Photo Credit: Nassau Guardian Newspaper
January 4, 2022
Economically 2022 will be a very interesting. Potential headwinds created by the pandemic, the first true budget from the new administration and consequently the shifting of “ownership” of the prevailing policy positions of the country will definitely cause a shift in perspective. How effectively we manage this new spike will be fundamental in protecting revenues. With six months to budget, the conversations on taxation will become more pointed with calls for tax reforms. I am hoping that the nascent economic improvements being experiences will hold and improve. However, I am confident that the fundamental that the issues will not go away.
As I stated in Part II, “no one can claim to have clear answers to the most optimal solutions that will fix the challenges and protect the country. I certainly do not. What I seek to do is to draw some awareness to the issues surrounding this and why narrow conversations will not serve the cause of the country. Amongst other important matters, a national debt of $10B, deficits averaging $500M, 18% of expenditure paying interest on loans and a narrow 18% Revenue-to-GDP, the time is “perfect” to consider whether this low tax intake is beneficial for the country”. That coupled with continued fall out in tourism renders the discourse urgent.
In the March article reference in this series, I noted, “The EU previously indicated that it had its foot on the neck of The Bahamas, a foot it will not move until it gets its way. This together with the idea that small tweaks will not get a jurisdiction off the blacklisting hold important implications for The Bahamas. Will we be forced to implement corporation tax to accommodate the survival of the financial services industry?” This remains relevant and important but focuses on potential external stimuli. Assessment of the matter must shift internally. Consider a neighbour drawing the conclusion that you are hungry and decide to provide you with food. Said neighbour with the best of intention is likely to provide you with the type of food he has, the kind of food he likes and the food he thinks is best suited for you. This is akin to the discussion from the IMF. They have concluded but what they are proposing might not be in our best interest. Consider further, you become acutely aware of your own hunger and set out to satisfy it. You are likely to select what is best available and workable for you. The food may not be ideal but you would definitely avoid anything that would be detrimental to your health such as foods that would aggravate say allergies. This is why the response to this tax debate must be internally focused. What is in the best interest of the country, which will satiate the hunger for additional revenue without killing the important value proposition that the current tax regime is designed to create.
This argument was made clear in March 2021 piece. “While there are great arguments to be made for reclassification of current tax and charges such that the financial impact of any tax burden remains relatively unchanged, it is my view that any introduction of corporation tax of any amount fundamentally shifts the value postposition of the financial services industry (offshore segment). This is why, in my opinion, the current public discussions on taxation are inadequate. Forced into implementing this form of income tax, the country will have to face its ravages without having the chance for careful deliberate analysis and full comprehensive assessments”. With this reality held firmly in our line of sight, let me be bold in saying let us forget for the time being about the IMF, EU, OECD, USA. Forget every single entity that may be pushing any agenda that does not align with what our local needs are and let us focus on our taxation from an internal perspective only.
In The Bahamas, the tax regime is largely regressive, largely based on consumption taxes. Consequently, the individual earning less pays proportionately more of their income in taxes. The question is whether the country needs to reform to a progressive tax system which is more equitable to tax payers, how will that be achieved and it potential impact on the country. One of the prevailing idea, often proffered, is that the current regressive system needs to be more progressive with the underlying view that there are things that can be done to achieve it. The reality, from my perspective, is that this will never be achieved. The system will always be regressive. The current regime may be highly efficient, convenient and certain, all being fundamental principles for a tax regime. It is however not likely to be seen as equitable and importantly at the current levels, sufficient. Equity and sufficiency are the first and most important internal considerations that reform would need to address with the latter being most critical, in my opinion. Tinkering with a regressive tax system will not make it progressive or more equitable. However, does this mean that a progressive tax system is the right one for The Bahamas? The answer is not clear. A system that implement income/corporation tax come with a number of vagaries which could drastically affect not just the value proposition of the country but importantly could further erode the sufficiency, especially from practical, legal and sensible tax avoidance actions on the part of corporates.
Without delving into that too much at this stage let us consider the taxation need from the perspective of the obligations with which we have to contend. Clearly the place to start would be to determine whether or not there is sufficient head room in the taxable capacity of the country such that is there is a need for reasonable increases in taxes, it could be done. My research shows, based on a 2013 IMF report undertaken when the country was transitioning to VAT, that the Bahamas was using only 40% of its tax capacity. The same report place the country at the lower performance end of the scale at 92 of 98 countries in its tax effort – the extent to which it has measures to maximize its tax capacity. There is no reason to believe that there has been drastic changes since then and therefore this would suggest that the country has usable taxation capacity. The challenge for policy makers would be where to draw the line of reasonableness. What is unclear is that while consumption tax like VAT in the region are observed in the high teens, to what extent could The Bahamas actually increase VAT, to what extent would policy makers be comfortable increasing it and whether there would be any real economic fallout from such a move. The latter point plays into arguments that suggest that increases in taxation slows economic growth.
The arguments above while definitely leaning to the conclusion that the current tax regime provides insufficient revenue for effective management of the economy, does not immediately argue for increases in taxation or change in system. To be clear this is foundational awareness for an effective review, a focused study, careful analysis with any determined reforms being informed by these actions and strategically implemented to protect the interest of the country. This approach is fundamentally necessary to arrest the ongoing narrow conversations, often driven by abstract information and personal convictions, neither is which is useful if we desire to secure sound decisions. As an example, a call for income tax may be debunked by such studies. On the other hand, the studies may identify areas of weaknesses in the current regime, unearth workable options or highlight clear limitations and could therefore suggest what the optimized mix of both regressive and progressive taxes may best serve the country. The tax discussion though turns fundamentally on the simple question, does the government need additional tax revenue and where will it get that revenue? Is the revenue currently taken in sufficient to meet the economic objective of the government?
Consider the 2021/22 budget projections. Revenue was projected at $2.244 Billion and expenditure $3.198 Billion. Without any deep analysis, there is $1 Billion (actual deficit 951 Million) which is unfunded by taxation and will therefore require debt financing. This provides a glimpse into the fact that the country’s tax revenue is not sufficient to meet its obligations. One could argue that fiscal 2021/22 is in the midst of the greatest revenue downturn experience by the country and this would be accurate. However, let us remind ourselves that pre-pandemic we also had significant deficits (2017 - $660M; 2018 - $415M; 2019 - $215M) and in fact had them for many decades. The numbers show that over a sustained period revenue has never been sufficient. This is supported by the narrow percentage of revenue to GDP, which over the last five years has been as low as 15.3% (pandemic impacted) and projected to be to be only 18% in the current fiscal. These low percentages must be assessed against the ideal revenue to GDP 25% declared need by the Prime Minister and Minister of Finance. We are currently, at best 7% below that benchmark, based on projections, not actuals. The very process of budgeting, before anything goes wrong, before targets are missed, before any potential shocks, anticipates insufficient revenue. Therefore, in my opinion, the appropriate starting point for any discussion is to ask why it has been impossible for government to collect more of the revenue it needs to run the country.
While the current discussion about minimum corporation tax holds important strategic implications for the country, I believe that it is insufficiency of our tax space to move to move the country forward that is most important. Consequently, how do we broaden this conversation? How do we move from the point we are at now to where we can find common ground and consensus? How do we convey there is an urgent need? I believe we start by refusing to embrace the emotional impulses that comes with such a discussion. We must be willing and open to consider all the possibilities. We must recognize that the discussion is about broad based reforms, not an abstract set of arguments, of which taxation is but one. We cannot be limited to one or two ideas on the subject, but rather to seriously contemplate what does reform look like for the country. At 12%, VAT was projected to produce $800M. This will likely yield more with the recent changes. However, applying fuzzy mathematics, consider that a doubling at that level, to 24%, would have been insufficient to eliminate the projected deficit of $951M. Such is the gravity of what we are faced with. Juxtapose against $10B in debt, $512M in interest expenses, $700M of for government salaries and emoluments (collectively 38% of revenue and 54% of the non-deficit funded revenue), we should appreciate the need to carefully look within to determine the need for tax reforms.
I believe that the time is right to start the national discussions, which confront the structural impediments and tax realities head-on. The implications of any potential changes are significant and must therefore be diligently assessed. While the pressures from the EU and other external agencies remain relevant, their demands are not the most compelling issue we face. Their actions could certainly worsen our situation but the internal structural weaknesses of the economic arrangements are by far much more substantial at this point and these are what the country will need to grapple with urgently. Our success is dependent on it!
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© Hubert Edwards 2021
Hubert Edwards is the Principal of Next Level Solutions Limited (NLS), a management consultancy firm. He can be reached at info@nlsolustionsbahamas.com. Hubert specializes in governance, risk and compliance (GRC), Accounting and Finance. NLS provides services in the areas of enterprise risk management, internal audit and policy and procedures development, regulatory consulting, anti-money laundering, accounting and strategic planning. This and other articles are available at www.nlsolutionsbahamas.com.
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