A taxing issue

Cash-strapped local governments look to increase their fiscal revenue

A taxing issue

“We just wanted to have a word with you about those unpaid taxes...”

“No taxation without representation” is one of history’s more famous political slogans, and the fundamental complaint of American colonists against their English monarch George III. The dispute over tax was eventually resolved by the most radical of methods, a revolution.

Not that China’s local governments are ever likely to contemplate similarly direct action. But tax is becoming a cause of greater unrest, as provincial administrators look to replenish their financial reserves.

The current focus is on Zhili, a town in Zhejiang that is a major manufacturer of children’s clothing. Bosses have grown increasingly disgruntled, with one businessman telling Xinhua that he paid Rmb343 ($54) in tax for every sewing machine in his workshop last year but that the figure had increased to Rmb620 in 2011. Others have been refusing to pay, and one factory owner received a visit from the collectors late last month. An argument broke out, attracting hundreds of onlookers. The crowd soon turned into a mob. After trying to block a national highway, it smashed up cars and set fire to a police vehicle. The riot ended with dozens of arrests, Xinhua reported.

As local governments across the work to increase their fiscal revenues, the Zhili unrest will serve as a warning sign on the limits to how far businesses can be squeezed.

At first glance, China’s tax revenues seem to be enjoying healthy growth. In the first eight months of this year, local taxes raised Rmb3.6 trillion, an increase of 35% on the same period last year.

But it is important to remember that tax is only one part of a local government’s income. A key source of local revenue has also come from selling land to property developers. With the real estate market slowing (see Talking Point), developers’ interest in buying land has slowed too, leaving local governments out of pocket. In the first eight months of the year, Shanghai raised Rmb74.3 billion from land transfers, less than half the amount raised in the same period last year. Guangzhou has only managed to raise a quarter of the target it set at the beginning of the year for land transfers.

The shortfall means that some local governments are running out of the capital required to continue to fund some of the infrastructure projects launched as part of the 2008 stimulus package. The situation is made worse by the credit environment – state-owned banks, which only a couple of years ago were all too happy to lend to local governments, are now handing out much less cash.

In addition to paying for the new airport or highway, local governments also have to find the money to meet goals in areas such as education and water conservation. The national target for education spending is now 4% of GDP, with two- thirds of the money to come from local coffers. While poorer provinces get extra support from the central government, richer ones such as Zhejiang and Jiangsu have to meet targets from their own resources, creating extra pressure to find money.

So local government finance teams are looking to taxation to fill the budgetary gaps. In Nanjing and Yandu, two cities in Jiangsu, the authorities have launched a 100-day event to increase revenues. In Yandu, tax collectors have stepped up efforts to chase down late payment, with a focus on construction companies that might have fallen behind on their corporate income tax.

And by reassessing rental properties and taxable land, Nanjing expects to increase revenues from land use taxes.

The central government is aware of the problems that local governments face. WiC has already reported on several measures designed to make things a little easier. A modified resource tax should help out commodity-rich areas (see WiC 124). And a few rich provinces are now able to issue their own debt as part of a pilot scheme that could be expanded across the country (WiC 122).

But much of the onus is still on local fundraising, warned a Jiangsu official speaking to the Economic Observer. Expect governments to up tax rates and enforce collection much more rigorously than before. “Collection based on spending needs is an idea from the planned economy in the eighties. When a government is guided by this way of thinking, arbitrary charges can easily occur,” Ma Caichen, finance professor at Nankai University, told the newspaper.

In fact, tax reform was a much debated issue before the financial crisis but attention quickly shifted to spending across the Chinese economy, to protect growth from the downturn elsewhere.

Times have changed, and local government debt is now being cast as a potential problem area.

It looks as though this means that the issue of tax reform is being resurrected.

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