The Income Tax Bill, 2018 proposed by the National Treasury is an underwhelming legislative proposal and a failed project of imagination. It fails to re-engineer the tax principles and only runs amok in tapping low hanging cherries. It should be rejected.
By gatuyu t.j
The National Treasury has proposed the Income Tax Bill 2018, which aims at creating a progressive and productive income tax regime and to support growth of the economy.
Generally, tax design is a challenging task. It has to balance political and economic objectives while limiting welfare reducing side effects. It has to raise revenues for the government while being careful not to depress citizens’ earnings, savings and consumption or negatively impact on their housing decisions and general welfare.
It is why any comprehensive tax reform ought to be well thought. Unfortunately, in the proposed bill, the National Treasury has missed the opportunity of creating a productive and conducive income tax regime.
The proposed law is not clear, as income tax proposals should be, on how it would lead to promotion of savings and investments in the economy, how to remove disincentives, seal revenue leakages, tap digital and informal economies and grow the financial markets.
As a start, enactment of an important law such as income tax should be backed by a well thought out policy framework. Unfortunately, the National Treasury is yet to come up with any tax policy for the country.
Proposing legislation without a guiding tax policy framework is an improper way of doing things. It makes it difficult for the public to evaluate what has informed various choices, such as the nature of taxes levied, amounts, and subjects. Such determinations are made at the policy level, where consensus is built on structure of the tax code, before such is given effect by tax laws.
Creating tax rules without an agreed policy leaves unchecked discretion at the hands of bureaucrats. This encourages self-serving lobbying that eventually breeds corruption. This has been the bane with the current Income Tax Act, which has been whimsically amended by annual Finance Acts.
For instance, the bill proposes to adjust capital gains tax from a rate of 5% to 20%, though with indexation mechanisms. Without hindsight of a background, general public is not able to appreciate the basis for this proposed change.
Some of the question that linger include: has there been any macro-economic modelling on how the proposed rates will impact on property markets? Have the property markets substantially enlarged and are untapped?
In addition, the Bill has made minimal efforts to re engineer current traditional tax principles anchoring taxation of persons and businesses in the country. The current tax principles are predicted on brick and mortar economy and are hugely ineffective in addressing tax challenges in a modern economy.
It was expected that in the review, the National Treasury would benchmark and incorporate international tax principles, such as the OECD Base Erosion and Profit Shifting (BEPS) actions plans, to help in averting revenue leakages from cross boarder trading. However, little attention has been given on the developments of tax law at the international front.
The bill ought to have considered and addressed at least the following issues.
First, to incorporate BEPS action plans, such as those addressing tax challenges in the digital economy, preventing artificial avoidance of Permanent Establishment (PE) status, treaty abuse, aligning transfer pricing outcomes with value creation, and broadening provisions on intangibles taxation.
Second, the definition of PE, this loosely being a fixed place of business which gives rise to income tax liability and allocates taxing rights, ought to have been broadened to introduce aspects of digital PE. With growth of digital technologies, businesses are able to have a significant economic presence in a market without necessarily having a substantial physical presence.
Other countries have begun considering aspect of a digital PE, which could arise when a non-resident taxpayer provides access to or offers a digital platform or advertising services on a website, in the country.
Third, the bill should have reformed the modalities for the taxation of corporate entities. The scope of activities by corporations, including rise of new capital markets products and Islamic finance, among others, have since emerged and require a unique tax treatment.
A further issue with the current corporate tax structure is it encourages accumulation of debt over other sources of finance such as retained profits or new equity for corporate investment. This because debt interest payments are a tax deductible expense, subject to thin capitalisation rules.
Having interest expense being tax allowable has encouraged firms to pile debt, exposing them to a risk of insolvency. It has also become a disincentive for the equity markets. There is therefore need to eliminate the current tax bias in favour debt and to treat both debt and equity financed investments in the same way.
An appropriate income tax system ought to pay fidelity to tax canons of neutrality, simplicity, and stability. Sadly, the National Treasury bill is a case of legislative short termism.
It concentrates on tapping low hanging fruits, such as capital gains and assumed high profits of some corporate entities, while failing to address tax principles. It is unclear on how it would boost citizen’s earnings, encourage savings and consumption and improve on housing.
It not being backed by policy, it risks sinking the tax regime into a hole of instability and unpredictability. The National Treasury should address these inadequacies before forwarding it to the national assembly.