Budget 2017 – Journey towards better tax governance
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Finance Minister presents the 2017 budget.
The Sri Lankan tax system is in a transition. The present process of the ongoing automation of the tax system via Revenue Administration Management Information System (RAMIS), would revolutionise the tax culture though not immediately but in a few years’ time. It’s appropriate to say that during the past few years the system has been struggling to meet the objects of a tax system denoted by the 4 ‘R’s: Revenue, Re-distribution, Re-pricing and Representation.
Revenue
Declining Tax/GDP ratio is reflective of the failure of the system to generate sufficient revenue for the expenditure of the state resulting in greater reliance on debt. During the recent past, focused measures executed for enhancement of the tax revenue were witnessed in the form of introduction of new taxes, increase of tax rates and enhancement of the tax base. Increase of the VAT rate to 15 per cent and elimination of many VAT exemptions are measures implemented this year towards this end. The critique against resorting to an indirect tax such as VAT for bridging the tax gap may have resulted in budget proposals 2017 focusing on an increase in direct taxes for the purpose of garnering tax revenue to the state’s coffers. Almost 46 per cent of the revenue proposals for 2017 are from direct taxes (corporate tax revisions, revision of withholding tax, PAYE tax revisions, Capital Gains Tax) excluding Economic Service Charge (ESC). Both corporate and individual income tax rates have been increased whilst eliminating a plethora of income tax exemptions. ESCÂ base, a direct tax on turnover, has been expanded drastically to ensure any person earning turnover more than Rs.12.5 million per quarter will be paying ESC, ensuring an enhancement in the direct tax base.
Equity in taxation
It should also be appreciated that the tax policymaker has been sensitive to the ‘less privileged’ in the process of gathering taxes for the expenditure of the state. Though the personal income tax rates have been increased, the personal tax allowance has also been increased (tax free allowance on employment from Rs. 750,000 to Rs 1.2 million per annum), so that low income earners would be less effected. In the case of increasing the VAT base, it has been ensured that most of the essentials goods remain outside the VAT net such as dhal, coriander, sprats, turmeric, wheat flour, pharmaceuticals, etc. In the process measures have also been taken to reduce the maximum retail price (MRP) of essential goods such as green gram, dhal, potatoes, sprats, white sugar, kerosense, LP Gas. Healthcare will be exempt from VAT other than the fees paid to the medical practitioner, medical consultation fees, channeling fees and hospital room charges. This trend indicates that the policymaker is conscious of the principle of ‘equity in taxation’ – a proportionate tax burden to be on broader shoulders.
Re-distribution
It is also a fact that the Sri Lankan tax system has failed in its second ‘R’ – “Re-distribution of income and wealth”. The World Bank’s systematic country diagnostics manifests that almost 40 per cent of the Sri Lankan population lives on less than Rs. 225 per person per day. To address the issue of re-distribution the Government has been contemplating to re-introduce Capital Gains Tax in the recent past and the said measure has now been couched in the 2017 budget proposals. CGT will be introduced at the rate of 10 per cent with effect from April 2017. The policymaker is attempting to gather direct tax revenue from those gaining due to ownership of immovable property. However, the estimated revenue is merely Rs. 5,000 million.
Re-pricing
The Sri Lankan income tax statute has always been based on the concept of use of multiple income tax rates for “Re-pricing” (using tax as a tool for encouraging/discouraging certain sectors). The budget proposals 2017 have retained the policy of re-pricing notwithstanding revising the income tax rate structure applicable to corporates. A higher rate of 40 per cent is to be applied on “sin” industries whereas a lower rate of 14 per cent has been extended to four “preferred sectors” of SMEs, exports of goods and services, agriculture and education whilst all other sectors would be liable at the standard corporate income tax rate of 28 per cent. Low standard corporate income tax rate of 15 per cent pronounced in 2016 budget proposals and subsequently increased to 17.5 per cent but never enacted, has been reduced to a mere “midsummer night’s dream”. Finally the policymaker has digested that such a low corporate income tax rate is not a possibility in the context of the low tax collection by the tax office at present as well as its policy direction of remedying anomalous current direct tax to indirect tax ratio to reflect 40:60 in five years’ time, as was stated in the policy statement pronounced in November 2015.
Quo vadis simplification?
“Simplification of the Sri Lankan tax system” is a theme that both policymakers and taxpayers alike espouse and desire. Towards this end, from time to time many taxes and levies have been abolished from the tax net. Debits tax, Save the Nation Contribution, Infrastructure Development levy, Social Responsibility Levy are few taxes there were eliminated in the past from the tax net of the country in order to drive simplification within the tax regime. One may observe even after these measures, the list of taxes and levies in the country exceed 30 in number. The predicament of the drive for simplification is that, on one hand whilst nuisance taxes are being abolished another set of new taxes, levies and charges are being introduced due to a strain arising out of a shortage of revenue. For instance in this budget, the new taxes and levies such as Carbon Tax (for all carbon fuel run motor vehicles), Financial Transaction Levy (Rs. 5 per Rs 10,000 on the total cash transactions), Beedi leaves Import Licence (Rs. 5 million annual fee), Import Licence for lubricant, bitumen and gold, Annual licence fee for firearms, SIM card activation levy (Rs. 200 per SIM), Tax on advertising foreign products through satellite and cable TV (Rs. 50,000 for 30 second advertisement), court fee for filing a case, etc have been introduced. This does not help the cause of simplification of the tax system of the Sri Lanka though this would generate revenue to the state coffers to achieve the revenue targets. Revenue collection proposed from Carbon tax is Rs.4,000 million, Financial Transaction Levy – Rs. 8,000 million, court fee – Rs. 7,500 million, etc.
National Tax Council and Tax Ombudsman
Hidden in the usual tax proposals that one may find year on year are two unique proposals that may change the outlook of the tax system in Sri Lanka if duly implemented – the proposed establishment of a National Tax Council and the Tax Ombudsman.
It is expected that the ‘National Tax Council’ will consist of persons with requisite tax knowledge and skills who could guide the state in formulating a National Tax Policy which would ensure Equality, Certainty, Convenience and Economy in the tax policy making – the pillars of a good tax system. The Council should be involved in introduction and abolishing of taxes, identifying appropriate tax policies for each business sector, obtaining representations and feedback from the stakeholders with regard to the tax policies, overall supervision of the drafting of the tax legislation, etc. This would ensure an elevation of the tax policy-making process to a different level. Most importantly, the existence of this Council will ensure the consistency of the tax policies in the long run notwithstanding regime changes.
Whilst this Council would impact the quality of the tax policy process in Sri Lanka, the Tax Ombudsman on the other hand, would improve the tax administration of the country. The institution of a Tax Ombudsman is prevalent in many other countries such as Pakistan, Canada, South Africa, United Kingdom, etc. The role of the Ombudsman would not be the domain of interpretation of technical tax matters but providing solutions to the grievances of the taxpayers due to mal-administration of the Revenue Department and its officers. Tax Ombudsman in other countries attend to issues such as undue delays in processing refunds, issuing tax clearances, delays in finalising audits, disputes with the tax officers stemming from negative behavioural patterns, etc. The existence of a Tax Ombudsman would smoothen the process of tax compliance and tax administration, greatly improving the confidence of the taxpayers in the system as a whole and avoiding unpleasant experiences by the tax- payer. The Ombudsman should be accountable to the Minister of Finance and may have statutory mandate, to provide directions to the Commissioner General to resolve issues.
Representation
‘No taxation without the representation’ is the fourth ‘R’ of a good tax system. The 2017 budget proposals project a tax revenue collection of Rs.140 billion while the annual tax revenue estimated for the year 2017 is Rs. 1,821 billion. The elected representatives of the people are accountable as to the utilization of the tax revenue. As per the Appropriation Bill 2017, the estimated Government Expenditure in key areas of Health (Rs.161 billion), Education (Rs.77 billion), Defence (Rs. 284 billion), Law and Order (Rs 68 billion) Higher Education and Highways (Rs. 163 billion) should manifest benefits to the tax paying public. This in turn would enlighten the citizens of the virtue of payment of taxes leading to voluntary compliance. Voluntary compliance by the taxpayer plays a pivotal role in the smooth operation of a tax system in the long run. Voluntary compliance by a tax- payer stems from their confidence and belief in that their taxes are being put to good use. Hence it is vital that the Government of the day fulfills this obligation so that Sri Lanka will have a vibrant, automated tax system with minimum intervention by the tax authorities.
(The writer is Principal, Tax and Regulatory – KPMG. Comments on this article could be sent to sperera@kpmg.com)