BEIJING - Reforming China's value-added tax system will lower the macro tax burden and improve efficiency, but the rollout of a pilot program may face challenges and resistance, said tax experts.

"It is foreseeable that VAT will eventually replace sales tax and the reform will soon be extended nationwide," said Alan Wu, China indirect tax leader with the accountant PricewaterhouseCoopers, on Thursday.

However, for the reform to be applied to more industries and regions, Wu said the national and local tax bureaus will have to work out a plan for the allocation of revenues. That's because VAT is collected through the State tax system, while most turnover taxes are the province of local authorities.

"This will have to be inspired by the top policymakers," said Wu.

Moreover, key industries such as real estate and financial services are not likely to participate in the reform in the short term.

Wu explained that irregular acts committed by construction companies make it difficult for the downstream real estate sector to benefit from the deduction of VAT.

"As for the financial sectors, it is difficult to levy VAT because the calculation of the tax base would be very complex," said Yu Ge, a tax expert with PwC.

Tax reform on any industry should be based on thorough planning, thus expanding the program will be a gradual process, Yu said.

In November, China's Ministry of Finance announced that the country will start replacing its turnover tax with VAT. A pilot program, focused on the transport and service sectors, started in Shanghai on Jan 1.

The crux of this reform was to permit a deduction of VAT paid on purchases of materials and fixed assets, a move that is aimed at eliminating duplicate taxation as sales tax is also levied on those items.

However, the new system resulted in some companies, especially those in the transport sector, facing an even higher tax bill, because the 3 percent rate for sales tax was replaced by VAT levied at 11 percent, and deductions were not available on the majority of their fixed assets.

"Tax reduction is not the only goal of the VAT reform. It also plays a vital role in breaking the bottleneck for the development of local service sectors," said Zhou Zhenhua, director of the Development Research Center with the Shanghai municipal government.

According to Zhou, Shanghai has vowed to boost its service sector to 65 percent of the city's GDP by 2015. However, the proportion was already in decline in 2010 because of the heavy tax burden.

Wu said with the VAT reform, the city will become more attractive for service investments. The reforms in Shanghai will be extended to the postal, telecommunications and insurance industries in the second half of the year.

At the weekend, Vice-Premier Li Keqiang said the reform is crucial to the drive to adjust its economic structure. He urged the gradual expansion of the pilot scheme to more industries and regions, and for the reform to be extended nationwide during the 12th Five-Year Plan (2011-15).

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