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Swinburne University of Technology Sarawak Campus

101 things to be done before 2020: Tax reform

August 5, 2009

By Nicolaos Giannopoulos

(Published in ‘Campus & Beyond’, a weekly column written by Swinburne academics in the Borneo Post newspaper)

The Malaysian vision is that by 2020 the country will have reached developed nation status. This is achievable. However, a number of things need to change from now till then for this to crystallize. One of them is undoubtedly the state of the current tax system.

Since the dawn of civilization around 3000BC when the Ancient Egyptians began taxing cooking oils, taxes have played an important role in the development of nations. As the Roman Empire developed they were the first to introduce trade taxes around 100BC and soon after Julius Caesar introduced the first ever sales tax to the world. As civilizations developed, so too did their tax systems.

Tax has always been an important indicator of “development”. So what can the current tax system tell us about Malaysia and what needs to change by 2020 in order for us to become a developed nation? To answer that question we need to start with the current tax system. A very simple but accurate indicator of how much tax revenue is being raised by a government is what’s called the tax to GDP ratio. Quite simply, this is a measure of the total tax revenue raised by a government as a percentage of the size of the nation’s economy.

In 2008 Malaysia’s tax to GDP ratio was 15.5%. This has been a fairly constant figure for Malaysia. This figure of course does not mean much until we compare it with other nations. Comparing Malaysia’s tax to GDP ratio with those of the 34 nations classified as advanced economies by the International Monetary Fund provides an important red flag for Malaysia.

Of the 34 advanced economies, the Danish government raises the highest amount of taxes in terms of their economy at 50%. In fact, 31 of these advanced economies’ governments raise more than 26.8% tax to GDP. The remaining three, Singapore, Hong Kong and Taiwan, are small island states which do not have the developmental pressures of the other 31 advanced economy governments.

So where does Malaysia sit with its 15.5%? Malaysia’s tax to GDP ratio ranks 112th lowest in the world (out of 179 countries). It is grouped with countries such as Zambia (110th), Honduras (111th), Togo (113th) and the Ivory Coast (114th). Economically speaking, this company is not something to envy.

The Malaysian government is simply not raising an appropriate amount of tax revenue. Why is this an issue? Well, because the development of the nation has to be funded from somewhere. Can this be done without tax reform? Well, yes. The government could request that Bank Negara simply print ringgit and use the money to build the necessary infrastructure. But this would quickly lead to a devaluation of the ringgit and make life a lot more expensive for all of us. How expensive? Think Zimbabwe.

The government could also borrow the necessary money to develop the nation. But even governments have to repay loans (with interest). The government would then be saddled with debt, and the country’s credit rating would spiral downwards, making the cost of raising additional capital even more expensive.

Or the government could simply own and control the economy, through state-owned enterprises. The government would have a steady revenue stream, without much of a need for tax revenue. It would also have a very inefficient market place. The former Soviet Union (amongst others) went down this path and found it to be economically unsustainable. Hence, the former.

None of the options above are economically feasible. Which means tax reform is a critical means by which governments can assist in the development of their countries (unless of course they’re an oil rich state).

We the public need to ask ourselves: Do we want to reach developed nation status? If so, then one thing that must change is for all of us to contribute in some little way, shape or form … one of which is by paying just a little bit more in taxes.

The Malaysian government is simply not raising enough tax revenue going forward. The current tax system is narrow-based, relying too heavily on income taxes paid by companies and individuals. As people lose their jobs and company profits decline, this tax revenue is also vanishing.

Growing trade liberalization and the resulting decline on the reliance on trade taxes, such as import duties, is putting further downwards pressure on tax revenues. The Malaysian government is under extreme competition (from the likes of Singapore, China, Vietnam and so on) for that foreign direct investment dollar to assist in our development. For example, to attract these foreign businesses the government has lowered the company tax rate to 25% this year. This is putting further downwards pressure on tax revenues, compounded by a now slowing economy and lower company profits.

What will help? Tax reform. This doesn’t mean increasing income tax rates. No. What is required is for the government to create a broad based tax system, allowing the government to use low tax rates to raise an appropriate amount of revenue. This means everyone paying a little bit of tax, rather than a few paying a lot.
How? For starters a broad-based goods and services tax with a single low rate, to replace the current inefficient sales and services taxes, which simply do not raise the required tax revenue. Taxing capital gains from property by reinstating the Real Property Gains Tax or even changing the income tax from a territorial to a world wide tax system are other options.

2020 is within sight. It is possible. But tax reform is necessary. All that is required is the political will and support from the rakyat. Malaysians need to view taxes and the important role they will play in developing their nation in a positive light.

Nicolaos Giannopoulos is a lecturer with the School of Business and Enterprise at Swinburne University of Technology Sarawak Campus. He can be contacted at ngiannopoulos@swinburne.edu.my.