Boosting Income Tax Revenue Intake - Finance - Taxes

Boosting Income Tax Revenue Intake - Finance - Taxes:

Across most of Asia, tax revenues are low in comparison with other economies at the same income level. In Asian EMEs and LICs, the average ratio of revenues to GDP in 2011 was 19 percent, compared with 30 percent in Latin America and 37 percent in emerging Europe/Community of Independent States.
The relatively low revenue intake partly reflects an explicit policy choice favoring a low tax environment; but tax yields, which broadly control for differences in tax rates, also tend to be small in several Asian EMEs and LICs. Specifically:

• Income tax yields- as measured by the ratio of income tax revenue in percent of GDP to the tax rate in most of ASEAN and in South Asia are lower than with peers and advanced economies. Corporate income tax yields are particularly weak in some LICs (Bangladesh, Cambodia, and Nepal), Sri Lanka, and Japan.
• Yields from the value added tax (VAT) or sales taxes are especially low in Lao People's Democratic Republic, Malaysia, the Philippines, and South Asia. VAT yields are remarkable, however, in Thailand, where the system allows only very few exemptions, and in Vietnam thanks to the 2006-10 tax reform.
• Narrow tax bases. Tax bases tend to be small because of tax incentives and widespread tax exemptions that often reflect explicit policy choices, but are sometimes inefficient. For instance, for the Philippines a number of studies found the tax incentive system too generous and unnecessarily complex. Tax holidays and reduced corporate tax rates are particularly ineffective, as they create distortions between and within sectors, provide opportunities for tax abuse, attract uncommitted firms that leave as soon as the incentive expires, and have been unable to boost FDI to the country (Aldaba, 2006; Botman, Klemm, and Baqir, 2008; Reside, 2006, 2007; and IMF, 2012a). In Sri Lanka, the growing number of exemptions in consumer and corporate taxation has eroded the tax base (World Bank, 2012a).
• Deficiencies in tax administration. Despite reform efforts, tax administration remains weak in a number of countries because of understaffing and insufficient training, among other issues. For instance, the number of tax office personnel per 1,000 people is 0.2 on average in Asian EMEs and LICs, compared with 0.8 in non-Asian advanced economies and 0.6 in peers in other regions.
• Sizable informal sector. The shadow economy was estimated to average 21 percent of GDP in Asian EMEs and LICs in 2007, larger than the 14 percent estimated for non-Asian advanced economies, but smaller than in other emerging economies (38 percent) (Schneider. Buehn, and Montenegro, 2010).

While there is room for enhancing the efficiency of individual taxes in Asia, is there also scope for improving the overall tax revenue structure to make it more growth-friendly? Theoretical considerations and empirical evidence suggest that property and consumption taxes tend to have comparatively more benign effects on growth than other tax instruments (Johansson and others, 2008; Arnold and others. 2011). At the other end of the spectrum, corporate income taxes a form of capital taxation affecting investment decisions are typically most harmful to growth.
A well-implemented value added tax (VAT), in particular, is considered a relatively efficient tax since it avoids creating large distortions between the relative prices of goods and in saving decisions (Ebrill and others, 2001). Such benefits are best reaped when the VAT features a broad base, a single rate, and a fairly high threshold to exclude traders with little revenue potential relative to the administration and compliance costs involved.
Property taxes are also deemed to be an efficient and equitable mode of collection. Due to a relatively immobile tax base, they are less vulnerable to international tax competition and entail smaller distortions than others. Since real estate values are often boosted by public spending on infrastructure in the surrounding area, property taxes may also help recover some of the costs thereby incurred (IMF, 2011a). As real estate values reflect the provision of local services, they are especially appropriate for local governments and can be an important autonomous source of revenues for them.
Against these arguments, the broad mix of taxes in some Asian economies appears to be suboptimal. Indeed, in a number of economies, corporate income taxation makes up a relatively larger share of tax revenues than general consumption and property taxes, in contrast to the revenue structure in advanced economies and EMEs in other regions. For countries rich in natural resources (e.g.. Indonesia, Malaysia, and Mongolia), the importance of corporate income taxation reflects a reliance on revenues from the oil or mineral sectors which, although easy to administer, can be volatile and procyclical. Reliance on corporate income tax revenues is also sizable in Hong Kong SAR, India, the Philippines, Singapore, Thailand, and Vietnam.

About the Author

Venkat Prasad is a domain consulting of KDK Software, which is providing Income Tax Software for e-filing, TDS Software and various Taxation software in India.