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China: VAT legislative proposals covered in draft consultation

China: VAT legislative proposals

China’s Ministry of Finance and State Taxation Administration on 27 November 2019 jointly issued a draft consultation paper concerning the value added tax (VAT) law.


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The issuance of the draft consultation paper for the VAT legislation is an initial step in the process of elevating the status of the VAT rules in China to a legislative format, and harmonizing the rules for both goods and services. The proposed VAT legislation would also move towards implementing more of the OECD’s international VAT/GST guidelines, in particular, in determining that VAT only applies when the consumption takes place in China and in allowing for refunds of excess input VAT credits.

The consultation process for the VAT legislation is open until 26 December 2019, after which time it is expected that the draft VAT law ultimately would be considered and approved by the National People’s Congress. The effective date for the VAT law changes is not stated, but it is expected to be submitted to the National People’s Congress in early 2020, after which draft implementation laws could also be prepared.


Since 1994, there have been regulations and implementing regulations in China to govern the application of VAT to the sale and importation of goods (and limited services). At the time, China had a separate business tax system that was applicable to most services.

As a result of a VAT pilot program (from 2012 through to 2016), the business tax system was progressively replaced by a VAT regime. This replacement was accomplished through a series of circulars jointly issued by the tax authorities—including Circular Caishui [2016] No. 36. China’s bifurcated approach of having one set of regulations applicable to goods, and separate circulars applicable to services resulted in practical challenges including uncertainties as to the scope of each set of rules, occasional inconsistencies, and a general lack of harmonization.

The introduction of a VAT law is intended to overcome the different systems for goods and for services and to elevate the treatment or rules to that of a legislative instrument. As such, it is expected to be a more robust system of rule of law—one that would be more comprehensive and that would provide a better foundation upon which to interact with other legislative instruments (such as those governing taxation administration and collection).

Draft VAT law

According to the consultation paper, the proposed VAT law would adopt the following structure:

  • Introduction 
  • Taxpayer and withholding agent
  • Taxable transactions
  • Tax rates and levy rates
  • Taxable amounts
  • Tax incentives (e.g., exemptions)
  • Time of supply and place of tax payment
  • Tax collection and administration
  • Supplementary notes

Summary of changes

An issue in considering the draft VAT law is the extent to which it would make substantive changes (compared with the previous regulations that apply mainly for goods) and circulars (for goods and services). While significant changes are unlikely to occur until such time as the implementing laws are issued, there are certain variations to the existing approaches such as:

Current VAT treatment

Key changes observed

Small-scale VAT taxpayers

Under the existing VAT rules, taxpayers below the registration threshold as general VAT taxpayers are required to account for output VAT at the rate of 3% (unless voluntarily electing to register as a general VAT taxpayer), though without any entitlement to claim input VAT credits.

The draft VAT law notably would omit any reference to small-scale VAT taxpayers. However, the draft VAT law would refer to the 3% VAT levy rate, which may suggest it could be covered later. It also would repeal the 5% levy rate.

Scope of taxable activities

Under the existing VAT rules, taxable activities refer to the sale and importation of goods, sales of services, sales of immoveable properties and intangible assets. The sale or trading of financial products is not separately referred to and is generally considered as a type of service.

The draft VAT law would define taxable activities (that are potentially subject to VAT) so as to specifically refer to the sale and importation of goods, sales of services, sales of immoveable properties, sales of intangible assets, and sales of financial products.

“Sales of financial products” would only fall within scope of VAT when the seller is a domestic entity, or the financial products are listed in China. This would clarify the scope of application of VAT to financial products in a way that has been uncertain for foreign investors.

Mixed sales

Based on the existing VAT regulations, a taxpayer must pay VAT based on its main business for mixed sales that involve both services and goods in a supply.

The draft VAT law would repeal the relevant requirement to have both goods and services in a supply as a prerequisite to the mixed-sales rules applying. It would simplify the principle for mixed sales by saying that the rules could apply when there are different tax rates or levy rates in a supply.

Jurisdictional nexus

According to Circular Caishui [2016] No. 36, the provision of services is subject to VAT if either the service provider or service recipient is in China, but with an exclusion when the service wholly occurs outside of China. The concept of whether a service “occurs” outside of China has been uncertain.

The draft VAT law would seek to define the scope of services potentially subject to VAT in China as being when either the supplier is a domestic entity or individual, or the service is consumed in China. This would be a notable change from the previous position in Circular [2016] No. 36. The proposed approach in the draft VAT law better aligns the Chinese VAT system with the OECD International VAT/GST Guidelines. In particular, when a service is provided by a foreign entity to a domestic entity, VAT would only apply (on a withholding basis) when that service is consumed in China. The mere fact that the recipient is a Chinese entity would be insufficient to bring it within scope.

Deemed sales

The existing Chinese VAT rules require output VAT to be paid when there is a “deemed sale.” Specifically, according to the implementation rules of the VAT provisional rules, and Circular Caishui [2016] No. 36, goods and services provided free-of-charge to other entities and individuals is considered to be a “deemed sale” of goods and services.

The scope of deemed sales has been unclear. The draft VAT law seeks to define the specific circumstances under which a deemed sale may arise. It comprises: (1) the use of own manufactured goods for personal welfare or self-consumption; (2) the provision of goods free-of-charge (except for charitable purposes); (3) the provision of intangible assets, immoveable assets and financial products free of charge (except for charitable purposes); and (4) other circumstances to be defined by the tax authorities.

It would appear that the provision of services generally would no longer be subject to the deemed sales rule.

Excess input VAT credits

Refunds of excess input VAT credits generally have not been available in China (except for exporters and a few specific types of businesses). However when Announcement [2019] No. 39 was released, a new pilot VAT refund mechanism was introduced, effective 1 April 2019, allowing VAT refunds of excess input VAT credits for a broad range of businesses in China. Such a refund mechanism was not explicitly referred to in the VAT provisional rules or Circular Caishui [2016] No. 36.

The draft VAT law would if enacted give effect to a recent trial program of allowing refunds of excess input VAT credits on a more permanent basis. In effect, under the draft VAT measures, excess input VAT credits could either be carried forward or refunded, and the circumstances and criteria governing such refunds would be set out in separate implementation rules.

Tax periods

Under the existing VAT rules, taxpayers are required to file VAT returns based on tax periods of either one day, three days, five days, 10 days, 15 days, or on a monthly or quarterly basis. The applicable tax period mainly depends on the type of taxpayer (whether a general VAT taxpayer or a small-scale VAT taxpayer), and the nature of the taxpayer’s business.

The draft VAT legislation would reduce the number of tax periods (compared to existing rules) by eliminating the one-day, three-day, and five-day tax periods. In essence, most taxpayers could expect to account for VAT on a monthly or quarterly basis (though now seemingly with the additional option of six-monthly reporting). These measures would not be applicable to taxpayers that use the general method of accounting for VAT.

VAT consolidation

Based on Circular 36, two or more taxpayers can apply for VAT consolidation and be regarded as one taxpayer if they have the approval of the tax administration. However, the relevant regulation was repealed by Caishui [2017] No.58.

The draft VAT law would return to the VAT consolidation rule.

Lastly, the draft VAT legislation would also provide that any previous circulars that were effective before the VAT law when there is a need to continue such tax circulars, would remain effective for up to five years.

For more information contact a KPMG tax professional:

David Ling | +1 609 874 4381 |

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