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Pilot Change from BT to VAT in Shanghai

18 Jan 2012

Issued in November 2011, the most important change in the tax regime in China for the year 2011 is the pilot change program from Business Tax ("BT") to Value Added Tax ("VAT") for certain industries. Taxand China highlights the step change from BT to VAT and what this will mean for taxpayers nationally, and in particular in Shanghai.

In Shanghai, the current applicable policies for the pilot change are:

  1. Cai Shui [2011] No.110; Circular on Printing and Distributing the Pilot Program for the Collection of VAT Instead of Business Tax ("Circular 110" - applicable nationwide in China)
  2. Cai Shui [2011] No.111; Circular on the Implementation of the Pilot Change from BT to VAT in the Transportation and Certain Modern Service Industries in Shanghai ("Circular 111" - applicable to Shanghai)

VAT Rates
Under Circular 110 and Circular 111 which are effective from 1 January 2012, previous BT payers in the pilot regions will become VAT payers with applicable VAT rates as follows:

  • 17% in relation to lease of tangible movables (it was subject to 5% Business Tax)
  • 11% in relation to provision of transportation services - 6% in relation to provision of modern services such as consulting (other than lease of tangible movables)
  • 0% in relation to any other taxable services defined by MOF and SAT, i.e. VAT Exemption

    (It should be noted that there is some uncertainty regarding the construction industry. Circular 110 indicates that the 11% rate will apply to this sector, while Circular 111 does not include the construction industry. Present indications from the authorities are that the construction industry will not be included in the pilot programme).

The above rates apply to VAT general taxpayers in the pilot regions. Where a company does not hold a VAT general taxpayer status but is merely a VAT small-sized taxpayer, the applicable VAT rate will be 3%.

VAT Exemption
With respect to the preferential policies, the existing preferential BT policies granted to the pilot industries by the State may be continued, but such preferential policies shall be abolished if the issue of double taxation can be resolved through the reform that the turnover cost can be covered by VAT credit.

Separately, Article 2.2.2 of Circular 110 provides one VAT exemption policy: "The VAT shall be collected for the import of service trade in China and the zero tax rate or tax-free system shall apply to the export of service trade."

The definition of "the export of service trade" has been clarified in Circular Cai Shui [2011] No. 131 as follows:

  1. International transportation service, R&D service and design service to overseas entity;
  2. Engineering, survey and exploration service outside China;
  3. Exhibition service outside China;
  4. Warehousing service outside China;
  5. Lease of corporeal movables outside China;
  6. The following taxable services to overseas entity:
    a. Technology transfer service, technology consulting, energy contract management service, software service, circuit design and testing service, IT system service, business process management service, trademark transfer service, IP service, logistics supportive service (excluding warehousing), attesting service; certification service and consulting service. But excluding energy contract management service with targets inside China, attesting, certification and consulting services for goods or immovable inside China.
    b. Advertisement released outside China

VAT General Taxpayer
Similar to previous VAT regimes, these Circulars provide that where a company obtains the VAT General Taxpayer Status, it can then use the general tax computation approach as below:

  • VAT payable = output VAT for the current period - input VAT for the current period
    Otherwise, as a VAT small-sized taxpayer, it shall follow the simple tax computation approach (input VAT may not be credited or deducted):
  • VAT payable = sales amount x assessable tax rate
  • Sales amount = tax-inclusive sales amount ? (1+assessable tax rate)

The qualifications for the classification of general taxpayer vs. small-sized taxpayer are:

  • A taxpayer whose annual VAT taxable sales from taxable services exceeds the threshold (RMB 5 million) prescribed by the MOF and the SAT shall be deemed a general taxpayer. Otherwise, it shall be deemed a small-sized taxpayer
  • A small sized taxpayer may request the competent taxation authority to recognise it as a general taxpayer provided that it has optimized its accounting system to enable it to provide accurate tax information

Input VAT Deductibility of Transportation Service
Under previous VAT law, the input VAT with respect to transportation expenses relating to the purchase or sales of goods or in the course of production and operation is calculated on the basis of the amount of transportation expenses indicated in settlement receipts for such expenses and deducted at a rate of 7%.

With the commencement of the pilot program on 1 January 2012, transportation companies in the pilot regions will become a VAT taxpayer and the freight settlement documents (excluding settlement documents of railway transportation costs) obtained by a pilot taxpayer from the pilot regions may not be treated as VAT credit certificates any more. This means that if the transportation company is in a pilot region, only the VAT invoices from this company will be qualified as VAT credit certificates, including both normal VAT invoice from small-sized taxpayers and general VAT invoice from general taxpayers.

Circular 111 has also announced that "the transportation services received by a pilot taxpayer from a small-scale taxpayer who is also a pilot taxpayer; their input tax shall be calculated based on the creditable rate of 7% and the sum of price and tax indicated in the VAT invoice obtained thereby". For general VAT invoices from a pilot taxpayer, the input tax amount will be the VAT disclosed in the invoice.

Under normal circumstances, a rough comparison on the turnover tax burden (BT & VAT in total) difference of a transportation entity in the pilot region is:

Total VAT & BT burden on the entity for a BT payer is greater than that of VAT small sized Taxpayer, and a general VAT Taxpayer would have the least VAT & BT burden

Taxand's Take

Due to significant differences between the Chinese BT and VAT systems, this pilot program will create uncertainty for taxpayers, particularly as no clear policy guidance is expected during the transitional period. The Chinese tax authority is aware of this and it is hoped that more detailed explanations and clarifications will be provided over the coming months. To be fully prepared taxpayers in the pilot regions should pay close attention to local updates.

Your Taxand contact for further queries is:
Kevin Wang
T. +86 21 6447 7878

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Taxand's Take Author