China’s tax authorities have introduced a new policy that offers an extra 5 percent deduction on value-added tax (VAT) for advanced manufacturing, based on their deductible input VAT for the ongoing tax period. Analysts estimate that this fresh initiative may result in a substantial 20 percent reduction in tax obligations for qualifying businesses. Here, we outline the criteria and steps for implementing this recently introduced VAT policy in China.
On September 3, 2023, China’s State Tax Administration (STA) unveiled a fresh tax deduction initiative aimed at companies operating in the advanced manufacturing sector. This newly introduced policy is set to be enforced from January 1, 2023, through December 31, 2027.
Tian Zhiwei, Deputy Director of the Institute of Public Policy and Governance at Shanghai University of Finance and Economics, informed Yicai that this policy effectively translates to a substantial reduction of approximately 20 percent in the VAT burden for eligible companies.
In recent months, China’s tax authorities have diligently expanded and prolonged a suite of favorable tax policies benefiting both corporations and individuals. These measures have been implemented to alleviate the tax load and invigorate economic growth. Notable initiatives include elevating the standards for special additional deductions under the Individual Income Tax (IIT), extending IIT benefits for foreign individuals until 2027, broadening the pre-tax super deduction for research and development expenditures, and granting VAT exemptions to small-scale taxpayers.
So, which companies qualify for this additional VAT deduction in China?
The new policy extends to companies certified as high and new technology enterprises, including their branch companies that lack legal entity status. Eligible companies must also be involved in manufacturing and registered as general taxpayers, which implies they have annual taxable sales exceeding RMB 5 million or approximately US$680,827.
It’s worth noting that China already has a similar additional VAT deduction policy in place for companies operating within the service industry.
The term “high and new technology enterprises” is precisely defined in accordance with the “Administrative Measures for the Recognition of High-Tech Enterprises,” which were released in 2016. According to these measures, high and new technology enterprises are described as “resident enterprises registered in China (excluding Hong Kong, Macao, and Taiwan) that engage in research and development, transform technological achievements to establish the core independent intellectual property rights of the enterprise, and conduct business activities based on this foundation, within the list of High-tech Fields Supported by the State.”
The announcement specifies that the definitive list of advanced manufacturing companies eligible for this deduction will be determined by the respective provincial, regional, or municipal departments responsible for industrial and information technology.
How is the additional deduction calculated under this policy?
In China, companies are entitled to deductions for specific types of input VAT against their output VAT. This includes the VAT amount indicated on special VAT invoices received from suppliers and the special tax payment receipts for customs import VAT obtained from customs authorities, among others.
General taxpayers determine their VAT liability by deducting the input VAT for the current period from the output VAT for the same period.
Under the new policy, eligible companies can calculate the additional deduction by taking 5 percent of the deductible input VAT for the current period.
It’s important to note that input VAT that cannot be deducted in accordance with existing regulations cannot be considered when calculating the additional deduction amount. Additionally, any previously calculated additional deduction for input VAT that has been transferred must be correspondingly reduced in the period when the input VAT is transferred.
Upon calculating the pre-deduction payable VAT, companies may apply the additional deduction as follows:
1. If the pre-deduction payable VAT amounts to zero, the entire additional deductible VAT for the current period (in contrast to standard deductibles) can be carried forward to the subsequent period.
2. In cases where the pre-deduction payable VAT exceeds zero and surpasses the additional deductible VAT for the current period, the entire additional deductible VAT for the current period can be subtracted from the pre-deduction payable VAT, effectively reducing it to zero.
3. Should the pre-deduction payable VAT be greater than zero but equal to or less than the current period’s additional deductible VAT, the additional deductible VAT for the current period is applied to offset the pre-deduction payable VAT, reducing it to zero. Any remaining portion of the additional deductible VAT for the current period can be carried forward and used as a deduction in the subsequent period.
Companies are encouraged to compute and document any qualified but previously unaccounted-for additional deductible VAT in the same period when the applicable additional deduction policy becomes effective.
Please be aware that the additional VAT deduction policy does not extend to the export of goods, labor services, or cross-border taxable activities carried out by a taxpayer.
For companies that engage in both the export of goods and services as well as cross-border taxable activities and for which the input VAT cannot be distinctly separated for the purpose of additional deduction, the following formula should be employed to determine the input VAT ineligible for additional deduction:
Input VAT not eligible for additional deduction =
Total input VAT for the current period that cannot be segregated ×
Revenue generated from the export of goods, services, and cross-border taxable activities for the current period ÷
Total revenue for the current period
Is it possible to combine this policy with other additional VAT deduction policies?
No, businesses that meet the criteria for multiple additional VAT deduction policies can opt for the one that provides the greatest benefit to them; however, they cannot apply multiple policies simultaneously within the same period.