A European friend of mine is based on China and runs a sourcing agency. The following are excerpts from our discussion on the pros and cons of setting up in-house VAT rebate facilities in China.
I’ve been reading your article “What is VAT and why should I worry about it” on your blog, and it has been a good start. Basically, considering we’re operating as a WFOE and not a Rep Office, we’re wondering how relevant and feasible it is to start purchasing EXW from our suppliers and be the one in charge of the export, assuming we can build in a few points to manage the process for our clients who are currently buying FOB.
My rule of thumb is that if the client is sourcing 30 million USD or more, and is willing to take on the tasks/exposure of running a business in China, then it makes sense to set up their own WFOE. Once the WFOE is in place, and then then can apply for normal tax payer status after many months. Once they achieve normal tax payer status, they can get registered to process the VAT rebate in-house. This whole process can take 18 months if organized well. Any mistakes and the lead time balloons. So outsourcing the VAT to a service provider is sometimes based as much on timing as it is savings. For your reference, I got my VAT house in order many years ago at PassageMaker because I had a group of clients buying 10 to 20 million per year that didn’t want to set up their own WFOE, but they wanted the transparency of knowing who is doing what on the VAT and they asked my firm to take control of the process and give them the transparency and trust they were looking for.
As we see it, fundamental questions are as follows:
How complicated/time consuming/accurate are the procedures to set up and process VAT rebates in-house?
It’s a lot easier now than when I did it way back in the day, but it is still difficult and time consuming. The set up took me about 18 months to complete all the steps and then you need to consider the additional costs for ongoing accounting staff with relevant experience. The gov’t is looking for an opportunity to say “sorry, no rebate, you filled in the forms wrong”, so make sure you get experienced staff in your accounting team or outsource it to somebody that has those assets in place already.
How much of the VAT refund are we realistically able to transfer from the suppliers to us? In other words, is this VAT refund already fully integrated in the supplier’s commercial margin or is it a “cherry on the cake”-type, some kind of extra profit they’re getting much later after an order has been delivered, once they’ve completed all the VAT procedures? At the end of the day I guess it’s all a commercial negotiation with the suppliers, but we’re wondering what’s our potential gain in such a move (how much between 0 to 100% of the VAT refund can we catch)?
Now you’re asking about my secret sauce, but here’s a little taste for free. There is an opportunity to reduce cost for client and build in a reasonable processing fee for yourself. Especially if the suppliers are new factories, small, or without export rights. In those cases, they are probably using a Chinese export company and buyer is paying for a 3rd party to process the VAT rebate, even if they don’t know it.
The other reason PassageMaker needs the VAT rebate ability in-house is that our assembly center is key to our business. We are adding value under our roof. So to keep costs competitive, we need to be able to get a rebate back on the overall cost (inclusive of the value added by my team) and pass that rebate on to the client.
If you aren’t doing final assembly or mfg. under your roof, you would probably be better off (in terms of savings, speed, security) to partner with a 3rd party that is already set up. Many of my clients come to me saying they want to set up their own WFOE/VAT structure, so we do everything in a very transparent process and show them all costs and all steps so that they can DIY if they want. But almost all of them end up continuing to outsource to PassageMaker because we make it so simple for them that paying us a few points for processing the VAT and managing the supply chain is a great value. So no need for them to DIY.
Wishing you successful China sourcing!
About the author: Mike Bellamy
Advisory Board Member & Featured Blogger at the not-for-profit China Sourcing Information Center (www.ChinaSourcingInfo.org). Author of “The Essential Reference Guide to China Sourcing” and founder of PassageMaker Sourcing Solutions.