Business World, 13 June 2015


The existing tax system is complicated, inequitable, inefficient and inadequate to sustain the massive public expenditure needs of a growing economy. Despite the best effort by Bureau of Internal Revenue commissioner Kim Henares, tax effort, the ratio of taxes to gross domestic product (GDP), remains mediocre.

Reliance on improved tax administration and anti-corruption measures is not enough. There is a need for a fairer, simpler, broad-based, and high-yielding tax system. Tax effort should be in the neighborhood of 17-20% in order to finance the massive needs for public infrastructure and investment in human capital.

The personal and corporate income tax systems are outmoded and out of sync with its ASEAN competitors.

The value-added tax system remains narrow and inflexible.

The real property tax system is unrealistically low, creating a bias for investment in land and real estate construction and away from factories and modern farms.

The next president should be ready with a tax reform package in 2016 because it has to be done early in the presidency. It’s ill advised to do it toward the end of one’s presidency because changes then are unlikely to result in real reform.

For example, if tax reforms were done today, Congress will approve the populist measures (say lower personal and corporate tax rates) but will ignore the hard, painful ones (say, higher VAT rate and higher tax on real properties).

This lesson is not without historical basis. The 1996-97 tax reform package, which happened during his last two years of President Ramos, weakened rather than strengthened the existing tax system.

So the first lesson in managing tax reform is that it is better done at the start, not toward the end, of the presidency.

The second lesson is that it’s better to limit the tax reform to a few, high-impact, measures. Don’t clutter the package with a few other measures with dubious economic value and minimal tax yield. The longer the list of tax measures, the higher the probability that the tax reform package will not be completed, or that it will be met with strong opposition.

The new President and the new Congress should act on a new set of tax reform measures swiftly and decisively, preferably before December 2016. With a clear and fresh mandate, and using the immense power of the presidency, the newly elected President should call on all parties concerned to support his program.

The 2016 tax reform should have the following core measures:

Lower personal income tax rates, accompanied by a higher consumption tax rate

Personal income tax rates should be reduced from 32 to 25% and should further simplify the system by reducing the number of brackets. This will align the Philippines with the rest of Asia.

In order to offset the expected loss in personal income taxes, raise the VAT rate from 12 to 15%. This is based on a sound argument that the individual should be taxed on the basis of what he takes away from society (consumption) than what he contributes to society (income).

But what about the poor, some bleeding hearts might ask. Well, the VAT may continue to be mildly progressive by exempting the consumption of food in its original state. Households may continue to avoid paying VAT on food consumption by cooking at home rather than patronizing fastfood places.

Lower corporate income tax rates, accompanied by rationalized fiscal incentives

Reduce the corporate income tax rate from 30 to 25% while rationalizing fiscal incentives. Many fiscal incentives are redundant, according to studies done by some economists.

Fiscal incentives should be fewer and should be time-bound and performance-based.

Some fiscal incentives result in revenue loss but may also be viewed as “pork barrel” on the tax side. Astute legislators sponsor some of these incentives laws in return for economic and political support from favored firms in future elections. Fiscal incentives are a big loss to the National Treasury, but a monumental gain for some politicians.

Flexible value-added tax on oil and oil products

Impose a flexible VAT on oil and oil products. World oil prices have plummeted by more than 50%. The government is the biggest loser in terms of lower oil product taxes. As a consequence, the government will be unable to finance much-needed public infrastructure and essential public services.

Filipino consumers and firms should not get accustomed to cheap oil prices. We don’t produce oil in this country. We continue to suffer from traffic congestion. Heavy traffic has huge external costs to the Philippine economy, estimated at around 7% of GDP.

The government should target a reasonable price of oil consistent with the country’s demand for the product and the external costs that oil consumption impose on the economy.

If the world price of oil falls/increases below a certain threshold level, say $80 per barrel, the tax on oil should be increased/decreased. Bus, taxi and jeepney fares should adjust also automatically. Adjustments should be predictable, effortless, and less bureaucratic.

A minimal national surtax on real property, centralized and increased valuation of real properties

Impose a minimal surtax on real properties. In order to better reflect the market prices of real properties, the government should centralize and increase the valuation of real properties. Real property taxes are local taxes. But there may be a need to levy a national surtax on real properties to improve tax collection and to make the tax system more equitable.

Wealth and property ownership are closely linked. A tax on real property maybe considered a wealth tax, hence higher tax on real properties will immensely make the tax system more equitable.

As a people and as a nation, we have invested too much on real properties — in high-rise condos, luxurious homes, elegant offices, and lush golf courses. At the same time, the Philippines is a labor-surplus economy. Hence, it makes sense if we focus on activities that would create a lot of decent jobs. Imagine if only a quarter of the resources that went into the construction of the Bonifacio Global City went into more factories and modern farms — then more workers would have been employed.

Strong, sustained and inclusive growth requires a lot of public sector resources to finance investments in public infrastructure and human capital. The finance managers talk of wider fiscal space as if it is an end in itself. The inconvenient truth is that fiscal space exists because of severe underspending while significant expenditure needs remain unmet.

The next President of the Republic should take a more realistic view. His first priority should be how to raise more resources with a simpler, fairer, and more broad-based tax system.

His second priority should be how to prepare the budget well, how to choose the right public programs and projects, and how to get the President’s men to implement these public sector activities efficiently, effectively, and on time.

Both priorities require strong leadership, political will, and a group of competent men and women.