A case of perverse taxation

The first and most critical phase of the Duterte administration’s comprehensive tax reform package has finally passed the House of Representatives, and moves on to the Senate. Tax reform has to be the most urgent priority in the administration’s economic program, particularly given its promise of a “Golden Age of Infrastructure,” aimed to be funded primarily from the government budget. All that becomes shallow talk without backing it with convincing tax reform that would ensure sustained additional government revenues to support it.

Critical to the comprehensive tax reform measure is the significant reduction in personal income taxes, long overdue as our middle class has been taxed rather onerously over the years, especially compared to our Southeast Asian neighbors. But this reform comes at the cost of the government giving up an estimated P138 billion in revenues, which will be mostly offset by updating excise taxes on petroleum products.

There are at least three reasons why increasing taxes on fossil fuels now makes eminent sense. One, inflation has far overtaken the level of these taxes. Petroleum prices have more than doubled since the taxes were last set 20 years ago, yet the excise taxes remain pegged at their 1997 levels. Second, this tax increase primarily hits the rich. The Family Income and Expenditures Survey tells us that the richest 10 percent of Filipinos actually account for over half of our total fuel consumption. Third, taxes on fossil fuels serve as a “pollution tax” that accounts for the external cost to society of increased carbon emissions into the atmosphere—the established key cause of climate change—resulting from use of such fuels. Such external costs that no one otherwise pays for must be internalized—that is, be made part of the monetary cost of using these fuels, if society is to use them based on a full cost-benefit basis. Fuel taxes serve that function.

This is where I must point out something that our lawmakers and finance officials have so far missed in the tax reform bill as passed. While excise taxes on diesel, gasoline and liquefied petroleum gas have been updated, that on coal has stayed the same for decades, at only P10 per ton. Because coal has always been classified as a mineral rather than a fuel, it is treated separately from petroleum fuels. Major coal importers Japan and Korea, on the other hand, have imposed a carbon tax on coal of 1,370 Yen (P600) and 21,000 Won (P915) per metric ton, respectively. Our tax on coal, which is mostly imported, translates to an effective rate of only about 0.2 percent (based on a coal price of $86 per metric ton), compared to around 10 percent for gasoline. Our own natural gas from Malampaya—an indigenous product and the cleanest of the fossil fuels—is subject to a 60-percent royalty on sales (estimated at 72 percent of gross revenues), equivalent to a tax of around 43 percent. Against these, taxes are unduly lopsided in favor of coal.

Industry experts estimate that coal-fired power plants emit 750 grams of carbon dioxide per kilowatt-hour (g/kWh) generated, oil-fired plants emit 660 g/kWh, and gas plants 400 g/kWh. And yet coal, the dirtiest among them, gets taxed very lightly, while the cleanest, natural gas, is effectively taxed the heaviest—a case of perverse taxation, if you ask me. How can we expect to have a cleaner environment when we penalize the cleanest fossil fuel the most, but give the dirtiest a virtual free ride?

Clearly, there’s a strong case for a big hike in the long-outdated excise tax on coal. With an annual domestic consumption of 15-17 million tons, the P10-per-ton coal excise tax yields less than P200 million, when it could be yielding billions if we only taxed it at even just half the rates Japan and Korea do. With an estimated 2,700 kWh generated for every ton of coal, a P10-increase in tax would raise power cost by less than half a centavo. We are missing out on a large additional revenue source here.

More importantly, we can correct our current perverse incentives running against the use of cleaner fuels, and pursuit of a more sustainable future.

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