China has temporarily halved income tax on dividends earned by individual investors, the Ministry of Finance announced Monday, in a joint effort with other government departments to "add life" to the stock market.

The benchmark Shanghai Composite Index opened 2.32 points lower yesterday than the previous close on Friday, dipping another 2 percent in the morning.

Shares rebounded after the tax reduction announcement just before the close of noon trading, and finally ended 0.18 percent down.

The ministry also unveiled moves to temporarily suspend corporate or personal income tax or stamp duties on compensation by non-tradable shareholders to tradable shareholders.

China is now in the process of a share structure reform to float non-tradable shares. As a result of the planned economy, two-thirds of China's shares are in the hands of state or legal bodies and are not negotiable.

These non-tradable shares are immune to market fluctuations, while the small number of tradable shareholders have to shoulder all the market risks.

Non-tradable shareholders have to make compensation in the form of shares or money to tradable shareholders when listed firms engage in non-tradable shares sales.

On Friday, a reform proposal by computer service provider Tsinghua Tongfang Corporation failed to pass a general shareholders' meeting because it could not garner the required two-thirds of tradable shareholders' votes.

The proposal of machinery manufacturer Sany Heavy Industries Co. Ltd., on the other hand, was accepted.

More listed firms will be selected to take part in the share structure reform very soon.

This latest tax adjustment will help push forward reform by looking after the interests of the public shareholders, said Jiang Wen, a veteran trader in Beijing.

Small investors will be encouraged to support the experiment when their interests are secured, he said.

The original income tax rate on dividends is 20 percent and about 2.6 billion yuan (US$314 million) in taxes will be saved for the public investors.

The tax cut came on the heels of a series of moves unveiled by other regulators.

At the weekend, the China Securities Regulatory Commission (CSRC) issued a draft circular allowing the original non-tradable shareholders to buy tradable shares two months after all the listed firms' shares are floated.

"This is to avoid irrational price fluctuations, take care of investors' interests and maintain the listed firms' image," said the circular, which is now under discussion.

Further, four A-share companies were given the go-ahead to circulate nontradable shares last month. The pioneering four are machinery maker Sany Heavy Industries Co. Ltd., computer service provider Tsinghua Tongfang Co. Ltd., packaging materials manufacturer Shanghai Zi Jiang Enterprise Group Co. Ltd. and coal and cement producer Hebei Jinniu Energy Resources Co. Ltd.

Although the non-tradable shareholders of these first four pilot firms have promised not to sell their shares within a certain period of time, market uncertainties might lead to small investors dumping theirs. The price might then slump sharply even under its real value, according to Dong Chen, a senior analyst from China Securities.

Allowing the controlling shareholders to buy stocks from the market will help secure the real value of the company's shares and keep a stable market, he said.

When put into effect, this move will encourage the big state-owned enterprises (SOEs) to take part in the non-tradable share sale reform.

Many big SOEs are reluctant to undertake the reform for fear that the market will vaporize due to irrational price fluctuations when all shares are floated. But the move will offer the big shareholders an opportunity to stem the irrational market changes, Dong added.

When the share price is below its real value, the original non-tradable shareholders can buy back the shares and prevent the price from dipping lower, he explained.

But the relevant legal terms and regulations should be carried out to avoid speculation, said Xue Jirui, an analyst at CITIC Securities.

(China Daily June 14, 2005)