China studies 25% tax on government bond interest, survey shows
China is studying a potential 25% income tax on government bond interest, Bloomberg reported, citing sources. A central bank survey gauged banks' reactions, as the move could boost fiscal revenue but raise borrowing costs.
China is studying a potential levy of 25 per cent income tax on interest earned from government bonds, according to a Bloomberg report on Wednesday 11 November citing people familiar with the matter. The move could lift local bond yields from historic lows.
Currently, both enterprises and individuals in China are exempt from income tax on interest from central and local government bonds. Scrapping the corporate exemption would align the levy with the standard corporate income tax rate of 25 per cent.
The People's Bank of China surveyed some banks last month to assess how taxing sovereign and local government bond interest would affect their appetite for holding the debt, the report said. Lenders were asked to specify whether their willingness to hold such bonds would drop by less than 10 per cent, 20 per cent, 30 per cent, or by more than 30 per cent. The survey does not indicate whether or when existing policy might change, the report added.
Rolling back the tax breaks would align with Beijing's broader push to bolster fiscal revenue amid a sharp slump in land sales, the report noted. However, taxing bond interest would also drive up yields as investors demand higher returns to compensate for the tax burden, ultimately raising government borrowing costs if investors sell off holdings. Concerns over sluggish domestic economic growth and falling equities have pushed China's benchmark 10-year sovereign bond yield steadily lower this year.
Commercial banks would bear the brunt of such a policy shift, as they are the largest holders in China's roughly 100 trillion yuan central and local government bond markets, holding more than 60 per cent of each, according to Finance Ministry data.
Market participants have begun estimating the potential fallout. Huatai Securities estimated that fully pricing in a 25 per cent interest income tax would theoretically require the 10-year sovereign bond yield to rise by 52 basis points to maintain current after-tax returns, though actual yields on newly issued 10-year debt might only climb 10 to 20 basis points. Guohai Securities projected that 10-year local government bond yields would theoretically need to rise from 1.68 per cent to 2.25 per cent, though the actual market impact would likely be smaller.
Huatai Securities estimated in a report earlier this month that taxing existing bond holdings would saddle institutional investors with 459 billion yuan in additional annual tax liabilities. If the tax is only applied to newly issued bonds, the first-year burden would be roughly one-tenth of that amount.