Staff at Directorate General of Taxes, Indonesia
The tax amnesty is probably one of the most controversial issues in public policy, since both the benefit and the cost (especially the social benefit and cost) are hard to measure. Equity is one of the important matters in the tax amnesty discussion due to a desire from honest taxpayers to see fairness prevail.
This article will elaborate on the equity issue from three points of view: a calculations basis, the redemption rate and the opportunity being presented. Lastly, this article will discuss why equity should receive more attention and look at how the government could address this issue properly.
The calculation basis
The calculation basis for redemption fees and income tax differ in substance. Based on the draft tax amnesty bill, the redemption fee to be paid by tax amnesty participants (this term is used instead of “tax evader” to avoid generalizing all participant intentional tax evaders) will be based on the net unreported assets. Honest taxpayers, however, pay their fee based on their income (of course with some deductions like non-taxable income, but for high-income earners these deductions are negligible).
Net unreported assets are probably the best proxy for unreported income but they are still not the income itself. The net unreported assets approach is an expenditure approach to predict revenue, and it should be adjusted further to get a more accurate income prediction.
People will only buy assets after they’ve met their basic needs (e.g. food, education, transportation) and some other non-basic needs (e.g. recreation, entertainment). Thus, in terms of equity, net unreported assets should be adjusted to get a better prediction of real income, as legitimate taxpayers use in their income tax calculations.
Even though this adjustment is not practical, lawmakers should consider a minimum adjustment so we can minimize the gap between net unreported assets and unreported income, to address this inequity.
The redemption rate
The maximum redemption rate is 6 percent. The rate is even lower if the participants use the amnesty facility earlier to repatriate their assets to Indonesia. This rate is significantly lower than the general tax rate for an individual taxpayer ( the highest marginal tax rate is currently 30 percent ).
The tax amnesty participants are generally prominent, wealthy people and them paying the same tax rate as what low-income people pay is quite unfair ( the withholding tax rate for salaries up to Rp 50 million [ US$3,752 ] paid by non-registered employees is 6 percent ).
Imagine this year you earned Rp 10 billion. Since your income is much higher than the highest tax bracket, your effective tax rate will be around 30 percent (ignoring several deductions for simplicity). The income tax that you will pay, simply calculated, will be 30 percent of Rp 10 billion. Now imagine your neighbor receives the same income, but he never pays tax. He spends his income on meals, education, recreation and other living costs, spending in total, say, Rp 2 billion. Then he uses his remaining Rp 8 billion to buy an apartment. Now your neighbor is participating in the tax amnesty program, and he pays only 6 percent tax on that Rp 8 billion. Compared to you, this neighbor has paid tax at a lower rate and on a lower base. Moreover, the use of old prices for asset evaluation will only worsen this fairness gap.
The recurring tax amnesty
In the last eight years, Indonesia has implemented two tax amnesty programs. The 2008 sunset policy allowed taxpayers to revise their previous tax return (of course, including revisions to their reported assets) and pay no penalties.
Almost the same program was implemented in 2015 as part of “The Reinventing Policy” program where taxpayers could revise their tax returns on a self-assessment basis and pay only the balance of the principle amount, again without any penalty.
In short, taxpayers have all been given two opportunities in the last eight years to submit a revised tax return and suffer no sanctions. The two previous tax amnesty programs were considered “soft”, or limited tax amnesties, since they waived only penalties and interest. In contrast, the upcoming tax amnesty is considered an extensive tax amnesty since it will not only waive sanctions and interest but also, in substance, reduce the principal amounts being taxed.
Why should we care about equity?
Adam Smith, the father of modern economics, outlined four principles of a good taxation system, what he called the “canons of taxation” – equity, certainty, convenience and economy. Equity is the first canon, and it is very important.
Smith stated, “People of every state should pay their share in proportion to their individual abilities, which means that they should pay the tax proportionate to the income that they respectively get under government security.”
All taxpayers have the same right and obligation to pay tax based on their ability (their income). A tax amnesty, to some extent, violates this principle since it benefits only particular people without a direct benefit for honest taxpayers.
One of the main functions of tax policy is income redistribution to reduce the gap between the wealthy and the poor. The tax amnesty program raises the redistribution issue because the effective tax rate for its generally wealthy participants is lowered and inequality rises as a consequence, as discussed by Poterba (2007) in “Income Inequality and Income Taxation” published by the Journal of Policy Modeling ( Ed. 29, 623-633 )
The following graph illustrates how tax policy could affect inequality.
The following graph illustrates how tax policy could affect inequality.(I Wayan Agus Eka/*)
This graph displays two pieces of information: first, the income share of the top 1 percent of income earners (left scale), and second, the highest marginal tax rate (right scale) in the US for the period 1913 to 2013.
At a glance, we can see that the top 1 percent of income earners move in an opposite direction to the highest marginal tax rate (MTR). When the highest MTR declined from 77 percent in 1918 to only 25 percent in 1928, the top 1 percent of earners increased their income share from 15 percent to 19 percent. A clear shift is seen when the highest MTR jumped to 63 percent in 1932 and remained above 50 percent until the beginning of the 1980s. In this period the income share of the top 1 percent declined from around 15 percent to roughly 8 percent. However, the next period shows the opposite occurring. Starting at the end of the 1980s, the highest MTR remained low at around 40 percent, and income share for the top 1 percent increased steadily and reached its peak in 2012 at 18 percent.
In short, when the tax rate declines, inequality rises, and vice versa. Although empirical research should be conducted to make a more robust conclusion, the above graph gives us at least a starting insight into how tax policy will affect income distribution (this discussion using MTR as a proxy for tax policy).
This article only confirms that equity issues in Indonesia’s tax amnesty program are inevitable. This does not mean that the program is meaningless, but that our efforts should be focused on finding a way to address problems with equity. Good law enforcement after the implementation of the program could decrease the equity gap. Improving the tax administration’s enforcement capacity is considered one of the most important prerequisites for a successful tax amnesty program, according to Baer and Eric (2008) in “Tax Amnesty: Theory, Trends, and Some Alternatives”.
The government’s commitment to enforcing the law gives honest taxpayers an incentive to maintain their compliance while at the same time deterring others from evading tax.
The writer has a master’s degree in public finance from the National Graduate Institute for Policy Studies (GRIPS) in Japan.
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Disclaimer: The opinions expressed in this article are those of the author and do not reflect the official stance of The Jakarta Post.