wrote that the emphasis on correcting the banking system to work with SMEs or to create new banks solely to work with SMEs is the wrong approach, stating that the tax system must be altered instead. Larger companies pay taxes on profit. Smaller ones are taxed at a fixed rate on annual revenues below CNY 3 million, with tax rates varying from city to city. Beijing, cited as an example, assesses 8.2 percent tax on gross revenue. This is a tax rate that in many instances is greater than an SME’s real profit margin. Yang argued that 70 percent of start-up SMEs never make it past year 1 simply because the tax is far too punishing. He’s right, of course, but so is government emphasis on providing reliable, reasonable banking facilities to grow business. You’ve really got to have both!

Targeting Tax Growth

The most important of the tax-related documents from the NPC was probably the ‘‘Report on the Implementation of Central and Local Budgets for 2011 and on Draft Central and Local Budgets for 2012.’’ Formally presented to the NPC on March 5, this report discusses six areas that should be targeted for tax growth:
• property tax;
• VAT;
• resource tax;
• excise tax;
• environmental protection tax; and
• urban maintenance and construction tax.

The central government appears to be taking somewhat of a timid stance on property tax expansion — the report suggested a simple form of property tax that should be adopted nationwide on second-home purchases. This obviously will not cure the municipal tax- raising woes of a city like Shenzhen, which has no more land to sell and needs something far more comprehensive than second-home taxation.

According to Liu Shangxi, deputy director of the Ministry of Finance’s Fiscal Science Research Institute, the Ministry of Finance’s foremost immediate goal is the national replacement of the business tax with a new VAT. Shanghai’s VAT regime was introduced January 1, 2012, for transportation, services, and four other industrial sectors, replacing the business tax, and Beijing is slated to start its new VAT regime on July 1.

Liu also mentioned that the current VAT distribution ratio (75 percent to the central government and 25 percent to local governments) would be modified to cover the program’s local administration costs and to offset the loss of business tax revenue. This obviously will ease some municipal disgruntlement over replacing the business tax with the VAT.

China amended the resource tax last year. The resource tax on crude oil is now calculated at market price instead of production volume. This definitely will have an impact on foreign-invested oil and gas fields — offshore and onshore — for Chinese business. The government wants to expand this area. China Development Bank’s Liu Kegu, a resource consultant, suggested prioritizing expansion of the resource tax in China as follows: oil and natural gas, then coal, metal ores, and eventually non-metallic ores and water resources.

And then there’s the excise tax. Under State Council Decree No. 539, which addresses interim excise tax provisions, cigarettes, alcohol, cosmetics, high-end jewelry, fireworks, refined oil, tires, motorcycles, cars, golf equipment, high-end watches, yachts, wooden disposable chopsticks, and solid wood flooring are subject to excise tax. Those high-end watches and jewelry have provided for an extraordinary jump in tax revenues in Hong Kong, where there is no excise tax. Occasionally a proposal is offered to end the luxury tax to keep Chinese money in the P.R.C., but it will take a do-over of the excise tax (and introduction of something more permanent than ‘‘interim provisions’’) to bring this area of taxation in line with the country’s overall tax policy. Hong Kong merchants hope that the tax will never end. It won’t, but it will eventually be reduced on those items in Hong Kong that its merchant’s want kept high.

On the other end of the spectrum stands the venerable wooden chopstick. Do you really think that the street-side food seller who distributes chopsticks with the food you buy is going to charge you an excise tax? Even if he does, there is no way he is going to pay that to the government.

The environmental protection tax is an idea whose time has come — in China (where it eventually will happen), Hong Kong (where I doubt that the people who own the city pay anything more than lip service to this concept), and the world. From my ‘‘base’’ in Guangzhou, I am witnessing more blue skies since the smokestack industry left the Pearl River Delta. Frankly, my most recent visits to Beijing and Shanghai have been jokes as far as pollution-free skies are concerned. The impact on health and medical requirements must be felt. To what extent can a tax work? Well, as per Jiang Kejun, an official at the National Development and Reform Commission, in the March 16 edition of China Daily, there will be an environmental protection tax (of sorts) by 2013. I doubt it will be much, and if it is enforced it will only be because the central government finances the enforcement. Sadly, things will likely get worse before they get better. Yet I do expect to see improvement in the Chinese environment over the next decade. And perhaps when the true impact of the tax is felt in Shenzhen (which is twice the size of Hong Kong, with the industrial base Hong Kong lacks), it will eventually shame Hong Kong into imposing an environmental protection tax. Those of you acquainted with Hong Kong are probably saying, ‘‘Dream on.’’ Well, those dreams are preferable to environmental nightmares!

Tax Collection
The P.R.C. has been phenomenally efficient in collecting tax revenues. On March 13, as per China Brief- ing, the State Administration of Taxation stated that tax revenue alone from nonresident enterprises in China topped CNY 100 billion for the first time, with CNY 102.6 billion as the total collected in 2011. This is an astonishing 31.8 percent increase over the prior year. China’s tax system has reached a level of sophistication and experience that should justify this ‘‘efficiency.’’ From all tax sources, 2011 tax collections came in at CNY 544.6 billion, substantially in excess of either prior-year collections or expectations originally set for 2011. And yet throughout the country, both nonresident enterprises and domestic businesses are complaining that too much is being collected from them! China Daily reported on March 7 that 57 percent of all service companies reporting nationwide stated that their tax payments for the year took up over half of their profits. This is what a VAT or business tax, as it is structured, does to the system. CPPCC delegate Li Jiange, chair of China International Capital Corp., called for an amendment strictly limiting the government’s authority to collect taxes. Li suggested that local governments set an annual prescribed target for fiscal revenue growth and that henceforth anything exceeding that set target be treated not as something to congratulate the locality about but as a budget deviation; that good work by tax authorities means reducing this burden. ‘‘If we could bring down the growth rate for fiscal revenue to within 10 percent this year (instead of the 20 percent of GDP that it currently stands at), we could save businesses and residents at least 1 trillion Yuan,’’ Li said.

Statements like this, criticizing the system and suggesting change, were simply unheard of just a few years ago. But back then, who would have ever thought that capitalists and billionaires would actively be sought after for Communist Party membership in China? It is a different country, where Jiang Zemin’s recruiting the wealthy for party membership has per- haps been a bigger change to the country than anyone would have ever thought. Sure, workers were in attendance at the NPC and CPPCC gatherings in Beijing in March, but one truly had to look long and hard to find them. It is indeed these workers to whom some of the tax revenues had better filter down — fast!