Worries over VAT hike

By Charumini de Silva 

Despite Government efforts to selectively impose a VAT hike from next week its impact on private healthcare and education would be contradictory to the country’s goals of creating a knowledge economy, analysts warned  yesterday.

The Government last week rolled back the VAT increase from 11% to 15% on essential foods, medication and electricity but noted it would be imposed on private healthcare services and private education including tuition. This would drive up costs for a large cross section of the public who send their children to private schools or who seek private hospitals, even where it is the only option for them to receive those services. 

Acknowledging an increase in private healthcare and private education costs would be detrimental; an economist said VAT imposed on these two sectors would have an impact, particularly on middle income households.

“It is unclear at this point what the total impact to middle-income households would be as it depends on the extent to which firms will pass on the VAT to the end consumer. Any amount borne by the end consumer could have an impact on consumption trends. Given the significant reliance on tertiary education providers, this expenditure increase is not ideal in promoting a knowledge based economy, “Frontier Research Lead Economist and Senior Product Head, Shiran Fernando told the Daily FT.

Fernando suggested that the long-term mechanism should be to reduce the dependence on indirect taxes and shift it towards direct tax; not only through widening the tax base, but also improving revenue administration. 

“We have seen steps taken in this regard recently, but the full value of it will take time. As a result the reliance over the years towards these quick fix indirect taxes will continue to be a burden on households,” he noted.

He added that it would have been bigger burden on the masses if VAT was also included in utilities. 

Economist Deshal de Mel said that taxes should not be seen as a way to create incentives for certain industries or services.

He insisted that taxes should be seen as purely forms of collecting revenue to finance public goods and public services. He asserted that by giving tax exemptions for certain targeted industries revenue collection can be hindered, creating fiscal problems and debt burdens that are adverse for the entire economy. 

“To encourage the development of education and healthcare, it is necessary to enhance public investment in improving the quality and prevalence of those services by reducing bottlenecks to private investment in those services - not by tax exemptions for these services,” he said.

He said the Government needed to urgently implement measures to enhance revenue given the risk of an increase in the budget deficit if this was not done. A significant rise in the budget deficit would have made it even more difficult to meet debt repayments. De Mel added the long term solution is for an improvement in revenue administration, particularly by improving tax collection and minimising leakages.

“Rationalisation of tax holidays would be one component of this, along with improvement in the tax department’s Monthly Income Scheme, which is expected through the implementation of Revenue Administration Management Information System. Furthermore, the current reliance on trade related taxes where 50% of tax revenue is collected from border taxes makes it difficult to implement competitiveness enhancing trade reform due to the revenue impacts of reducing import taxes,” he explained. 

At the same time, the other side of fiscal consolidation entails the streamlining of Government expenditure. This would particularly relate to reducing the size of the public sector, addressing loss making State owned enterprises and to implement better use of targeted income transfers, he stressed.

Ceylon Chamber of Commerce Chief Economist Anushka Wijesinghe said, the business community needs to see some consistency and coherence with tax policy and that’s lacking right now. 

“The uncertainty hurts business activity and investor sentiment,” he said.