Will the bank tax work?
Paul Golding GUEST COLUMNIST
The minister of finance, Dr Peter Phillips, at the opening of the Budget Debate two Thursdays ago, announced a new tax to be imposed on withdrawals from deposit-taking institutions, including banks. This bank transaction tax (BTT) is one of three forms of financial transaction tax; the other two, which are referred to as non-banking taxes, are: a) taxes on currency transactions, like the Tobin tax, which applies to spot conversions of currencies; and b) taxes on the trading of securities. The focus of this report will be on BTT.
The BTT has a long history dating back to its first imposition in the United States in 1898 when that country instituted a two-cent tax on bank cheques to finance the Spanish American War. According to a 2006 Organisation for Economic Cooperation and Development report, since 1976, taxes on bank transactions have been introduced repeatedly in Argentina, Brazil, Colombia, Ecuador, Peru and Venezuela.
While there are considerable variations in the design of BTT, taxes are levied on withdrawals from bank accounts, including the clearance of cheques, debit-card payment, and the use of ATMs, which is the case in Jamaica. The most recent experiences of the Latin American countries should provide a basis to project how effective this new tax will be and provide guidelines for policymakers.
History has shown that this tax is very controversial and has been imposed in times of economic crisis with the purpose of increasing government revenues. Argentina has imposed BTT at least five times, all during times of economic crisis, including 1982 when it defaulted on its debt, and in 2001-2002. Similar economic emergencies have been the case in Bolivia, Colombia and Venezuela. The impending tax is a clear indication of the financial distress the country currently faces.
The BTT is very appealing as a money-raising instrument, as a small tax can raise a sizeable amount of revenue. Based on the Budget estimates, the BTT is expected to provide $2.25 billion for this fiscal year. Other advantages of this tax include the requirement of relatively little preparatory work and no filing or any other cooperation from the taxpayer.
A MORE EFFICIENT TAX
It has been argued that BTT is more efficient than any other tax, barring general consumption tax, and based on the scope of the tax, as explained by the minister, it will be very difficult to avoid. To date, only a few countries have imposed this tax. However, as more persons are integrated into the banking system, it will become a more attractive tool in the tax-reform arsenal. Currently in India, there is a huge debate on introducing BTT and, simultaneously, abolishing all other 32 direct and indirect taxes, while leaving the import taxes/customs duties in place.
While there are clear advantages of introducing BTT, as noted by Albuquerque (2006), this tax is a combination of a consumption tax, an income tax, an investment tax, a tax on tax payment, and a capital turnover tax. What this means in Jamaica's case is that BTT does not broaden the tax base but further penalise the good payer.
The most important negative effect of BTT is that it has increased the levels of cash usage, informality and disintermediation. In both Argentina and Venezuela, there has been a clear preference for cash payment between periods where the tax has been active versus when it is inactive. In the case of Argentina, it was reported that the usage of bank accounts declined by 76 per cent between 2001 and 2004 when BTT was in effect.
Operating in cash is the antithesis of economic dynamism and for the settlement of transactions quickly and effortlessly. This will have a negative impact on the use of banks and encourage the reliance on the use of informal transactions. The BTT also has other economic effects, including the migration of savings abroad, adversely affecting the competitiveness of exports and increasing interest rates.
The implementation of BTT in Latin America has shown tremendous volatility with countries employing the tax periodically and varying the rates over time. Peru introduced BTT in August 1989 with a rate set at 1%; it was subsequently raised to 2%; then reduced to 1%, then 0.75% and 0.04% before the tax was eliminated in 2002.
The 2006 OECD report found that for a given tax rate, revenue declined over time. Therefore, in order to meet a fixed revenue target in real terms, the tax rate needs to be raised repeatedly. They also found that successive increases in the tax rate results in the tax base shrinking more than it raises revenue. The report concluded that BTT was not a reliable source of revenue, especially over the medium term, and should be used only as a temporary measure to mobilise revenue in situations of fiscal distress.
The Government's letter of intent to the International Monetary Fund in 2013 indicated that Jamaica intends to reduce its public debt-to-GDP ratio from approximately 150% to no more than 100% by the end of financial year 2015-16. This will require tough fiscal reforms, which have led to significant sacrifices, with further sacrifices to be made that will not be achieved without some social unrest.
These fiscal reforms are necessary if Jamaica is to achieve sustainable economic growth which has eluded us for the past 50 years. Although necessary, neither of the political parties has shown a penchant to take political risks for national development. The announcement of this new tax package by the minister is a deviation from the risk-aversion posture, but it is born out of necessity.
Taxpayers, especially the ones who are already overburdened, will not readily accept the BTT, but changes require sacrifice, leadership and management. This means that other areas for reform must also be implemented, including expanding the tax base and reducing public-sector spending.
The minister's announcement of the BTT gave it an aura of permanence; however, I have not seen any country that has kept this approach permanently. Some countries are considering using BTT while eliminating other taxes as part of their tax-reform package. The minister should indicate whether this will be part of a tax-reform package. If not, the minister should set a period for the review of this measure with a view of repealing it over time, as the tax base broadens and the need for additional revenue subsides.
The minister should also consider certain exceptions, especially withdrawals for the payment of tax liabilities, as the idea of paying tax on the payment of taxes is likely to have a negative effect on compliance. Exemptions should, however, be limited, as this would increase the complexity of the system and reduce revenue productivity.