Wednesday, April 11, 2007

Abolishing income taxes, Retaining consumption taxes

Why income taxes can be abolished,
Consumption taxes as main government
revenue source[1]

Bienvenido “Nonoy” Oplas, Jr.[2]

A. Philosophy/Principle

1. Economic activities by productive individuals and enterprises always (a) create jobs, and (b) expand production of food, housing, clothing, transportation, other human needs. Hence, they already serve welfare functions to society, and they should not be penalized with income taxes and bureaucratic licenses and permits.2. There are plenty of consumption-based taxes already in place. In particular: (a) value added tax or VAT, (b) sales tax, (c) excise tax, (d) import tax, (e) vehicle registration tax, (f) real property tax, (g) percentage tax, (h) amusement tax, (i) travel tax, among others.

3. In addition, various bureaucracy-generated taxes, like (a) documentary stamp tax, (b) franchise tax, (c) bank earnings witholding tax, (d) insurance premium tax, (e) business permit tax, (f) fire code tax, and so on.

4. Very bureaucratic, discretionary, costly and corruption-prone to fully enforce income tax collections since people do not want to divulge their true income; cheaper to hire good accountants and lawyers and bribe revenue collectors than pay the full income tax liability. What the current income tax laws only affect are the fixed-income earners like teachers, office employees, soldiers, and so on.

5. Welfare loss to society = income taxes paid + cost of compliance (hiring accountants, lawyers, other business consultants) + cost of bribery (to avoid paying taxes or bring down their tax liabilities).

6. In addition, many people who live off on taxes, like those working in multilateral institutions (UN, WB, IMF, ADB), in other governments’ foreign aid bodies and embassies, are exempted from mandatory witholding income taxes. The more reason that those working in the private sector, those who derive their income not from taxes of other people but on business sales, should be spared from paying income tax.

B. The Numbers

1. Collections from income tax (P Billion, except %)

(a) From Individuals
2005, 112.68
2006, 132.01
2007, 154.30

(b) From corporations, enterprises, others
2005, 210.75
2006, 263.22
2007, 300.07

Percent of (a) to total tax revenues
2005, 16.0%
2006, 15.0%
2007, 12.8%

Percent of (a+b) to total tax revenues
2005, 45.8%
2006, 44.8%
2007, 37.6%

Total tax revenues *
2005, 705.61
2006, 881.62
2007, 1,208.20

* Not included here are (i) “non-tax revenues” like various fees and charges, Bureau of Treasury (BTr) income, privatization proceeds, and (ii) local government taxes and fees.

(Source: Budget of Expenditures and Sources of Financing (BESF), 2007)

2. GDP computation

Gross Domestic Product (GDP) is the sum of household consumptions (C), government consumption (G), private and government investment (I) and net exports (X-M). Alternatively, GDP is also computed as the sum of gross value added (GVA) of agriculture, industry and services sectors. Or:

GDP = C + I + G + (X-M), or
GDP = GVA Agri + GVA Industry + GVA Services.

Nominal GDP figures were:
2003, P4.316 B; 2004, P4.859 B; 2005, P5.419 B; 2006, P6.025.

3. Assumptions when income taxes, at least personal income tax, is zero:
(a) informal or underground economy will fall from 43% ** (WB estimates) to around 20% of GDP (or 80% formal economy); and
(b) GDP growth will be higher as household consumption (C) will increase. And C comprises nearly 75% of GDP; and
(c) VAT to be augmented by a national sales tax, composite consumption tax of 12%; and
(d) all other consumption-based taxes are retained; exemptions to VAT retained.

(** Note: Main culprit for the high incidence of informal sector is the high and multiple taxes and fees, the many permits and licenses to secure with various government agencies, both national and local government units)

4. Projected revenue collections under zero income tax, expanded consumption taxes, on a P8 trillion GDP:
(a) Taxable national income = (nominal GDP) x (formal economy)= (P8 trillion) x (0.80) = P6.4 trillion(b) Projected collections from VAT & sales tax alone
= (taxable income) x (12% VAT & sales tax)= (P6.4 trillion) x (0.12) = P768 billion.
This is equivalent to projected collections of (i) income tax + (ii) general sales & VAT. Projected revenue from (i + ii) in 2007 is P628 billion. As discussed earlier, there are other tax revenues which will not be affected by this initiative, like proceeds from excise tax, franchise tax, property tax.

C. Conclusion

1. One major impact of zero income tax, especially on personal income, is large-scale job creation. A household with combined witholding tax of say, P6,000/month will experience an equivalent “wage increase” of the same amount. That amount will be used to hire a “yaya” (nanny) or housemaid, or increase food consumption if the family size is big, creating new jobs in the food production sectors.

2. In addition, many employees who dream of becoming employers and job creators someday will make it easier to realize their dreams. They do not have to borrow much money as they can save their de facto “pay rise” in the form of zero income tax, for bigger equity in their entrepreneurial project someday.

3. Society’s human resources will be reallocated to more productive use. There will be lesser tax collection bureaucrats, lesser demand for tax consulting services (accounting, legal, PR, etc.) as the taxation system is more simple. If those bureaucrats and income tax consulting guys are into productive enterprises instead, then society’s production of more goods and services will expand, further creating more job opportunities.

4. People often hide their source of income, or how much they’re earning. But they flaunt their consumption – big house, big or fast cars, expensive clothes and cellphones, throwing parties, frequent travels and vacation, and so on. Taxing people on their consumption is much easier to administer because they give clear hints of what are their consumption preferences.

5. Low-income people who paid no or low income tax and low consumption tax before will not be worse off in a new situation where consumption taxes are higher. With plenty of job opportunities around, moving to high-paying jobs should be easier if one has sufficient ambition and industriousness.

6. Ultimately, consumption tax and other taxes must come down; some will have to be abolished too (as income taxes remain zero) – in a regime of small government, and bigger personal responsibilities and bigger role for voluntary organizations and civil society.

D. Timetable

1. The main goal of this taxpayers’ movement is a law that will abolish income tax, and shift revenue collection to consumption-based taxes.

2. To lessen drastic revenue adjustments, that law need not provide outright drop in income tax rate from the current 32% to zero in one year. A phase-in period of gradual reduction from 32% to zero in a period of 5 to 10 years as sales tax increase is being worked out will be instituted.

3. Meanwhile, the immediate task is to expand the number of individuals and organizations who will support this single goal. Existing organizations can affiliate with PTU. Or individuals who do not belong to any organization can form their own local taxpayers association or union (say, Pasig Taxpayers Association) and affiliate with PTU.

4. If we are strong enough, we can push a bill this year, and expect a law within 2 to 3 years (2008 or 2009).

[1] Presented during the forum on “In Search of a National Consensus”, sponsored by the Barangay San Lorenzo Business Association (BSLBA), at My Cinema, Greenbelt 3, Makati City, March 30, 2007.

[2] Secretary-General, Philippine Taxpayers Union (PTU); President, Minimal Government Movement (MGM)

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