Are Filipinos over-taxed?

The answer often depends on who you ask.

If you ask a wage employee whose taxes are automatically withheld, the answer might be, “yes, Filipinos are over-taxed.” But if you ask an entrepreneur or a professional, like a doctor or lawyer, the true answer might be no. This is because there are a lot loop holes for misdeclaring one’s tax returns for the latter under the present system.

Again, if you examine our tax rates and compare them with other countries, you might come to the conclusion that we are a high-taxing economy. But then when you consult the data on tax collections, you will probably come to a different conclusion.

The chart below relates the general government revenue to GDP ratio of the Philippines to other similar countries courtesy of the IMF World Economic Outlook published in April this year (note: it includes forecast figures until 2016).

In 1997, we attained a 19% tax-to-GDP ratio, the present level of the ASEAN 5 (includes Singapore, Malaysia, Thailand, Indonesia and the Philippines). After the 1997 Comprehensive Tax Reform Program changed the way our sin taxes were assessed and allowed for a lot of exemptions to businesses, this ratio deteriorated.

In 2010, the Philippine tax-to-GDP ratio reached its lowest point at 14.19%, even lower than it had been in 2004. Although this is expected to pick up to 16.6% by 2013, without new tax measures, it will still significantly underperform our four ASEAN rivals and that of Developing Asia which includes India and China.

This limits the level of government spending that can occur. To answer the question whether Filipinos are over-taxed, we have to also consider the levels of spending required. We will find that the level of revenues generated will not be enough to pay for our expenditures, with the Philippine government accounting for around 18% of GDP from now until 2016. That means about a 2% structural deficit or imbalance in our tax and spend system.

If you require further proof of this structural imbalance, just take a look at our levels of general government debt as a percentage of GDP here. It shows that our level of debt at 47% of GDP in 2010 is nearly ten percentage points higher than the ASEAN 5. We are more akin to Latin America and the Carribean in this regard.

So if we look at these figures, we will conclude that there is a problem. I would like to state it as a series of imbalances which I shall now tackle.

Imbalance #1: Undertaxed and over-borrowed.

The chart below is indicative of the problem. It depicts government deficit as a percentage of GDP for the Philippines and other similarly situated countries coming out of the Global Financial Crisis. The country’s chronic deficit will remain at 2% even as the rest of the developing world narrows its deficits to less than 1%. A lot of this is due to interest payments for previous borrowing.

As part of the debate over whether this imbalance is due to a deficit of trust on the part of citizens in their government, I turned to the World Values Survey. Here I found that the proportion of Filipinos who expressed “quite a lot” to “a great deal” of confidence in government was 50% about the same for the world average. Those who expressed “not very much” confidence was at 38% compared to 30% for the world, and “none at all” was at 10% compared to 18% for the world.

This means that Filipinos exhibited about the same if not a greater level of confidence in government than the rest of the world back in 1999/2000 when the survey was conducted. Another question that asked whether people agreed to the statement, “most people can be trusted” however yielded interesting results. The sample for the Philippines which numbered over a thousand showed that a low level of trust in others prevailed with a mere 8.4% agreeing to the statement compared with 28.3% for the world.

So in terms of arguing for an improvement in integrity and transparency in government as a way of engendering more honest tax declarations, the data does not support the case. We do not have it seems a disproportionate lack of faith in our government, but instead we seem to demonstrate an unwillingness to trust others (we have more faith in government than in civil society?).

We have to look elsewhere to answer the question why the Philippines does not generate enough taxes.

Imbalance #2: Over-consuming, under investing.

One thing that amazes me whenever I visit the Philippines is the lifestyle that people enjoy and are accustomed to. It is not as if I did not participate in this once, which is why I always look forward to coming back. But in a predominantly Anglo-Saxxon country where I now reside, despite the influx of migrants, what the sociologist Max Weber called the Protestant work ethic still persists. People are much more accustomed to squirrel away any savings they might have either in real or financial assets.

It is not just me. Colegagues and fellow migrants tell me that in Asia, there is more of that bazaar culture (invented by the moors) which dominates. So much so that in the East shopping malls, restaurants and bars remain open until late even on weekdays.

In spite of the presence of a consumption tax which was increased to 12% in 2005, the Philippines continues to be a consumer-driven economy with about 70% of its GDP accounted for in this way. As a result, the capacity to invest is very limited. If we look at the gross savings rate of the country, it is much lower than other similar countries (about 20% in 2010 compared to 31% in emerging and developing economies).

Our investment rate has similarly deteriorated from about a quarter in 1997 down to 14.6% in 2009. It is expected to rise, though not by much, to about 16% in the coming years. In emerging and developing countries, the ratio is expected to hover around 30-32%.

Imbalance #3: Overheating property bubble, over-concentration of investments

The next source of imbalance has to do with where we are investing as a nation. Benjamin Diokno on our over-investment in the housing and property sector said:

The present tax system favors property ownership over other assets. As a country, the Philippines has spent more money in real estate investment than in agricultural modernization and industrial expansion. No wonder, unemployment and underemployment continue to worsen.

The reason for this according to Diokno is that “we’re only collecting 1% to 2% in real property taxes. That’s why investments in our country are biased towards real property.”

The relatively low property tax rates for owners coupled with generous tax holidays for developers are the right conditions for a speculative property bubble to form. Many discount the possibility for this bubble to burst given the ongoing remmitances of OFWs, but what if for some reason remittance flows suddenly become constricted as a result of growing instability in the Middle East and slowdowns in East Asia and Europe?

Many will say taxing property investments will hurt the families of OFWs, but a distinction has to be made here between mass housing and upscale property development. Means-testing of the property tax by exempting properties that fall below a threshold can address the equity issue.

Think of all the property owners, including the owners of malls, housing developments and haciendas that pay minimal taxes at the moment. Then think of the unmet demand for agricultural land and mass housing for the poor. Certainly a large imbalance exists there.

Imbalance #4: Private affluence, public squalor

This leads me to one final observation. The deficit in socio-civic consciousness and faith in others, the low levels of taxes, the over-consuming nature of our economy and over-concentration of investments in property all point to a condition that the American-Canadian economist John Kenneth Galbraith first coined as “private affluence, public squalor.”

This in my view aptly describes the situation in the Philippines. It becomes evident the moment you arrive in the country. As you enter the airport, you immediately become aware of how decrepit and outdated it is. As you alight on to your vehicle and drive through the streets, you become aware of the lack of public housing and parks as many street children greet you.

The congestion of the streets from motor vehicles that pligh them at all hours of the day and night simply is astonishing. You then step into the gleaming malls and are amazed by the opulence of private spaces. The flashy cars that you will find in the car parks will also make you question whether you are in a developing country. The quality of vehicles found is incomparable to the quality of roads though.

You get tired of the city with its pollution and garbage after a while and shop around for a place to spend a nice quiet weekend with your family. You are shocked by the rates and swallow hard as you swipe your credit card thinking to yourself that this is your way of helping the local tourism industry.

You are then greeted at the domestic airport by a long queue at the door. The security baggage checks

weren’t part of the original design. You then go on to take your “holiday from the holidays”. The resort you booked is depending on your tastes either posh or adequate. You find the trip quite relaxing and enjoyable except for the inconvenience of travelling through rugged terrain to get there. You try to convince yourself that poor accessibility is part of the allure.

Back in Manila you are invited to a few homes and dinner parties. Once again, you marvel at the lifestyle of your peers. Their ability to spend on the latest gadgets that you yourself haven’t found the money or the time to spend on amazes you.

At some point in your trip, you begin to wonder about life in the Philippines. It’s not too bad. Why did you leave to begin with? Then you remember things like health care, eduation, safety and opportunities for your children.

The government which is responsible for providing these things is in a state of disrepair. You gather as much from reading the papers and talking to friends. You do see a lot of improvements from the last time you came. A new bridge, flyover, skyway, and better tollways–that’s about it.

The “public square” remains in squalor amid the affluence and opulence within the private sphere.

Correcting these imbalances

We need to re-think the role of the state particularly in a developing economy such as ours. A growing economy brings with it pressure on publicly provided goods and services. As the country becomes a middle income country, it will have to address the gap between public and private spaces.

The imbalance of tax incidence where the honest wage earner pays a fair share of income taxes while the wealthy professional or entrepreneur gets away with paying very little of his income needs to be corrected as well.

Over-consumption, over-congestion, and over-concentration need to be addressed through tax measures. A re-balancing of the economy needs to occur. The tax system has to support participation in employment, the creation of jobs through investments and the achievement of greater equity.

The lack of trust and confidence not just in government institutions but in society at large is a source of worry. Perhaps we are creating a society where “to each, his own” becomes the norm. In the final analysis, the adage of “I obey but do not comply” needs to be reformed along with the tax code.

Update: a paragraph about the foreign business community supporting the abolition of tax perks was deleted for being factually incorrect.