How to make simple things complicated

The Malta Independent on Sunday

I am always extremely suspicious when budget measures get immediately revised, refined or, more exactly, re-fudged. It shows insufficient foresight and inability to think through such measures before they are announced. Typical is Labour’s 1998 hikes in utility tariffs which shortly after being announced were opened for revision through endless negotiations with the unions.

When such measures are tax related than the fudge is bigger. Because taxation is a delicate matter. Effective, fair and understandable taxation depends on consistency of principles and equity in treating taxpayers equally and fairly. If taxation policies start discriminating amongst tax payers in an irrational manner then taxation loses its moral authority and evaders will even find moral justification for their wrong-doing. Such fudges unfailingly give a boost to tax evasion.

Good housekeeping typical of effective leadership is to think all measures through well before announcing them and then stick to what is decided come hell or high water. Whilst prior consultation is commendable, taxation measures cannot be kept open for negotiation after their being announced. Not even a majority referendum can overturn a legislated fiscal measure.

The changes to taxation on capital gains from sale of real estate were clearly ill-thought with government accommodating a particular section of property owners at the risk of compromising the whole structure of our taxation system. It took me no more than two minutes after reading the budget text to conclude that the measure will need substantial revision and re-styling. How is it possible that the Prime Minister in his capacity as Minister of Finance does not smell the risk of such hotchpotch measure which brings to nought years of patient building of our tax system to close the gaps so much sought by tax evaders.

In one fell swoop the whole VAT audit trail was thrown out of the window by giving the facility to property vendors to pay tax as a percentage of sales value rather than as a percentage of taxable profit. The motivation to keep proper account of the cost build up in property development, with VAT payment and all, to ensure that one could justify their deduction from the sales value to arrive at the taxable profit, was suddenly brushed aside.

What fiscal motivation remains for such property vendors to keep proper documentation and pay VAT on their cost build up when the tax they pay has nothing to do with the costs anymore, but is a straight percentage of the sales value? So apart from reducing the tax impact on property hoarders government is proposing to give them the incentive to acquire goods and services without paying VAT thus fattening further their profit margins.

The instant revision announced by the Prime Minister in his replica speech last Wednesday makes hopeless a situation already confusing. The right thing to do would have been to withdraw the measure altogether and announce that the matter is being carefully reconsidered. Instead the Prime Minister, now under pressure from those who were negatively affected by the measure as first announced, issued fresh measures which discriminate amongst those in latter categories as well. So if one sells property owned for five years or less one has a choice between the previous and the new tax system. But five years and one day will force you to pay 12% withholding tax on the sales price irrespective of whether you made a profit or not.

Apart from such discriminatory treatment, the tax even as amended remains illogic. The basis of taxes on profits presupposes the existence on profits in the first place. If not the tax is no longer income tax but excise duty which is subject to strict EU rules.

Further discrimination is between developers in designated areas and general developers. The former enjoy their right to choose without any time limit but the rest have to choose within five years. The argument is that the development in designated areas is larger and could take longer to execute and sell, whereas the latter is smaller and capable of quicker execution. Little sensitivity is shown to the fact that the tempo of sales rollout depends on market conditions which may not be always buoyant. Laws are meant to last and not to assume that current market conditions will continue in perpetuity.

The proper way to do what government is trying to do was simply to give a conditional tax amnesty. The model was already there and government used it effectively in the last budget when it gave heirs of inherited property the possibility to pay a percentage for increasing the value of inherited property to current market conditions. The up-dated valuation will then be taken as the cost base for any future sale.

If government wanted to give fiscal incentives to those who have hoarded property and who would, under current tax systems, be liable to 35% on huge profits made if the property is sold at current market rates, then the simple way to do it is to give such owners the same ‘amnesty’ as that given to heirs of inherited property.

It would have had the benefit of:

• Creating a tax amnesty with a fixed expiry date
• Generating for itself instant positive cash-flow from a one off source
• Preserving the integrity of the audit trail of the VAT system.

Instead it has decided to make simple and tried things so complicated. May be it could argue that government is against tax amnesties. I am against tax amnesties too and this as a matter of principle.

But effectively the shift to final withholding tax on sale of property is a disguised amnesty for property hoarders exposed to substantial taxation upon sale of their property. Only it is an amnesty that benefits one sector and punishes another sector of the property market – those who bought at recent market prices and now have to sell under oppressed tax conditions.

How can the government be against tax amnesties when it gave tax evaders holding foreign assets three schemes in the last three years to regularise their position upon payment of a small percentage penalty. My wonder is how such amnesty was given to evaders who had breached two laws, i.e. Income Tax and Exchange Control and was denied to those that breached only the Income Tax act and kept their funds locally paying the withholding tax on savings income. A true case of favouring the grave offenders and punishing the small ones.

I am against all tax amnesties as a matter of principle but then I am in favour of equity and non-discrimination. Government seems inconsistent regarding amnesties but against tax equity and in favour of tax discrimination.