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What next after Indonesia’s tax amnesty

LiveMint logoLiveMint 20-08-2017 Agustha Lumban Tobing

The Indonesian government has just completed the largest tax amnesty programme in the country’s history. The policy was intended to raise desperately needed tax revenue to finance, among other things, the government’s spending spree of infrastructure programmes.

The amnesty, along with the ministry of finance’s (MoF’s) push to use the Automatic Exchange of Information (AEOI) (goo.gl/gKu3Y9) mechanism as well as toughening up enforcement on tax cheats, is a welcome endeavour to capture individuals and corporations who conceal their income and wealth from the tax net.

Indonesia’s tax amnesty caused confusion, if not panic, not just among the many people who scrambled to either file their first tax return or to file them (somewhat more) accurately for once but also among tax officials and accountants around who saw their workload spike; this year’s deadline for filing tax returns even had to be delayed. Although revenue from the programme fell short of President Joko Widodo’s stated target of $100 billion with only $12 billion being collected, it was the declaration of a previously hidden hoard of $350 billion held by only one million entities (averaging at $350,000 per entity, or a hundred times the per capita gross domestic product), equivalent to 40% of Indonesia’s GDP, that staggers.

Compared to most Asian neighbours, Indonesia suffers from low revenue collection: central and local government revenues account for less than 15% of GDP, lagging even countries with lower GDP per capita, like India and Vietnam.

This is somewhat expected from a country that has such a low compliance rate: out of Indonesia’s 118-million strong workforce, only around 10 million filed tax returns in the year before the tax amnesty programme, with presumably even fewer paying the prescribed amount, if at all. This low compliance rate is because (a) Indonesia’s high informal employment rate of above 70% of non-agricultural employment implies tax officials couldn’t audit most of the economy and (b) the average manufacturing wage—more likely to be in the formal sector—is only half of the income when taxes start applying, which is at around $4,100 per annum. This means that the finances of the Indonesian government rely on high-income individuals and large corporations, both of whom are relatively well-resourced to avoid their taxes that necessitated an amnesty programme in the first place.

If Indonesia, or any country, would like to improve its crumbling schools, understaffed and under-equipped hospitals, non-existent infrastructure, or its underfunded social insurance schemes, it cannot rely on periodically forgiving tax avoiders for a measly fee. However much an amnesty’s windfall might generate, it is still far from sufficient to pay for the essential public goods and services a country with big dreams must provide its citizens.

The MoF’s push for the AEOI and increasingly vigorous prosecution of tax evaders is indeed welcome as they are a form of investment in information reporting which is good. But in a world of multinational corporations’ skilful and legal use of transfer pricing or thin capitalization methods and of wealthy individuals’ legerdemain of using shell companies in tax havens (see, for example, Panama papers) to reduce their tax bills, Indonesia cannot continue to rely on taxing income and profits anymore.

This brings us to Indonesia’s wealth.

Indonesia has one of the highest wealth inequality figures in the world, and such high levels have the potential to bring about adverse economic, social and political consequences. High wealth inequality opens the political system to capture by economic elites, who then use their political proxies to implement favourable policies that ultimately increase their bottom line, which enables them to capture even larger parts of the political system, ad nauseam.

A simple and efficient way to break this cycle, as well as to increase tax revenue, is to just tax wealth.

Taxing wealth could come in many forms, but let’s focus on just one: inheritance taxation. Unlike labour and capital income, both of which arise from productive activities and are then taxed, income from inheritance is the most obvious case of unearned income. Unfortunately, the tax system in Indonesia effectively rewards those who are not productive while punishing those who are. If an inheritance is used to start a business which then fails, they don’t pay corporate income taxes; if they invest them in asset markets and make a loss, they can write the losses off their income taxes; whereas a successful entrepreneur or investor would see their earned income or profits taxed.

An inheritance tax will reduce heirs’ ability to live off their parents’ wealth and force them to be productive like the rest of us, all the while paying for much-needed public goods. Who wouldn’t want that?

Indonesia does not yet have an inheritance tax, nor does it have land-value taxes or annual wealth taxation, all of which are steps towards taxing unearned income and unproductive assets. This may be the time to start considering these options.

Agustha Lumban Tobing is a researcher at The Habibie Center’s ASEAN Studies Program.

This is part of the Young Asian Writers series, a Mint initiative to bring young voices from different Asian countries to the fore.

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