Replace 20% tax bracket to reduce burden on middle-income earners

A US-funded tax review has recommended the reintroduction of a 20% tax bracket to reduce the “heavy burden” on middle-income earners.

A draft of the Review of the Tax System, prepared under the Guyana Threshold Country Plan Implementation Project (GTCP/IP), dated November 2008, explained that the current personal income tax (PIT) “places a significantly higher tax burden on personal income” than was the case between 1998 and 2005, when a 20% bracket was included alongside the current 33.3 flat rate. The 33.3% flat rate is charged on income above $35,000 a month or $420,000 a year.

It noted that in addition to personal income tax, employment and self-employment income has to pay contributions to the National Insurance Scheme (NIS). As a result, on top of the income tax, the NIS requires employee contributions of 5.2% and employer contributions of 7.8% (or a combined 12.1% on the gross of employer contribution wage cost) up to a maximum monthly wage $104,278 in 2007. “…[T]he combined PIT and NIS contributions place a heavy burden on middle-income employees between the threshold amount and the maximum contribution amount,” the review said, pointing out that the combined burden on the gross wage of these employees is about 45%, compared to 12% below the threshold and 33.3% above the maximum contribution amount.

The review said 50% of employees are below the threshold, 40% between the threshold and maximum contribution amount and the remaining 10% at higher incomes. By comparison, between 1998 and 2005, the personal income tax burden was lower and for those within the 20% tax bracket, the combined burden was 32%, though a small group was subjected to the combined 45% rate. “The imposition of this heavy burden on middle-income employee wages represents a major barrier to employment generation in this group,” the review explained.

In this context, it has been recommended that “to reduce the tax burden on middle-income employees,” the 20% bracket should be reintroduced. Further, it said that the bracket should be expanded over five years until its upper bound is the same as the annual maximum contribution limit for employees, at which point it should be sustained, equal to the NIS contribution limit. “This improves the equity of the individual income tax and removes a significant disincentive to job creation for middle-income earners,” it explained.

Cost of full implementation of the proposal is estimated at $3.2 billion but the review said the tax cost can be phased in over the five years along with offsetting measures to increase revenues. Given the higher number of workers in the lower income ranges, the review said to limit the annual cost of the expansion of the 20% bracket in the first year the bracket should be expanded by $120,000, and then by $200,000 in each subsequent year until it reaches the NIS contribution maximum. As an example, it noted that for this year the 20% bracket could be set at $120,000 above the basic deduction ($420,000 to $540,000), in 2010 at $320,000, in 2011 at $520,000, in 2012 at $720,000 and in 2013 at $920,000 and increased in each year thereafter to the NIS contribution limit.

The tax cost of the reduction of tax for middle-income earners in the first year would be around $1.2 billion, the review estimated, while noting that it could be offset in a number of ways within the personal income tax and elsewhere. To this end, it noted that the income tax threshold could be frozen for at least three years, noting that the current threshold covers about half of all employees. It said individuals coming back into the income tax net would be at 20% rate, saving about $0.1 billion a year.

Additionally, it said the cost of the new bracket would also be offset by phasing in the taxation of employer provided fringe-benefits, including motor vehicle benefits, low-interest rate loans and tax exemptions gained as a result of employment positions. Fully phased in, it said it would save $1.6 billion a year and if phased in over two years could save $0.8 billion in the first year. Meanwhile, cuts in direct taxes would result in added expenditures and indirect taxes of about $0.1 billion, while the balance of $0.2 billion could be offset by reductions in discretionary tax exemptions and rate reliefs in the tax system, especially for import duties.

Further, it suggested that the contributions to pensions and NIS would be made non-deductible in line with the pension income and NIS benefits being tax exempt.

The review of Guyana’s Tax System is being undertaken under the GTCP/IP funded by the US Millennium Challenge Corporation and administered by the USAID. The two-year programme began on January 14, 2008. It is unclear if the government has responded as yet to the draft report which was submitted in November of last year.

Citing “weak” tax administration at the GRA, the review has proposed comprehensive reforms to strengthen enforcement and ensure greater compliance.
It said that the GRA’s tax administration reform is an important step in creating a more effective and efficient institution, focused on function.  It pointed out that despite the country’s high tax yield, it has a weak administration and capacity, evidenced in “minimal use of computerised information systems, e-governance and very weak capacity to conduct tax analysis, tax investigations, in-depth field audits, and enforce collections.” It added that local conditions, including organised smuggling, loss of skilled professionals to emigration, weak legal framework for contract enforcement and weak accounting practices have been worsening the problem.

According to the review, tax administration shortcomings have been recognised over recent years and are being addressed through ongoing reorganisations, systems strengthening and training programmes. It said a functionally-based organisation allows staff to develop areas of expertise in functional areas, such as audit, taxpayer service, collection and enforcement, while also creating an organisation that fosters its own checks and balances.

Moving to a functional organisation, the review added, would also allow the GRA management to take full advantage of the information that can be generated by the Total Revenue Integrated Processing System (TRIPS). What is more, it said clear laws and regulations empowering taxpayers with the knowledge needed to comply with the tax law are vital for overall success of the new structure. However, towards this end, it noted that there are still important steps to be taken to make change a reality. It also stressed that such a major change must be managed and cannot be trusted to “happen” organically. “There is evidence that suggests either the change is being managed inefficiently, or that there is less than full commitment to creating a new organizational structure in GRA,” the review said, while observing that there was no organizational change steering committee.

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