SINGAPORE: US President Donald Trump unveiled on Wednesday (Apr 26) a major tax reform package that aims to simplify the US tax system and bring about massive tax cuts for businesses and individuals. The proposal includes slashing the corporate tax rates from 35 per cent to 15 per cent and compressing the tax brackets for individuals from seven to three.
There is no doubt that this radical proposal will be heavily debated in Congress.
Back home, we are similarly on the cusp of a comprehensive tax review in Singapore. The Committee on the Future Economy (CFE) had advocated reshaping Singapore’s tax system given domestic and global imperatives, while maintaining a broad based, progressive and fair tax regime in its report released in February.
Building on the strategies outlined by the CFE, Finance Minister Heng Swee Keat further stressed at Budget 2017 the need for Singapore to grow its revenue base to finance rising healthcare and infrastructure expenditures, and do so in a pro-growth and progressive manner.
TAX SYSTEM MUST REMAIN PROGRESSIVE AND SUSTAINABLE
A progressive tax system which taxes high-income earners proportionately more than low-income earners is often seen to be fair, as it is in line with the economic principle of “ability to pay”. It has served us well in the past and it is prudent for the Government to ensure that Singapore’s tax system continues to be fair and sustainable.
Yet, to be sustainable, the Finance Minister had reiterated that the tax system, whilst getting the better-off individuals and profitable companies to pay more income taxes, should continue to reward effort by individuals and enterprise by companies.
Given this backdrop, how can our tax system continue to be more progressive and sustainable, even as the Government seek to grow revenues to finance growing expenditures?
To increase the tax revenue base, it is likely that changes to the tax system will be made to the largest tax revenue sources. According to the latest statistics in Budget 2017, the top three contributors of government operating revenue for the fiscal year 2016 were corporate income tax (CIT), goods and services tax (GST) and personal income tax (PIT). They accounted for 20 per cent, 16 per cent and 15 per cent of the Government operating revenue, respectively.
CORPORATE INCOME TAX REBATES LIKELY TO BE REMOVED
Over the years, our corporate tax rates have gradually been reduced from a high of 40 per cent in 1986 to the current 17 per cent since 2010. It is not likely that these rates, which apply to all companies regardless of whether they are local or foreign, will increase given the potential impact such a move can have on attracting big businesses to Singapore and growing our economy.
In reality, most companies already pay very much lower effective tax rates due to the partial tax exemption regime introduced since 2002, which helps companies to deal with rising business costs. From 2008, this regime was further enhanced to allow companies paying normal corporate tax rates to claim a maximum exemption of S$152,500. This comprises a 75 per cent exemption on the first S$10,000 and a further 50 per cent exemption on the next S$290,000 of normal chargeable income.
In addition, the Government has been tweaking with temporary CIT rebates. Starting from a 20 per cent CIT rebate capped at S$10,000 in 2011, this has in recent years increased to 50 per cent from 2016 to 2017 but capped at S$20,000 and S$25,000, respectively. In Budget 2017, it was announced that a reduced 20 per cent CIT rebate will apply for 2018, capped at a lower amount of S$10,000.
Why has this been the case? On the one hand, the use of temporary CIT rebates helps reduce the effective tax rates of small- and medium-sized enterprises (SMEs). On the other hand, it provides the Government with an effective tool to adjust the effective CIT rates based on prevailing economic conditions without committing to a permanent change in the overall CIT rates.
When pressed with an urgent need to grow the tax revenue, what is likely to happen is the removal of the CIT rebate after 2018 with the CIT rate remaining unchanged for some years. Singapore’s CIT rate is already one of the lowest in the world.
Based on the past three decades, the Government is likely to consider the next gradual reduction in CIT rates only when it feels that Singapore needs to stay competitive in response to worldwide corporate tax rate trends.
Another way to increase the CIT revenue for the Government is to gradually remove or reduce concessionary tax rates awarded to certain eligible companies under our wide range of tax incentives. This is already happening in recent years and there is scope for more to be done.
But against the backdrop of CIT cuts like those in the US, and amidst speculation that regional countries especially Indonesia may also cut CIT to match Singapore’s rates, the Singapore Government will be hard pressed not to respond to such moves to keep CIT competitive.
If so, this “race to the bottom” will be most unfortunate as it undercuts critical tax revenues needed for key social welfare and infrastructure projects that support a thriving business climate.
Otherwise, any changes to CIT rates and rebates are not likely to be significant, compared to other possible changes to the tax system to increase the tax revenue base.
PERSONAL INCOME TAXES MAY BE KEY TARGET
Since the introduction of income tax in Singapore, graduated tax rates have been introduced for Singapore residents, making the PIT system clearly progressive.
Over the years, we have witnessed tweaks in the different tax brackets. Whilst the first S$20,000 of taxable income is exempt from tax, the highest tax bracket has been adjusted on a number of occasions. At one time, it used to be in line with the prevailing corporate tax rates. From 2017, the gap has widened to 5 per cent with the highest personal income tax bracket increased from 20 per cent to 22 per cent.
As our society becomes more receptive to an even more progressive PIT structure, it appears that the Government could easily introduce a new and higher tax bracket for the super-high income earners whist possibly raising the tax exemption thresholds from the current S$20,000. This should bring in some net increase in the personal income tax revenue for the Government.
However, this measure could potentially conflict with the objective of making our tax system sustainable in the long run as it may disincentivise hard work by individuals or discourage enterprise by companies.
What appears certain is that any attempt to grow the tax revenue in this manner must be handled carefully and the affected taxpayers must understand and embrace it. Should we adopt a similar approach used by the Trump administration to simplify the PIT regime by shrinking the number of tax brackets? My view is that this is unlikely to happen as it will only make our PIT structure less progressive and consequently less acceptable.
On the other hand, some experts say introducing more tax brackets into the PIT could make the PIT less of a stepped function – meaning that individuals will then pay taxes more proportionate to the incomes they earn.
GST WILL LIKELY CONTINUE TO BE PROGRESSIVE EVEN IF INCREASED
By its nature, the goods and services tax (GST) is inherently regressive in nature because all individuals, irrespective of whether they are well off or otherwise, are likely to consume the same amount of goods. So less well-off individuals are likely paying proportionately more taxes in the form of GST.
However, since its inception in 1994, the Government has introduced GST offsets that exceed the GST burden shouldered by less well-off individuals. By now, a permanent GST voucher scheme is in place that provides transfer payments to the needy individuals. Hence, with a stroke of ingenuity, our overall GST system is also progressive, a uniquely Singapore-styled system.
There is much ongoing debate on when an imminent GST rate increase will take place, although few expect this to happen before the end of the decade. However, some members of the public do not rule out the possibility that the Government may surprise with an earlier GST increase rate announcement if its fiscal position deteriorates significantly given higher spending on healthcare and infrastructure.
Should that happen, the Government is likely to respond with a corresponding increase in the quantum of GST vouchers for the needy individuals to ensure once again that they are at least not worse off.
Instead of an increase in the GST rate, the Government may introduce new rules to collect GST from e-commerce transactions undertaken by foreign suppliers. This idea has been introduced in other countries and is likely to gain support here as it creates a level playing field between local and overseas suppliers.
ANY CHANGES LIKELY STUDIED CAREFULLY, ANNOUNCED EARLY
As the US Senate ponders over the proposed tax reform by the Trump administration, the Singapore Government is concurrently studying all the options to meet future tax revenue needs. Given the prudent and forward-looking stance adopted by the Finance Minister's predecessors, which he is likely to take dressing from, one thing is certain: Mr Heng is not likely to opt for a drastic tax reform similar in magnitude to that of President Donald Trump’s.
Any increase in current taxes in whichever category or the potential introduction of new taxes such as a carbon tax will certainly be studied carefully. And taking reference from public reaction to the sudden increase in water prices, any increase in taxes will likely be announced and consulted with businesses and Singaporeans early, to give time for necessary adjustments to be made.
(The years mentioned in this commentary refer to years of assessment, unless otherwise indicated.)
Simon Poh is associate professor at the Department of Accounting at NUS Business School.