Propoor tax reforms

As planned, the Department of Finance submitted early this week to the House of Representatives the first package of tax reform bills. Prominent in the package is a restructuring of the personal income tax to significantly cut taxes on the poor and the middle class, while raising them for the “ultra-rich.” Also proposed is expanded coverage of the value-added tax (VAT) by reducing exemptions. Meanwhile, excise taxes on oil products will be raised, while those on motor vehicles will be restructured to raise them for automobiles, but not for buses, cargo vans, jeeps, jeepney substitutes, special purpose vehicles and trucks. All together, these promise to make the tax system more propoor, while raising an additional P200 billion for the government to fund much-needed improvements in infrastructure and social services.

I have long lamented that the Philippine tax system overall has, on balance, favored the rich more than the poor, due both to our tax laws and to the way they are enforced and administered. In actual practice, rich Filipinos have been paying a much smaller portion of their total incomes in taxes than those with lower incomes do, effectively making our tax system regressive and antipoor. This is an injustice that the government now appears poised to change with its tax reform proposals.

That the proposed personal income tax reform will be more propoor should be easy enough to see. I have explained before how income taxes have become unjustly onerous to middle- and lower-income taxpayers through the years, due to “bracket creep” that results from inflation. At present, the top income bracket taxed at the highest rate of 32 percent starts at an annual income of P500,000. This may have made sense in 1986, when the income tax brackets were last set. But P500,000 in 1986 is equivalent to P3.3 million in today’s pesos, implying that the top income tax bracket today should actually start at that level of annual income. Today, an annual income of P500,000 would correspond to that of a middle-income earner, certainly far from being among the richest in society deserving to be taxed at the highest rate. Meanwhile, the lowest tax brackets paying 10-15 percent under today’s rates correspond to monthly incomes of P800 to P5,800, way below the poverty threshold of P9,000 monthly family income. The policy has been to exempt the poor from any income tax, and yet they are actually required by law to pay up to 15 percent of their income—an unrealistic and unjust imposition.

The DOF proposal, then, is to adjust the income tax brackets to realistic levels, by lowering the tax rate to 25 percent for annual incomes beyond P800,000 up to P2 million. However, for the “ultra-rich” earning P5 million and above, the rate will be raised to 35 percent, while those earning P2-5 million will see their rate reduced to 30 percent. Meanwhile, those earning the minimum wage up to about P20,000 a month will only pay a “token” P500. There will also be a shift to a modified gross income tax to avoid the complexities (and loopholes) of reckoning with various types of deductions.

As for the VAT, there are those who fear that broadening the base of the tax by eliminating certain exemptions may harm the poor. The list of VAT exemptions consists of 22 broad categories, and is, to my mind, a bit long and generous. It covers things such as medical and dental services (other than professional fees), bank services, and books and magazines, among others not necessarily bought prominently by the poor. A particularly emotional argument concerns the VAT exemptions of senior citizens, who already receive 20-percent discounts on various essentials, and adding further the 12-percent VAT exemption takes a rather generous one-third off their costs. Given life expectancies between the rich and poor, it’s quite likely that the greater majority of living senior citizens can well give up that 12 percent, and settle for the 20-percent discount which is arguably already generous even for the poor.

The problem with so many exemptions, apart from leading to outright foregone revenues, is that it provides wider opportunities for evasion by misrepresentation. Having numerous exemptions indeed makes administering any tax a potential nightmare. A past study by the National Tax Research Center revealed that only around 30 percent of economic activities were captured by the VAT, and estimated a gap of P135 billion between potential VAT revenues and actual collections in 2009; this would be much higher by now. The DOF expects to gain P163.4 billion from proposed reductions in VAT exemptions.

What about increased excise taxes for oil products and cars? One doesn’t have to know the Family Income and Expenditures Survey data to see that richer households spend proportionately more for gasoline and other petroleum products than poorer ones do. Raising excise taxes on these fuels will thus hit richer pockets more. Similarly, higher taxes on cars, but not on vehicles used for mass public transport and freight, will be borne more by those with higher incomes. And as I have pointed out in a recent column, taxing cars more heavily has been an effective market-based solution against traffic congestion in many countries. In the end, the mass-transport-riding public, especially the poor who have no choice, stand to benefit greatly from improved traffic flow on our roads.

Most analysts welcome the DOF tax reform package, being propoor in its impact even as it would raise much additional funds for the government. If Congress acts on it swiftly, the poor and the middle class could enjoy much-needed tax relief by next year. And that means most of us.

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