Indirect taxes are a main source of revenue for governments worldwide, and by whatever name they are termed (like VAT, GST, Consumption tax), they are built on the twin pillars, namely,
- Levy of tax where the product is supplied, or service is consumed, and
- Input credit of taxes paid while sourcing the products and services to avoid the cascading effect of taxes.
China introduced VAT three decades ago and implemented the same in a phased manner. A significant reform happened in 2009 when the consumption-based model was adopted, which was in line with global VAT legislation across countries. The transformations and reforms were done progressively in a phased manner by rolling out the same as pilot projects over geographic areas initially and achieving completion by 2016. VAT rates were rationalized and simplified from 2017-2019.
On 25th December 2024, the Chinese government cleared the Value Added Tax (‘VAT’) law which would become applicable effective January 1, 2026, by virtue of which, the initiative of alignment with global VAT laws is expected to be achieved resulting in a level playing field between international and domestic businesses. The implementation process along with the supporting rules and regulations are yet to be framed and would happen progressively over the course of the current year.
The Present 4 tier tax rates are being maintained, as given below:
- 13% as the standard rate of VAT;
- 09% for specific services – transport, postal services, telecommunications, water, gas, publication of books, etc.;
- 06% for specified modern services; and
- 03% for simplified calculation applicable to specific sectors like offshore oil and gas drilling.
The Chinese VAT law that would apply from 2026 gives clarity on,
- Who would be covered under VAT – “Entities and Individuals;” and
- What exactly would be covered under VAT – “Goods, Services, Intangibles, Real Estate, Imports.
Moreover, the Place of Supply for transactions happening ‘within China’ has also been given clarity, from the perspective of goods, sale/ lease of real estate/ natural resources, financial products, and intangibles/ unclassified services.
Another noteworthy point is that the consideration is defined as inclusive of monetary and non-monetary economic benefits. For the latter scenario, the market value concept has been adopted to determine the value of the consideration received. There is also an anti-tax avoidance provision that provides for the authorities to assess cases of under-invoicing (substantially low sales consideration).
Certain restrictions have been imposed on the input VAT credit eligibility of specific services that are purchased and directly used for consumption and not for taxable purposes or re-sale. These services might need to be substantiated to the authorities as relatable to business. Additionally, credits corresponding to simplified calculation methods, VAT exempt items, abnormal losses, personal consumption, etc. have been totally restricted. The scope of the input VAT credit refund system has also been expanded by bringing it as a statutory provision.
Various other key provisions relating to Mixed Sales, Composite Sales, Deemed Taxable Transactions, and Out of Scope Income form a part of the new VAT law, most of which have streamlined provisions resulting in optimum clarity in the law.
The new Chinese VAT Law establishes a more comprehensive and clearer framework of the legal provisions. In the ensuing months, businesses need to keep a close watch on the supporting rules, guidance notes, compliance related aspects, and overall implementation of the law to align their procurement, supply chain, and tax optimization strategies with the same.
#IndirectTax #VAT #ChinaVat #Taxlaw
Reference Material
https://kpmg.com/cn/en/home/insights/2024/12/china-tax-alert-10.html
https://www.china-briefing.com/news/china-passes-its-first-value-added-tax-law
