By Milwida M. Guevara
Many moons ago, we were often told how imperfect our tax system was. Government was heavily reliant on indirect taxes which meant that the tax system was regressive, i.e., the poor bore a heavier burden than the wealthy. The aspiration of moving away from indirect taxes became part of our country’s development plan every year.
Things have changed since then. Indirect taxes, particularly the value-added tax (VAT), have become more prominent, not only in the Philippines but throughout the world. From 25%, indirect taxes now account for 40% of total tax revenues of developing countries. In our case, the VAT now contributes more than 30% of total revenues.
What accounts for the eminence of the VAT? One, the income tax has always been difficult to collect. Incomes and expenses have to be accurately reported by taxpayers and efficiently and honestly assessed by BIR examiners. Difficult tasks indeed. The income tax collection comes largely from those who are caught by the withholding tax system. These are the wage earners who account for 81% of individual tax collection. I reckon that the contribution of business income earners would have even been smaller without the withholding system.
Second, is the disincentive effect of the income tax. Who would willingly part with 32% of his hard earned income especially if he is quite unhappy with how taxes are spent by government? At a certain point, a taxpayer can say that he would rather rest, retire, and indulge in leisure than do additional work because a huge part of his additional income is taken away by government. The disincentive is especially pronounced when an additional income pushes the taxpayer to a higher income tax bracket.
In the midst of all the difficulties and disenchantment with the income tax, the VAT started to evolve as a phenomenon. It was a better alternative to the sales tax because the VAT did away with multiple taxation on goods and services. The VAT system allows traders to deduct the VAT which they paid on their inputs. Thus, only the value that they added to production is taxed. It was also a boon to exports because exporters are refunded for the VAT they paid on their inputs. (The Philippine case remains a departure from this system because exporters are given a tax credit instead of a refund).
But is the VAT regressive? It is at best a proportional tax because consumers, regardless of income, pay 12% of the price. To spare the poor from the VAT, the goods and services that they consume are not part of the VAT base. This explains why there is no VAT on unprocessed food like rice, fish, vegetables and meat. Education, books, low cost housing and hospital services are VAT exempt. The rule is to exempt goods and services that are part of the consumers’ basket of the poor.
But politics, lobby groups, and vested interests began to dilute what used to be a clear policy rule. Cooperatives became exempt and so were firms in economic zones, tourism enterprises, and firms engaged in renewable energy. Instead of just being attached to goods consumed by the poor, the VAT exemption was made available to preferred producers. The exemption of senior citizens further muddled the policy rule as the VAT exemption is now given based on the type of consumers. The door is now wide open to more and more exemptions and a wide departure from what is sound, efficient and equitable.
The budget is a more efficient means of helping sectors that deserve public support. Direct budgetary appropriations are more transparent. Tax exemptions are hidden expenditures of government. We never know the amount of protection that exempt persons or organizations enjoy and who get them. For all we know, we are subsidizing the wealthy.
A not so well known feature of the comprehensive tax reform of the Ramos administration is the withdrawal of the VAT exemption of all firms including those protected by the Board of Investment. An innocent looking provision amended all the VAT exemption laws. I was praying hard during the Senate deliberations that the provision be left unnoticed. Heaven smiled and it was! I remembered a fuming DTI secretary when it was discovered. But the dice had been cast.
Who knows, history can repeat itself?