Tax incentives boost Chinese biodiesel imports, replace diesel

* Intake of biodiesel rising, contributing to rise of diesel exports

* About 200,000-300,000 T a month being shipped from within Asia -sources

By Jessica Jaganathan and Judy Hua

SINGAPORE/BEIJING, Oct 18 (Reuters) - China's biodiesel imports are surging, displacing local diesel sales as some trading companies take advantage of tax and trade incentives the government provides to boost usage of the blended fuel in the world's second-largest oil consumer.

As imported biodiesel takes up more of the local market, it could cut into the market share of state-owned refiners, in turn boosting their diesel exports, industry sources said.

Top state refiners Sinopec Corp and PetroChina are already expected to boost shipments of the fuel after Beijing approved large export quotas for the fourth quarter.

At least one state-owned refiner has complained to local authorities that some of the biodiesel shipped in contains a far lower biofuel component than what is required by Chinese customs law, a source close to the matter said.

"It's the big thing in China now, but it's all done hush-hush," said a trader directly involved with such shipments and who declined to be named.

Imports of diesel are subject to stringent conditions: only companies approved by the government and granted import licenses can bring in the fuel. But regulations governing biodiesel imports are less robust and private companies are allowed to ship in the fuel, a second trader involved with the trade said.

Biodiesel shipments from member countries of the Association of Southeast Asian Nations (ASEAN) to China are also exempt from import taxes according to a free trade agreement inked between the two regions, said sources involved in the trade.

Biodiesel containing less than 30 percent of biofuel is classified as "petroleum", while biodiesel containing 30 percent or more of biofuel is categorised as "miscellaneous chemical products," according to a 2012 edition of China's customs rules.

Some of the trading companies involved are declaring biodiesel with as little as a 2 to 5 percent palm oil blend at the higher level to escape the controls and tariff, industry sources said.

By classifying the product as 30 percent biodiesel, companies are able to circumvent paying a consumption tax of about 940 yuan ($150) per metric tonne normally levied on diesel, they said.

From January to June this year, total imports of this reduced biofuel blend were at about 500,000 tonnes, and since then average monthly imports have at least doubled to 200,000 to 300,000 tonnes, the sources added.

About 120,000 to 180,000 tonnes a month are being shipped mainly from Malaysia and Indonesia, while the rest is being shipped from Thailand, the sources said.

China doesn't provide detailed biodiesel import data.

Diesel makes up about 30 percent of Asia's oil consumption. In China, it is used in farming, industry, shipping and transport, but increased refining capacity and an economic slowdown turned the country into a net diesel exporter in 2012, driving down processing margins across the region.

Small refiners and independent fuel dealers in late 2010 imported "power kerosene," a blend not subject to consumption taxes and that could be easily turned into diesel. The practice eventually led to the detention and fining of two traders.


HOW THE TRADE WORKS

The biodiesel with the reduced palm oil mix is typically blended in storage terminals in Southeast Asia and sold to middlemen who sell onwards to companies in China. It is then transported in small to medium-sized vessels, trading and shipping sources said.

The product is then sold as regular diesel to consumers in China including factories, with importers making savings on the tax incentives, the second trader involved in the trade said.

"The cargoes actually go through a lot of hands, so there are many companies involved ... from the usual traders who sell the barrels to the smaller companies who buy them," said a Singapore-based biodiesel trader not involved in the trade.

Some of these trading companies do not usually deal in diesel or oil.

"We don't actually keep track of what they do with the cargoes in China, we ship it because it's getting popular," said a third source involved in the trade.

The supplies aren't usually sold to retail diesel consumers for fear of harming vehicle engines.

The imports could drop off during the winter, according to another source with a Chinese refiner, because some specifications of the blended product renders the product unsuitable for use in cold weather.

"Just like 'power kerosene', biodiesel is a product of a certain period. It will never become a mainstream product and will withdraw from the market eventually," said a senior Beijing-based oil product trader.

($1 = 6.1211 Chinese yuan) (Additional reporting Anuradha Raghu in KUALA LUMPUR; Editing by Tom Hogue and Manash Goswami)