Housing loans and tax benefits that most Sri Lankans are unaware of
“…the right of a house is something that one should earn through his own efforts …” stipulates the National Housing Policy objectives (refer http://www.sundaytimes.lk/150118/).
The policy further refers to “Strengthening the asset base of the people through housing development processes and alleviating poverty”.
In this context no emphasis is needed that the tax policy of the country should complement construction / acquisition of houses and be aligned with the National Housing Policy.
The VAT policy of sale and lease of residential accommodation being free of VAT provides a semblance of harmony between the two policies. Investments prior to 1st April 2014 in “Urban Housing Development” projects used be incentivised via tax holidays and if the policy makers resolve to continue the incentive into the future there would be greater harmony between the two policies.
According to the Presidential Task Force on housing and urban development, the total housing requirement by 2040 will be around 6 million based on the average family size of four. This would mean that a significant increase in the housing stock has to be achieved particularly in the urban areas to cater to this.
Double tax deduction
In keeping with the National Housing Policy of encouraging shelter, in the era prior to 2011, a double tax deduction was provided for borrowers of housing loans in the form of interest and repayment of capital deduction for tax purposes for “ANY” person. However at present only professionals in practice (not in employment) are allowed a tax deduction, that too only for repayment of capital as opposed to interest. One may observe that there is a drastic deviation of the tax policy in Sri Lanka today with the housing policy in this aspect. A tax deduction for the interest on housing loans is a common phenomenon in most of the countries to encourage housing for the citizens.
Suresh Perera
It is noteworthy that countries such as India, Pakistan, Malaysia and Hong Kong in the Asian region provide tax deductions for interest on housing loans as a policy. The importance attributed to a tax deduction for interest on housing loans in India is manifested by the fact that successive budget proposals for 2014 and 2015 by Indian Finance Ministers (2014 proposals by P. Chidambaram and proposals for 2015 by Arun Jaitley under Prime Minister Narendra Modi’s Government), providing relief for interest on housing loans obtained by any Indian national. There is an important lesson for our policy makers to derive from Mr. Jaitley’s aspiration to ensure that EMI’s (Equal Monthly Installments) in India to be cheaper than paying monthly rent for housing, so that a person’s choice would be to acquire a house of his/her own rather than securing shelter by renting.
Housing loans
It is amusing to note the reason as to why the Inland Revenue Act of Sri Lanka at present does not provide for a tax deduction for interest on housing loans to white (other than defined professionals) and blue collar workers. It is significant that there was no considered policy decision that was adopted to eliminate the tax deductions that prevailed for the housing loans prior to 2011 era. The elimination of the housing loan tax relief that was available to “any” taxpayer under the Sri Lankan tax regime was an indirect result of the simplification of the tax system in 2011, a measure to ease the burden of the tax administrators at a heavy cost to white and blue collar workers.
As a means of simplification of the tax administration and reducing the number of personal tax files, a budget proposal was presented to ensure that a person with employment, dividend and interest income to be relieved from filing a Return of Income, as all three sources are subject to withholding tax at source. A logical proposal on the face of it indeed! There was no policy decision by the policy makers to abolish the deduction of repayment of capital of a housing loan all together, nor to deprive the taxpayers with employment, dividend and interest income, the benefit of the deduction of the interest on housing loan. The manner in which the aforesaid budget proposal for simplification of the tax system was couched into legislation resulted in the white and blue collar workers being deprived of the hitherto existed tax relief for housing loans. The process of enactment of legislation in Sri Lanka is such, this important aspect was not even highlighted in the Parliament by the representatives of the people at the point of passing the Amendment to the Inland Revenue Act. The elimination of the tax deduction on a housing loan is a measure that has far reaching consequences on borrowers and it goes against the National Housing Policy of the country. This therefore is the amusing story of blue and white collar workers in Sri Lanka being deprived of a tax concession available in other tax jurisdictions.
If an observer finds the above amusing, the reaction or may I say the total lack of it, by the professionals and bankers, towards the housing loan tax incentives legislated to provide relief to “defined” professionals with effect from April 2014 indicate that demystification of tax law is required not only among the lay persons but among the professionals too.
Tax relief for professionals
From April 2014, two income tax amendments were introduced aimed at providing relief for “defined” professionals. The first amendment grants a tax deduction for the “defined” professionals for repayment of the capital portion of a housing loan by way of a “qualifying payment deduction” in computing the annual tax liability (Section 34 (2) (w) of the Inland Revenue Act).
The second amendment was formulated by the policy makers in order for the “defined” professionals to obtain housing loans at a comparatively low rate of interest from financial institutions (Section 59G). The scheme is to grant a direct tax benefit to the lending institution by reducing the tax payable by such financial institution by 50 per cent on interest derived by extending housin loans to “defined” professionals, enabling the institution to pass on the benefit to the “defined” professionals. The provision was not introduced with the intention of improving the bottom line of financial institutions but to extend a benefit to “defined” professionals via the banks passing on the saving to the professionals. Alas! How many banks have acted on this and offered lower rates of interest on housing loans to the customers who are professionals? How many professionals have negotiated with the lending institutions for a reduced rate of interest on their housing loans based on the change in the law? The benefit is legally due not only to new loans but for existing loans as well. The failure of most of the banks to capitalise on this tax incentive and offer a lower rate of interest for housing loans to professionals and the failure of the professionals to negotiate a lower rate, perhaps reflect the communication gap with regard to tax rules in Sri Lanka. It was Albert Einstein who said that “The hardest thing in the world to understand is the income tax.” However in this instance, it’s not essentially the complexity of the tax incentive but merely the communication gap that acts as the barrier for preventing the relevant parties from deriving the benefit contemplated by the policy makers. Demystification of tax remains a challenge not only among the lay persons but among the professionals as well.
“Home ownership stimulates the attitudes of independence and self-reliance that are the bedrock of a free society” – this was pointed out sby a former Secretary of State for the Environment under Margaret Thatcher Government in 1979. Hence it is inevitable that Sri Lankan policy makers should eliminate barriers in the tax policy which hamper the National Housing Policy. Housing loan tax benefits should not be extended only to professionals but to all Sri Lankans! The priority is to revive the status quo prior to 2011 and enable “any” person to obtain a tax deduction for interest (and capital) components on housing loans obtained. Meanwhile, the professionals and the banks must make avail of the benefits that are already in the legal framework for the benefit of themselves and the country.
(The writer is the Principal of the Tax and Regulatory Division at KPMG Sri Lanka and a frequent commentator on tax matters)