Benchmarks for Budget 2017

By Uditha Jayasinghe 

Great expectations await Budget 2017 with the International Monetary Fund (IMF) recommending a stronger shift to direct taxes as well as greater transparency of revenue collection and expenditure to create the core of the Government’s main policy document to be tabled in Parliament on 10 November. 

Head of the IMF staff team Jaewoo Lee told reporters, after completing the first review mission last week, that the Budget should reduce the current emphasis on indirect taxes that makes up about 84% of the total tax levied in Sri Lanka.   

“The 2017 budget should be underpinned by a well-crafted and high-quality tax policy strategy to raise Sri Lanka’s low tax revenue-to-GDP ratio.”

Elaborating on their expectations Lee noted that the Government needed to have more transparency both in revenue collection and expenditure, even going so far as to specifically list out what the Government spends money on so oversight is tightened. 

“Rationalising the Budget and improving the equity of revenue collection, to make it more operational, increase transparency for both revenue collection and expenditure. 

For example publishing tax expenditure to make it very clear where exceptions are being made and as a result by increasing transparency, raising overall efficiency and equity of the Government Budget on both revenue and expenditure side,” he said. 

A key component of a wider tax policy would be concentration on direct taxes, which would require the Government to commence the legislative process for the new Inland Revenue Act which would be an important step in rebalancing the tax system toward a more “predictable, efficient and equitable structure” and in generating the needed resources in support of the country’s ambitious social and development objectives, the IMF said. 

VAT of 15% would continue to be a core element of the Budget long term, insisted IMF officials, essentially discrediting statements by Government ministers that it would be removed within several months. For the Sri Lankan Government to put revenue on a sustainable path a more equitable balance of both direct and indirect taxes is essential. 

Budget 2017 should ideally “rebalance the source of tax revenue towards a larger share of direct rather than indirect tax. That will be the main component. VAT will play a role as well. We expect VAT to take full effect in 2017 its one of the main revenue sources for next year. So we do not see VAT as a temporary measure.”

Parliament passing the VAT increase of 15% is critical to the continuation of the $ 1.5 billion Extended Fund Facility (EFF) of the IMF. Lee admitted that the review mission could not “in good conscience” recommend the disbursement of the second tranche to the IMF executive board, which meets in November, unless revenue targets are realistically possible. 

However, talks between the IMF and the Government will continue in October on the sidelines of the IMF Annual General Meeting in Washington. Policies outlined in Budget 2017 will also play a crucial role in ensuring the smooth flow of the EFF. Despite the hiccups in approving VAT, the IMF acknowledged that Sri Lanka was likely to hit its growth target of 5% for 2016 and next year. 

 “In the matter of VAT if the submission to Parliament does not happen in a timely manner we may have to postpone the review a little,” Lee noted.     

Even though the second tranche of the IMF facility is a nominal sum of about $ 162 million, any delay in its transfer could signal reduced confidence in Sri Lanka’s commitment to fiscal consolidation, which would in turn result in the loss of confidence of potential investors and higher interest payments when the Government reaches out to international financial markets for debt financing next year.