China's changes to its foreign investment policies, effective January
1, reinstituted duty and VAT-free treatment for the capital equipment imports
of select foreign-invested and domestic projects and provided revised lists
of sectors in which foreign investment is encouraged, restricted and/or
prohibited. The changes came in response to two years of declining numbers
and total value of new foreign investment projects as well as an increasing
realization by Chinese policymakers that elimination of the duty-free incentive
hurt the very types of high-tech projects China hopes to promote. while
the decision to partially reinstate duty/VAT-free treatment for select
foreign investments predated the recent Asian financial crises, the new
policy might well help China counter its decreased attractiveness to export-oriented
foreign investment, which could shift toward the now increasingly lower
cost markets elsewhere in the region.
Much will depend on how the new regs are implemented, but the reinstatement
of duty/VAT-free treatment for many foreign-invested projects will provide
significant benefit to current and future U.S. investments in China. In
addition, the limited extension of the incentive to domestic investment
projects may have important benefits to U.S. exporters of equipment to
China.
Under the new policy, foreign investment projects which fall under categories
appearing on China's "Encouraged" and "Restricted Category
B" lists and which are approved, will be entitled to import capital
equipment falling under HS tariff chapters 84-90 duty and VAT-free, except
for an explicit list of excepted consumer items and office equipment. To
qualify for the duty/VAT-free treatment, the investor must apply for a
special certificate. Projects approved between March 31, 1996, and December
31, 1997, are also eligible to apply for the duty/VAT-free treatment.
For domestic investors, projects must qualify under a separate listing
of "industries, products and technologies which are encouraged by
national policy" and a separate and much more lengthy list of excepted
capital goods for import applies.
The impact of revisions to China's lists of sectors in which foreign
investment is "encouraged," "restricted" and "prohibited"
is unclear. There are numerous and significant additions and deletions
to both the encouraged and restricted lists, many of which are detailed
below. The prohibited list, however, remains more or less unchanged. Telecommunications
services, an area which the U.S. and other nations have pressured China
to open in WTO talks remains on the prohibited list. On the positive side,
additions to the Restricted Category B list in the areas of agriculture,
medical equipment, paper, power generation, medicines and some other industries
may provide new market access for U.S. investors.
The lists, originally issued in July 1995, provide guidance to local
Chinese authorities and potential investors about which foreign investment
project applications will receive preferential treatment or, conversely,
will be restricted or denied.
Duty/VAT-free Treatment for Select
Foreign Investments
China has announced beginning January 1 a new
policy of providing duty and VAT-free import of capital equipment for select
foreign investment projects and domestic investment projects. While China
has not yet publicized details of the new policy, a lengthy China customs
notice spells out how the new policy will work. Foreign investment projects
which fall under categories of "Encouraged" and "Restricted
Category B" on China's investment guidelines catalog and which have
approved feasibility studies may apply to State Planning Commission offices
for a certificate establishing their status as a "nationally encouraged
project." (Note: "Restricted Category
B" investments face stringent limits on their scope and activities,
but may be approved as part of pilot schemes or as part of a centrally-controlled
growth plan for the industry. End note).
The certificate may be presented to China Customs offices to qualify
for duty and VAT-free entry of capital equipment necessary for the investment
project. Goods specifically exempted by customs order, however, are excepted
(see para 5). Domestic investment projects are eligible to apply for the
certificate if the project falls within categories on a separately issued
list of "Industries, Products and Technologies for which Development
is Encouraged by National Policy."
The duty/VAT-free treatment may only be applied to the import of capital
equipment for the project which falls in HS tariff chapters 84-90 (most
machinery, mechanical appliances, electrical equipment and measuring devices)
and which does not appear on a separate China Customs exceptions list.
China Customs has issued an initial exceptions list which includes a variety
of household appliances and office equipment, including: televisions, camcorders,
VCR's, VCD's, audio equipment, air conditioners, refrigerators, washing
machines, cameras, photocopying machines, telephone switching equipment,
microcomputers, telephones, beepers, fax machines, computers, word processorsi
and motorcycles. The Customs notice states that the initial list will be
replaced soon by a revised list.
Previous Misuse of Investment Incentive
One reason behind the list of products specifically excluded from duty/VAT-free
treatment was China's experience several years ago with the misuse of the
investment incentive. At that time, China allowed import of equipment to
be used by a qualified company. Some enterprising Chinese businessmen,
for example, discovered that they could set up a dummy company in California
for a few hundred dollars. The company would then establish a parallel
dummy foreign investment in China and use the duty/VAT-free privilege to
import several vehicles, home and office appliances, etc., which would
be sold in China at a sizable profit.
The Customs notice also provides for the granting of duty/VAT- free
import of capital goods to foreign investment projects approved during
the period in which no duty/VAT-free incentive was available (i.e., April
16, 1996, to December 31, 1997).
Companies with such projects, however, have to apply to local customs
offices for certification.
Likewise, projects approved before April 15, 1996, can, upon application
to customs, continue to import additional capital equipment duty/VAT-free
under the new policy.
The notice, however, is unclear about whether the new requirements/
restrictions (i.e., must be an "encouraged" or "restricted
category B" project and does not include the excepted list of equipment)
apply to the previously approved projects or whether the original duty/VAT-free
rules apply.
Incentive Now Applies to Domestic Investments As Well
Notably, for the first time, the duty/VAT-free incentive also applies
to domestic investments as well. This could have important benefits for
U.S. exporters of equipment to China. According to the Customs notice,
domestic investment projects which fall under a separately-issued list
of "Industries, Products and Technologies for which Development is
Encouraged by National Policies" may also apply to qualify for the
duty/VAT-free incentive.
. . .With Exceptions
A separate excepted equipment list, however, applies to domestic projects.
Approved domestic investment projects may not import duty/VAT-free several
hundred different types of equipment in the machinery and electrical appliance
category. This includes:
Tractors, combines, shovel loaders, forklifts, concrete mixers, bulldozers,
oil well equipment of various types, machinery for processing rubber and
plastics, industrial air conditioners, large and medium-sized power-generation
equipment, complete sets of nuclear equipment, wind power generation equipment,
complete sets of equipment for concrete plants, machinery for packaging
food, commonly used environmental-protection equipment, a number of machine
tools, a number of office machines, all types of autos, motorcycles, and
their parts, machinery for making paperboard or paper, many types of textiles
machinery, kegs, black and white sonograms, x-ray machines, ECT's, and
elevators.
Phasing In What Had Been Phased Out
China's move to reintroduce the duty/VAT-free incentive for select foreign
investments had been rumored for several months, but the pressure to make
the change had been building much longer. The new policy comes exactly
two years after China announced it would phase out within a year what was
previously a policy of providing duty/VAT-free import for capital goods
for all foreign investment projects.
The January 1996 announcement that China would terminate the investment
incentive for any project not approved by April 15 that same year led to
a rush of investors seeking project approvals before the cutoff date.
A similar rush occurred to import the capital equipment as China imposed
end of the year deadlines for the approved projects to bring in all capital
equipment before the duty/VAT-free incentive was terminated altogether.
When this proved difficult for some major investments, extensions for the
deadlines were granted for several major projects. In addition, elimination
of the incentive, which increased investment costs by 30-50 percent for
most projects, caused many investors to rethink their planned investments.
It became clear to Chinese investment policymakers that the elimination
of the incentive was not only dampening investor interest, but was hurting
the very types of investment projects which China hoped to encourage, particularly
those related to high-tech industries. In addition, one rationale behind
the elimination of the incentive had been that it would help offset expected
duty collection declines which would result from China's lowering of most
tariffs in 1996. However, China discovered that duty collections actually
jumped significantly under the reduced tariff regime. By early 1997, Chinese
economic leaders began to signal that the incentive would be reintroduced
for "high-tech projects." However, according to MOFTEC officials,
it proved too difficult to develop a list of goods or projects which were
"high-tech." Instead, China opted to grant the duty/VAT-free
treatment to all foreign investments which fell under the categories on
its "Encouraged" and "Restricted Category B" lists.
At the same time, China decided to introduce a negative list of the types
of goods it did not want to import under the preference.
Revised "Encouraged," "Restricted"
and "Prohibited" Lists
The second major new change to China's foreign investment regime is
the revision of its "Catalogue of Industries for Foreign Investment."
The lists were initially introduced in July 1995 to provide investors and
local officials guidelines for determining whether a foreign investment
project would be given preferential treatment or, conversely, whether it
would be denied or given restricted approval (e.g., limited to a minority
foreign-investment share). The revised lists, published in MOFTEC's international
business newspaper on January 8, include numerous and notable additions
and deletions in both the "Encouraged" and "Restricted"
categories. Most of the additions and deletions relate to the production
of various goods, with little or no changes to the services sectors. The
"Prohibited" list remains basically unchanged. Notably, telecommunications
services remains on the prohibited list.
Encouraged
Notable additions to the encouraged list include:
- large-scale production of paper from domestic wood
- cdma cellular systems
- catalytic converters
- new types of cars (such as plastic cars)
- production of machine tools for agricultural ~machinery
- manufacture of retail parts for civil aircraft
- equipment to improve the yield of oilwells
- multimedia communications equipment
- new therapies for hepatitis and aids
- manufacture of radiation~immunization diagnostic tests and medicine
- new forms of processed chinese herbal medicines.
Notable deletions from the encouraged list include:
- special textiles for industrial use
- steering knuckles
- aluminum radiators for cars
- diaphragm clutches
- air-conditioning systems for cars
- automobile motors
- auto bearings.
Restricted
Additions to the Restricted Category B list (expanded opportunities
for foreign investments in China) include:
- cultivation of grain, cotton, and oilseeds
- cultivation of materials for Chinese herbal medicines
- processing of animal fats
- paper and paperboard
- aluminum processing
- building and management of conventional thermal plants with single
generators of less than 300 MW capacity
- radial tires
- certain types of raw materials for polyester
- airbags and auto electronics
- certain types of tractors and lifters
- sheet-metal forging equipment
- photocopiers and cameras
- manufacture of microwave telecommunications system equipment
- raw materials for and new forms of processed chinese medicines
- development of high-tech immunization treatments, including for AIDS
and hepatitis
- immunizations under the national health plan
- disposable hypodermic kits
- intravenous devices
- blood transfusion and storage devices
- CT and MRI
- manufacture of several types of ships
- medical establishments
- land development
- amusement parks
- electronic publications
