Assessment of the 2017 Tax Reform for Acceleration and Inclusion

Abstract

Despite various reform efforts over the years, the tax system in the Philippines continues to suffer from chronic weaknesses. Tax rates are high relative to the country’s ASEAN neighbors, yet revenue productivity remains low. Filipino individual taxpayers are overburdened by personal income tax brackets that have not been indexed to inflation, resulting in bracket creep. The real value of excise tax rates on petroleum products have likewise been eroded by inflation, and the schedule is characterized by a number of exemptions and rates that are low by international standards. The value-added tax base has narrowed from excessive exemptions. The Duterte administration is pursuing a simpler, more efficient, and more equitable tax system to support its economic growth strategy. The administration’s Comprehensive Tax Reform Program was filed as House Bill (HB) No. 4774 in January 2017 at the lower house and Senate Bill (SB) No. 1408 at Senate. These bills represent the first of several reform packages that will each focus on different areas of tax policy. The House of Representatives approved a compromise bill, House Bill No. 5636, titled “Tax Reform for Acceleration and Inclusion” or TRAIN in May 2017. HB 4774, HB 5636 and SB 1408 seek to reform the structure of the personal income tax, value-added tax, and excise tax on petroleum products and automobiles, while improving the progressivity of the tax system. A portion of the additional revenues generated will be earmarked for investments in education, infrastructure, and health to stimulate long-term growth. This paper aims to assess the implications of these bills on the distribution of tax burden across income groups, economic incentives in affected sectors, national government revenues, and likely impact on tax compliance. Overall, the proposed reforms are projected to generate additional revenues of PhP 51.3 billion in 2018, PhP 96.5 billion in 2019, and PhP 99.9 billion from 2020 onwards. However, the high estimates are unlikely to be achieved due to an increased risk of noncompliance among SEPs who are expected to face higher effective tax rates under all three bills in comparison to those under the current system. If tax compliance/ efficiency in collecting PIT from SEPs deteriorates, the overall revenue take of national government is likely to be considerably lower than these high estimates. In terms of incidence, the change in the tax burden as a percentage of household income that will result from HB 4774/ HB 5636 and SB 1408 is highest for the poorest income decile and declines as income rises. This reflects the regressive character of the reform when one abstracts from the proposed targeted subsidies intended to mitigate the adverse impact of the reform on the poorer segments of the population. Furthermore, these three bills are estimated to give rise to a net income transfer from households in deciles 1 to 8 in favor of deciles 9 to 10. The results suggest the need to compensate poorer deciles, e.g., the poorest two or four deciles, through targeted subsidies for a longer period than that proposed under HB 4774 and HB 1408.