The double-edged tax sword

Thousands of Colombo Port workers on Monday demonstrated against President Ranil Wickremesinghe’s tax increases, which they blamed on IMF restrictions, and vowed to continue the protest until the tariffs are cut. President Wickremesinghe defended left-leaning ‘progressive’ taxation as wage earners protested, saying the island would be unable to get international backing unless taxes were raised.

Because most State workers had never paid such taxes, they saw their income taxed for the first time. Wage earners have been increasingly dissatisfied, with real earnings having been cut in half as a result of monetary instability and value added tax, when they were hit by progressive taxation, undercutting the justification for economic changes.

The Wickremesinghe administration increased personal income taxes to 36% and cut the tax-free threshold to Rs. 100,000 per month from Rs. 250,000 previously. The most recent tax-free threshold is still far higher than the IMF’s suggestion of Rs. 41,667. 

However, this is only one side of the problem that the worker sees. Due to a bloated and inefficient State sector, Sri Lanka’s State expenditure exceeds its revenue. According to certain Finance Ministry officials, the public sector could be handled with 500,000 personnel, including military and Police, rather than the current 1.4 million employees.

Since 2015, most of the taxes collected have been transferred to State employees under so-called revenue-based fiscal consolidation, as spending-based consolidation has been abandoned. Many Government employees do not pay taxes because their salaries are typically below the tax-free threshold and the tax is only levied on the basic salary. The new tax revision on the other hand, is based on total income, including allowances. According to Finance Ministry authorities, the top paid State personnel are largely from CEB, CPC, SLPA, and the health sector, and they have never paid taxes.

Because of the fear of being politically unpopular and losing the next election, successive governments have failed to implement sound tax policies. Sri Lanka needs foreign lenders to restructure and provide new aid following an external default in 2022 as a result of stimulus spending and tax cuts. In 2019, 1.5 million people paid income taxes. President Wickremesinghe stated that the total amount with value added and nation building tax was approximately 2.2 million.

Tax returns had dropped to 400,000 after the 2019 tax cuts, he claimed. Other tax filings had decreased from 120,00 to 9,926, a decrease of 1.6 million to 400,000. 

Sri Lanka’s State income plummeted when President Gotabaya Rajapaksa’s economic advisors implemented tax cuts in December 2019. Sri Lanka’s progressive taxes are in addition to hefty import charges, which are not present in free trade countries such as the United States and the United Kingdom.

High import charges keep prices high as though taxes were levied on all products, yet only taxes levied on imported goods are paid to the Government. Protected nationalist businesses use this price difference on domestically made items. By abandoning expense cuts, Sri Lanka increased tax revenues from 2015 to 2019 under revenue-based fiscal consolidation, another left leaning tactic supported by the International Monetary Fund. However, critics claim that there are no measures to bring monetary stability. Sri Lanka has attempted and failed for 75 years to run numerous economic schemes by denying the people monetary stability.