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Tax hike on CKDs promotes local manufacturing

China’s Import Administration of Automotive Parts and Components Having Characteristics of CBUs became effective as of April 1, 2005.

Jointly drafted by the General Administration of Customs, the State Development and Reform Commission, the Ministry of Finance and the Ministry of Commerce, the new Import Administration is expected to have a major impact on CKD assemblies, up till now a popular way for many carmakers to introduce foreign brands through their multinational partners.

The implementation of the Import Administration will effectively stop the widespread practice in the past few years of assembling vehicles using imported CKD, SKD or major parts assemblies to avoid paying much higher tariff rates for completely built units (CBUs).

Article 21 of the Import Administration stipulates that imported CKDs and SKDs for vehicle assembly shall be subject to whole vehicle tariffs.

Vehicles assembled using both imported body (including driver’s cabin) and engine assembly shall be subject to whole vehicle tariffs.

Vehicles assembled using the following combination of parts assemblies are also subject to whole vehicle tariff: imported body (including driver’s cabin) or engine assembly, plus any three of the six assemblies of transmission, drive train, non-drive train, chassis, steering and brake or five or more of the six assemblies.

The article also stipulates that if the total value of imported parts and components reaches 60 percent or higher of the value of a CBU, they shall also be taxed at a whole vehicle rate. But this specific regulation will not become effective until July 1, 2006.

Article 22 further stipulates what imported automotive parts and components shall be defined as exhibiting the characteristics of the above-mentioned eight assemblies (systems), which in turn constitute having CBU characteristics.

These include assemblies made with complete sets of imported parts and components, with imported key parts and components or sub-assemblies that exceed designated quantities and with parts and components that comprise 60 percent or higher of the cost of the assemblies.

Key parts and components or sub-assemblies for the body, engine and transmission assemblies are classified into A and B types. If, for example, the designated quantity for the A type reaches two, that would constitute an imported assembly.

The release of the Import Administration, which has been in the works for at least two years, is China’s latest response in trying to protect its local industry and increase the country’s competitiveness in automobile manufacturing after it abolished localization requirements for automobile assembly in 2001 when it joined the WTO.

Already the country’s new Automotive Industry Development Policy (AIDP) released last June (Article 20, Chapter V) specifies: “Certifi cation shall not be granted to vehicles that proclaim to be independently manufactured but in effect are assembled with imported body or other major assemblies.” The publication of the Import Administration is therefore
considered an implementation of such a policy.

“The government’s guiding principle in both the AIDP and the Import Administration,” ac-
cording to a SDRC official who declined to identify himself, “is to encourage automobile enterprises to raise their capability to locally manufacture automobiles. Now that we have become a member of the WTO, China must respect the WTO principle of non-discrimination and we have to abolish the localization rate requirements for automobile joint ventures in
China. It is necessary, however, that China establish a new set of rules not only to ensure the government’s revenue in taxation, but also, and more importantly, to help develop an independent Chinese automobile industry.”

In fact, joint venture automakers competed in the past two to three years to bring out new car models with imported CKDs and SKDs. As a result, China for the fi rst time saw a defi cit of $2.9 billion in its import and export of automotive parts in 2003 whereas the balance of trade for automotive parts in the previous seven years had always been in its favor.

Faced with new government regulations as well as intensified market competition, the SDRC official predicted that multinational automakers in China are likely to expand their investment in China and build their local supply base here if they want to secure their market shares and operate a profitable business in China.

With the implementation of the Import Administration, the good old days of making fat profits through the introduction of new vehicle models by way of CKD and SKD assemblies will be gone forever for leading joint venture automakers. Although the Import Administration does not prohibit future CKD and SKD assemblies, doing so would involve paying 15-20 percent more in tariffs once the new regulation goes into effect.

Currently, imported passenger cars are subject to an average tariff of around 35 percent. But the average rate of imported parts and components is only around 15 percent. The difference of 20 percent now, or 15 percent when the whole vehicle tariff goes down to 25 percent and parts and components 10 percent in 2006, would be lost revenue for the government but profi t for auto assemblers.

While every multinational automaker with assembly plants in China is to be affected by the
Import Administration, newly established ones such as Beijing Benz DaimlerChrysler will be the hardest hit. Also affected will be high-tech vehicle products such as the planned Toyota Prius hybrid, which depend on import of key assemblies.

No doubt the enforcement of the Import Administration will change the behavior of automobile manufacturers in China.

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