Fixing taxation

Taxation. It is as unavoidable as death, some say, but not in Sri Lanka. Central Bank Governor Arjuna Mahendran is the latest to join critics of Sri Lanka’s tax policy, comparing it to that of a Sub-Saharan country just days ahead of the new Government’s delayed six financial bills coming into effect last Friday.

Slamming Sri Lanka’s taxation efforts as “pathetic” and “regressive” in a candid speech, Mahendran brutally acknowledged the Government’s policies of giving rich people a free ride at the expense of the poor. Currently about 80% of Sri Lanka’s taxes are indirectly falling far short of the international standards of 60:40 balance between direct and indirect levies.

Successive governments have raised money by taxing essential goods and services, which puts a disproportionate amount of pressure on vulnerable sections of society. Even though on an official level Sri Lanka has managed to keep inflation at a low rate, commodities have remained expensive when compared to the income levels of the poor. This not only hinders taxation but also reduces Sri Lanka’s changes of sustainable development.    

With tax revenue at an all-time low of about 11% of GDP, Mahendran insisted payment of debts and investment would become prohibitive in the long run if the cumbersome structure was not corrected immediately. As many as 30 types of taxes are currently levied, complicating the tax system and making it easier to evade taxes. Simplifying the tax system also means giving resources to Inland Revenue Department officials so they can effectively collect taxes. Under the present system, the Government simply increases the percentage to increase revenue, thus adding pressure on corporates and individuals who already pay taxes.

Another problem with taxation is the significant tax exemptions given, not just to investors but individuals. The bulk of Sri Lanka’s 1.3 million civil servants are not taxed, making the island perhaps the only country in the world to give public employees a free pass. Contrary to popular belief of civil servants making lower income, successive salary increases mostly given as election promises have resulted in the gap between public and private salaries reducing but this has not been mirrored by officials being absorbed into the tax net. Discounting corporates, less than 600,000 individuals pay income tax in Sri Lanka, far below the actual number of well paid professionals on both sides of the divide.

Two major reasons for this disinterest is lack of easy payment methods. The Inland Revenue Department and the Central Bank are trying to put together an online system for tax payments but it will have little success unless tax expenditure by the Government is made more transparent. Unless people see their taxes spent in a way that benefits them they will not be inclined to follow the law. For this stronger reforms are needed where the Government opens up its financial records, including money haemorrhaged by State Owned Enterprises, ends political patronisation of the rich and stops midnight slapping of taxes without public engagement. 

Transparency in Budget expenses and reduction of public expenditure on parliament members would also go a long way in winning the trust of taxpayers.

So far the Government has done little to solve any of these issues and, as the Governor himself pointed out, taxation will “make or break” Sri Lanka’s prospects.