Why prioritizing tax policies that are inclusive, equitable and sustainable, is key to economic growth

Budget 2024 primary emphasis is anticipated to revolve around healthcare, education, and the streamlining of subsidies.

In brief

• There is considerable pressure on Malaysia to increase its tax revenue and if measures are introduced, they will contribute to tax revenue.
• The introduction of e-Invoicing will support the increase in tax revenue by potentially reducing the tax leakages from the shadow economy

It is that time of the year again, when the nation’s focus will be on the upcoming Budget 2024, scheduled to be tabled on 13 October 2023 by Prime Minister YAB Datuk Seri Anwar Ibrahim, who is also the finance minister. This will be Datuk Seri Anwar’s second budget as Prime Minister, and will be based on the Malaysia MADANI policy framework, which is a vision to create a more inclusive, equitable and sustainable society for all Malaysians,  

The focus of the Budget is expected to be on health and education, as well as subsidy rationalisation.  Fiscal measures, amongst others, are expected to include the following:

1. Global minimum tax under the Base erosion and profit shifting (BEPS) 2.0 Project
2. Capital Gains Tax
3. e-Invoicing
4. Tax incentives reforms

There is considerable pressure on Malaysia to increase its tax revenue. The Organisation for Economic Co-operation and Development (OECD) reported that Malaysia's tax-to-GDP ratio was 11.8% in 2021, which is below the Asia Pacific average of 19.8% and the OECD average of 34.1%.  In comparison, Malaysia’s neighbours, namely Singapore, Thailand, Philippines and Vietnam, all have a higher tax-to-GDP ratios of 12.6%, 16.4%, 18.1%, and 18.2% respectively.

Furthermore, Malaysia has a heavy reliance on direct taxes, such as personal and corporate income tax, contributing a total of 65% of Malaysia’s tax revenue. Only 26% comes from other taxes on goods and services. In comparison, in other Asia-Pacific countries and the OECD countries, direct taxes make up approximately 34% and 33% respectively of total tax revenues. This means Malaysia’s tax revenue is prone to fluctuations, as direct taxes are highly susceptible to economic cycles, potentially leading to sharp declines in tax revenue during economic downturns.  These fluctuations are somewhat mitigated in countries that rely more on consumption taxes.

The above measures, if introduced, should contribute to an increase in tax revenue for Malaysia.  

The introduction of e-Invoicing, though not directly a tax measure, supports the increase in tax revenue by potentially reducing the tax leakages from the shadow economy.  It also has other benefits.

For one, it will eventually have the potential to simplify and almost automate the tax compliance process for individuals and businesses. Based on experiences in other countries, once e-invoicing is fully implemented, for individuals the need to keep records to justify claims for selected deductible expenses, such as the purchase of sports equipment, computers or WIFI subscriptions, could potentially be removed.  This is because the Inland Revenue Board (IRB) receives real-time data in a machine-readable format. In some countries that have implemented e-Invoicing, the tax computations are prepared by the tax administrators and taxpayers merely need to review and approve the prepared tax computations and returns.

Further, the availability of data could potentially help with the nation’s subsidy rationalization agenda.  With the IRB having data on individual spending, the subsidies for petrol, utilities, etc. could be removed altogether. Subsequently, a direct subsidy could be provided to individuals in the targeted segments, such as the B40 group. 

Despite the many benefits of the GST, the regressive nature of the tax has often been raised as a concern.  Arguably, a consumption tax like GST imposes a higher relative burden on lower-income earners than on high-income earners. This is because lower-income earners tend to spend a larger proportion of their income  as compared to high-income earners, who save or invest more of their income. For example, if a consumption tax rate is 6%, a person who earns RM10,000 and spends RM9,000 will pay RM540 in GST, which is 5.4% of their income. However, a person who earns RM100,000 and spends RM50,000 will pay RM3,000 in GST, which is only 3% of their income. Hence, the view by some that the consumption tax is more burdensome for the lower-income earners.

The regressive nature of the GST can potentially be mitigated by providing direct and targeted GST rebates to the B40 group.  Given that the IRB will eventually have the necessary data on taxpayers and the GST amount that is borne by the affected groups through e-invoicing, the e-invoicing system could complement the targeted rebates.

Arguments for global minimum tax and capital gains tax are that these are simply to level the playing field. The former seeks to ensure profits are not arbitrarily shifted to jurisdictions with low tax rates and the latter aims to provide more equitable outcomes by taxing selected capital gains, in addition to income. Care must be taken in implementing these taxes, to ensure that Malaysia remains an investment destination of choice in Asia.

Tax incentive reforms are overdue and necessary, as the country is seen to be overly generous in granting incentives without placing sufficient emphasis on the outcomes or resultant benefits.  As such, a renewed incentive framework, which is multi-tiered, outcome-based and competitive, is crucial to ensure e incentives are used to attract the right investments and at the same time, that multiplier benefits to the economy result from the said investments.

All in all, the measures, if introduced, are for the greater good of the nation and support the overall objectives of the MADANI policy.

Notwithstanding, the burden of these measures do fall primarily on the corporate sector, especially the large corporate entities that have been the major contributors to the nation’s economy and tax revenue.  Unlike simple changes in tax law, these changes are more intrusive, in that require significant changes to an organization’s processes, systems and very likely, the reskilling and upskilling of the workforce.

To corporate entities, the changes that come from the introduction of such measures are inevitable and the only consolation is probably that they are not the only ones subjected to these changes. Fiscal policy changes are being instituted in almost every jurisdiction, as countries face challenges to close fiscal gaps following the significant stimulus measures introduced to battle the economic effects of the COVID-19 pandemic.

 Outlined below are some suggestions which organizations may consider in dealing with these changes:

1. Undertake a current state assessment on the impact of these proposed changes to the organization and outline a blueprint on the approach to address the impact that these measures may have on the organization. In doing so, it is necessary to take an approach that considers the organization’s processes, systems, and people
2. Engage the relevant internal and external stakeholders to create an awareness of the impact to the organization
3. Where appropriate, engage and lobby for changes to the standard proposed measures, where there will create unintended or unequitable adverse consequences
4. Secure appropriate budgets, where required, to implement changes to processes, systems and the organizational structure; especially in the reskilling or upskilling of people

Lastly, it is important that the relevant government ministries and agencies continue to engage the corporate sector, to ensure their concerns and specific circumstances are addressed.  Further, some relief, perhaps in the form of enhanced tax deductions, should be considered to alleviate the costs that will be incurred by these organizations in implementing these measures, which will ultimately benefit the nation and rakyat at large.