China will replace business tax with value-added tax, or VAT, from May 1 in what is seen as a major taxation reform. The move will reduce the government's tax revenue by more than 500 billion yuan ($76.99 billion), but simultaneously it will ease the tax burden of enterprises. In this sense, the tax reform shows the government is serious about helping enterprises tide over the tough economic situation and further stabilize the macroeconomy.

The replacement of business tax with VAT will eliminate multiple taxes on the same products and help the market play a more decisive role in resource distribution. The pilot program of replacing business tax with VAT will be extended to the remaining four sectors－property, construction, finance and consumer services－to cover all goods and services. VAT will be levied with different tax rates to ensure the implementation of the tax reform and ease the tax burden on various industries.

Also, real estate input tax deduction is an important part of the overall pilot reform.

Propelling the all-round pilot reform is not an easy task, however, because it involves so many industries. To push forward the reform, therefore, the national tax authority and local tax bureaus have to deepen their cooperation.

Business tax is mainly local tax in nature. For tax collection and management, however, local tax bureaus have to employ huge human, physical and financial resources. So after the pilot reform of replacing business tax with VAT, the national tax authority's workload will greatly increase, because this round of trial reform will involve more than 11 million enterprises and over 2 trillion yuan in tax revenue.

VAT collection and management, however, can become easier if local tax officials, who have abundant experiences in the field, closely cooperate with the national tax authority. After all, one of the main reasons for the tax reform is to integrate national and local taxes in order to improve tax services and reduce taxpayers' burden.

During the initial stages of the pilot reform, the newly collected VAT revenue was allocated to the local authorities, which won the support of local governments and helped promote the program. But with the all-round implementation of tax reform, this arrangement has to be changed, because it is equal to dividing the VAT revenue between the central and local authorities on the basis of classification of industries.

Owing to technological progress and the development of emerging industries, the distinctions among various industries are becoming more and more vague, which means there should be a more appropriate way of dividing the VAT revenue between the central and local governments.

In the short term, it would be more pragmatic to increase the proportion of local authorities' share in the VAT revenue if there is no fundamental reform in fiscal relations between the central and local governments. If the local government's share of the VAT revenue could increase to 50 percent from the current 25 percent, it may solve the problem of insufficient local fiscal revenue.

The all-round pilot tax reform faces challenges, but it provides a very good opportunity to the authorities to correct the errors in the tax system by, for example, establishing a normative VAT system through legislation as soon as possible.

The possible legislation should consider merging (and gradually reducing) the different tax rates into the VAT to simplify the new tax structure. In addition, the range of VAT input tax deduction should be further regulated, because neutral VAT requires only levying tax on the added value parts.

Besides, the possible VAT legislation should properly deal with tax exemptions for special industries, including finance and agriculture, in order to establish a modern VAT system.

The author is a researcher at the National Academy of Economic Strategy, Chinese Academy of Social Sciences.

Go to Forum >>0 Comment(s)