When politics overpowers economic rationale | The Daily Star
12:00 AM, July 23, 2017 / LAST MODIFIED: 12:59 PM, July 23, 2017

Postponement of Vat Act

When politics overpowers economic rationale

Postponement of the implementation of Value Added Tax (VAT) and Supplementary Duty (SD) Act of 2012 for the next two years is deemed to be a blow to the proponents of VAT.

It has been a highly debated issue and the business community was unhappy from the beginning. They felt that it would be a pressure on them and reduce their profitability. Consumers were confused and apprehensive. They felt that any additional tax would be passed on to them as always and raise their cost of living.

Policymakers planned to bring transparency into the system and increase VAT collection. And rightly so. Out of 850,000 registered business taxpayers, only 32,000 are reported to pay VAT. We have been calling for tax reform through a modern and dynamic tax system and suggested a reduced VAT rate at 12 percent instead of the proposed 15 percent considering the tax burden on various sections of the society.

The overarching goal of the new VAT law is to expand and improve revenue generation as well as rationalisation of VAT imposition and collection process. The size of the economy is expanding, and so is the budget. Budget for FY2018 sets its target for total expenditure at Tk 400,266 crore and total revenue at Tk 287,991 crore. The major sources of revenue generation are income tax from individuals and companies, VAT, import duty, non-NBR tax and non-tax receipts. With the postponement of VAT act the fiscal framework of the budget will change, resulting in the change in revenue mobilisation efforts.

The most likely change is a shortfall of revenue. However, the magnitude of the shortfall will depend on the delivery of the budget. Following the previous years' tradition, both revenue mobilisation and public expenditure may be lower, keeping the fiscal framework more or less the same.

Just to recap a few numbers, the fiscal framework of budget for FY2018 has projected a revenue growth of 31.8 percent against the trend growth rate of 15.3 percent. So the additional revenue collection has to be Tk 69,496 crore. Public expenditure is set to grow at 26.2 percent against trend growth rate of 14.7 percent, making the incremental expenditure target Tk 83,092 crore. Total budget expenditure is set at 18 percent of GDP, compared to 16.2 percent in the revised budget (RB) of FY2017, putting revenue income at 13 percent of GDP which was 11.2 percent in RBFY2017. Allocation for Annual Development Programme (ADP) has increased as well to 38.3 percent of total public expenditure against 34.9 percent in RBFY2017. The tradition of five percent budget deficit of GDP continues this year, which again remains below the target due to lower budget implementation.

If these targets are to be achieved, efforts on both the expenditure and revenue front have to be expedited. This is a far cry in the current context of implementation record. If budget expenditure is 90 percent, which is a best case scenario, actual budget will be Tk 340,266 crore. So VAT non-implementation may not be so stressful on resource mobilisation efforts. But there will still be a shortfall. If the revenue collection rate remains the same as FY2017, deficit will be Tk 43,000 crore.

The new scenario without implementation of the VAT Act calls for greater momentum in revenue mobilisation efforts. Broadening of tax net through identifying new sources of tax is critical. The Household Income and Expenditure Survey (2010) shows that only 27.3 percent of all potential income taxpayers declared income tax. Tax evasion is demotivating for honest taxpayers. For better collection, the need for adequate and skilled human resource and full automation of the NBR has been emphasised time and again.

In case of expenditure, prioritisation is needed. Projects which are carried over and are about to be completed need more attention. Though a large part of this year's ADP is set for fast-track projects, progress is not impressive in most cases, except for the Padma Bridge while cost escalation of these fast-track projects continues. Borrowing from costlier sources such as National Savings Directorate (NSD) is increasing with the risk of higher debt despite the option to borrow from other domestic sources such as banks. Low income families rely on NSD, so it may be difficult to reduce NSD interest rates. But the government could rationalise the limit of NSD purchase by individuals. Better utilisation of external resource can also give some respite on domestic resources. There is scope to restrain non-development expenditures, including block allocation, recapitalisation, subsidy, etc. Allocation for recapitalisation of non-performing state-owned banks is a waste of public resources as there is no improvement on banks' health. This year, Tk 2,000 core has been kept aside for such recapitalisation.

Clearly, there was a lack of consensus among policymakers and the business community on VAT. It seems there was inadequate discussion and insufficient preparation for its implementation. Its implications for the common people were also not properly understood or analysed. This has resulted in intervention through high-level political decision-making at the last minute.

The saga of the new VAT law in Bangladesh is a classic example of political decisions overpowering economic rationale. At a time when our external sector is going through challenging times with low export growth and negative remittance growth and global aid is drying up in the advent of a new world order, the need for domestic resource mobilisation is crucial. One can only hope that a detailed work plan for higher resource mobilisation through a strong tax system is high on the agenda of policymakers.


Fahmida Khatun is the Executive Director of Centre for Policy Dialogue (CPD), Bangladesh. 


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