Legal News

China’s New VAT Tax Refund Policy

China VAT taxes

China assesses a Value Added Tax (VAT) on nearly all of its products. This tax is typically 17%. Up until July 1, 2007, China would rebate some or all of its Value Added Tax (VAT) on nearly all export products. China did this to encourage the production of products for export.

However, on July 1, China cancelled its Value Added Tax (VAT) rebates on 500+ products, reduced its VAT rebates on another 2,000+ products and exempted VAT charges on about 10 products. These changes mean the sourcing costs on many products from China have just gone up by as much as 17%.

Very briefly, the Chinese government is using VAT rebates to discourage manufacturing of low-end, high energy consumption, high polluting goods and to encourage the export of high value added, high end goods. Certain high tech products, bio-medical products and highly processed agricultural products actually had their rebates increased.

As one might expect, the Big Four Accounting Firms Click here [link no longer exists] for PriceWaterhouse’s take and here [link no longer exists] for Ernst & Young’s.

The Western media has been surprisingly quiet on this whole thing and corporate America has also said very little. Is it because Western companies will be so little affected by the changes? Is it because the changes came so quickly and with so little warning Western companies have had too little time to react?

What do you think?

19 responses to “China’s New VAT Tax Refund Policy”

  1. Dan,
    This is something I covered a month ago on All Roads, and have continued to cover.
    Most of the products (if you refer to the sheet I posted last month) were actually previously at 13% (On the whole, only hi tech goods have enjoyed the 17% since the reduction last year) and slipped either to 8% or to zero and in general there are three scenarios of what may happen:
    1) If the worldwide balance of goods made for a particular category are made in China, then you will actually see a rise in deficits as manufacturers raise their prices to reflect the adjustment (some manufacturers lost 13%)
    2) If the worldwide balance of goods is mixed to where goods made in China do not have a controlling stake, then the goods made in China stand to lose market share if they raise prices.. This is the desired outcome in D.C.
    3) Loopholes are exploited (i.e. HS reclassifications occur by adding some product here, disassembling there) to where VAT rebates are maximized and not pricing change occurs in the short term.
    Either way, if you were to look at All Roads, you would have seen that the Shanghai Port was a mess in anticipation of the July 1 change.
    VAT rebates being reduced to zero is a discussion we have been having for 18 months in Shanghai, and my bet is that next year you will see a complete removal for anything currently at 8% and a reduction of anything at 13% to 8% as it is sound trade policy that does not rock the macro boat
    As for why no one picked up on it, there are two reasons: (1) It is in no one’s political interest to pick it up and (2) The safety issue is red hot.

  2. Macro aspects notwithstanding, two of my Chinese clients are already renegotiating with US buyers, because this “readjustment” of rebates is another unpleasant cost/elimination of profit, on top of rising materials and labor costs. Neither sellers nor buyers are smiling. Plenty of pain on both sides. Prices may rise in the short-term.
    Perhaps D.C. will smile, as it keeps BJ on its toes. However, that smile may get wiped off more quickly than D.C. predicts. Chinese manufacturers/trading companies will continue their examination of third-country locations with more beneficial cost structures. The momentum gained by Greater China is already awesome, as (mainland) Chinese join the HK and TW traders and factory owners who have already earned several decades of huge “market share” in terms of marketing, manufacturing and administrative expertise. Just as US, Japanese and European companies moved into offshore production in the past, G.C. may gradually continue their move in that direction, only strengthening their existing and evolving capabilities. Query whether, as the Chinese domestic market itself expands, with its own attendant growing demands for goods and services, G.C.’s growing offshore production isn’t a more effective method for servicing the world markets, balancing foreign policy aims, and still keeping the massive Chinese workforce as occupied as possible. In fact, does G.C. really have any viable alternative but to expand globally? I think not.

  3. “These changes mean the sourcing costs on many products from China have just gone up by as much as 17%.”
    Sorry, this is not an accurate assumption to make. Just because a supplier is missing a 17% rebate does not mean that it’s going to get it from its customer.

  4. All Roads —
    I saw your extensive coverage on this and I liked it, but it mostly dealt with what was coming and what companies needed to do to get product out before it came. Now that it is here, what’s the impact?
    I think it is getting so little coverage because so few people find taxes (much less VAT taxes, which no American fully understands anyway) all that interesting. But I do think you are right about the safety issue coming to the fore. I have gotten more media calls on that in the last few weeks than on anything else in the last few years. It is crazy.
    I do not see the rebates disappearing entirely so quickly. My sense is that Beijing likes them too much as an easy way to promote or discourage particular industries. If they were going to eliminate them entirely, why did they increase them on certain items?

  5. Todd Platek —
    I agree with you on there being few places other than China to go, particularly in the short term. Call me Chicago school, but I have never understood why the United States does not want China subsidizing our imports with their lower taxes, etc. This is only going to hurt the American consumer in the long run.

  6. ToH —
    Yes it does! I did not say the price to the consumer will go up 17%, just that the cost to the company sourcing from China will “go up by as much as 17%.” I do not see how you can contend otherwise.

  7. Dan,
    The rebates are gone. There were a few items that if you shipped by th 27th you can still get at the higher percentage.. but for those categories, that is it.
    There are a few reasons for this move:
    1) By increasing the costs in these categories, they hope to discourage further investment (a number of the underlying industries are at risk of serious over capacity if things slow down).
    2) The VAT rebate is a surgical tool that is intended to slow down the export (as costs in China rise above those in other areas) by removing the high volume of these low value goods being exported.
    3) The targeted categories are often energy intensive, and with power outages in the south, projected shortfalls in other areas, and just a general need to stop burning so much coal, they are looking at both sides (supply and demand) of the energy equation.
    As to why they raised other categories to 17%, it is simple. They are encouraging investment in these areas. If you look at the classifications, you will see that all these goods have a high degree of value add, and by encouraging investment in these areas China is holding to move up to the next rung.
    Separate by related, while speaking to a number of parks lately, VAT is not the only tool that has seen improvement for High tech. The arks themselves are offering much better incentives for these investments.
    In terms of impact:
    1) Short term -you can see the pictures of the port on All Roads. It was a mess, and the port was partially shut for 3 days. People are now trying to find the loopholes.
    2) Mid term – Some will find loopholes to exploit until the cat catches up with the mouse. If a manufacturer is lucky enough to hold a commanding share of the market, they will raise prices to reflect their higher COGS, but if they are manufacturing in a market where there is a lot of U.S. based competition, their margins are going to be squeezed. some companies will look towards inner China to reduce other costs and will net out that way.
    3) Long term – the hope is that things slow down. New investment does seem to be slowing down in some areas, and it will take time for trade to reflect the change as manufacturing cycles need to complete… but the reduction of VAT is a strong move towards maturing the economy.
    for me personally, I doubt I will see many of the stamping and basic materials deals I used to see often. They were already low margin, and as one of my customers told me last night… we are now more expensive then U.S. manufacturers (Did I just hear corks pop?).
    If you want more… you know where to find me.

  8. “Chinese manufacturers/trading companies will continue their examination of third-country locations with more beneficial cost structures.”
    The Chinese model of outsourcing is to bring in Chinese laborers (just look at Africa). More than a few Chinese companies have had a taste of labor regs and local laws that they did not like and that they could not manipulate (S. American mining and steel comes to mind).
    Chinese laborers can be “cost controlled” as well as kept on their little campuses where they don’t go out and get big ideas about organizing and protesting.
    Even outsourced food production is done this way, Chinese rice producers have bought land in Central America and sent chinese workers to do the labor. All the locals can do is watch from behind a chain link fence.
    This strategy is creating a huge problem for China as governments want their people to be employed, not just looking a new soccer stadium or flooded with subsidized cheap goods (from China).
    “but I have never understood why the United States does not want China subsidizing our imports with their lower taxes, etc. This is only going to hurt the American consumer in the long run.”
    Dan, the American consumer has been living a pipe dream for the past 10 years. There is a high cost to low price. Whether that be national security through sustainable economics, handovers of sensitive technology or dangerous imports.

  9. I think the main political factor involved is to make Washington happy, and the secondary factor is to redirect growth from the coasts to the interior. Having Beijing effectively raise tariffs by 17% is going to cool down calls for protectionism in Congress and do a lot to remove China as an issue in the 2008 Presidental election, and does it in a way that keeps Beijing in greater control of the situation and makes sure that the proceeds from the tax goes to Beijing rather than to Washington, and keeping the money in China makes it available to cool off their critics of globalization.
    I don’t think this is going to have a huge impact in trade since a +/- 20% fluctuation is the type of thing that you’d see in other situations. This may be why corporate America is quiet. They’ve already factored into a 20% increase in prices as an acceptable risk, and there is no way I can see of spinning the story that I can see that would create any sort of public outrage either in the US or China (which frankly is why people go to the media.) In fact, going to the media would likely cause a backlash (i.e. “Special tax breaks for foreign companies” in China, “Corporate welfare makes you lose *your* job” in the US.)
    As far as winners or losers. One of the (I think good) effects of globalization is that the side you are on can no longer be specified in national terms. Some people in the US will make money from this policy. Some people in the US will lose money. Same in China. This is good I think because it means that the arguments are not going to be between the US and China but rather between A, B, and C in the US and China and D, E, and F in the US and China. The major economic issue that divides people within the Communist Party in China is precisely the same one that divides people within the US Congress.
    What gives political systems some stability is the knowledge that coalitions shift on different issues, and your most bitter opponent on issue A could be your most valuable ally on issue B.

  10. All Roads —
    Not all of the rebates are gone and you keep talking theoretically how this change in rebates might affect manufacturers and what I want to know is how they are affecting them right now. The bit about the ports getting jammed got decent press and the potential ramifications of all this have been dissected ad nauseum already by the Big Four. But what I really want to know is why are none of the affected companies saying much about it and what do they have to say. Maybe it is just too early.

  11. CLB –
    I understand the reasoning when you suggest that sourcing costs will go up “by as much as 17%” – that is, I understand the logic behind the statement – but it suggests a lack of experience in import/export. When a supplier is hit with a sudden cost increase, only in a rare case would the supplier succeed in passing along all of those costs to the customer.
    I mean, what you are suggesting implies that the supplier’s profit margin is “fixed” over time, and that no matter what bad thing comes along the supplier still enjoys that fixed profit margin. I can understand how a lawyer might imagine things working in this fashion, but it simply doesn’t.
    Whether it’s currency appreciation, or rising cost of raw materials – we have had many instances like these in China recently – when the supplier suffers an increase in cost, he is rarely ever able to foist all of that burden onto the customer (they will try, I will give them that!).
    In other words, both supplier and buyer suffer in an event such as the recent cancellation of tax rebates. How much each party suffers depends on the negotiation strength of the various parties involved.
    I will go out on a limb here and say that in NO case that I can think of would a supplier manage to pass on the entire effect of that tax rebate cancellation. Recent negotiations I have held support the notion anyway.
    You were correct in noting that the cancellation of the tax rebate might have the effect of raising costs to those involved in sourcing. You only went too far by suggesting that the burden would fall entirely on the buyer. Only the rookiest of rookies, those small companies in the weakest of positions, would suffer such a fate.
    I appreciate your blogging efforts. Good value for the money as it were. Hope I’m not coming off the wrong way here.

  12. Dan,
    You are taking me out of context. For the announced categories, there is no turning back the clock. the VAT will change (good or bad).
    The policy was put in place, and those companies that shipped out after the first (except for a few exceptions) will be affected… unless they can re-categorize or are exporting one of the products that was temporarily exempted (ship date by July 27th).
    For those that did not plan ahead, and did not factor in the VAT reduction, and did not ship before the first…they lost between 5~13% ( I have yet to see any category go from 17% to zero).
    Long term, it is too early to tell what the real changes will be (I showed several of the possibilities above). It depends on the saturation of Chinese goods in the market, and what ability there is for the China based manufacturer to either absorb or pass on the increases.
    As for why the U.S. gov’t didn’t throw a VAT reduction party. It is simple. (1) Any change in the VAT is NOT a change in the RMB and (2) they are probably waiting for the results just like we are…

  13. CLB –
    I strongly believe that price increases are directly correlated to a customer’s weakness in negotiation relative to supplier.
    There will be differences among industries.
    My own company’s experiences these past few weeks suggest a softer impact than any 8-10% increase might suggest.
    We just worked out one order where we suffered no price increase at all.
    It has everything to do with being in a stronger position (and in this case being a part of an industry where players are enjoying healthy margins).

  14. This was mentioned in the Financial Times in June:
    Thats where I read about it, but its interesting to hear what you think the effects will be.

  15. Interesting and somewhat emotionally charged post depending where you are in the supply chain.
    My (limited) experience tells me that the rebate was always worked into the selling price as extra margin for domestic exporters. I agree with ToH when he suggests that a buyers ability to negotiate price has more to do with rebate impact than the actual rebate itself.
    Savvy buyers who helped suppliers engineer cost effective manufacturing processes gave both themselves and their supplier value in terms of margin.
    I also see this issue linked strongly to the dollar value. Certain sourcing companies offer fixed rate exchanges over a given period in order to win business. depending on how good you are at forecasting FC you either win or lose margin.
    You have to be good at managing ahead in terms of risk exposure in the buying and selling game and whilst the VAT issue is “an” issue it can’t be taken in isolation. Anyone doing this is treading a dangerous path.
    We all know that exporters declare the value of the goods at greater than the actual value: that is to say the customs export commercial invoice has a greater value than the commercial invoice the customer sees. Exporters have been playing this game to get a bigger rebate forever. In the freight business it is SOP!
    I guess what I am trying to say is that this impact can be managed if you look after your total supply chain correctly. It is the “traders” that will get hurt rather than those companies who have a good handle on import export risk and total cost of supply chain.

  16. China VAT: Survey Says….
    I was going to ask whether I am the only person with an IQ over 80 who still hears Richard Dawson (from Family Feud) every time I discuss survey results, but a quick search revealed others apparently suffer from this same affliction. But I digress. Exa…

  17. I am a importer from china and would like get benifit on china export refund – kindly advise how i get assistance independitely from local trading company

  18. Dedar Shaid,
    You can not benifit from the rebate. The exporter swallows it.
    The exporter will ask the manufacturer to add 17% on the invoice value as VAT, so that he can claim the rebate or refund.
    In short you pay it, and the exporting company cash it

  19. I just want to know the ways how to get refund for VAT from China. Actually our company is foreign company (not in china) and make a new project at China. At there, we have to buy some goods for that project and we suffered the tax rate of 17% VAT. But the income is earned not in China. And also we cann’t claim that input tax in our country. So i wanna know about the ways that can solve this problem. Thanks!

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