By Prashansa Srivastava
The United Arab Emirates will begin collecting “sin” taxes on tobacco products, energy drinks and soft drinks starting 8th October 2017. Tobacco and energy drinks will be taxed at 100 percent and soft drinks at 50 percent. The sin tax is a precursor to the more general 5 percent value-added tax (VAT) to be implemented by UAE on consumption certain goods and services from 1st January 2018 onwards. All other members of the Gulf Cooperation Council (GCC)—namely, Bahrain, Kuwait, Oman, Qatar and Saudi Arabia—that have been popular tax havens for so long have agreed to begin collecting VAT either beginning in January or sometime later.
Reason for austerity measures
The oil-rich countries have long been struggling with low global energy prices. Increased spending by the government on social goods such as healthcare, education and fuel subsidies due to erratic prices in the previous has further increased the budget deficit. With GCC economies being heavily dependent on oil and facing rising deficits, the respective governments have had to resort to austerity measures in the form of tax rises to drive up revenue. The GCC countries have agreed to implement VAT and excise taxes GCC-wide as part of measures aimed at shoring up government income, diversifying government revenues as economies adjust to lower oil prices and bringing in more efficiency in the economy.
The IMF stated in October 2015 that the Gulf states would have a combined fiscal deficit exceeding US $700 billion by 2019 if they did not undertake reforms. If oil continues its current trajectory, these may just be the first of many changes in the tax plan of the UAE and other members of the GCC.
Impact on UAE’s economy
The Government hopes that the steep price rise of unhealthy products like cigarettes and fizzy drinks will discourage consumption. These place a heavy burden on the health service and contribute significantly to diseases like diabetes and cancer. The sin tax will also contribute millions of dirhams to the UAE budget and help citizens to get more accustomed to the tax plan before the implementation of the VAT. The VAT will provide the UAE with a new and diverse source of income which will be utilised to provide high-quality public services. It will also enable the government to move towards its vision of reducing dependence on oil and other hydrocarbons as a source of revenue.
The measures will initially be unpopular and will hit a broader swath of citizens, rather than expatriates. The tax will increase the cost of living for individuals and dampen growth in consumer demand. The government estimates that the introduction of VAT will yield up to Dh12bn (US$3.3bn) in additional revenue its first year of operation and Dh20bn (US$5.5bn) in its second year.
Benefits and hurdles
VAT will assist the government in measuring economic activity more accurately. The tax will force the informal sectors and informal businesses to operate above the radar, helping the government to clamp down on the black market. However, there are still substantial technical obstacles to overcome. The economy will initially be thrown into chaos, with many small and medium-sized enterprises facing problems in applying the levy and submitting VAT returns, adding substantially to the administrative burden. Policymakers must also keep in the mind the effect of the tax on the poor since VAT is a regressive tax that disproportionately affects poorer citizens. It is pertinent to note that the benefits of introducing the tax far outweigh the hurdles. The boosting of state finances will partially offset the steep drop in oil revenue. Coming after the removal of fuel subsidies last year, it is an appropriate time to implement the tax. UAE’s attractiveness to foreign businesses as a no-tax destination will not be impacted as government officials have ensured that an income tax will not be implemented.
The UAE, by adopting a phased-out approach and being the first out of the GCC to implements taxes is emerging as a leader in the Gulf region. By displaying a commitment to tackle difficult fiscal challenges by undertaking unpopular measures, the GCC will ensure the collective economic development of the region.
Featured Image Source: Wikimedia Commons
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