I discussed the unique features of corporate income tax on the mainland last week. This week, I would like to compare China's individual income tax with other jurisdictions' common practices so as to reveal the special features of China individual income tax.

As I said before, China has some unique qualities in terms of its tax system and has some common points with other countries. It is like many other big countries, imposing worldwide tax on permanent residents and citizens. That is, basically, no matter where you go, as long as you still carry that status, you will be subject to PRC individual income tax; of course, for the same type of tax paid to other jurisdictions due to other countries' tax rules and locations of service, foreign tax credit is provided for offsetting final tax payable in the PRC.

On individual income tax, China's mainland is regarded as a high tax jurisdiction as the highest rate it imposes is 45 per cent, however, the tax rates are actually on a progressive system; the effective tax rate is indeed not as high as 45 per cent. To compare China's mainland with other jurisdictions, there are mainly two characteristics of individual income tax on the mainland; they are the lack of deductions/allowances and reporting system.

First, on lack of deductions/allowances; in China, the only deduction that everybody enjoys is their own personal deductions, there is no consideration as to the individual's own household burden, contribution to society or personal expenses. Therefore, no matter how many dependants you have, it would not help. In other countries, often times, personal burdens, like number of dependants, for example, spouse, children, dependent parents/grand parents; personal expenses like mortgage interest, work-related personal development cost; and contribution to society, like charitable donations, are considered for tax calculation purposes. All these, are not offered on the mainland. This, added together with the high tax rates, makes PRC individual income tax extraordinarily high.

Taking Mr A as an example. If he earns US$30,000 a year, has a dependent wife and two kids, he would not need to pay any Hong Kong tax under the Hong Kong tax system because he can enjoy the exemption allowances for himself, his wife and his children. However, if Mr A works full time in China, he will need to pay an annual individual income tax of more than US$4,000.

Another difference of China individual income tax is the reporting requirement. In many countries, there are reporting requirements both from the employer and the employee; from the angle of the employer, they report what they have paid for each single individual; from the angle of the employee, they report what they have earned from various sources, including employment related and non-employment related. However, on the mainland, perhaps because of the billion-plus population, burden is fully placed on the employers.

This, to a certain extent, is an easier way to control proper and accurate reporting and settlement of income tax. However, at the same time, as the burden is totally on the employers and there is no other system to track individual income from different sources, often times, if individuals work with enterprises that do not observe tax compliance, they would create underpayment of taxes.

To summarize the above: there is still a lot of room for improvement of PRC individual income tax in order to make it a system more reliable and reasonable. As China's mainland undergoes tax reform from a corporate point of view, maybe the next step on the tax reform agenda could be individual income tax.

Jane Hui is Partner, China Tax & Business Advisory, Ernst & Young, Hong Kong.

(HK Edition 07/07/2005 page4)