The Tribune

By NEIL HARTNELL

Tribune Business Editor

nhartnell@tribunemedia.net

The Government yesterday backtracked “by leaps and bounds” on its key fiscal reform, cutting the proposed Value-Added Tax (VAT) rate in half and bringing other key features into line with private sector and consultant recommendations.

Prime Minister Perry Christie, in unveiling the 2014-2015 Budget, confirmed that his administration was effectively adopting the ‘New Zealand’ model that leading businessman have been clamouring for, slashing the VAT rate from 15 per cent to 7.5 per cent.

While this, and the implementation date push back until January 1, 2015, are unlikely to surprise many, Mr Christie also confirmed that the Government’s restructured VAT proposal would also contain “much fewer exemptions” - another key private sector demand.

A broad-based, simplified and low rate VAT was high on the private sector’s ‘wish list’, and many executives yesterday suggested the business community could “pat itself on the back” for achieving success on this aspect at least.

Gowon Bowe, the Coalition for Responsible Taxation’s co-chairman, told Tribune Business in response to the Budget: “We have moved this initiative forward by leaps and bounds from where it was six to seven months ago.”

However, any celebrations may be premature, and the Government may well be perceived as ‘granting with one hand, and taking away with the other’.

The downside for the private sector, especially those businesses that import and sell physical goods, is that the Government will not be cutting Customs and Excise Taxes to compensate for the additional revenues it will be earning from VAT - at least not yet.

Under the initial 15 per cent VAT proposal, the Government had planned to cut import and Excise Tax rates by around 17 per cent to compensate for the new tax and ensure the burden on businesses, and their customers, remained neutral and did not increase.

But Mr Christie disclosed that the Government was holding off on any such tariff cuts post-July 1 until it saw how the new VAT system was working, a development that could actually increase the tax burden facing many Bahamian businesses come 2015.

“Being able to streamline exemptions and position the VAT rate much lower than in the White Paper, the Government is not announcing any wide-scale reduction in import duties and Excise taxes at this time,” Mr Christie said.

“Based on the revenue performance of VAT early next year, the Government may be in a position to consider tariff and excise reductions at the time of the 2015-2016 Budget.”

The Prime Minister added that “more general tariff rebalancing” would be introduced once the Bahamas concluded the World Trade Organisation (WTO) accession negotiations.

And Mr Christie hinted that the Government could increase the VAT rate should fiscal circumstances demand, saying: “Should fiscal developments in the future point to a need for additional revenue, having a VAT in place would provide flexibility to address that need and enhance the Government’s credibility as well.”

Given that VAT will only be implemented for half the 2014-2015 fiscal year, the Government is projecting it will generate $150 million from its tax reform centrepiece.

“On the basis of the detailed revenue modelling work that was performed by the team of IMF fiscal experts for our benefit, we estimate, again prudently and conservatively, that the VAT as proposed above will yield on the order of 3 per cent of GDP on a full-year basis,” the Prime Minister said.

“Given the date of implementation, that will amount to some 1.5 per cent of GDP in 2014/2015.”

During VAT’s first full year, 2015-2016, the Christie administration is predicting the $150 million figure will double to $300 million - a sum roughly 40 per cent below the $500-$520 million it had anticipated raising from a 15 per cent VAT.

VAT will also generate 60.6 per cent of the $247.273 million increase that the Government is projecting in its tax revenues for 2014-2015, with the balance largely coming from $27 million year-over-year increases in Customs and Excise Taxes, and a $36 million rise in real property taxes, respectively. Most of this is forecast to be generated through better enforcement/administration.

However, the 17.7 per cent year-over-year increase in the Government’s total tax revenue, from $1.504 billion to $1.77 billion, represents a significant $266.575 million ‘wealth transfer’ from the private sector and Bahamian consumers to the Government, a development that might slow the economy.

Still, Mr Christie indicated that the revamped VAT proposal had taken on board private sector recommendations that the tax be greatly simplified in terms of how it worked.

He said Bahamian retailers would no longer have to show two prices - one including VAT, the other without - on their products, something the sector had previously voiced concerns over.

“The Ministry of Finance is now proposing a regime of VAT-inclusive rather than VAT-exclusive pricing. This is to simplify price comparisons by consumers, especially when navigating between VAT registrants and non-registrants. The price consumers see will always be the price they pay,” Mr Christie said.

He also pledged to simplify the VAT accounting procedures for small and medium-sized Bahamian businesses, and improve the process for tax refunds and credits.

“The Ministry of Finance is proposing less cumbersome cash basis accounting procedures for small businesses, and overall less complex procedures for tax credits against bad debts, and streamline the VAT refund process, having regard to the need to be vigilant against fraudulent claims,” Mr Christie said.

“From a cash flow perspective, there is also a proposal for businesses that qualify for fiscal incentives on imports to have more control over the timing of recognising certain VAT liabilities through payment mechanisms.”

Explaining why the Government had chosen to stick with VAT as its preferred tax reform option, Mr Christie said a study by its US fiscal consultants, Compass Lexecon, had shown it was “by far the superior new tax policy instrument for the Bahamas”.

“A VAT provides the best combination of revenue generation, enforceability, efficiency, fairness and compatibility with economic growth,” the Prime Minister told Parliament.

“The study also suggests that a VAT is efficient at taxing wealth, as it is consumed, while a payroll tax does not even tax wealth.

“As well, it argues that a payroll tax is more susceptible to avoidance and evasion than a VAT, especially by those with higher levels of income. Business owners, for example, can characterise their own wages as business profits and therefore avoid the payroll tax altogether.”

Still, Compass Lexecon had called for the Government to implement VAT at a rate of between 5-10 per cent, rather than 15 per cent, due to the Bahamian economy’s fragile condition.

Focusing on the Coalition for Responsible Taxation’s own study by Oxford Economics, Mr Christie conceded that it showed better enforcement of the existing tax system was essential for meeting the Government’s fiscal targets.

Yet he argued that it also showed VAT was better than a payroll tax when it came to hitting the Government’s debt/deficit reduction targets.

“The two scenarios in the study with a payroll tax on both employees and employers, whether at 3 per cent or 6 per cent, both show a higher Government deficit in 2017 than with a VAT at 15 per cent, as initially proposed, or with a VAT rate of 10 per cent or even 7.5 per cent with a tightened set of exemptions,” the Prime Minister added.

“As well, implementing VAT at a significantly lower rate, while desirable and feasible, will nonetheless require a much tighter approach to exemptions.”

However, the key advice appears to have come from the two New Zealand consultants, Dr Don Brash and John Shewan, and the recommendations they made during their visit to the Bahamas.

Praising them for “shedding new light” on the debate, Mr Christie said the Government had accepted their recommendation that “moving to a single rate of VAT, other than zero for exports, with very limited exemptions would enormously reduce the compliance costs of the private sector and the enforcement costs for the public sector”.

This, too, would enable a reduction in the VAT rate, and Mr Christie said the Government would also introduce a ‘cash transfer’ system through the Department of Social Services to minimise the effects of VAT, and minimal exemptions, on low income Bahamian families.

“Exemptions, when they are socially motivated, are intended to reduce the burden of consumption taxes on persons with lower incomes,” the Prime Minister said.

“The points that the [New Zealand] mission reinforced, however, are...... that it is a costlier method of trying to help the poor, because more revenue is sacrificed, in the process, to those who are not poor.

“Take food for example. While a low-income family spends a higher proportion of its income on food, a high income family spends much more on food in absolute terms. So exempting food from VAT would provide a much larger dollar benefit to a high income family than to a low-income family.”

Mr Christie added that ‘exempt’ items would still increase in price, and the New Zealand team had suggested that subjecting such goods to VAT would aid price transparency and allow businesses to recover taxes paid on their input costs.

The Prime Minister added that the Government had also accepted the New Zealand team’s suggestion to involve the private sector in the education process, something it intends to do through creating a three-person Task Force equipped with a $150,000 budget.

No one spoken to by Tribune Business yesterday was able to name the three persons who will sit on the Task Force.