China Box-Office Standoff: Cabinet to Discuss Tax Issue (Exclusive)

"Man of Steel"
"Man of Steel"
 Warner Bros. Pictures

BEIJING -- China's State Council, or cabinet, will discuss ways to resolve a tax standoff that has delayed box-office payments to Hollywood for months and jangled the nerves of overseas producers keen to access the world's second-biggest film territory.

China's top film industry body, the State Administration of Press, Publication, Radio, Film and Television (SAPPRFT), has been involved in high-level negotiations with the country's tax bureau to waive a 2 percent luxury tax on the industry, a source close to the regulator told The Hollywood Reporter.

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"However, it is very hard in a very bureaucratic country," the source said, adding that the issue would figure at the next meeting of the State Council, which is chaired by premier Li Keqiang.

"The SAPPRFT has confidence this issue will be resolved," said the source, who requested anonymity, adding that the 2 percent tax was harming the industry generally.

The delay in payments, first revealed by The Hollywood Reporter last week, centers around a 2 percent luxury tax that the state film colossus, the China Film Group, by far the biggest distributor of foreign films in the country, is trying to pass on to the major studios.

The studios and Chinese distributors are also holding high-level discussions to resolve the issue, as THR reported.

The tax had previously been waived in a bid to boost the film business, but under changes in China's corporate tax law, the tax bureau insisted on a 2 percent withholding tax for all imported movies, similar to a 2 percent withholding tax that other foreign companies in China have to pay.

U.S. studios share profits from China releases of their films with their Chinese distributor -- which is pretty much always the CFG -- and with the theaters.

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That take used to be between 13 and 17 percent, but a landmark deal in February 2012 brokered during a visit to the U.S. by then vice president Xi Jinping -- who became the Chinese leader in November -- upped the take to 25 percent.

A clause in that deal said U.S. producers would take a net 25 percent of the box office, and any taxes would have to be paid by the Chinese side. But late last fall, China Film Group told the studios it intended to pass along the tax after all.

The dispute has prompted the CFG to halt payments to U.S. studios, even as the studios continue to supply big-budget movies to the booming market. Guillermo del Toro's Pacific Rim made a muscular debut in China this week, grossing $9 million on its opening day, the biggest for any Warner Bros. movie in the country.

The U.S. studios have not received their share of revenues earned in 2013, and in some cases for movies released last year. The revenues total tens of millions of dollars for some studios.

"In the end, it comes down to how many dollars or Renminbi each side gets to keep," said Lindsay Conner, co-chair of the entertainment & media practice at law firm Manatt, Phelps & Phillips.

China is now the world’s second-largest movie market behind the U.S., with box-office grosses of around $2.75 billion last year, and it is widely expected to nab the No. 1 spot within the next five years.

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Conner said it was important that China Film Group stick to the terms of the deal because it was important to the studios to maximize revenue from China and, crucially, investors in every industry need to know that deals will be kept and the ground won't shift under them every year or two.

"The latter concern has made many investors wary about investing in China, and that needs to be overcome in order for cross-border deals to flourish," Conner said.

There is a view that whatever additional money China Film Group would retain by forcing the studios to pay the VAT is small in comparison to the impact of investors' reluctance to enter into partnerships and ventures with Chinese companies due to fears of post-deal backsliding.

During Xi's visit to the U.S. in February last year, the Chinese government expanded the quota of overseas movies from around 20 to 34 per year on a revenue-share basis, including enhanced format movies.

MPAA chairman/CEO Chris Dodd has also said he was optimistic a deal would be reached after he met top Chinese industry figures during a recent visit to China.

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