The looming tax fight

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THE P3.3-trillion national budget, on which Congressional deliberations have just begun, will need more funding than the government can be expected to gather under the current revenue framework, and that leaves two options: The government can either significantly increase its amount of debt, or it can raise taxes. Since reworking the existing income tax structure to lessen the burden on middle- and lower-income wage earners is another key objective of the Duterte administration, the decision has evidently been made to make up the budget’s revenue gap with higher taxes.

The main proposals are to raise the value-added tax (VAT) from its current 12 percent to 15 percent, to eliminate VAT exemptions on about 30 products or product classes, and to increase the excise tax on fuel, first by applying it to diesel fuel (at a starting rate of about P4.53 per liter), and then indexing the excise tax to inflation, which would result in an annual increase in the excise tax rate of between one and four percent.

If the adjustments to income taxes are carried out at the same time, the entire body of work would be one of the most sweeping tax reforms ever carried out at one time by a modern nation. That alone is enough to give us pause; despite the constant mantra about the “change” being brought about by the Duterte government, there is a great deal that has not changed, including the basic organization and lower-level staffing of most government departments. This is the same organizational framework that has for years been unable to keep up with basic collection targets or carry out the nation’s accounting in an efficient way, and the likeliest outcome of its being tasked to manage a completely new scheme will be utter chaos.

That, however, is a practical problem that can eventually be worked out, and even taken into consideration in planning for the budget. The bigger problems with the proposed tax changes, particularly those involving the VAT, are more political and philosophical.


The debate over ‘fairness’ in taxes boils down to a question of whether it is more equitable to tax people (and businesses) on what they earn, or tax them on what they spend. In the weeks before officially taking office, Finance Secretary Carlos Dominguez was rather forthright about where he stood on the question. VAT and other forms of sales taxes are, he said with evident conviction, a regressive form of taxation that imposes a proportionally larger burden on those who earn less.

He was opposed in this by Budget Secretary Benjamin Diokno, who has consistently called for a higher VAT for years. Diokno’s position does not seem to be based on broad principles, but rather practicality; VAT is a reliable source of government revenue, particularly in a consumption-driven economy, and is relatively easier to manage. His assessment is that the country on the whole can probably absorb higher sales taxes, and he is probably right; and as far as the social concern that VAT is inequitable, it is ameliorated somewhat by the fact that, except for the most basic necessities (most of which are or can be exempted), it is at least optional. Don’t want to pay the tax? Don’t spend your money.

On a consumer level, raising the VAT will curb consumption, although policymakers are banking on that not being a significant decrease, because it will curb consumption more at lower levels of income, where overall expenditures are less. Those with higher incomes may slow their spending a bit, but historical experience in this country (when the VAT was raised from 10 percent to 12 percent) and others in similar circumstances indicates that most higher-income consumers simply spend the bit extra required to make up the difference needed to maintain their normal habits.

On a business level, however, the adjustments to the VAT will have a chilling effect. The increase itself will not be such a problem, but the exemptions whose elimination has been proposed will be. Among the more alarming items on the list: Most agricultural products, clothing, real estate, the importation of professional instrumentation and implements, milling services for grains, fuel imports for international shipping or air transport operations, most services of banks, lending companies, and other financial services providers, the sale of raw materials to export-oriented enterprises, renewable energy, the sale of gold to the BSP, and services to persons engaged in international shipping or air transport operations (the inadvertent suspension of which some years ago related to hotel rooms used by foreign airline crews almost caused several airlines to stop service to Manila).

Tax exemptions of one form or another are, quite frankly, a normal and expected part of doing business in any country, and unless the administration or its legislative allies proposes comparable substitutes for the exemptions they are proposing to end, it will cause a race for the exits. The fight over this that is likely to erupt in the next few weeks is likely to be entertaining; unless something about the plan is fundamentally changed, it is a fight that we should all hope the Duterte administration loses.

ben.kritz@manilatimes.net

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1 Comment

  1. The emphasis of the tax system towards income or consumption does come from political and philosophical principles. But the choice is not exclusive, and most tax systems do much of both.

    Pragmatically, consumption can be taxed effectively as businesses who offer consumer goods must necessarily strive to be as visible as possible, and will induce their entire supply chain through the VAT system. While taxpayers can avoid an onerous level of consumption taxes by deferring consumption or going abroad for consumption, the vast majority of production and consumption can indeed be made into a reliable tax base by VAT and other forms of consumption taxes.

    The system for taxing income is comparatively underdeveloped. There is simply no effective means of objectively measuring certain forms of revenue (e.g. cash revenues of the self-employed) and these pockets of unfairness has a corrosive effect on the entire base.

    In the meantime, we have only an approximation to a progressive tax system in which ‘richer’ forms of consumption are taxed in higher ways. Some of these are: fuel excise taxes, overseas travel tax, and (previously) taxes on luxury motor vehicles. If the necessary laws to enable effective taxation of income cannot be passed, it becomes necessary to continue taxing consumption, and to find ways to exact higher consumption taxes from the better-off sectors.

    Note: Any increase in VAT has to be accompanied by more effective enforcement of VAT on imported goods. Otherwise it becomes even more lucrative to bring these in and price them against domestic goods that have paid 12-15%.