China to Roll Back Local Tax Incentives for Foreign Investors

In December last year, the Chinese government released a circular that requires all the local governments to roll back their regional tax incentives (including subsidies and discounted land and utility fees) for foreign companies. The circular further stipulates that local governments are no longer allowed to offer regional tax incentives or preferential land policies without permission from the State Council. Any changes to the tax rates must be enacted in a law promulgated by the National People’s Congress(NPC). All the local governments and relevant departments need to report to the Ministry of Finance (MOF) with the detailed overviews of the preferential policies by the end of March 2015.

Currently, foreign enterprises including Foxconn, the world’s largest electronics manufacturer, are negotiating with local governments to keep previously promised subsidies. China’s Minister of Finance Lou Jiwei stated that the move is made to create a fair market and investment environment for both domestic and foreign enterprises. Local governments are thus urged to improve their city infrastructures and provide investors with better services. Another possible reason for the disappearing incentives, however, might be that China is now facing a slowdown in tax revenues and massive local debt, along with a slower economic growth. With the uncertainty of local incentives, foreign investors are suggested to review all the contracts signed by local government officials and reconsider the right location for their business.

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During the last three decades, foreigners were drawn to China because of various tax incentives and fiscal support provided by the Chinese government. Specifically, foreign companies that engaged in manufacturing industry and have their offices established in China’s Special Economic Zones including Shenzhen, Zhuhai and Xiamen used to pay the corporate income tax (CIT) at a reduced rate of 15 percent (10 percent for eligible exporters); foreign companies that are established in China’s remote areas were given a temporary exemption from tax payment. Apart from these, five-year CIT breaks, 100 percent CIT refund for reinvestment of profits, and the exemption of withholding tax on dividends remitted abroad have long served as the driving force of foreign investment in the country. Panasonic, together with Coca-Cola and Boeing, came to China in 1979 as the pioneers in Chinese market. This was followed to great success by numerous foreign companies such as Microsoft, Starbucks and KFC.

However, with a new Corporate Income Tax Law released in 2008, China implemented a uniform 25 percent CIT rate for both domestic and foreign companies. Meanwhile, all types of preferential land policies were abolished. As a result, local governments rolled out their regional tax incentives exclusively for foreign investors to retain foreign investment in their areas for GDP growth.

Companies doing business in China are subject to numerous taxes, including a CIT at 25 percent and a withholding tax on dividends, interest and royalties, all of which are 10 percent. They are also subject to a value added tax (VAT) of between 13 and 17 percent and a business tax (BT) of between three and five percent on companies. At the start of 2012 however, China launched a massive reform to replace BT with VAT, which is expected to eliminate the risk of double taxation and reduce the tax burden for companies.

This article was first published on China Briefing.

Since its establishment in 1992, Dezan Shira & Associates has been guiding foreign clients through Asia’s complex regulatory environment and assisting them with all aspects of legal, accounting, tax, internal control, HR, payroll and audit matters. As a full-service consultancy with operational offices across China, Hong Kong, India and emerging ASEAN, we are your reliable partner for business expansion in this region and beyond.

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