Business World, 15 September 2015

The core elements of a broad-based, comprehensive tax reform program are lower income and corporate income tax rates, broader corporate tax base by rationalizing fiscal incentives, higher value-added tax rates, and higher real property tax.

Both the chairmen of the Senate and the House of Representatives Ways and Means Committee, Senator Juan Edgardo M. Angara and Congressman Romero Federico S. Quimbo, respectively, are right: the Philippine personal income tax system is archaic and needs to be reformed.

The present personal and corporate income tax systems have not been adjusted since almost two decades ago. With inflation-creep, the personal income tax system has collected from workers more taxes than what was originally planned.

Compared to its Association of Southeast Asian Nations neighbors, the Philippines’ personal income and corporate tax system continue to be the highest (see Tables 1 and 2).

For the personal income system, the Philippines highest marginal tax rate of 35% applies to top tax base of P500,000. Malaysia’s top tax rate of 26% applies to top tax base of P1.38-million equivalent; Indonesia’s top tax rate of 30% applies to top tax base of P1.87-million equivalent; Thailand’s top tax rate of 35% applies to top tax base of P5.5-million equivalent; and Singapore’s top rate of 20% applies to top tax base of P11.2-million equivalent.

In sum, I see no strong arguments why both systems should not be reformed now. But reducing the corporate and income tax rates should not be stand-alone measures. They should be done within a comprehensive framework for tax reform.

Because the Philippine tax effort, defined as taxes as percent of gross domestic product (GDP), is very low by international standards, a reasonable condition for the design of a comprehensive tax reform program is that the final outcome of the reform will be that it is at least revenue-neutral. Total taxes before the reform should be equal to or higher than total taxes after the reform.

Revenue losses from reducing personal income tax rates should be offset by higher value-added tax (VAT). It is not true that our VAT system imposes a heavy burden on the poor. In fact, a study by the International Monetary Fund finds that our VAT system is slightly progressive because food, in its original state, is VAT-exempt.

The poor can avoid paying VAT by cooking their own food, which accounts for about half of their budget, rather than buying them from fast-food outlets.

President Benigno S. C. Aquino III talked about the impact of higher commodity prices as a result higher VAT on petroleum products. But isn’t he aware that the price of petroleum products went down from $103 per barrel last year to less than $50 today, by more than half? The three-percentage point increase in the VAT rate would hardly make a dent in a typical consumer’s budget.

In fact a higher VAT on petroleum product is good for the government. It could make up for at least a big part of the revenue loss due to lower oil prices. It might even help ease traffic congestion in Metropolitan Manila and most urban cities.

The reduction in corporate income tax should be accompanied by rationalizing fiscal incentives. Tax perks should be rationalized, they should be fewer, focused, and performance-based. For too long, fiscal incentives have been a drain on the national treasury because of too many redundant tax sweeteners.

By limiting fiscal incentives, the corporate tax base is broadened.

The comprehensive tax reform program should include a nationwide real property tax (RPT) piggy-backed on the locally imposed RPT. The proceeds from it may be used to supplement the deficiencies in funding of the K-12 basic education system.

President Aquino should be less wary of a downgrade by rating agencies. The rating agencies are usually concerned with the risk of default. But the Philippines ability to service its debt is beyond question. Its gross international reserves total more than $80 billion, close to year’s imports requirement. Thanks to the annual inflow of some $25-billion to $26-billion remittances from Filipinos overseas.

The inflation rate is low and might even end up a tad lower than the 2% floor of the official inflation target. The 2016 deficit-to-GDP ratio of 2% is low by developing country standards, and it might even end up at less than 1%.

For a developing economy with massive infrastructure deficiency, having a budget deficit of as low as 2% is totally mind-boggling.

As President, Mr. Aquino should be more genuinely concerned with the sentiments of his “bosses”, the Filipino people, who feel that they have been overtaxed, yet get very little in terms of efficient and predictable public services.

No economist worth his soul would argue against the need for a comprehensive tax reform program (CTRP) for the Philippines. The new tax system should be broad-based, fair, efficient, high yielding, and competitive with its neighboring countries.

In terms of managing the reform, the CTRP is best left to the next administration.

With eight months before the next presidential and local elections, this might not be a good time to push for such meaningful change. A watered-down version, where tax-reducing parts would be enacted while tax raising parts would be neglected or deferred, would be counterproductive. It will only weaken the already flawed tax system.