Tax regime changes causing problems to formal and informal accommodation providers
The informal sector accommodation providers in the country could face problems in transitioning to the formal sector, while formal sector small and medium scale enterprises (SMES) will have trouble expanding due to the changes to the tax regime in the Budget 2016.
Finance Minister Ravi Karunanayake increased the rate of Nation Building Tax (NBT) from 2 percent to 4 percent while decreasing the threshold to Rs.3 million from Rs.25 million, while also increasing the Corporate Tax from 12 percent for Smes—which most of the informal sector are—to 15 percent.
Further, the Economic Service Charge was increased from 0.25 percent to 0.5 percent.
However, Karunanayake wants the informal sector to transition to the formal sector.
“I am aware that almost 60 percent of the hotels operating in the country are not registered. This has caused many issues in terms of maintaining proper standards in the hospitality industry in the country. As such, I propose that all hotels be mandatorily registered under the Tourism Development Authority by 1 June 2016,” Karunanayake had said.
Registering an establishment with the Sri Lanka Tourism Development Authority (SLTDA) would require it to adhere to the SLTDA guidelines. Most informal establishments are not up to SLTDA standards, which would require major refurbishments and capital investments.
Since the informal sector used to pay no direct taxes or EPF/ETF payments, registering with the SLTDA and investing to improve standards while simultaneously having to pay high levels of taxes and employee benefits within a short period of time could lead to a number of businesses closing down or remaining unregistered.
“Strict action should be initiated by the Tourism Development Authority against hotels that are not registered,” Karunanayake had also said.
This could lead to Sri Lanka facing a shortage of accommodation for its arrivals-based tourism targets. However, since the government also wants to target luxury tourists, the closure of informal establishments may be convenient, despite robbing customers of a choice.
Further, since the Ports and Airports Development Levy was increased to 7.5 percent from 5 percent, importing cheaper foreign material for construction and refurbishment, or even foreign made foodstuffs for tourist consumption will become more expensive.
Reducing the Value Added Tax (VAT) threshold to Rs.12 million from Rs. 15 million would mean SMES that are expanding would have to pay VAT sooner, as well as pay more, since the rate was modified to 12.5 percent for service providers compared to a flat 11 percent in the past. Further, increasing the liquor license fee will be an obstacle for smaller hospitality establishments, which Tourism Minister John Amaratunga recently said were already engaging in black market sales to avoid the huge licensing cost. He had said that alcohol should be freely available in the country to become a successful tourism destination.
The increase of many indirect revenue streams of the government, coupled with the other direct impacts would force SMES and informal sectors to increase their prices, losing a major competitive edge against the big players who have economies of scale, while making Sri Lanka a more expensive destination.
The large hotels up to now had engaged in price wars to survive in the informal sector dominated tourism industry. Modern tourists from developed countries prefer to stay in small scale accommodation and experience authentic culture and hospitality of a destination, while contributing to sustainable practices. An argument could be made that despite the high taxes, capital investments could be made by the informal sector utilizing the SME micro credit lines and venture capital funds established in the budget. However, such facilities are for the utilization of all sectors in the economy, and given the number of informal accommodation in existence, such facilities would be inadequate to fund the changes required in the informal sector.