Unexplored options to raise revenue

by Neville Ladduwahetty

What Sri Lanka has achieved since it declared itself insolvent is hailed by some with much optimism. The “relative stability” currently experienced is presented by the Governor of the Central Bank “as the outcome of a united effort from the outset” (The Island, December 26, 2023). The focus of that collaborative effort was on monetary policy as stated by the Governor who went on to add, “Now the Central Bank has independence that insulates monetary policy from political interference and thus the institution has been strengthened.  The other side of the coin is the government’s fiscal policy.    People elect their representative to make fiscal policy to direct the economy…” (Ibid).  This separation of responsibilities holds the government and the Parliament collectively responsible for the impact of its fiscal policies on the livelihood of the People through the choices reflected in the 2024 Budget as it has been with previous Budgets.

For instance, the choices made were that expenditure should be Rs.6.98 Trillion and the projected Revenue should be Rs.4.107 Trillion resulting in a deficit of Rs.2.88 Trillion. This in a nutshell was the decision of the Government and that of the majority in Parliament when they passed the Budget.    The bulk of the projected Revenue of Rs. 4.107 Trillion reflects an increase of the 2023 Budget by 1.27 Trillion (45%).    The taxes that are of relevance to the comments addressed below to meet this increase are those collected from VAT amounting to 720 Billion and only Rs. 50 Billion from personal taxes (Public Finance Data and Analysis).

While the attention and preoccupation of the Central bank and the Government over the last two years was on monetary and fiscal policies, the social impact of the crisis on the People appear to have received less attention, judging from the priorities selected to raise revenues.

SOCIAL IMPACT of CRISIS

The Ceylon Today of December 27, covers a few key features from a report released by the Department of Census and Statistics (DCS) on December 22.    The DCS report stated that ” survey findings indicate that currently 54.9 per cent of households in Sri Lanka are currently indebted,…The highest proportion of indebtedness is from mortgage matters (31 per cent) followed by banks (21.9 per cent) and the money lenders (9.7 per cent) … 91 percent of the households experienced an increase in their total average monthly expenditure, 22 percent of households have got indebted due to the economic crisis, the schooling of 54.9 percent of individuals (aged 3 – 21) was also affected by the economic crisis and 7 per cent of total population changed their health treatment procedures… Among households that reported an increase in their average monthly expenditure, the most commonly reported reason, accounting for 99.1 percent, was the increase in food expenses”.

Continuing the DCS report states: “The primary strategy adopted by the majority (53.2) percent of guardians/parents of school going children affected by the economic crisis was to either reduce their expenditure on new stationery or to completely stop such purchases…as new uniforms…. Additionally, reducing the frequency of attending tuition classes” (Ibid).

RAISING PROJECTED REVENUE

The social background presented above is the context in which projected revenue is to be raised.     In addition, “Nearly half of the labour force receives less than Rs. 30,000 monthly salary while 3.91 million families out of 5.8 million families are seeking state assistance to continue their livelihoods” (Daily Morning, December 28, 2023).    In short, IF 2/3 of the families are receiving state assistance, they are not in a position to contribute to the projected increase in revenue of Rs. 720 Billion from VAT.

On the other hand, the personal taxes of only Rs. 50 Billion are collected from those who, at a minimum are assured of food security while additional VAT taxes amounting to Rs. 720 Billion, which is 14.4 times personal taxes, have to be collected from a much broader swath of the population, the majority of whom are victims of food security.

This reflects the imbalance in the choices opted for when formulating fiscal policy.     Whether this imbalance, particularly in regard to VAT, is the result of preferences of the IMF as a ready means of raising revenue or from sections of society with influence, is not known.     Whatever the case may be, IF the economic situation in the country as reflected in the surveys conducted by the Department of Census and Statistics is taken into account with the seriousness it deserves, imposing the burden of the increased VAT on an already beleaguered populace could lead not only to political instability but also the inability to raise the projected contributions from VAT.     Furthermore, if the preoccupation of a large section of the population is on survival and other priorities, a drop in demand due to increased hardships is bound to have an impact on inflation.

The potential of these collective consequences could very well outweigh the expectations of improved stability hoped for.    On the other hand, it would be prudent to explore options that have not been explored before to raise revenues at a minimum cost to the vulnerable.

EXPLORING OPTIONS to RAISE REVENUES

One area that has not been explored, except for passing reference, is taxes relating to property.    The reluctance to do so may be because property taxes impact those who own property.    On the other hand, advanced economies use property taxes as the source to fund primary and secondary education and other community-based services.    Since such practices do not exist in Sri Lanka, it is imperative that current practices adopted to assess property values are reviewed and drastically revised.

For instance, within the Municipality of Colombo there are properties with a market value of over Rs. 100 Million, yet their annual property taxes are in the range of Rs. 2500 to 3000; not enough to cover the cost of garbage collection.   In more exclusive neighborhoods the property taxes are in the range of 0.05 % of their market values even for new high-rise units.

The Colombo Municipality is reported to collect Rs. 5.7 Billion in property taxes.    There are 13 other Municipalities in the rest of Sri Lanka.    Taking into account that they are not as affluent as Colombo, they could perhaps contribute about Rs. 3.0 Billion each by way of increased property taxes.    Thus, if property taxes are significantly increased collectively, the total contribution could be in the range of about Rs. 40 to 45 Billion, which incidentally is close to the Rs. 50 Billion by way of personal income tax figured as contributing to meet the increase in Revenue needed by the 2024 Budget.    If increased property taxes at the rate of 1 Billion each from the 37 Urban Councils are added, they too could contribute an additional Rs. 30 to 40 Billion, thus making the total contributions from property taxes significant enough not to be scoffed at.

Over the last two years, Sri Lanka has been actively engaged with the IMF on issues relating to Debt Restructuring.  One of the primary issues raised by the IMF is the need to increase Revenues with a view to reducing Budget deficits.     Over these two years, the Inland Revenue Department should have been aware that it would be called upon to play a major role in this exercise.

Despite this awareness, the number of files relating to Personal Income Tax increased from 204,467 to 500,196 ONLY “by end November 2023” as admitted by the Commissioner of the IRD at a Presidential Media briefing.     The Commissioner had also stated that “it was possible to raise (taxes) to 1,500 billion by widening the tax base and by changing tax rates,” (ECONOMYNEXT, December 29, 2023).

Since this represents a 50% increase over the 2019 tax Revenue, the awareness of such a possibility would have convinced the Government that the policy of raising Revenues from VAT to the extent reflected in the 2024 Budget would amount to an overkill with serious social implications.

The two hundred thousand plus files that had existed throughout 2023 represent ONLY ONE per cent of the population, which according to the UNDP Country Economist, Dr. Gunasekara “owns 31% of the total personal wealth in the country, while the bottom 50% owns less than 4% of the overall wealth in the country” (Daily FT, December 21, 2023).

Had the IRD exercised due diligence over the past years and in particular during the last two years, the country could have secured a significant amount of funds to mitigate not only past Budget deficits, but also the 2024 Budget to the point of reducing the funds needed through VAT, thereby easing the burdens on the “bottom 50%”, most of whom are already victims of poverty.

Another serious omission is the reluctance of the Government and the Central Bank to repeal the existing Exchange Control Act with a view to exercising greater control and jurisdiction over Dollar funds that are involved in foreign transactions.     Such a measure has the potential to improve reserves without having to resort to the temptation of more loans that someday have to be restructured and paid back.

CONCLUSION

The primary aim of the Central Bank and the Government appears to have been to please the IMF in order to secure the long-awaited second tranche of the 2.9 Billion loan.  The compulsion for this is because continued funding from the IMF would be viewed favourably by the international community to seek further loans.

The hard reality is that all the government can hope for is to explore fresh sources of raising revenues with the view of mitigating the burdens imposed not only on those that contribute to employment but also the vulnerable sectors of society.    For instance, manufacturing and other sectors that provide employment have already expressed their deep concerns about the negative impact of raising additional revenue from increased VAT. Furthermore, the situation of the bottom 50% especially regarding food would be more acute than it currently is; a fact that would have a direct bearing on the ability to raise the projected revenues. How their frustrations are going to manifest, particularly in an election year, is not known.    What is known to them, however, is the awareness that they ultimately are the victims who end up paying the price for the misguided policies of failed governments and interest groups.

A report in The Daily Morning titled, “South Asia’s food crisis is alarming” states: “Misguided priorities combined with short-term political thinking have made South Asia the epicenter of the world’s food insecure – hunger zone… According to the FAO’s latest report… many struggle to manage two square meals for their family. Clearly, government policies on food accessibility and distribution are not working on the ground.     The underlying problem runs deep as 74.1 percent of Indians, 82.8 percent of Pakistanis, 76.4 per cent of Nepalis, 66.1 percent of Bangladeshis and 55.5 percent of Sri Lankans face serious difficulties in managing a healthy meal for their family” (December 29, 2023).

Although Parliament approved the 2024 Budget, it is too early for the populace to experience the full impact of its provisions. Therefore, instead of waiting for the bottom 50% to experience its full impact and face its consequences, it would be more prudent for the Government to explore hitherto unexplored options on lines similar to those presented herein, and take steps to mitigate the severity of the measures and policies in the 2024 Budget so that, they could breathe easier in these grim times and sustain the “relative stability” currently experienced.