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How is VAT applied on a domestic transaction in China?

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Full Question
If I buy parts (EXW) in China and send them to another supplier in the same province for assembly into the final product prior to export, are they subject to local VAT?

Answer
Yes, generally speaking, when components, semi-finished goods and even finished goods are sold from one company to another in China, there is VAT to be paid. The article What is VAT and why should I worry about it? explains:

At the risk of oversimplifying, in theory a 17% tax is paid at each step as a given product flows down the supply chain toward the end users. Take the example of a plastic comb. Raw plastic is purchased for injection molding (and tax is paid), then the molded comb is sold to a beauty product distributor (and tax is paid), who in turn sells to a trading company (and tax is paid) for eventual export. When the comb is exported, there may be a VAT rebate of 0‐17% (depending on the product classification) against the 17% taxes paid. Without going into the complex tax formulae, let’s say the VAT rebate for plastic combs is 10%. So 17‐10=7% is the amount that stays in the government coffers, while 10% goes back to the exporting company. In this fashion the VAT rebate amount is a tool which the central government can use to either give more incentive (increase the rebate %) or less incentive (reduce the %) from industry to industry.

Having said all of that, in reality some suppliers (generally small factories or shops without full licensing) will sell a product “without tax receipts”. As no taxes are paid, there is no VAT rebate available upon export. Also, these kinds of orders require the buyer and seller to fudge their bookkeeping (common in China), so most large or professional firms prefer not to work in that fashion.

By the way, unless you own a suitable entity in China with the correct licensing, you can’t easily buy from one supplier and sell to another for processing. The tax, documentation and logistics get messy. So most likely you would be appointing the assembly partner to buy from the pre-approved sub-supplier directly on your behalf. This can be dangerous for a number of reasons, such as the two parties join in collusion to get deeper in your pockets, and/or loss of IP control. Luckily, the links below offer solutions.

Related content/resources:

Who gets the VAT rebate?
VAT scams exposed
Confusion about VAT…Where does it go? What should I expect?
Why does my supplier fight a move from FOB to EXW terms? What role does VAT play?
Let me know how things work out for you.

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