Latuja and Sta. Ana from Action for Economic Reforms are authors of a recent study on the health and revenue impact of the proposed tobacco tax reforms. Copies are available through aer@aer.ph. This piece was published in the November 14, 2011 edition of the BusinessWorld, pages S1/4 to S1/5.
As the 15th Philippine Congress resumes its regular session on 14 November 2011, we look forward to seeing the Lower House immediately tackle the passage of a bill that will reform tobacco and alcohol taxes. After all, no less than the President, with the concurrence of the House Speaker, has pronounced the bill on sin taxes— we prefer to call them health-oriented taxes— as a priority legislative measure.
In fact, the Legislative Executive Development Advisory Council (LEDAC) has endorsed a bill that contains the best features found in the bills filed by several House representatives, namely Henedina Abad, George Arnaiz, Jocelyn Limkaichong, Pryde Henry Teves, and Niel Tupas, Jr.
The essential features of the LEDAC bill are:
Removal of the price classification freeze for some tobacco brands, in which the tax rate is based on 1996 net retail prices.
Indexation to inflation of the specific tax (a fixed rate based on the physical unit or quantity of the tobacco and alcohol products regardless of their price).
Simplification of the multi-tiered tax system (varying tax rates for different price categories) by moving towards a single tax rate for tobacco and alcohol products, irrespective of their prices.
Tax rates for tobacco and alcohol that will boost government revenues to finance the government’s development programs, especially universal health care.
The reform or restructuring of the tobacco and alcohol taxes is the first immediate step for government to resolve the chronic problem of low tax effort. In 2010, the amount of taxes collected as a proportion of gross domestic product stood at 12.1 percent. The tax effort attributed to the Bureau of Internal Revenue (BIR) for 2010 in fact slipped from 9.3 percent in 2009 to 9.1 in 2010, the lowest figure for the decade.
To be fair to the BIR, tax administration alone cannot sufficiently boost its tax effort. Tax policy is the key element.
Reforming the sin taxes assumes greater urgency because the existing law provides no further increase in the tax rates for alcohol and tobacco products. Thus, a significant erosion of real revenues will soon happen, if Congress fails to introduce the reforms stated above.
Similarly, we must overcome complacency in light of the fiscal consolidation, which however has been done through under-spending. Fiscal consolidation through lower spending affecting infrastructure, health and education, and without a boost in revenues, will inevitably result in macroeconomic instability. This will torpedo PNoy’s development objectives.
The main challenge now is for the Executive and the House leadership to convince the Chair of the Ways and Means Committee to support the essential reforms for the sin taxes.
The protocol is for the Chair of the Ways and Means Committee to champion the LEDAC bill. Unfortunately, the Chair, Representative Hermilando Mandanas, is sponsoring a different bill that lacks the essential reforms expressed in the LEDAC bill.
One important area of agreement between Representative Mandanas and the Executive is that they both support the removal of the price classification freeze at the 1996 net retail prices of alcohol and cigarettes. For this, we commend the Mandanas proposal. Indeed, such provision in RA 8424, as amended by RA 9334, has long deprived the government of billions of revenues.
However, the Mandanas sin tax bill merely removes the price classification freeze and proposes the conduct of price surveys every two years to regularly update the price grouping of brands. The bill, when implemented, will generate revenues only for the short run. And it does not address the fundamental flaws of the current tax system.
The revenue increase from merely updating the price brackets of alcohol and cigarettes cannot be sustained in the long run.
First, the maximum tax that can be imposed will be limited to the scheduled tax rate applicable to the highest price classifications in 2011; for example, cigarettes may only be taxed at P28.30 at the maximum. In a few years, revenues will be eroded by inflation, in the absence of indexation to inflation. Hence, the indexation of taxes to inflation is most critical in sustaining robust revenues in the long run.
Second, in the Mandanas bill, the increase in government revenues will be vulnerable to the pricing strategies of alcohol and cigarette manufacturers. To avoid paying higher excise taxes, the manufacturers, in anticipation of the proposed biennial price surveys, may influence the net retail price of their products so that these will be classified under lower price classifications. Instead of brands moving from lower to higher price classifications, the opposite can be expected to happen.
Moreover, the Mandanas proposal does not simplify the current tax structure. Even with the removal of the price classification freeze, the number of tiers will not be reduced, as some brands will remain in the lowest price bracket. The complex multi-bracket system will still be vulnerable to the rampant misclassification of brands by the manufacturers. Worse, it will continue to encourage downshifting consumption from higher- or medium-priced brands to lower-priced brands. This will not only result in forgone revenues, but also contradict the health objective of curbing consumption of “sin” products.
We hope that Representative Mandanas will be open to improving his bill by reconciling it with the LEDAC version, which corrects the basic weaknesses of the tax system for “sin” products.
To reiterate, the Mandanas proposal of removing the price classification freeze at 1996 net retail prices is a step forward, but not enough. Our President has endorsed the essential excise tax reforms that include indexation and a simpler tax structure. We hope Representative Mandanas will consider the merits of the Malacañan proposal and champion the comprehensive sin tax reform.