Crossraods (Towards Philippine economic and social progress)
Philippine Star, 29 February 2012
The taxation of “sin” habits would be among the easiest of public policy issues to understand. Yet, this is not necessarily the case. Tax proposals always have their opponents.
Background. A government sponsored legislative measure, House Bill 5727, proposes to raise the taxes on tobacco and alcohol to put them on track in providing the role that revenues from such taxes contribute to national progress. The bill also proposes to apply similar tax rates to follow international practice for domestic sales taxation.
The structure of sin taxes was fixed at their current rates in 1996 when Congress undertook a comprehensive change in the tax system. In the guise of reform, what really happened then was to revise excise taxes so that the tax rates on tobacco and alcohol reverted back to “specific” rates that went out of step with the value of the sale of the product. By taxing tobacco and alcohol by their physical units of sale, they were delinked from their value. Then as time went on and price inflation of the goods followed, the tax take of the government fell.
Taxing by value or by physical units. An ad valorem tax is a percentage taxes on the sale of the good which is sensitive to its price. A specific tax is imposed per physical units of the good. For example, in the tobacco industry, the tax is by packs of 20 sticks and on distilled spirits, by units of liquid measure.
Specific rates in other countries are often not indexed to inflation. But they are periodically adjusted upward by proper acts of the government to raise them. In most of these governments which operate on the basis of the parliamentary system, the budget approval process is integrated with tax rate adjustments.
As in the case of Singapore and in Malaysia, when the government proposes the budget for the fiscal year, the proposals include the tax adjustments needed to fund the budget. Thus, their >excise taxes which are a large component of their budgetary needs reflect current values of the taxed commodities.
In the Philippine case, the American practice is followed in which any tax law is an independent act of legislation. As separate pieces of legislation, they cannot be piggybacked on very large public issues that need urgent financing.
Tax revenues from excises fell relative to total. A consequence of the 1996 changes in the excise tax system, the excise taxes from tobacco and alcohol contribution to the national tax effort fell.
In 1997, the collections from tobacco and alcohol taxes accounted for 1.2 percent of GDP. Today, they only contribute 0.6 percent of GDP. This is a telling deterioration, which impacts on the capacity of the government to finance its needs.
This is one of the reasons why the country’s tax effort has hovered around only 12 to 13 percent of the GDP when it could be higher. The Philippine tax effort is low when compared to many progressive countries in the region.
The tax effort ratio, when higher, enables the government to fund its major expenditure needs. It is a major factor in attaining macroeconomic stability. Successful passage of this bill could lead to an upgrade of the country’s sovereign credit rating. That event could reduce the cost of credit for the whole nation in the world’s capital markets.
Applying a unitary rate of excise taxation for domestic and imported goods. A major feature of the current House bill seeks to apply the same tax rate on all tobacco and alcohol products subject to the excise tax. This measure will do away with the local practice of devising different excise duties on the same products distinguishing them by origin or by raw material content (implying country of origin).
The reform seeks to raise the rates of excise taxes on cigarettes and alcohol. Since local brands have enjoyed low tax regimes, the exercise seeks to raise these rates to the level of those already imposed on imported products. This will put all consumption products of tobacco and alcohol on an equal playing field as far as excise taxes are concerned.
With the recent merger of Lucio Tan’s Fortune Tobacco and Philip Morris Company (the foreign firm that manufactures also for export and for domestic brands), the cigarette industry has become essentially a private monopoly. The local distillers of alcohol products are a more competitive group of local companies. They are a group of distillers whose products if promoted well could compete well in the internal market.
As to the loss of the protective feature in the excise tax, domestic industry still has a remedy. They can seek extra protection through the tariff system, which is the proper venue for protection from foreign imports.
Unifying the rates will mean that local brands will face stiffer tax rises for the moment to the level of the foreign brands. In this connection, part of the fears of product displacement of the local producers is exaggerated. True, the rise in tax rates will increase the prices of these products.
Because “sin” products face inelastic demand, the consumption of these products will not fall much as a consequence of the price increase brought about by the higher tax. The domestic products still have cheaper costs compared to the imported competition. “Correcting a discriminatory practice.” The introduction of a unitary rate of excise taxes will correct a long time practice of using excise taxes as a protective vehicle for a domestic industry. The country has remained alone in this practice. Other countries have only similar tax rates for consumption products regardless of origin.
In the course of decades of promoting the domestic industry, the excise duty structure contained protection features. Initially, this feature was more marked for the cigarette excise duties. The protection features grew strong in 2004 when the excise rates for distilled spirits were adjusted.
The European Union and the United States brought suit against the Philippines precisely on this domestic tax treatment and won the case. Recently, the World Trade Organization dispute court promulgated its adverse decision, saying that the Philippine practice was in contravention of the non-discriminatory trade practices in international trade.
Advantage of passing the ‘sin’ tax amendments. There are many obvious advantages for the government to adopt the “sin” tax amendments on the excise taxes on tobacco and alcohol. Without much elaboration, this measure deserves passage for the following reasons:
(1) Additional revenues to government will strengthen the funding for public infrastructure and for social services through education and public health expenditure.
(2) The tax effort will rise so that the country’s macroeconomic fundamentals and budgetary stability are strengthened.
(3) The country’s sovereign credit rating could deserve an upgrade, thus raising the country’s economic prospects in the eyes of the world community.