In line with global practices, Bhutan is planning to introduce a better alternative to the Bhutan Sales Tax by replacing it with Value Added Tax
The government is planning to replace the traditional sales tax, called the Bhutan sales tax (BST), with a better and more efficient taxation model, the Value Added Tax (VAT) system.
“VAT is increasingly been seen as a better alternative to the sales tax,” said the finance secretary, Lam Dorji.
He said the introduction of VAT is a long term objective of the government and may come into place soon. Last year, an International Monetary Fund expert had studied the possibilities of introducing VAT in Bhutan in the near future.
But the finance secretary said Bhutan may not be really ready for the introduction of VAT.
“VAT is more applicable for a literate society,” he said.
VAT is a fee that is imposed against businesses at various points of transaction in the production of goods or services—which happens at any time a product is resold or value is added to it.
VAT must be paid by every company that handles a product during its transition from raw materials to finished goods. For example, tax is charged when a manufacturer sells to a wholesaler and again when a wholesaler sells to a retailer.
As opposed to the sales tax, VAT is seen as neutral with respect to the number of passages that there are between the producer and the final consumer whereas sales tax is levied on total value at each stage.
An official of the finance ministry said VAT would help close down the budgetary deficit gap of Bhutan which is the excess of government spending over revenue.
An RMA document reads: “The main fiscal policy challenge is the increasing trend in recurrent expenditures of the past few years,” and points out that natural disasters like the floods in May and the series of earthquakes last year have also contributed to higher expenditures to the government.
The document reads that Bhutan’s increasing trend in fiscal expenditures is likely to continue in future, as social expenditure such as in health and education are needed to support the process of economic development.
An economist pointed out that under VAT, a product is taxed only for the addition of the value to the product till it reaches the final consumer and not for the whole product at every stage.
Officials of the finance ministry said the main challenge in the fiscal policy (or the use of government expenditure or revenue to influence the economy) is for the government to obtain a balanced budget that is a null or a surplus of revenue over expenditures.
“In order to earn fiscal revenues, VAT can help,” said an official.
Today, the BST on various products vary depending on whether the products are locally produced and whether the import is desired for the country. For example, no BST is levied on the import of computers while a BST of 15% is levied on import of vehicles.
Gopal Giri, of the Royal Monetary Authority (RMA), said that while fiscal deficits are expected to increase due to the need to finance hydropower projects, the debt thus created should be self financing.
He said that Bhutan is in a position to learn lessons from other countries, particularly Thailand, which is embarking on huge public investment programs and face a huge need for money in the budget. This he said would provide insight to Bhutan whose key fiscal policy objectives are to fund recurrent expenditures with domestic revenue.
The government of Thailand is planning to undertake a revenue reform from streamlining personal income tax rates and increasing the value added tax rate from 7% to its previous level of 10% to review certain excise taxes and considering the introduction of three new taxes, a property tax, an environmental tax, and an inheritance tax.
Apart from Thailand, a nearer example is India. In India, VAT replaced the sales tax on April 1, 2005.
Under VAT, a trader pays the tax only at one stage when he sells his goods. This tax is the only amount which has an effect on his selling price which includes VAT. The VAT that he has paid as a part of his purchase price is charged on him by his suppliers. This is not a cost to him because he gets it back by deducting it from tax on his sales. Therefore, VAT has a minimum impact on his selling prices.
In Bhutan, the expansion in the provision for social services and the increasing maintenance and cost on cash required for repaying debt for hydropower projects have cost the government dearly to force it to look for alternatives.
The government needs to find ways to increase its fiscal revenues. The adoption of VAT will mean that it would replace the age old sales tax form of taxation.
How does it work?
VAT is a definite way of raising revenue, particularly for governments which don’t want to be considered to be adding to voters’ direct tax burden.
Under VAT, the tax is based on the difference between the values of the output over the value of the inputs used to produce that output.
For example, a steel manufacturer produces a unit of steel for Nu 100, of which Nu 80 is his cost of production and Nu 20 is profit.
Now, if VAT is 10%, the product is sold for Nu 110, with Nu 10 being the tax paid by the buyer. Steel manufacturers can make up for the tax paid on goods (inputs) they buy against tax on their own goods.
What does a 10% sales tax mean
Let us suppose that a manufacturer pays Nu 100 for the raw materials and charges the retailer Nu 120, leaving a profit of 20. The retailer then charges the consumer Nu 165 (Nu 150 plus 10% of Nu 150) and pays the government Nu 15 leaving a profit of Nu 30 (150-120).
Here, the consumer has paid 10% (Nu 15) extra, compared to a zero tax regime and the government has collected this amount as tax. The retailers have not lost anything directly to the tax.
What does a 10% VAT mean
In the above example, the manufacturer pays Nu 110 for the raw materials and the seller (of the raw material) pays Nu 10 to the government. The manufacturer charges the retailer Nu 132 (120+ 10% of 120) and pays the government Nu 2 (12-10) leaving the same profit of Nu 20.
The retailer charges the consumer Nu 165 (150 + 10% of 150) and pays the government Nu 3 (15-12) leaving the same profit Nu 30.
So the consumer has paid 10% or Nu 15 extra which goes to the government as tax.
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