How to Respond to the US-China Trade Friction

Nina Wang

The year of 2018 was essential to the world’s two greatest trading nations:  the United States and China. Throughout 2018, the Trump administration proposed and launched a series of policies imposing additional duty rates on a wide range of products imported from China. China retaliated immediately by publishing a list of products imported from US as targets for an additional 25% tariff. This trade friction is sweeping worldwide and has significant impacts on businesses.

On December 2, 2018, a temporary truce was reached by both parties.  However, this is by no means the end of the trade friction in the foreseeable future.  At this time, no one can anticipate when exactly the trade negotiations will stop.  It is important for companies to think about both short-term measures and long-term strategies to effectively respond to the negative impacts of the US-China trade.

Business Operation Review

Importers and exporters will need to review their product lists and make a quantitative analysis of the effects of the trade friction, including reviewing whether the specific products they manufacture or distribute are subject to tariff; projecting the increase in purchase cost or sales price due to the impact of the existing tariff, and estimating the profit margin for the products subject to tariff. Considering the potential expansion of the product scope and duty rate, companies may also need to conduct quantitative analysis under different scenarios.  Businesses may benefit from conservative planning for some items that have not been covered in the published list but may be subject to duty tax in the future.

Potential Transfer Pricing Planning

Businesses may seek technical approaches from a transfer pricing perspective to mitigate the risks arising from increased cost or sales price of affected products. For instance, manufacturers of affected products could review their existing transfer pricing methodology and adjust the import price from China to minimize the custom value of imported products subject to tax duty.  In this way, transfer pricing decreases could bring increased profits to the US.  Of course, such price adjustments must comply with the arm’s length standard.  Otherwise, potential transfer pricing audits may be initiated by the Chinese tax authorities.

Supply Chain Restructuring

Businesses could also re-evaluate their current supply chain and seek alternatives to mitigate the impacts. Manufacturers of affected products may reconsider the feasibility of purchasing products from other vendors located outside of China.  If alternative sourcing channels are not available, they may negotiate with their Chinese vendors and evaluate whether the manufacturing site can be moved out of China and into other countries not targeted by the additional tariffs.  Some Chinese exporters have moved, or are planning to move, their manufacturing sites to Vietnam or other Asian countries to mitigate the impacts, for example.

US exporters may consider restructuring their supply chain and moving operations into or out of the US. In this environment, it may be appropriate for companies to produce in the US for US sales, and in China for China sales. The Chinese government has taken some measures to reassure and encourage foreign investors to avoid potential relocation to other countries.  A series of tax and fee reductions are in the pipeline to promote foreign investment and economic development. These are detailed in another article.

In sum, this is a time to take a step forward in terms of restructuring supply chain and making new investments in China.  To learn more, contact the international tax and accounting specialists at Clayton & McKervey.