IMF trying to ‘foist’ Ghana’s tax laws on Sri Lanka? Business groups convey concerns to PM & FM
Posted on April 1st, 2017

The proposed new Inland Revenue Act has run into stiff opposition from key industry players, who described the controversial move to replace the existing law, as a “retrograde step that’s bound to create confusion and impinge on the overall revenue collection mechanism”.

Asserting that the proposed law departs from the very foundation and fabric of the existing Act, financial sector experts warned that if the new proposals are adopted and implemented in their current form, hardly any judicial precedence, interpretations, practices and principles could be applied in the imposition, payment and recovery of income tax in Sri Lanka.

Apart from the phraseology used, which has no relation to the present Act, the new law attempts to fundamentally change the sources of income, method of calculating the taxable income, claiming deductions, assessment procedure and the administrative provisions, they pointed out.

“The biggest disaster is that the envisaged Inland Revenue Act was inspired by the International Monetary Fund (IMF) in a bid to generate more tax revenue but, instead of drafting a law to suit the country’s needs and demands, what this international lending agency did was to impose word by word the tax law of Ghana on Sri Lanka”, the experts noted.

“The IMF didn’t do anything extraordinary for Sri Lanka.It was a case of merely foisting Ghana’s tax law on us”, they said.

The IMF was good at imposing tax laws on dictatorships in countries such as Congo, Ghana, Libya and Myanmar, which had no history of laws. But, there was no fundamental basis to introduce a new tax regime without any knowledge of Sri Lankan businesses and the fundamentals of taxation, which have existed in the country for over 75 years, they said.

“The IMF will not be here everyday; they will slap it on us and go away”.

“If the objective was to modernize the law, the government should have drawn examples from developed systems such as in Singapore or Malaysia for adoption. The objective of falling back on a country like Ghana to enact legislation on taxation was necessarily flawed; the whole approach to this process was flawed”, they observed.

Any new tax law takes at least 10 years to settle down. Under these circumstances, who will take care of the loss of revenue? Moreover, there is no guarantee that the proposed Act will increase revenue. People will interpret it the way they want as nobody will know the correct definition of the new law, industry officials said.

“What happened was that the government discussed with the IMF the financial crisis facing the country and the relief package to stave off the balance of payment crisis. At that point, the IMF had observed that the tax law in Sri Lanka is too complicated and insisted on strengthening revenue collection. It would have been acceptable if this process was accomplished through more computerization, better HR resources, IT and software”, the experts explained.

The government, instead of saying the situation could be rectified by asking the Inland Revenue Department to draft a new tax law, had wanted the IMF to shoulder this task. It was entirely the government’s fault, they said.

“It will be a big achievement for IMF’s CV to say they drafted the tax law of Sri Lanka. For that matter, even an individual credited with drafting our tax law can secure a top job in the US, they added.

Any tax law in the world is complicated. There are no uncomplicated tax laws as taxation itself is inherently complicated, and it’s not everybody who can understand it. What was the fundamental concept and principle behind the attempt to replace the present Inland Revenue Act and change the status quo in a sphere that generates enormous tax revenue for the government?, they queried.

The fundamental question that arises in this backdrop is: who wanted these drastic changes through a new tax law? Was a new Act being envisaged because revenue collection is poor or the existing law has drawbacks due to bad drafting that people cannot understand it? If mistakes exist, the relevant provisions can be redrafted and there is no reason to kick out the whole Act, they explained.

The Sunday Island understands that representatives of the Institute of Chartered Accountants of Sri Lanka, Ceylon Chamber of Commerce and industry practitioners had raised their concerns with Prime Minister Ranil Wickremesinghe and Finance Minister Ravi Karunanayake at a recent meeting.

“The premier understood our position that there was no requirement for a new Act, but it was too late as the IMF had warned that the reversal of the process would mean there will no tranche forthcoming. As there was no choice, the IMF was asked to go ahead, the experts asserted.

“On examining the draft law, we wanted certain amendments incorporated, and it was with great difficulty that we managed to get something in, not everything. However, the proposed Act is still fundamentally flawed”,

Financial sector experts who have evaluated the Inland Revenue draft law believe that the proposed Act does not add any new sources of revenue and instead of plugging the existing loopholes would add new ones due to the brevity of the drafting. The existing knowledge of Inland Revenue officers will be obliterated overnight and they will need at least four to five years to study and understand the new law.

“The wealth of knowledge acquired over the past few decades by the Inland Revenue Department, judicial system, practitioners, students and tax payers will be lost overnight”, they cautioned.

The proposed Act is also not consistent with the existing law and until the transitional period ends, two regimes of law will continue. For example, taxation of finance leasing will change dramatically and until existing leasing agreements expire, two regimes will continue creating confusion and making administration more difficult, they pointed out.

The experts were of the view that the current law has more depth, better drafting and most parts of it are consistent with international best practices. The proposed Act also gives undue emphasis to less important sections, which have little relevance to the economy and ignores the more important sections on imposition and recovery.

If revenue collection falls below expectations, the main reason for loss of potential revenue is poor administration and collection effort and government policy on continued tax incentives. Introducing a new Act will not increase revenue collection, but instead reduce it due to lack of understanding of the law amongst tax payers as well as revenue officers at least in the short to medium term, they elaborated.

Recommending the rationalizing of tax incentives over a period of time to enhance the tax net, the experts called for the consolidation of the IR Act of 2006 and subsequent legislation enacted each year into one Act and remove repugnant sections, change the language, if certain sections are unclear or in doubt and introduce some sections drafted in the new Act especially on transfer pricing, international tax and advance rulings into the existing law without changing its fundamental structure.

If the government’s concern is to enhance tax collection, what needs to be done is to plug the loopholes in the law that leads to tax avoidance or evasion and make the IR department a more efficient and vibrant tax collection body. The solution is not to abolish the existing Act which was in force for over a century and replace it with a new law unknown to the IR department and the public, which, in any case, will not guarantee a higher collection of tax revenue, the experts noted.

Commissioner-General of Inland Revenue, Mrs. Kalyani Dahanayake, said that the proposed Act drafted by the IMF was referred to her department for observations.

There are some good aspects in the proposed law, she emphasized. “In fact, they agreed with us to a certain extent on the proposals we made”.

On the proposed adoption of the new law, she said it was the wish of the government that the Inland Revenue Act be replaced in keeping with international best practices.

With some amendments proposed by the Inland Revenue Department, professional bodies and industry practitioners, the draft law has now reverted to the Legal Draftsman for incorporation, The Sunday Island learns.

One Response to “IMF trying to ‘foist’ Ghana’s tax laws on Sri Lanka? Business groups convey concerns to PM & FM”

  1. Ananda-USA Says:

    Dilrook,

    Here is another classic Economic “Analysis” Article with a profusion of jargon that basically seems to say “Well, OBVIOUSLY the PROBLEM IS X” but, ON THE OTHER HAND “EQUALLY OBVIOUSLY the PROBLEM IS NOT X”!

    Let us try to DISSECT and UNRAVEL the ESSENCE of what this article is REALLY saying shall we?

    ……………………………
    Sri Lanka haunted illiberal ghosts of Mahinda Chinthana amid drought
    Tue, Apr 4, 2017, 08:20 am SL Time, ColomboPage News Desk, Sri Lanka.

    Apr 04 (ECONOMYNEXT) Sri Lanka is facing several headwinds, amid talk of an impending economic crisis, which is coming from excessive reliance on illiberal Mahinda Chinthana style policies that have been embraced by the United National Party.

    This is the bad news. The good news is that these can be dumped at any time to give citizens the freedom to take the country forward.

    Sri Lanka has departed from Mahinda Chinthana policies in some ways. The rule of law has improved to some extent. There is less fear and more debate about many issues. But if the illiberals win the debate and freedoms of citizens are curtailed, there will be little progress.

    It must be said that not all Mahinda Chinthana policies were bad. The central bank mostly kept the exchange rate steady and this external anchor gave low inflation for several years during the Rajapaksa administration.

    It was a departure from the disastrous policies of the 1980s under the UNP involving continuous currency depreciation, high inflation, which the people from getting the full benefits of an open economy then.

    In defending the peg, monetary tightening was forced on the central bank and inflation was kept relatively low. Especially in 2009 the rupee was also allowed to bounce back, leading to a very strong economy recovery. But the central bank failed to tighten policy in time in 2011 when conditions were much like now.

    Inflationary Crawling Peg

    A ‘flexible’ exchange rate or downward crawling peg may allow the central bank to save some foreign reserves and continue to inflate the economy, perhaps generating a property bubble as it goes along, but it will not help the poor.

    “One virtue of fixed rates, especially under gold but even to some extent under paper, is that they keep a check on national inflation by central banks,” wrote US economist Murray Rothbard.

    “The virtue of fluctuating rates – that they prevent sudden monetary crises due to arbitrarily valued currencies – is a mixed blessing, because at least those crises provided a much needed restraint on domestic inflation.”

    This is good advice for the current administration of the central bank. There is no substitute to allowing interest rates to go up whenever the budget deteriorates or private credit goes up too much. Any resistance with printed money will lead to multiple negative outcomes.

    Already inflation is too high.

    Currency depreciation is a not a substitute for prudence.

    This column warned several times that the current International Monetary Fund’s program was in jeopardy because it did not have a ceiling on domestic assets.

    It is easy to drive a country into a crisis with even 5 percent inflation with a central bank that is subject to fiscal dominance and proven track record of sterilizing interventions.

    The Treasury bill purchases to bring down longer rates in November was a disaster. The People’s Bank of China also tried a similar disastrous policy and paid a heavy price.

    Curiously the IMF had allowed the central bank to keep to an inflation target while noting in its safeguards assessment that there were ‘inadequate limits on credit to government’ and that a Treasury representative was on the monetary board.

    The best solution would have been to place ceilings on domestic assets and thereby impose ‘limits on credit to government,’ which would have nipped fiscal dominance of monetary policy in the bud.

    The IMF did placed restriction on Pakistan’s central bank claims on government in the in program with Pakistan which had just been concluded with some success.

    Fiscal Dominance

    As a result of not limiting domestic the central bank was unable to build up foreign reserves and meet the net international reserve target.

    Giving excuses about bond investors going out will not help, though it can be a factor. Ideally part or most of the outflowing debt should be absorbed by the credit system.

    How can this happen? If a foreign investor sell, 10 billion rupees of bonds, and it is bought by a bank, that bank and the banking system collectively has to cut down its credit to other private borrowers

    What happens now is that the foreign investor will buy dollars from the central bank as there are no large pools of dollars with commercial banks due to strict overnight limits, generating a liquidity shortage.

    The liquidity shortage should put the brakes on domestic credit for a while.

    But if that bank which bought the rupee bond from the departing foreign investor (or the bank which obtained the dollars for him is able to go the central bank and discount that bond or other bonds to create fresh money through the reverse repo window or by selling the bond outright to the Central Bank, don’t expect to safeguard reserves.

    Some investors go partly because they do not see the credibility of the peg and they may be spooked by bad policy.

    The Finance Ministry has been heavily interfering in the Central Bank, especially during the tenure of Arjuna Mahendran and it still trying to dominate policy now. This is a bad policy. In January, a massive amount of money was printed to repay a bonds.

    How can a central bank collect reserves while printing money and keeping excess liquidity in money market which will drive credit sky high?

    Sri Lanka may still be able to patch up the IMF by requesting a waiver of performance criteria. Key structural benchmarks also have not been met.

    Here is an easy rule of thumb. If the domestic assets of the central bank keeps rising, there is an economic crisis underway. If it is stable or coming down there is no need to lose much sleep.

    It is tiring to watch history being repeated.

    Twin Ghosts of 2011

    The ghosts of 2011 have come back to haunt Sri Lanka. Sri Lanka’s 2011/2012 balance of payments crisis was created by a failure to allow rates to go up when a drought hit the country, which made the Ceylon Electricity Board and Ceylon Petroleum Corporation borrow heavily from the banking system at a time when private credit was also strong.

    Droughts cannot cause either balance of payments crises or inflation. It is state intervention through banking systems and central banks that creates inflation and currency depreciation. That droughts create inflation though supply shortfalls has been an enduring myth of cost-push inflation Mercantilism from classical times. That however is another story.

    In modern Sri Lanka the path is as follows. Whenever a drought hits, the cost of power generation goes up. This requires a hike in power prices.

    In the run up to the 2011 crises, there was a drought while fuel prices also rose. Fuel prices are also rising now. A barrel of crude which was around 40 dollars at the beginning of last year is around 55 dollars now.

    Steve Hanke, a US economist who accurately predicted in the middle of last year that oil would hit 60 dollars around March 2017 based on the long-term oil to gold parity (the golden constant) now says oil will hit 80 dollars by the year end.

    Sri Lanka’s 2000 BOP crisis and 2008 crisis was also largely caused by rising fuel prices not being market priced and being monetarily accommodated though the banking system and ultimately by the central bank. The 2004 currency collapse and inflation bout was also related to fixing oil prices with printed money.

    There is no threat to the economy from rising oil prices except a slowdown of activity which will be also seen through a reduction in non-oil imports if higher prices are passed on through a price formula.

    Following on the heels of Mahinda Chinthana and the earlier Rata Perata failed economic frameworks, this administration also failed to implement a fuel price formula, despite the petroleum ministry producing one and the IMF deal requiring one.

    The finance ministry and the UNP economic policy hierarchy must clearly take the blame for this Rata Perata style failed move.

    Not content with fixing fuel prices, the current administration also dispensed with the price formula for cooking gas mandated by the Supreme Court, which the Rajapakse administration implemented helping Litro Gas mint money, which was then mis-used elsewhere.

    Now Litro gas is also making losses. So a Yahapalana ghost is dancing with the Mahinda Chinthana ones.

    Dreaded Words

    Finance Minister Ravi Karunanayake has now uttered the dreaded words, of all deceptive Sri Lankan politicians says: ‘the government is bearing the burden.’ Anybody from Mahinda Rajapaksa to Nimal Siripala de Silva to Anura Yapa to now Ravi Karunanayake had uttered this words, as they plan to double the burdens on the people.

    No government can bear a burden. Governments can only spend taxes (taken from the people by reducing their purchasing power or pushing up costs), borrowings (pushing the burden to the next generation) or printing money which creates balance of payments crises and inflation.

    It is through this deceptive trick that all post independent governments had deceived the people and robbed the poor through inflation and currency depreciation.

    Eventually these cycles end up in not just raising the price of energy (which can come down later if oil prices fall) but all goods, as the currency depreciates.

    There is no point in saying that petroleum utilities were making profits a few months ago or that the budget deficit is now low and therefore the banking system can absorb the shock. When Finance Minister say the ‘government is bearing the burden’ the shock is borne by the banking system.

    The point is there is a fundamental change in the credit system. Energy utilities, which were paying back loans (essentially depositors in banks) are no longer doing so. SOE credit is rising. The depositors have now turned into borrowers.

    Insert Graphic

    Just because tax revenues are getting better and deficit is going down, do not expect mothing to happen. This is a shock to the system, which will hit the credit system every month.

    Unless fuel prices are market priced, expect interest rates to go up, which will reduce private credit. If interest rates do not go up, expect more currency depreciation and inflation and forex reserve losses.

    Deadly Cocktail

    The many interventions in the last two budgets have been disastrous. Some have been weird illiberal interventions going beyond the Mahinda Chinthana.

    These include licenses to import cars, licenses to import gold. Several ad hoc interventions which belonged in the loony bin were fortunately confined to the loony bin.

    But damaging ones like directed credit has been given effect by the Central Bank, though the Governor has said it is a guideline and not a direction.

    The central bank has also shown troubling signs of using administrative measures to control credit, including meddling with loan-to-value ratios. Sharply cutting loan-to-value ratios of three-wheelers will deny Sri Lanka’s Sinhala and Tamil communities’ access to credit and mostly the Muslim community, who generally rely less on credit due to religious objections will now be able to buy three wheelers.

    Administrative measures while printing money and depreciating the currency is a deadly cocktail. It can lead to all kinds of negative effects such as property bubbles and bad loans.

    One Ghost Slayed

    After the disastrous hiking of state sector salaries going beyond the Mahinda Chinthana in 2015 – which was accommodated by the central bank with rate cuts and printed money causing the rupee to collapse – taxes have now been raised.

    One good thing that the current government has done is to raise value added tax and remove exemptions. The last administration under P B Jayasundera systematically undermined VAT and made it into some voodoo failed system.

    This move is in line with Yahapalanaya or Good Governance.

    The tax hikes, which were politically difficult, has undone much of the damage to the country from the 2015 disastrous budget.

    Fitch Ratings has also hailed the move. Investors have recognized it and it looks as if Sri Lanka can raise syndicated loan at a lower rate than last year.

    As long as Sri Lanka can roll over maturing debt and continue to sell sovereign bonds no great economic crises will come. The real crises will come if bond investors refuse to roll-over a couple of maturing billion dollar bonds.

    Much more needs to be done. The Nation Building Tax should be abolished as soon as possible. Corporate income tax has to move to East Asia levels of around 17 to 20 percent.

    Trade taxes have to be brought down. Here also the ghosts of Mahinda Chinthana are still looming large though some liberalizations have been done.

    Rather than taxing the people through VAT on healthcare, and electricity prices should be adjusted every month and fuel price controls should be lifted so that prices can change weekly or monthly. Losses at SOEs will undermine the tax hikes, which came at some political cost.

    The subsidy on kerosene should be removed. The Rajapaksa regime raised Kero prices after discovering that a few industrialists were the biggest users. The current administration has cut it several times in suspicious ways.

    This bring us to the next issue: corruption.

    The One Day Match

    It is not clear whether corruption is as bad as in the Mahinda Chinthana. Under the current administration most of the corruption seems to be originating from three key places.

    In Pakistan there is a saying for administrations that are too quick to start corruption. They call it playing a one day match instead of playing a test match.

    The bondscam was perhaps a T-20. It happened barely two months after the administration came to power.

    One useful fallout was that the public was clearly able to separate the corrupt from the non-corrupt politician in the administration. That was very useful.

    Contract rigging in road projects seems to be even more blatant than the Mahinda Chinthana. In at least one large protect road project, both bid suppression and bid rotation seem to have been used without any cover bidding to at least try to give it a semblance of legitimacy.

    If there is heavy corruption, it is difficult to get good foreign direct investment from export competitive large companies. The retrospective taxes were a heavy blow to private investment and FDI. Like the expropriations of the Mahinda Chinathana, it will be difficult to recover from this loss of confidence and safety.

    Relaxing foreign ownership of land will help.

    Privatization is another missed opportunity. This administration is going on the path of the Mahinda Chinthana in not privatizing. Privatizing will be quick path to energizing global investors and showing that the country open to business.

    Sri Lanka had – or still has – an excellent chance to kick start FDI by quickly awarding the Colombo East Terminal to the best qualified consortium. Some big names have come. It will be strong signal to all investors if this award was done transparently.

    These are low hanging fruits. But it has apparently now been scuttle, with shifting goal posts and high powered economic committees playing the old games.

    Not privatizing state firms and milking them through corrupt deals was another Mahinda Chinthana strategy that has come to haunt the Yahapalana administration.

    This government also scuttled a coal plant and is now trying to build a massive diesel plant in the guise of an LNG plant.

    That is not a Mahinda Chinthana policy really, though the Kerawalapitiya plant – the worst private plant perhaps the only one in the world without a guaranteed heat rate (efficiency level) – was built during the Rajapaksa administration.

    The money lost to the country from this so-called LNG plants that will replace coal will be enough to repay the Hambantota Port loan in double quick time.

    It is an inescapable fact that it is more profitable for corrupt politicians to bail out loss making state enterprises with tax money and then milk them through procurements, rather than privatizing.

    Why should one privatize Lak Sathosa for example when billions could be milked every year in procurements of state enterprises? Privatizations at best will give an opportunity to collect a one-time commission.

    The Auditor General had already exposed massive frauds at Lak Sathosa, during both the Mahinda Chinthana and Yahapalana administrations.

    Price controls are another legacy of the Mahinda Chinthana – started by Bandula Gunewardene an economics teachers no less – which the current administration has used.

    Finance Minister Karunanayake however must be commended for reducing import taxes on rice. This will help bring rice prices to a level close to international prices.

    Though there is more civil society activism now, which is a change from the past, it is depressing to see Mahinda Chinthana policies being followed so faithfully by this administration.

    It was Jean-Baptiste Alphonse Karr, French novelist and journalist who once said ‘plus ça change, plus c’est la même chose’ roughly translated to mean: the more things change, the more they remain the same’.

    Read More:: EN (Source)

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