In October of this year, China’s Ministry of Finance (MoF) and State Administration of Taxation (SAT) announced consumption tax cuts for both high-end and low-end cosmetic products. Luxury items, that is products listed at a more expensive price threshold, saw their consumption tax cut in half. While the price threshold varies for each specific product, from mascara to perfume, all luxury products are now taxed at 15%. Cheaper items, below the above-mentioned price threshold, saw their consumption tax cut to zero.
This tax cut contributes to the Chinese government’s attempts to transform the economy into a more consumption-drive model in the face of a declining economic boom. The cuts aims to guide domestic consumption of higher-end makeup products, whose prices had previously driven millions of consumers to travel overseas each year to avoid the costs associated with the high taxes. Deloitte calls consumption tax reform one of the key focuses of the current Five-Year-Plan and predicts more changes in consumption taxes from all angles. These current and future changes reflect an effort to control domestic consumption from the MoF and SAT.
The price threshold for the tax cuts reflect the state of the cosmetics market in China. The surging industry, which grew over 130% from 2010 to 2013, is dominated by foreign brands. Imported cosmetics make up 60% of total cosmetic sales and 90% of total sales value. These foreign brands traditionally constitute high-end cosmetics, reflecting the high taxes on imported goods. Less popular domestic goods retail for much cheaper prices.
There are conflicting views on the effectiveness of the tax cuts to keep luxury cosmetic purchases inside China. While consumption taxes are cut, value-added tax (the VAT is currently at 17% for cosmetics in China) and other import related taxes remain the same. Domestic brands would see a price drop from the consumption tax cut, but imported brands may not see a significant price difference considering the other taxes they are subject to. Despite these remaining taxes, some firms are still predicting a significant drop in beauty product prices.
Companies within the industry should keep a close eye on Chinese demand for imported cosmetics to see if the tax cuts will have any significant effect on price levels.
Outside of the custom tax, China’s General Administration of Customs changed the import regime for cosmetics during the same period. The changes require more detailed information for importation papers to determine the correct tax level, following the current trend of stricter import regulations for foreign products in China. Companies should work closely with import agents to ensure correct customs declarations and expedite import procedures.
The most important lesson from this tax cut, however, is the reflection of China’s shifting economy. As the recent economic boom seen in China begins to slow, the government is looking for ways to move the economy towards a consumer-driven model. Part of this plan requires raising the appeal of luxury items in China, instead of forcing consumers abroad for high-end purchases. With consumption tax cuts, high-end foreign cosmetics companies previously unable to reach a large number of Chinese consumers may now be able to widen their audience.
An important side-effect of these policies is the effect on cross border e-commerce (CBEC). As China pushes to increase domestic consumption, the government is beginning to increase taxation on CBEC products. Soon the preferential taxation treatment which originally gave CBEC such an allure will disappear altogether and e-tail prices will match those seen in retail locations. Given this development, more foreign companies should carefully weigh the pros and cons of CBEC and retail sales before choosing the sales channel best suited for their products.