China Taxes, How Do They Stack Up Against Emerging Asia?

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Op-Ed Commentary: Chris Devonshire-Ellis

Oct. 20 – I’ve just been presenting on the tax regime throughout Asia at the CCH annual China Tax Conference being held in Shanghai. It’s the first time this event has been held in China and the response has been overwhelming. My function has been to provide an overview of the changing tax regime across Asia – a huge subject, but one that holds a great deal of interest.

Suffice to say, Asia’s tax regimes are changing fast, and it’s important to keep abreast about what is happening and where. Times are tight, and pencil sharpening, together with increasing interest in the use of special purpose vehicles, tax havens, and the application of double tax treaties are gathering ever more scrutiny from various Asian governments, and China in particular.

There are also significant tax reforms on the immediate horizon, not least with India, which is about to completely reform its entire tax code. Corporate tax in India is about to significantly drop in early 2011, while countries such as Vietnam have also undergone radical reforms. It’s not just a huge subject; it’s also immensely complicated and very much a moving target.

But to provide something for China Briefing readers as a take home from this, it’s worthwhile to take a snapshot of where China is right now and how it stacks up against the rest of Asia. The chart below is simple, and deals from left to right with the World Bank assessments of how many hours it takes in each country to file various mandatory tax forms. That’s useful as a pointer to two elements; firstly how archaic the system is (such as Pakistan) or secondly, how much increased attention to detail is now being required as governments clamp down and insist on increasing amounts of data (such as China).

The corporate tax rates apply as of today, but please note the addendum below, especially concerning India.

Finally, “other taxes” refers to the combined smaller taxes that also bite into profitability (China for example has an additional nine taxes that can impact corporate performance in the country: resource tax, land appreciation tax, real estate tax, vehicle and vessel tax, stamp duty, deed tax, customs duty, urban land use tax, and farmland use tax). The figure adds these up in each country and breaks them down into averages.

The comparison makes for fascinating reading:

*Notes

  1. In Bangladesh, a 27.5 percent corporate tax rate applies to publicly traded companies; a 37.5 corporate tax rate applies to non-publicly traded ones.
  2. In Cambodia, companies involved in oil and gas, and certain mineral exploitation activities are subject to a 30 percent corporate tax rate.
  3. In China, the standard corporate income tax rate in China is 25 percent. A special tax rate of 20 percent applies to small-scale enterprises; also a special 15 percent tax rate applies to state-encouraged new high-technology enterprises.
  4. In India, foreign companies are subject to a 45.5 percent corporate tax rate, while a 43 percent corporate tax rate applies to domestic firms and companies. However this is due to change with tax reform due next year which when passed will reduce the CIT rate to 30 percent flat, and “Other Taxes” to about 12 percent.
  5. In Malaysia, SMEs (Shares of RM.2.5 million and below) are subject to a different tax: the first RM500,000 of chargeable income of a SME is taxed at 20 percent, with the balance being taxed at 25 percent.
  6. In Nepal, companies involved in tobacco, bidi, khainy, alcohol and beer are subject to a different corporate tax rate of 25 percent.
  7. In Thailand, there are several tax rates for companies of different sizes. Companies whose net profit does not exceed Baht 0.15m are exempt; net profit over Baht 0.15m but not exceeding Baht 1m: 15 percent; net profit over Baht 1m but not exceeding Baht 3m: 25 percent; net profit exceeding Baht 3m: 30 percent.
  8. In Vietnam, businesses engaged in prospecting, exploration and mining of petroleum, gas and other rare and precious natural resources are subject to corporate rates from 32 to 50 percent.

The literal elephant in the room here is indeed India, whose reforms will have a major – and positive – impact on the amount of tax foreign investors need to pay. Essentially, what India is doing with reform is to widen the tax net to have more contributions, yet reduce it at the top end. Consequently more Indians will pay tax, but the corporate tax rate and additional taxes are set to drop substantially. This will have a major impact on FDI into India when these reforms are passed early next year.

However, such comparisons still do not tell the whole story. What isn’t included here for example are the immensely varying forms of labor related costs – which in China add up to about 40 percent of each employee’s salary – paid by the employer. In India, such amounts typically are around 10 percent. China’s may also increase. An aging workforce may mean an additional percentage point being added on here and there for increases in pensions and medical insurance. These variations make a huge difference when calculating comparisons and overhead liabilities.

Individual income tax can also become part of a corporate liability in terms of having certain mandatory corporate payments being linked to the employee salary. Plus IIT itself varies tremendously across the region. In China the top range is at 45 percent, in India it is about to become 30 percent, and in Vietnam it is 35 per cent. Again, comparisons need to be made. How much money can be put into employees pockets and at what cost to the company is a key issue for attracting and retaining quality staff. Some tax regimes are rather more attractive at this than others.

VAT is another issue that can greatly impact upon performance. All countries tend to adopt a band of VAT for varying products, yet with one prominent “catch all” rate that applies to most products. In China that is generally 17 percent, In India what will become goods and service tax (GST) is expected to be about the same, while in Vietnam, the general rate is 10 percent. Countries also are getting smarter at applying taxes to either punish or to encourage specific industries. Export duties in Vietnam for example are only levied on a very few products, for pretty much everything else it’s zero rated. That’s a great deal, and demonstrates the increasing desire of the Vietnamese to compete with neighboring China for part of its export manufacturing industry. Vietnam also becomes attractive when considering dividends tax – it levies zero, while for India levies 15 percent and China 10 percent.

The latter tax however is also influenced by double tax treaty agreements. China’s DTA with Singapore for example reduces that specific burden by half. Indeed, all of the countries featured have extensive – and growing – DTA agreements and these can impact greatly upon profitability and even where to locate a physical presence in Asia.

China actually comes out of the direct tax comparison rather well, the trick however when assessing the true China cost is to factor in welfare payments, which are a direct cost, and dividend taxes, which may be offset in full or in part by a DTA. The extent of VAT and how much is reclaimable is also a variable that should be calculated.

While the table above may be a useful starting point, tax planning in China and Asia is a complex affair, and attention to detail needs to be put into place. In essence then, the boxes to check when assessing the complexities of tax comparisons are as follows:

  • What are the current direct taxes applicable?
  • What are the current indirect taxes applicable (stamp duties, customs duties, land use etc.)?
  • Are these to be subject to major reform in the short term (such as India)?
  • What are the individual income tax rates and how does this impact?
  • What are the labor costs in terms of mandatory payments (pensions, unemployment, insurance etc., usually calculated as a percentage of salary)?
  • What is the VAT rate and how much is reclaimable upon export?
  • Does any withholding tax apply if trading from overseas?
  • Are there dividend taxes due upon repatriation?
  • What DTA can be utilized to offset some of the liabilities?

As Asia becomes increasingly attractive for foreign investors, and indeed for the shifting of some industry around the region, these issues need to be addressed. Governments throughout the region are waxing and waning between tax friendliness and increasing scrutiny, and investors involved in the region should take stock, make use of the check list, and above all refer to sound professional advice with multi-jurisdictional expertise to assess the optimum solution to the tax questions that arise when considering investment into China, India, Vietnam or anywhere else in emerging Asia.

Chris Devonshire-Ellis is the principal and founding partner of Dezan Shira & Associates, establishing the firm’s China practice in 1992. The firm now has 10 offices in China. For advice over China strategy, trade, investment, legal and tax matters please contact the firm at info@dezshira.com. The firm’s brochure may be downloaded here. Chris also contributes to India Briefing, Vietnam Briefing, Asia Briefing and 2point6billion.com.

The practice also provides a series of foreign direct investment publications concerning China, India and Vietnam, and specific tax detail on each through a subsidiary publishing house. Please visit the Asia Briefing Bookstore to browse regional magazines and books as pertinent.

Related Reading
The Asia Comparator

(14 Asian cities prices, costs and wages examined and compared – US$10)

China-India Investment, Tax and Trade Comparison

(complimentary download)

The China Tax Guide

(fourth edition, updated for 2010 – US$25 hard copy; US$40 PDF)

New India Tax Code to Provide Incentives for Investment

India to Keep SEZ Tax Exemptions Until 2014

7 Responses

  • Bryan says:

    Again, very useful material. China has grown and is pulling/pushing Asia with it and how the different tax intellects and political systems deal with it is a major issue for China and Asia investors. More on this subject please!

  • Chris says:

    Chris

    Great analysis and solid comparisons. In particular, the fact the you pulled out the ‘tax’ on labour in the form of social insurance costs for separate analysis and discussion was most astute.

    Given the 34-44% (depending on locality) on-cost for employers, and the 20% deduction for employees, (ie a total of 54-64% of the salary bill) to pay for social insurances, China has extraordinary taxes on the cost of labour. In the past, particularly for local enterprises, these were not strictly enforced and local companies devised a wide variety of means on not paying.

    Since the implementation of the revised Labour Law in early 2008, these are now strictly enforced and the illegal means to evade them are subject to a massive crackdown.

    With salaries for lower paid employees having increased by 200-300% times within 3 years, plus the increasing requirements for compliances with social insurance on-costs, China salary bills are inflating very, very rapidly.

    Particularly frustrating is that Chinese employees in no way see social insurances as a benefit, they see it as a tax from which they will personally derive no positive result (with the exception perhaps of the housing fund). For pensions, health, unemployment insurance etc., employees generally regard these as unlikely to be claimable or resyult in payouts adequate to meet their related costs. These funds are not indexed and are generally footing the massive welfare bills of current retired public sector workers for whom the Govt never made any contribution.

    China is rapidly becoming a very expensive place to do business and to employ staff. The tax rates, which are very strictly applied, tell only a small part of the story.

  • Chris Devonshire-Ellis says:

    Thanks guys – we will be expanding on this subject in far more detail shortly. Cost of labor is a very important issue as are the increasing amounts of indirect taxes, especially service dutiable items such as trademarks, and China is becoming more expensive in this regard.

    Another issue to watch will be the explosion of FDI into India once the Parliament approve the new Direct Tax Code which reduces CIT to 30% from the current 45% and additionally reduces indirect taxes and IIT. India will see a massive rise in FDI next year.

    Details on India developments on our sister India website at http://www.india-briefing.com/news.

    Thanks – Chris

  • Mark says:

    The social insurances are a particular burden on my company in China, and these costs were/are actually causing us to reconsider a lot of our low-skilled employment places in China.

    Having said this, I don’t want to see the regulations rescinded, they are of huge importance and benefit to lower skilled workers in China, but it does make it difficult to justify certain labour costs as a foreign company in China.

  • Chris says:

    Mark, I suspect your skilled workers would prefer to see more cash in the form of salary rather than rather abstract social insurances that are unlikely to be of personal benefit to them. Those social insurances are paying the welfare, retirement and medical costs of already retired former public sector employees. By the time your staff get around to retiring, the demographic cupboard will be empty and they will have to fund their own retirement and medical expenses.

    My staff overwhelmingly prefer higher salaries and cash now that can deal with their immediate costs and needs. They view social insurance payments (with the exception of housing fund) as a tax, not a benefit.

  • Steve Carey says:

    Chris a timely and well thought out piece. I’m very pleased to see the level of professionalism still extant on your long running site. Tax is the driver of course behind any investment (although lawyers always pretend it’s the legal structure, its the money that counts, which is why we have the Big 4 accountants but no massive global law firm). Tax is the driver, and you’ve highlighted the most important aspects – indirect taxes and labor costs. I feel importantly your comment “How much money can be put into employees pockets and at what cost to the company is a key issue for attracting and retaining quality staff.” was right on the nail and a vital aspect of business development. Too many people think China (or elsewhere) is just cheap labor. It can be – but it is also about retention and quality. I’ll be most interested to read your observations on these matters and please to continue your excellent series of China investment, strategy, legal and tax updates.

  • Chris Devonshire-Ellis says:

    As mentioned, we’ll be making more comparisons between China and other regional markets. I believe it’s not enough now to be soley a China businessman or investor. That was ten years ago. Now one needs to be an Asia businessman and investor. That is today, and where the future lies.
    A useful comparison between how Shanghai and Mumbai stock exchanges have each performed the past ten years is here: http://www.2point6billion.com/news/2010/10/22/india-the-better-newer-china-for-ipos-7704.html

    The China bulls might be in for a shock as to actually how far they’ve lagged behind. It’s all about Asia now, and China being part of a bigger picture and not just about it as an economy in its own right. Concentrate purely on China at your peril. Thanks – Chris

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