Random thoughts on taxes, TRAIN, and governments

 

The controversial TRAIN (Tax Reform for Acceleration and Inclusion) proposal is now law of the land  since this year’s beginning.  At least, TRAIN 1, that is.  From what I have heard and read, there’s a TRAIN 2, 3, 4, and 5.

The supposed focus of TRAIN 2 is a further reduction in corporate income taxes.  But what is this I also hear that not one senator is willing to sponsor said measure?  Until known Duterte ally and newly minted Senate President Vicente “TitoSen” Sotto III agreed recently to be the proposal’s champion.

Why the new reluctance compared to the earlier alacrity among legislators to be associated with TRAIN 1?  I believe the principal reason is, rightly or wrongly, TRAIN 1 is blamed for the unprecedented inflation that gripped the economy since the beginning of 2018.

 

Politicians, being politicians, know how to behave specially if elections are near.  Sotto is quite bold since he is not up for re-election in May 2019.  Senators up for re-election next year like Senator Sonny Angara, who sponsored TRAIN  1, was candid enough to admit that he will not touch TRAIN 2 with the traditional ten-foot pool given the 2019 elections.

Nobody loves taxes and the tax collectors. The latter were often killed and robbed in the ancient days.

Woe to the politician who campaigns for or is associated with a tax increase.

 

Senator Ralph Recto aka Mr. Vilma Santos

 

 

 

Exhibit A: Senator Ralph Recto, who was not re-elected at some point as he was strongly associated with the increased VAT.

 

 

In the final analysis, a tax is an extortion since nobody will pay taxes voluntarily. People have to be coerced to pay taxes and reduce their disposable income. For that reason, Charles Tilly and other scholars of European state building cynically observed that there is not much difference between a neighborhood toughie–who threatens to break a window if the shop-owner does not hand over some cash for ‘protection’–and the state who imposes and collects taxes.

 

TRAIN Tax Law: Guidelines and Sample Tax Computations

 

 

Both the toughie and the state are ‘selling’ the same (public) good–security of life and property–in exchange for money. Both ‘sales’ are involuntary and force (or the threat to use force) underpin them.

In that sense, taxation is an exchange transaction. In exchange for the payment of taxes, citizens get to enjoy public goods.

The capability to free ride is one reason why individuals will not pay taxes if payments were decreed to be paid on a voluntary basis.

While it is indeed an exchange transaction, it is not a straightforward (kaliwaan) one unlike sales involving private goods.

To enjoy a burger, a consumer must first pay before he can have the first bite of the juicy sandwich. That is not the case with taxes.

 

Charles Tilly

 

There’s an obvious time lag between the payment of taxes and the ‘consumption’ of a public good. This time lag is another reason why people want to avoid paying taxes.

In addition, taxation may not be a pari passu (equal footing) arrangement. The taxpaying public may not enjoy or obtain the full value of their money since government officials retain the ability to determine the quantity and quality of public goods they will supply.

For example, a concrete road may be built but it may be lacking in the promised length, or built with sub-standard materials, or built over an extremely long period.

Another reason behind the citizens’ reluctance is the impact of taxes on consumer good prices. The payment of taxes already reduces their disposable income. If taxes were increased on key inputs such as fuel, electricity, water,sugar, food packaging, interest income, and the like, these increases will raise consumer goods’ prices and will thus further reduce disposable incomes.

For all these reasons, taxation should be understood as primarily a political act.

The collection of taxes are socially necessary for they fund socially necessary public goods. Without public goods, a human community cannot exist. Thus, the payment of taxes finance human community building.

Government officials, policy makers, and tax collectors must be fully aware of the collective action problems (CAPs) associated with taxes, specially in societies with pronounced poverty and wide income/asset disparities like the Philippines.

The time gap between the collection of taxes and the provision of public goods must be as short as possible.

The quality of public goods must be high and its quantity must be adequate for a growing population.

The collection of taxes must be equitable because none grates the ire of citizens more than the knowledge that some evade or do not pay the rightful amount of taxes.

Last but not least, we must all help develop a healthy tax culture in our country: that we must pay our taxes promptly and properly; that government must provide adequate and high quality public goods; and that both the tax burden and the supply of public goods must be equitable and judicious.

We must also be chastened by the truth that the ability to provide public goods is not the monopoly of governments. Non-state actors can and do provide ‘public’ goods in exchange for ‘payments’ that are akin to taxes.

 

NPA fighters in parade formation

 

 

 

The ‘revolutionary taxes’ collected by the New People’s Army (NPA) comes to mind in this regard.  The ‘kotong’ collected by erring police officers is of the same genre.  The Catholic Church and other charities are enabled by donations to provide public goods.  Governments must therefore make sure that the tax-public good exchange transactions with their citizens must be as equal and equitable as possible. 

 

 

PH needs new politics with a new tax culture at its core

By several standards, the Philippines has fallen behind her East Asian neighbors and suffer from predictable consequences. It is often said (and bragged) that the per capita income in the Philippines was second only to Japan in the 1950s.

Rosa Maria Alonso i Terme, an economist from the World Bank who was also recently a visiting professor at the University of the Philippines School of Economics (UPSE), reported that almost 60 years later, in 2012 it had slipped down the rankings of the region behind all the by-now-developed countries, such as South Korea, Taiwan, and Singapore, and all the upper middle-income countries, such as China, Thailand, and Malaysia. In addition, Vietnam and Indonesia had overtaken the Philippines in education results (Program for International Student Assessment tests), and were fast approaching it in income levels.

This drop down the rankings is not unique to the East Asian context. I Terme also observed that the Philippines is now also below the income per capita level of almost all Latin American countries, ranking below Guatemala. The World Bank meanwhile noted that the country also exhibits the highest level of income inequality and the lowest rates of poverty reduction in East Asia during the 1980-2010 period. Even more worrying, despite increasing growth in the 2000s poverty increased steadily from 2003 to 2009 and only registered a statistically insignificant decline from 28.6 to 27.9 percent between 2009 and 2012. The country also exhibits the highest tuberculosis prevalence rate in the region, and infant and maternal mortality rates that are significantly higher than the region’s average.

 

For the rest of the article, please click on the link below:

 

http://www.interaksyon.com/business/96758/reversing-downward-trend–ph-needs-new-politics-with-a-new-tax-culture-at-its-core

Taxation: coercive and consensual

In theory, taxation is essentially coercive because taxes are never paid voluntarily. However, taxes are supposedly collected not only for purpose of collecting them but to finance public goods. Thus, consensual taxation is possible since private taxpayers desire public goods (the reason why they left the state of nature in the first place).

Prof. Michael Moore of Sussex University

In comparing coercive and consensual or negotiated taxation, Michael Moore of the University of Sussex, not the controversial film-maker, argued that the latter constituted a better institutional technology. Coercive taxation (largely in agrarian societies) is relatively ineffective since it tends to generate resistance and because coercive tax collectors were well placed to pocket a large part of the proceeds for themselves. In contrast, consensual taxation offers (within the boundaries of individual states) joint gains for both rulers and taxpayers.

Adam Smith

In the late 18th century, the idea that citizens must contribute to the upkeep of a state was developed.  On of the political economists of the time, Adam Smith forwarded four maxims of taxation (equity, certainty, convenience, and efficiency).  These maxim were also supported subsequently by David Ricardo and John Stuart Mill:

1. “The subjects of every state ought to contribute to the support of the government, as nearly as possible in proportion to their respective abilities: that is, in proportion to the revenue which they respectively enjoy under the protection of the state. In the observation or neglect of this maxim consists what is called the equality or inequality of taxation.

2. “The tax which each individual is bound to pay ought to be certain, and not arbitrary. The time of payment, the manner of payment, the quantity to be paid, ought all to be clear and plain to the contributor, and to every other person. Where it is otherwise, every person subject to the tax is put more or less in the power of the tax-gatherer, who can either aggravate the tax upon any obnoxious contributor, or extort, by the terror of such aggravation, some present or perquisite to himself. The uncertainty of taxation encourages the insolence and favours the corruption of an order of men who are naturally unpopular, even when they are neither insolent nor corrupt. The certainty of what each individual ought to pay is, in taxation, a matter of so great importance, that a very considerable degree of inequality, it appears, I believe, from the experience of all nations, is not near so great an evil, as a very small degree of uncertainty.

3. “Every tax ought to be levied at the time, or in the manner, in which it is most likely to be convenient for the contributor to pay it. A tax upon the rent of land or of houses, payable at the same term at which such rents are usually paid, is levied at a time when it is most likely to be convenient for the contributor to pay; or when he is most likely to have wherewithal to pay. Taxes upon such consumable goods as are articles of luxury are all finally paid by the consumer, and generally in a manner that is very convenient to him. He pays them by little and little, as he has occasion to buy the goods. As he is at liberty, too, either to buy or not to buy, as he pleases, it must be his own fault if he ever suffers any considerable inconvenience from such taxes.

4. “Every tax ought to be so contrived as both to take out and to keep out of the pockets of the people as little as possible over and above what it brings into the public treasury of the state. A tax may either take out or keep out of the pockets of the people a great deal more than it brings into the public treasury, in the four following ways. First, the levying of it may require a great number of officers, whose salaries may eat up the greater part of the produce of the tax, and whose perquisites may impose another additional tax upon the people.” Secondly, it may divert a portion of the labour and capital of the community from a more to a less productive employment. “Thirdly, by the forfeitures and other penalties which those unfortunate individuals incur who attempt unsuccessfully to evade the tax, it may frequently ruin them, and thereby put an end to the benefit which the community might have derived from the employment of their capitals. An injudicious tax offers a great temptation to smuggling. Fourthly, by subjecting the people to the frequent visits and the odious examination of the tax-gatherers, it may expose them to much unnecessary trouble, vexation, and oppression:” to which may be added, that the restrictive regulations to which trades and manufactures are often subjected to prevent evasion of a tax, are not only in themselves troublesome and expensive, but often oppose insuperable obstacles to making improvements in the processes.

To Adam Smith’s mind, bad governance is excessive taxation of capital and property. Not taxation per se, as he recognized the need for public goods and the role of the state in the provision of such goods. Bad governance discourages investment and owners of transportable assets can readily change domiciles to jurisdictions with acceptable tax burdens. Smith argued that a tax burden is acceptable to businessmen if the state is able to provide an equally acceptable bundle of public goods.

The views of David Ricardo and John Stuart Mill on taxation will be discussed in future blog posts.

Sin tax alignments

Department of Finance (DOF) logo

From government’s point of view, the ideal excise tax on sin products is an ad valorem or a percentage tax of the manufacturing price of a pack of cigarettes or a bottle of beer or whiskey.  Failing that, it can accept a specific tax on these products indexed to the inflation rate.  Of course, it goes without saying that government will prefer the highest tax rate, be it specific or ad valorem.

Through  these specifications, government can collect the maximum possible sin tax revenues.

Additionally, the national government believes that high sin tax rates will dampen consumption and consequently have positive effects not only on people’s health.  It could also improve peace and order and reduce crime rates.

Department of Health (DOH) seal

What about the tax preferences of the manufacturers of sin products?  Of course,  they will prefer low rates; specific rather than ad valorem; and unindexed (to inflation) tax rates.  Low tax rates will ultimately lead to lower prices of sin products which will ultimately mean greater demand for the same.  Nonetheless, the demand for sin products is generally inelastic–meaning demand for the same is not very sensitive to changes in product prices except in the long run.  Some tax experts report that beer is the most inelastic among alcoholic beverages while others opine that the nicotine content of cigarettes make demand for tobacco products also inelastic.

Local sin product manufacturers have predictably opposed the government-proposed 1000% increase in specific taxes on beer and alcoholic beverages and tobacco products.  The huge increase is proposed given the relative freezing of specific tax rates since 1996.  The tax law approved at the time did not approve indexation to inflation of the tax rates and provided only for minimal tax increases.

 

San Miguel beer

How will consumers of sin tax react to government’s tax proposals?

Filipino beer drinkers

It does not take one to be a rocket scientist to figure out that consumers will oppose government’s plans.  In his column at the Philippine Daily Inquirer yesterday, Prof. Cielito Habito pointed out that the poor consume sin products in a greater proportion compared to middle income and rich people.  Thus, they will oppose increases in tax rates that translate into higher retail prices.  

Colt 45, one of the beer brands of Asia Brewery Inc.

And higher retail prices for these ‘indispensable’ products means lower real incomes for the poor.

This might not register well with a public already reeling with high prices of oil products and an increase in transport fares.  

What we have here is a case where the interests of sin tax manufacturers and consumers largely coming from the ranks of the poor are aligned and ranged against that of government.

Obama and Noynoy smoking

It is incumbent upon government to gather political support for its tax plans within and without Congress.

 

Will it be a good idea to appeal for support from the wives and children of smokers and drinkers who may be concerned about the health of their relatives?  To those who are worried that  the money  spent for sin products is money that should spent for the dining table and other household necessities?  Or will that be seen as an invasion of privacy and curtailment of individual freedoms? Or will it encourage strife within households?

Will examples from role models help?