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The Chinese Government needs to act to adjust tax policies to fuel further development of the country's private businesses.

Development of private companies is an important aspect for improving the country's market economy mechanism.

Under existing economic policies, private companies are allowed to invest in industries into which foreign businesses can invest.

However, private companies still find themselves faced with complexities and difficulties as they seek to develop.

Status quo

The country has not fully opened foreign trade business to private companies.

Neither has it enacted a law to protect the legal rights of the property of private companies, although there are a number of existing company-related laws such as Corporate Law and Trade Mark Law.

Where tax policies are concerned, the existing tax system basically encourages, and is beneficial for, the development of private companies.

The value-added tax and consumption tax policies are almost the same for all companies including private companies.

With the aim of supporting the development of private companies, the country also adjusted some of its tax policies in accordance with the requirements of the country's economic development and the adjustment of industry structure.

For example, the tax law stipulates that small taxpayers, which sell self-made products abroad, will be exempted from value-added tax.

The tax authorities also raised the threshold of value-added tax and business tax for small taxpayers.

The tax favours benefit more than 1 million small taxpayers across the country, whose tax burden dropped by about 20 billion yuan (US$2.4 billion).

Laid-off workers who engage in community services are also exempted from business tax and personal income tax.

For enterprise income tax, the policy was more beneficial for foreign-funded companies.

China is now practicing dual-track enterprise income tax policies for domestic and foreign-funded companies.

The income tax rate for domestic companies was 33 per cent, while that for foreign-funded companies was 17 per cent.

But in the last two years, the government has begun to offer more preferential income tax policies for individually-run companies. The government exempts them from liability for enterprise income tax and instead levies personal income tax on the owners of such companies.

The pre-tax deduction items are also beneficial for privately run businesses.

The government's efforts greatly alleviate their tax burdens and help inject vigour into the development of these companies.

New trends

Since the mid-1990s, development of private business has been characterized by new features and trends.

The economic position of such businesses has improved greatly.

The non-State economy, the majority of which comprise private economies, accounts for 50 per cent of the country's total, while taxes paid by them accounts for 52.9 per cent of the total.

In my opinion, the government's efforts to encourage development of private companies is wise. The significant progress made by these companies suggests the country has made an important step towards a market economy.

Since the beginning of the Ninth Five-Year Plan (1996-2000), private companies have played an important role in participating in international business.

They are strongly competitive in producing and processing labour-intensive products.

For example, clothes and lighters made by private companies in East China's Zhejiang Province account for a major share of the world market.

Private companies have become an important channel for solving the problems faced by agriculture, rural areas and farmers - which the government thought as a key problem in China's economic development.

As more and more farmers continue to take up jobs with these companies their standards of living are rising.

In recent years, private companies managed to expand production and improve product quality by applying advanced technologies.

Their products also occupied a certain share of the international market.

However, management of these companies is not in tune or catering to the modern market economy.

They need to increase their all-round competitiveness.

Along with the accelerated pace of opening up, foreign firms and private businesses will be allowed to invest in State-owned companies and State-owned industries.

The stake of private companies may also be bought by foreign enterprise and other types of companies, including State-owned firms.

The government will have to study the new characteristics and trends of private companies to promote their further development.

As part of this process the government needs also to improve the legal system and map out favourable economic policies in the areas of financing and foreign trade for these companies.

Tax suggestions

The government should continue to stick to its present tax policies relating to private business.

For private companies, in which foreign investment or other types of investment accounts for less than 50 per cent, the government could continue to exempt them from enterprise income tax and levy instead personal income tax.

From the long-term point of view, the government should revise the existing value-added system, the enterprise income tax system and individual income tax system.

Now that China has become a World Trade Organization member, it should swiftly act to bring a uniformity to enterprise income tax policies.

Furthermore, a nationwide process which places both domestic and foreign-funded companies on an equal footing needs to be implemented.

The country should also speed up changes to the value-added tax levy from the current production-based one to that which is consumption-based.

Under the production-based system, fixed assets are classified as consumer goods and are subject to the tax.

As a result, business is not able to claim tax deductions for the purchase of fixed assets such as equipment and machinery.

The existing system places a heavy burden on businesses wanting to increase their fixed asset investments, especially for capital and technology-intensive enterprises.

The system thus poses a hurdle to economic restructuring, which is one of the major tasks the government wishes to achieve.

China may gradually phase in the consumption-based value-added tax one sector at a time, starting with industries with heavier value-added tax burdens such as the high-tech and infrastructure industries.

Personal income tax has become a hot topic in recent years because the threshold for taxation, which stands at 800 yuan (US$96), was considered too low and some rich people have evaded taxes.

The present personal income tax rates are divided into 11 categories based on income sources. This system does not exert much control over an individual's total annual income.

Money earned from doing a second job - moonlighting -are usually not taxed, unless they are declared by those concerned.

The current system has many loopholes which tax evaders exploit. The most common is for proprietors to show personal spending as company expenditure.

Editor's Note: The author is a senior researcher with the Taxation Research Institute under the State Administration of Taxation.

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