RESPONSE TO WINNIE MONSOD’S CRITICISM OF TRAIN
The tax reform package is imperfect but seldom do we get an opportunity to overhaul our tax system.
Part 2
Our popular economics professor, Winnie Monsod, has written again about the current comprehensive tax reform program, also known as TRAIN (Tax Reform for Acceleration and Inclusion). Her latest column titled “An antipoor tax package” (22 July 2017, Philippine
Daily Inquirer) criticizes the proposed tax reform legislation that the House of Representatives had already passed and that the Senate will soon tackle.
Her previous columns are “What I discovered about TRAIN (1),” and “Saving TRAIN ( 2), published by the Inquirer on 10 and 17 June 2017, respectively. The column, I wrote, “A response to Winnie Monsod,” can be found in BusinessWorld, (19 June 2017).
Winnie’s latest column reiterates her position that the TRAIN is badly designed, making the bill antipoor.
Winnie is, of course, for tax reform, and I quote her: “I stand foursquare for tax reform. The reasons are plenty: the country’s low revenue/GDP ratio, tax loopholes, inequities in the tax system, and the fact that tax administration needs improvement, tax measures must be rationalized, and the tax system could stand simplification.”
As a sensible economist, Winnie, I assume is, in favor of the most controversial measures found in TRAIN, specifically the increase in the excise taxes on fuel products and the broadening of the value-added tax ( VAT) base.
One reason behind the low tax effort (the tax/GDP ratio) is that the excise taxes on fuel have been declining in real terms. The excise tax on gasoline has not been adjusted to inflation for 20 years. Furthermore, diesel, which the rich consumes more and more, has been exempted from the excise tax. The tax on fuel is in fact moderately progressive, with the 10th decile of the population, the richest decile, absorbing the biggest burden. The fuel spending of the poorest of the poor is 1.1% of their total spending. The richest
10% of households uses 3.7% of their expenditure for fuel consumption. Similarly, the top 10% of households account for 51% of total fuel consumption.
The current VAT system has too many exemptions, resulting in a huge leakage. The Philippines has 59 lines that are exempted from VAT, found in the Tax Code. On top of that, special laws provide 84 lines of exemption.
For those who argue that tax efficiency must be improved, they must welcome the expansion of the VAT base, for this is a measure to improve efficiency and plug loopholes. To use Prof. Monsod’s words, reducing the number of VAT-exempted items is a way to rationalize and simplify the system.
The point is, Winnie Monsod presumably does not oppose and in fact supports the most controversial pieces of TRAIN — the reforms on the fuel tax and VAT.
What she savages is how the benefits from the reform are distributed. She says that the split of “95-5” (95% for the middle class and 5% for the poor) is not fair. Thus, the reform is anti-poor.
The “95- 5 split” that Prof. Winnie refers to pertains to the savings totaling P1 trillion till 2022 that the middle and upper classes will get from the lowering of the income tax rates and the cash transfer amounting to P58 billion that households from the lower deciles will receive.
This reasoning though is questionable for several reasons.
1) Indeed, the upper class and the middle class will benefit significantly from the lower income tax rates. But the rationale behind this is guided by a sound principle of fairness. The income brackets have to be adjusted to inflation in the same way that the fuel taxes have to be adjusted to inflation. At present, the middle class is paying the same top marginal tax rate of 32%. The middle class and the billionaires now belong to the same top income bracket in terms of paying taxes. In addition, the tax rates are being aligned. Perhaps the income tax reform package is generous, but that is a second-order problem that can be debated and resolved. The essence of the personal income tax reform is to provide relief to the middle class and the working class who are burdened by an antiquated law.
2) The cash transfer to the poorer households is not the only criterion and is in fact not the main criterion to define whether the tax reform is propoor. The cash transfer will be sourced from 40% of the incremental revenue that will be generated from the increase in the fuel excise tax. The rest of the incremental revenue from the fuel tax will be allocated to social protection, education, health, infrastructure, and the modernization of public transportation. The poor and the vulnerable are the ones who will mainly benefit from the use of these public goods that TRAIN will finance. It is the poor, the near poor, and the workers who send their children to public schools, who use public hospitals and clinics, avail themselves of public health services, who use public utility vehicles that will likewise be subsidized by TRAIN.
We should not diminish either the role of infrastructure spending in improving the welfare of the poor and the working classes. Improved infrastructure translates into increased productivity, higher income, better health, lower living costs, and more leisure time for the poor and the working classes.
3) The cash transfer cannot be permanent because its objective is temporary in nature. It intends mitigate the muted impact of the rise in inflation arising from the increase in the fuel tax and in the broadening of the VAT base. The expected increase in inflation that can be attributed to TRAIN is 0.9 percentage point. Yet, the amount of cash transfer will be significantly higher than the additional costs arising from price increases. The Tax Code is not the main vehicle for cash transfer. It is the General Appropriations Act. But the tax reform will provide the revenue to top up the conditional cash transfers, introduce a basic social pension for the elderly poor, increase the health benefits for the poor, and the like.
The main positive impact of TRAIN for the medium term and the longer term is found in the financing and provision of public goods that will translate into productive jobs, higher income, and better human development outcomes for the people.
True, the TRAIN can stand improvement. It is imperfect, for other reasons that Winnie has pointed out. But let us not throw the baby out with the bathwater. Seldom do we get an opportunity to overhaul our tax system. TRAIN is that opportunity.