A self-defeating vehicle tax

Ben D. Kritz

Ben D. Kritz

ON Tuesday, Finance Secretary Carlos Dominguez 3rd said that one of the more contentious tax reform proposals put forth by the Duterte administration, the imposition of a draconian new vehicle excise tax, would be implemented in 2018 in order to give the government time to make adjustments to the program and still have sufficient time to apply the anticipated revenues to infrastructure projects before the end of President Rodrigo Duterte’s term.

One minor detail that has been largely overlooked in the discussions of the tax reform package the administration has proposed to Congress is that much of it is a template passed on by the previous administration. It is not completely or even mostly the work of the current government bean counters, which raises the question of just how much input, other than their own, the tandem of Finance Secretary Dominguez and Budget Secretary Ben Diokno sought in developing the draft presented for legislative review.

The country is rich in experienced intellectual resources who have a much better idea of the realities of everyday life and business, and how certain tax proposals would affect those than anyone who has ever occupied an office in Malacañang. An example is one of my frequent correspondents, a businessman from Cebu, who shared some interesting suggestions.

The vehicle excise tax, as well as other taxes like the value-added tax (VAT) and the excise tax on fuel, is a consumption tax rather than an income tax, i.e., the taxpayer is taxed on what he spends rather than what he earns, a model that is generally considered to be regressive. This costs poorer taxpayers proportionally more than their more well-off fellow citizens.

He observed, however, that the partial shift from an income basis to a consumption basis for taxes – a significant feature of the tax reform package is the downward adjustment of income tax rates and the upward adjustment of the progressive tax brackets is due to a recognition “that income is being underreported by large segments of high-earning sectors – self-employed businesspeople and professionals, as well as those taking bribes and other large sources of informal income.”

By comparison, “due to their nature, the goods and services that high-income people tend to consume are much more easily taxed,” he added. “Relying on consumption taxes is socially inequitable, but perhaps less so than the present system which, while theoretically progressive, in practice is letting large numbers of people pay minimal rates of tax on both earnings and spending.”

Under the current proposal – the one which is apparently going to be under review for the next year – the excise tax for cars priced at up to P600,000 would be raised from the current 2 percent to 5 percent, while at the upper end, cars priced at P2.1 million or more would be taxed at 60 percent, rather than the current tax of P512,000 plus 60 percent of the excess over P2.1 million.

One way to look at this as an income tax capture model, my businessman friend suggested, is to consider the money a buyer would spend on a car as disposable or untaxed income. To buy a car worth P2.1 million, the buyer actually will need P3.36 million (P2.1 million plus P1.26 million in excise tax at 60 percent – for demonstration purposes, VAT is ignored here). The P1.26 million excise tax, therefore, represents an effective income tax rate of 37.5 percent, which is well above the 32 percent highest income tax bracket proposed.

The immediately obvious problem is that if we make the polite assumption that the government’s collection efficiency of income taxes will improve, that buyer will have already been taxed at 32 percent, with his P3.36 million representing his after-tax income. Altogether, he will have paid P2.84 million in taxes on a gross income of P4.94 million, an effective tax rate of 57.5 percent.

At the lower end of the spectrum, a buyer of a P600,000 car will actually need P630,000 to cover the price of the car plus the 5 percent excise tax. That P630,000 represents the net from a gross income of P840,000, which means in this case, the car buyer is effectively paying P140,000 in taxes, or an income tax rate of 16.7 percent.

Looking at it another way, it becomes an economic advantage for middle-income earners – the fastest-growing segment of the Philippine economy – to purchase a low-priced vehicle, which also happens to be the fastest-growing segment of the country’s automotive market.

The current vehicle excise tax proposal undercuts the government’s overall objective to reduce the tax burden on citizens, and it undercuts one of the key objectives of a higher excise tax, reducing traffic volume – if anything, it may actually increase the number of vehicles on the road.

It is encouraging, however, that the government plans to delay rollout of the plan to give time for further review. Some of that time should be spent gathering insights from people around the country who actually have to live with the eventual decision; some of them have a knack for pointing out things that may have been missed.




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1 Comment

  1. You compute that, under the proposed excise tax structure, buyers of luxury cars pay an effective rate of 57.5%, and those of economy cars only 15.7%.

    However, I fail to follow how this “may actually increase the number of vehicles on the road.” What it would seem to do is shift some purchases to smaller cars, which may not be a bad thing.

    Are you thinking that buyers may opt to get 2 small cars instead of just 1 luxurious one? Where would you park them?

    Your column “Too many cars” is worth revisiting. Policy could be carefully designed to discourage ownership of multiple existing cars. By carefully I mean to avoid unintentionally increasing the cost of living for the poor and middle classes.