ADB outlines challenges for Bhutan in responding to fiscal pressures

Business Daily News

The report recommends reducing the large number of existing exemptions to enable more revenue to be raised and removing tax holidays

While Bhutan has made significant progress in improving its economy and reducing poverty over the past three decades, primarily driven by the public sector, how it responds to fiscal pressures would be the challenge for the country in the next five years.

This is according to the report that was recently launched by the Asian Development Bank (ADB) – Asian Development Outlook (ADO) 2019.

The first reason for the fiscal pressure is because of the total expenditure outlays, including current and capital expenditures in the 12th Five Year Plan, which has increased substantively from the previous plan by 38% while foreign grants and domestic resources mobilization have not increased subsequently. 

Secondly, as Bhutan is preparing for graduation from the United Nation’s Least Developed Country status in 2023, the country is likely to increasingly have limited access to concessional overseas development assistance.

Additionally, India will stop remitting an excise duty refund to Bhutan as part of the change to a GST regime from FY2019.

Facing the fiscal pressures, over the next five years Bhutan aims to strengthen its tax system to mobilize larger domestic revenues to fund development expenditures.

According to the ADO 2019, the existing tax regime features low rates, a narrow base, and numerous incentives. Tax revenue, amounting to of 15.6% of GDP in FY2018, depends mainly on hydropower sales, which provide the bulk of corporate taxes.

Further, the report states that the ratio of tax to GDP is expected to decline for several years, however, owing to major delays in commissioning two large hydropower projects.

“Hydropower development entails large fiscal swings, from very heavy expenses during construction to robust revenue flows upon commissioning. To accommodate such swings, a stabilization fund was established in November 2017 for setting aside at least 5% of hydropower revenue annually to be used during subsequent periods to smoothen budgetary volatility and ensure more even distribution of expenditure. The completion of two large hydropower projects after FY2020 promises to sharply boost export revenue and contribution to the fund,” states the report.

The report also mentions about a GST regime being planned for adoption in 2020 towards comprehensive reform of the tax system. The GST would replace all indirect taxes with a tax rate that is uniformly applied to goods and services, allowing only a limited list of exemptions and items bearing higher tax rates.

The report has applauded a standard value-added tax system that is being considered by Bhutan, with tax crediting for inputs and mandatory business registration based on turnover.

“Such reform would be a major step forward for Bhutan as it is one of only six economies in Asia and the Pacific that has not yet adopted a value-added tax,” states the report.

Although fiscal incentives may encourage investors and stimulate private sector growth, the ADO 2019 states that they have been costly for the government. In 2017, foregone revenue amounted to about 17% of tax collected, mainly from indirect taxes, in particular on sales and from customs duty.

The report also states that the parliament would benefit from the establishment of a technical group to make assessments of requests of grant exemptions and tax holidays to evaluate their net benefit to the country according to prescribed criteria. Counsel from the group would inform parliamentary debate and decisions on requests for tax incentives.

The ADO 2019 recommends reducing the large number of existing exemptions to enable more revenue to be raised and removing tax holidays.

“Steering clear of tax holidays would likely be beneficial because, despite their ease of implementation, they lack transparency and invite tax avoidance. Removing tax holidays would not deter investors who see solid business opportunities but would discourage the entry of footloose opportunists ready to exit the market when the holiday ends,” states the report.

Further, the report recommends that the provision and administration of incentives should be simplified without compromising the level of investment.

As a complement to revenue reform, the report also recommends further strengthening of public financial management to ensure proper collection and administration of revenue.

“A fully electronic system for government payments is currently being rolled out. However, room exists to improve the quality of reporting by making it more frequent and informative,” recommends the report.

Tshering from Thimphu

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