A new tax revolution

Exactly one year after changes to the PRC Enterprises Income Tax Law (中华人民共和国企业所得税法)¹, the PRC launches a second round of tax reforms on January 1 2009, targeting value-added tax (VAT) payers. This is revolutionary, not only because it is the first VAT reform since 1994, but also because it shows the government's aim of shifting the economy away from capital intensive fixed-assets to a consumer-driven economic market. The government intends to shape the country into a high valued-added goods region rather than one that is well-known for its cheap, low valued-added products.

    To do that, regulators must design rules that can encourage enterprises to expand domestic consumption and upgrade their technology. The revised PRC Tentative Regulations on Value-added Tax (中华人民共和国增值税暂行条例) promulgated on November 10 2008 serve the purpose. By transforming the tax system from production-based to consumption-based, the rules provide more tax benefits for some VAT payers on fixed-asset purchases, giving them more incentives to upgrade machinery.

    Under the production-based system, VAT can only be recovered through the depreciation of fixed-assets, which can take as long as 10 years. Companies thus have fewer incentives to upgrade their technology. After the reform, all general VAT payers, regardless of their locations or industries, will be allowed to credit the input VAT for newly-purchased equipment against their output VAT. For small VAT payers, their rate will be reduced from 4% (for commercial enterprises) or 6% (for manufacturing and other enterprises) to 3%.