Worsening tax performance

AS OF MAY THIS YEAR, THE GOVernment had spent P579 billion against revenue collection of only P456 billion, leading to a deficit of P123 billion. The government has already revised its deficit target twice this year, as the original full-year target of P102 billion had been exceeded in just the first four months of the year. After revising it earlier to P199 billion, the latest target now stands at P250 billion, reflecting the double-squeeze the government finds itself in.

On one hand, it is forced to hike spending to help sustain demand for the economy’s production of goods and services (i.e., act as “spender of last resort”) in the face of declining private consumption, exports and investment spending. On the other hand, the dramatic slowdown in the economy has also reduced the base on which taxes can be collected.

Worse, the recent record (2005-2007) indicates worsening tax collection efficiency. In other words, it’s bad enough that potentially collectible taxes are lower than earlier hoped due to a shrinking bibingka; the government’s ability to collect what should be collected appears to have been weakening as well.

Good news, bad news

Dr. Rosario G. Manasan of the Philippine Institute for Development Studies has been carefully tracking the government’s tax and revenue performance over the years. Her latest update looked at the period 2002 to 2007, and she found that the tax-to-GDP ratio (also known as tax effort) had turned upward in 2005. That was good news, taken against the steep decline in this common indicator of tax performance from its Ramos-era peak of 17 percent in 1997, to a record low of 12.4 percent in 2004.

But alas, the good news was not to stay for long, as the ratio had fallen again to 14.0 in 2007, after inching up to 13.0 and 14.3 percent in 2005 and 2006 respectively. I looked up the 2008 figure from more recent government data, and it has gone worse: The ratio had gone down further to 13.6 percent. What is particularly troubling is that the tax performance had actually declined anew beginning in 2007, when our economy was reported to have attained the fastest GDP growth in 30 years.

Collection leakages

Even the momentary good news in 2005-2006 was found by Manasan to be compromised by results of her closer analysis of the sources of the improved tax effort then. The increase, it turns out, was mainly due to the enactment of new tax measures introduced in 2004 and 2005, particularly the revised “Sin Taxes” Law (Republic Act No. 9334) and the “Reformed VAT” Law (Republic Act No. 9337).

Apart from increased taxes themselves, another source of improvement in tax collection could be a change in structure of the economy towards higher-taxed industries. Manasan found that this explained a smaller portion of the increased tax effort from 2005. But she found that both gains were undermined by increased tax leakages in 2005, 2006 and 2007 relative to their 2004 levels.

In her calculations, she found that in comparison to 2004 levels, BIR tax leakages rose by 0.78 percent of GDP in 2005, 0.22 percent in 2006, and 0.51 percent in 2007. For 2007, this translated to an additional leakage of P37 billion in BIR collections over what they were in 2004. This increased leakage alone could have wiped out that year’s government deficit three times over. Note again that the amount only gives the increase in the tax leakage on top of the 2004 leakage, for which Manasan had no estimate. But this tells us that the government has lately been losing tremendous sums of money to poor tax compliance and collection—and we haven’t even begun to talk of equally daunting amounts lost to corruption on the spending side.

Falling sin taxes

The picture gets worse as one focuses on the sin taxes, from which a higher tax yield had been expected from amendments to the law, but instead saw even lower collections. RA 9334 raised the tax rates on tobacco products and alcoholic beverages successively until 2011. But rather than see higher collections from the sin taxes, the excise on tobacco products dropped from 0.47 percent of GDP in 2004 to 0.35 percent in 2007. A large part of this reduction appeared to be due to a decline in the recorded volume of production of tobacco products in those years, which Manasan found surprising given the highly inelastic demand for cigarettes. That is, studies have shown that the demand for cigarettes changes very little even when price goes up, as when taxes on them are raised. This arouses curiosity on the possibility that sales volumes could have been understated in reaction to the law. Alcoholic products gave a similar story, with excise taxes dropping from 0.33 percent of GDP in 2004 to 0.29 percent in 2007. Here, however, it was higher tax leakages which Manasan clearly found to be the culprit.

This curious decline in sin tax collections dampened the increases that came from the higher VAT rate (from 10 to 12 percent), and the temporary hike in corporate income taxes from 32 to 35 percent, which revert back to 32 percent this year.

A worsening tax collection performance is the last thing we need at this time when recession pressures from abroad are putting great pressure on our government’s financial position. Now there is talk of further tax increases—and we are back to the patently unjust situation of penalizing the faithful taxpayers every time government coffers run short, while evaders continue on their merry way. –Cielito Habito, Philippine Daily Inquirer

Comments welcome at chabito@ateneo.edu