Governments' yearly tax breaks to big corporations will start to decrease- Alibaba Group Holding Ltd-ADR (NYSE: BABA) warns the other corporations in a post-earnings this week. China's leading E-commerce business told some other companies that the government had stopped treating some companies as Key Software Enterprises (KSE).
KSE is a designation that is taxed 10% tax rate. The tax rate may increase to 20% on the 2Q 2021. This rate is way too much compared to last year's 8% tax for the KSE's.
The reason behind it
In the previous years, China has been offering tax benefits to its growing Internet industries. The standard tax rate in the country is 25%, while high-tech companies get to enjoy a 15% tax rate. In addition, those who have been operating essential software enjoy a 10% tax rate.
BABA and the Tencent Holdings ADR(OTCMKTS: TCEHY) and Meituan Unsponsored ADR (OTCMKTS: MPNGY) may never enjoy the 10% tax rate in the future. Beijing noted that the Internet industry has been using its data to enrich investors at the expense of consumers.
"The preferential tax rates related to KSE resulted from annual review by the tax authorities in China. As a result, the companies that apply may not receive the benefit," Citigroup analyst Alicia Yap wrote on Friday. "The ground argument sounds reasonable because of Beinjins tightening regulatory environment."
What next?
"The loss of the preferential tax means that BABA will miss out on tax benefit of about 11 billion yuan ($1.7 billion) in the fiscal year," estimated Bocom analyst Connie Gu.
For 2Q 2020, BABA got tax credits of about 6.1 billion yuan after the renewal of the KES status for some companies, the company said in its earnings statement. The tax benefit meant BABA spend an 18% effective tax rate for F.Y. 2021, and it was penalized $2.8 billion against antitrust. The company told its investors that its effective tax rate for F.Y. 2022 could rise from 23% to 25%.
BABA's American depositary shares fell less than 1% in early trading in New York.
"If this social media and gaming leader loses its KSE tax status, TCEHY earnings could drop by approximately 6% this year and roughly 9% in the next two years," said Citigroup's Yap.