Final income tax positive for local bond market

Final income tax positive for local bond market

JAKARTA (JP): The imposition of a final income tax on interest
or discounts acquired from bonds is certain to help develop the
local bond market, an analyst said yesterday.

Djamal Attamimi, a director at PT Peregrine Sewu Securities,
added that such a final income tax will make bond investments
more attractive than equity and time deposits for those who need
long-term investments with fixed rates.

"With this final income tax, bonds will be especially
attractive for companies, general insurance firms, open-end fund
managers and also retail investors," Djamal told The Jakarta
Post.

Under Government Regulation No. 46/1996 (dated July 8) the
income tax on interest or discounts acquired from bonds traded on
stock exchanges is set at a final rate of 15 percent for local
investors and 20 percent for foreigner individuals, excluding
foreign business entities.

Before the imposition of a final income tax on bonds, the
taxation on bond yields used to follow the general income tax
rates stipulated in article 17 of the 1994 Income Tax Law, or 10
percent for those earning less than Rp 25 million (US$10,650), 15
percent for those in the Rp 25 million to Rp 50 million bracket
and 30 percent for incomes over Rp 50 million.

Previously, investing in bonds was not attractive for
companies, fund managers, insurance firms and individuals whose
annual incomes exceeded Rp 50 million because the interest on
bonds was subject to up to 30 percent income tax, compared to a
15 percent final tax on time deposit yields.

Djamal noted that the entrance of new institutional investors
-- such as companies, insurance firms and fund managers -- into
the bond market will help drive the local bond market, especially
the secondary market which is still very much deserted.

He noted, however, that it would be difficult to drive the
secondary market without the support of securities firms.

"In this case, securities firms should act as market makers
not merely brokers," Djamal said, adding that currently there are
five local securities companies capable of helping create a
secondary bond market.

The bond market has been slow to take off in Indonesia. Strong
fiscal discipline has obviated the need for government deficit
financing by issuing bonds, which would have created a liquid
bond market and a benchmark for pricing corporate paper.

An appetite for the rewards and risks of equity as well as
bank dominance of the financial sector also played a part in the
preference of investors for bank deposits and equity rather than
bonds.

Although the secondary bond market is far from developed,
Djamal said, the primary market is very active and supported by
plenty of domestic investors. Most issued bonds -- some 80
percent -- have been absorbed by domestic investors.

Data at Peregrine Sewu shows that bond issues, in terms of
their capitalization, have grown by an average of 40 percent per
annum since 1990. The capitalization of the local bond market
increased from Rp 1.5 trillion at the end of 1990 to Rp 1.7
trillion in 1991, Rp 3 trillion in 1992, Rp 4.7 trillion in 1993,
Rp 4.9 trillion in 1994 and Rp 7 trillion in 1995. As of early
this month, the level had reached Rp 8.9 trillion.

Eighty percent of the bonds are listed and traded on the
Surabaya Stock Exchange in Surabaya, East Java. The exchange has
been attractive for bond issues due to its competitive listing
fees, compared to those imposed by the Jakarta Stock Exchange.

He predicted that more and more companies will issue bonds to
finance their expansions and infrastructure developments as bank
lending and equity raising fail to meet their increasing long-
term financial needs.

Infrastructure

Theodore Roosevelt, senior managing director of Lehman
Brothers, suggested earlier this week that Indonesia needs to
develop its domestic bond market to sustain its high economic
growth.

He noted that a well-developed bond market will help the
government reduce its reliance on foreign debts to finance
infrastructure development.

"Reducing Indonesia's reliance on foreign debt is an important
government initiative and is clearly easier to accomplish if
there is a large domestic bond market," he contended.

President Soeharto has estimated that Indonesia will have to
invest some Rp 815 trillion (US$347 billion) in new capital to
maintain a 7 percent growth rate and to employ 2.5 million new
people every year during the current five-year development
period, ending in 1999.

"A vibrant bond market could be an important source for the
necessary capital," Roosevelt said at a seminar organized by
state-owned Bank Negara Indonesia 1946.

Such a mature bond market, he continued, will also open long-
term financing access to emerging industries, which will become
the driving force for Indonesia's growth in the future.

"A well-developed bond market will increasingly provide small
and medium size companies with fixed interest rate lending as
domestic investors develop credit rating skills and gain
confidence in the quality of their investment," Roosevelt said.

Meanwhile, Christopher Russell, director for investment
management at Hong Kong-based Jardine Fleming Holdings Ltd., said
Indonesia's bond market will expand along with bond markets in
Asia.

"One of the most interesting capital market developments in
Asia in the 1990s is the rise in bond issuance. This has been one
of the greatest potential impacts on the development of fund
management in the region in the rest of the 1990s," Russell said.

Indonesia's share in Asia's bond market, excluding Japan, is
still very small, comprising only 3 percent of the total US$338
billion in 1994. South Korea dominated the market by 48 percent,
followed by Singapore (13 percent), Malaysia (12 percent), the
Philippines (7 percent) and Thailand (4 percent).

The World Bank predicts that the overall bond market size in
Asia outside Japan will reach US$1 trillion in ten years' time
from this year.

"If the World Bank is right, we will see the development of
significant local fund management industries in most countries in
Asia," Russell said. "Fund management will be an important
industry for Jakarta, Kuala Lumpur, Taipei, Bombay, Shanghai,
Bangkok and Manila."

Jardine Fleming estimates that the size of institutional funds
under management in Asia, outside Japan, currently stands at
about US$500 billion, excluding some $700 billion in central bank
funds and the much larger offshore funds of Asian companies and
individuals. (rid)