Tax System on the Skids
Who Is Stealing Taiwan's Future?
For an Asian nation, Taiwan has typical tax rates, but rock-bottom revenues. With myriad loopholes hollowing out the national treasury, how will Taiwan repair its bridges, educate it kids or fund health care? Just who is stealing the future?
Who Is Stealing Taiwan's Future?By Alice Ting
From CommonWealth Magazine (vol. 406 )
On September 8 a high-level tax official with more than twenty years on the job was taken aback when he read a blaring headline in the morning paper: "Finance Minister, Executive Yuan Not on Same Page on Securities Transaction Tax Cut." What shocked the tax official was not the vicissitudes of government policy but that "for a long time, finance ministers have opposed the transaction tax cut, even at the risk of losing their job. How could this one suddenly give this handout on his own initiative?" he wondered.
Slashing the securities transaction tax by half would definitely be the most serious medicine the market had received in the past 15 years.
Previously, throughout the Asian financial crisis, the local financial crisis, the global technology bubble, SARS, a sluggish economy and a sagging stock market, former KMT premier Vincent Siew and a succession of DPP premiers had all refrained from cutting the securities exchange tax.
And while halving the securities transaction tax won't rescue the declining market, the NT$30 billion in revenue it would otherwise garner, which could pay for construction of the Taipei Rapid Transit System's Neihu Line, might as well be flushed down the toilet.
The ease with which the securities exchange tax was abandoned is a reflection in miniature of Taiwan's tax system over the past 20-odd years.
Tax System Robbing Taiwan of Its Future
The foundations of Taiwan's tax system have by now been scarred and riddled with holes by the backhoe of politics, and worsening long-term finances have left the central government with debt obligations of nearly NT$4 trillion. The loophole-ridden system has resulted in reductions in spending on national public works projects and education, contributing to a vicious cycle of national weakening, sluggish economic growth, and a widening wealth gap. The tax system has become the chief culprit in the wholesale theft of Taiwan's future.
The results of a study by Frankfurt University's CFS, a notable think tank, targeting 23 Organization for Economic Cooperation and Development (OECD) member nations indicate a definite positive correlation between the long-term income growth of a nation's citizens and the scope of its government. The study further purports that for every dollar spent by the government, citizen incomes usually rise by more than that amount. This is why spending by governments of developed nations always accounts for 30 percent or more of annual gross domestic product.
But Taiwan is taking the opposite road. During the Chiang Kai-shek era, Taiwan's governmental expenditures accounted for 25 percent of GDP; as of last year that ratio had fallen to 19 percent. That ranks sixth lowest among 55 nations in an IMD comparison, higher only than two city-states of Singapore and Hong Kong and poor nations Peru, Chile and the Philippines. It is a figure far below the 38 percent spent by Japan and the 36.5 percent by the U.S. (Table 1)
Government Fasts, Schools Starve
With the current budgetary squeeze, government spending has tightened across the board. Hardest hit has been economic construction, followed by national defense and education. (Table 2)
Taking airports as an example, comparative analysis by the international airport services company Skytrax reveals that Taiwan is the only one of the "Four Dragons of East Asia" (including Korea, Singapore and Hong Kong) that lacks mass rapid transit access to its international airports and is the only one with three-star rated airports. Kimpo International in Seoul, Hong Kong's Chek Lap Kok International and Singapore's Changi International were this year all rated five-star airports. When it first opened 30 years ago, Taoyuan International Airport's Terminal One was considered a model in Asia, but its current state of dilapidation gives those passing through a ramshackle feel. Plans to improve airport facilities have been habitually delayed, and it wasn't until this year that budgeting for large-scale renovations was made available.
Education investment in our children's future is even more severely lacking. Salaries for professors are half those in Hong Kong, resulting in a serious brain drain. National Teachers' Association chairman Wu Chung-tai says candidates in the last three presidential elections all promised to spend six percent of GDP on education but have failed to live up to those promises. The truth is that the proportion of GDP spent on education topped out at 6.2 percent in 1992, falling to 4.1 percent by 2006, and all sectors of education are now starved for funding.
"School principals are now principally occupied with saving money," as one primary school principal in Pingdong put it.
Taiwan's social welfare spending as a percentage of GDP has dropped from four percent seven years ago to 3.1 percent last year; while there is interest in new programs for the nation's elderly and youth, no funds are available.
Not Overly Burdensome, Tax System Simply in Disrepair
Taiwan cannot afford to make the investments it should be making for the future of its infrastructure and education. The future it faces, one with a shrinking birth rate and an aging population, it does not dare to face.
Bizarrely, despite already being a small-government state, in the eyes of some veteran businesspeople, Taiwan must reduce taxes even further if it is to remain competitive.
Is taxation in Taiwan really that heavy?
Letting the numbers do the talking, when compared with five neighboring countries – Hong Kong, Singapore, China, South Korea and Japan – Taiwan's tax revenues in 2006 accounted for 13.5 percent of GDP, less than one percentage point higher than city states Hong Kong and Singapore and ranking as the world's fourth lowest. That places Taiwan far lower than China at 17.9 percent, South Korea at 25.5 percent and Japan at 27.5 percent.
For individuals, Taiwan's highest tax rate stands at 40 percent, second highest among the six aforementioned nations, lower only than the 45 percent tax China levies on its wealthiest citizens. Ironically, Taiwan's tax revenues from taxing individual incomes account for only 2.8 percent of GDP, third lowest, higher only than Singapore's 2.2 percent and China's 1.2 percent.
As numerous tax scholars have noted, Taiwan finds itself mired in a taxation deadlock – the wealthy are disgruntled over higher rates of taxation, and the poor are disgusted with the government's seeming inability to actually collect those taxes from the wealthy. By and by the pressure falls squarely on income taxes levied on salaries. Those in each tax bracket abhor the others, seizing up the system.
Why is it that Taiwan's tax rates are not low but taxes cannot be collected? Joanne Ling, director general of the Taipei National Tax Administration and the person responsible for researching anti-tax evasion law, believes the key lies in an integrated tax base. Otherwise, "wherever a tax exemption or tax break lies, people will move in that direction," Ling says.
The Taipei National Tax Administration recently identified eight major tax dodges, all intimately related to the three major cracks in the tax base: tax exemptions on capital gains from securities transactions, below-market value land appraisals for taxation purposes, and tax-free overseas earnings.
This has resulted in a long-term problem of a "heavy tax burden on labor, light tax burden on capital gains." In other words, income derived from working hard every day is subject to heavy taxation, while those using money to earn more money get off scot-free. According to the Ministry of Finance's annual financial report, fully 74 percent of overall tax revenues in 2006 derived from taxes on the wages of some eight million everyday employees, while just 12 percent derived from stock dividend earnings and a miniscule 0.3 percent from income based on asset transactions.
The tax-exempt status of securities-derived income has opened a gaping door to tax avoidance.
Moreover, loopholes in the tax system's regulations on land appreciation also allow the wealthy to skirt gift taxes and income tax on the sale of assets, by purchasing luxury residences and officially declaring their value well below the actual price tag. This has not only facilitated tax avoidance, but also led to the abnormal development of Taiwan's market for luxury residential properties.
Axis of Evil in Eyes of Foreign Businesses
At a conference in Hong Kong earlier this year sponsored by the Tax Executives Institution, a partner at one of Taiwan's top three domestic law firms was shocked to hear the chief financial officer of one global conglomerate actually describe Taiwan as part of an "axis of evil."
According to a Tax Executives Institution survey of CFOs attending the conference, Taiwan's overall tax system ranked as the second least sound of the six aforementioned Asian nations, ranking above only South Korea. Of the four criteria on which the survey was based, the Taiwan tax system scored lowest for its predictability.
The law firm partner says the costs of tax reporting for foreign firms in Taiwan are actually quite high. Taiwan is one of few countries that require foreign businesses to have a certified public accountant endorse their tax filings and transfer pricing reports, shifting the burden of responsibility for certifying tax reporting entirely onto the shoulders of the business. Regulations governing transfer pricing reports clearly state that such reports may be filed in English; the National Tax Administration, however, routinely demands that they be translated into Chinese.
"Taiwan is a third-rate country in terms of its tax system," he says sternly. "Even China does better than us."
Taiwan's alternative minimum tax system was initially scheduled to begin taxing income earned overseas beginning next year. After three months at the helm, however, the new administration's Ministry of Finance has yet to even publicly announce the standards for controlled foreign companies (CFCs), so the timetable will certainly be pushed back.
"That's Taiwan's tax system – turning the country into a tax colony where anyone can game the system," he says.
An accountant at one of Taiwan's top three accountancy firms says the country's backward tax system has made it nothing more than a concession to be divvied up among foreign vultures from any country.
Beginning in 1968, Liu Ta-chung, then a research fellow at Academic Sinica, presided over the first rounds of tax reform, establishing Asia's most advanced aggregate income tax system and supporting the extension of Taiwanese public education through middle school. His implementation of the added-value business tax and universal invoice system brought in fact-finding missions from all over Asia.
So how did Taiwan get itself into the mess it's in now?
That's because "the tax system has been unreasonably abused, becoming the scapegoat for all problems," Tseng Chu-wei, a professor at National Chengchi University's Department of Public Finance and deputy convener of the Executive Yuan's Tax Reform Commission, says angrily. Further, private groups representing commercial interests manipulate Taiwan's politicians. Come election time, one-man-one-vote is paramount, but post-election, the pet interests of special interest groups are certain to be more important than those of the average citizen.
"The voice of the ordinary citizen has no organization and lacks a spokesman, so the tax system has consistently slanted toward the wealthy few," former legislator Lee Wen-chung acknowledges.
Tax Base Must Be Enlarged before Tax Rates Can Be Lowered
Boasting the largest legislative majority since the martial-law era, the new administration must now seize this golden opportunity to create a sound system of taxation on income from business, securities transactions and overseas earnings.
"Regardless of whether it's business income tax or individual income tax, Taiwan must enlarge its tax base before it can consider discussing lowering tax rates," says former finance minister Ho Chih-chin.
Ho strongly advocates the prompt and full scrapping of the Statute for Upgrading Industries, which provides a variety tax breaks to business. Instead, he favors offering after-tax incentives for business R&D, employee training and establishing operational headquarters, things foreign companies can understand at a glance. He sees slightly lowering the tax rate on business income as preferable to opening a new window of tax exemptions to avoid falling into the same old rut again.
Because of loopholes in the Statute for Upgrading Industries, among the top 1,000 most profitable locally listed companies, the 50 most profitable had an actual effective tax rate of just 10.4 percent, the next 50 paid 12.5 percent of earnings in taxes while numbers 510 through 1,000 paid 15.1 percent in taxes, a bizarre phenomenon whereby the more a company earns, the lower its tax burden.
Regarding taxes on securities transaction income, both Ho Chih-chin and Lin Chuan, another former finance minister, favor a return to taxation on such income to fill in the cracks in the individual income tax base. Neither would object to initially levying a low tax rate and taxing securities income separately from wages and salaries. Ho says that only after the tax base has been expanded can lowering the tax rates on the highest earners or dramatic reductions in the estate and gift taxes be discussed.
Joanne Ling believes that two years after the implementation of the alternative minimum tax system, which encompasses the stock transaction income of unlisted companies, auditing institutions have built up enough practical experience that taxing individual's income derived from securities transactions would not pose a problem.
"Taiwan is not just competing with Singapore and Hong Kong," Ho reminds us. Singapore and Hong Kong are city-states, which generally boast a high degree of homogeneity in their relatively small populations and do not require an agricultural sector or a manufacturing sector; a financial services sector can support an entire city's population. Small numbers of people can be subsidized.
"It's impossible for Taiwan to mimic the ways of a city state," Ho says. "Taiwan needs other industries in addition to financial services, additional competitive edges to make it work."
As for international taxation, a number of professional accountants have suggested that Taiwan must hasten the completion of a comprehensive legal framework to support its authority to levy taxes. In the current global atmosphere, not standing up for your own rights is seen as tantamount to relinquishing them, and other countries have even less need to conclude taxation agreements with Taiwan.
With the greatest legislative majority and highest level of public support seen since the martial law era, all eyes are on the Ma administration to see if the current round of tax reform will return to the people the country that has been stolen from them.
Translated from the Chinese by Brian Kennedy
Chinese Version: 誰偷走你的未來？