Legalize the illegals to boost tax receipts

Riyadi Suparno, Jakarta

Collecting taxes up to as large as 19 percent of the country's gross domestic product is a herculean task for the new government, although it's not a mission impossible.

The Susilo Bambang Yudhoyono government has correctly recognized the importance of taxation to finance the government's ever-increasing spending. It can no longer rely on oil, foreign loans, local borrowing or on anything else but taxation.

During his recent visit to the Directorate General of Taxation, the President set a target for his administration to boost the country's tax ratio -- the ratio of tax income to the gross domestic product -- from 13 percent now to 19 percent in five years time.

The current tax ratio of 13 percent is just too low, compared to the level in neighboring Southeast Asian countries (17 percent to 20 percent). This ratio has to be raised to at least 17 percent in order to satisfy the minimum requirements of a modern state, according to Sir Arthur Lewis, who won the Nobel prize for economics in 1979.

Now, consider the following facts: The number of registered individual taxpayers totals only two million, less than 1 percent of the population. Sadly, these registered taxpayers pay only around half of their actual tax due. This is so because, according to former chief economic minister Kwik Kian Gie, tax officials could easily be bribed.

There is, thus, huge potential to boost tax revenue from two fronts, i.e. expanding the tax base and eradicating corruption at the tax office.

There are basically two ways to expand the tax base, i.e. increasing the number of registered taxpayers and enlarging the number of taxable goods. In the case of Indonesia, pursuing the former seems to be more practical and reasonable as almost all traded and non-traded goods are already subjected to taxes.

However, increasing the number of taxpayers is a daunting task, particularly in an economy where the informal sector is widespread and even encroaches upon the formal sector.

Those in this informal sector are working in almost all kinds of business. They could be street vendors, small restaurant owners, grocery store owners, property brokers or bajaj drivers. Of course, they pay various levies, mostly illegal, to local officials or local thugs, but they do not contribute anything to the state coffers.

Thus, this informal sector offers huge potential for taxation. The problem is how the government transfers these informal businesses into legitimate, formal ones.

The move by the tax office to issue tax-return forms to as many people and businesses as possible is a good start. However, it is surely not enough. As long as going formal is still too costly for most people -- it takes five months to establish a legitimate business, according to the World Bank's Doing Business in 2005 -- more businesses will go underground.

Thus, cutting the costs of starting a formal business is one of the ways to encourage those in the informal sector to go formal. There are, of course, other means that the government could explore.

Another big, yet untapped potential to expand the tax base and boost tax revenue is what the former chairman of the British Chamber of Commerce in Indonesia (BritCham), John B. Arnold, called the "black economy."

This black economy manifests itself in various forms: From smuggling, illegal gambling and illegal fishing to various other illegal activities.

This black economy is very large and certainly contributes to the country's economic growth, but this discourages legitimate investment as it poses unfair competition to legal businesses.

It creates jobs and opportunities, but it does not provide a long-term solution to the country's economic problems because, like the informal sector, it does not pay taxes.

The government basically has three options regarding illicit businesses in the black economy: First, let them operate as they are now, which is of course the worst option; second, eliminate them altogether, which is, as everyone knows, an impossible venture; and lastly, legalize them.

The last one is obviously the best option. By legalizing them, businesses currently operating in the black economy can be controlled better and most of all, they can be taxed for the benefit of all.

However, this would need political courage. Considering the popular support enjoyed by President Susilo, he should have the courage to do so.

Now, let's move to the second issue of how to tackle corruption in the tax office. My proposal would be through tax administration reform.

Indonesia has undertaken three major reforms of its statutory tax system since the first one in 1983, and currently, it is pursuing the fourth one by amending the 2000 tax laws. These reforms have placed Indonesia's statutory tax system on a par with those of developed countries.

However, reforms of the statutory system have been accompanied by little control over the system of tax administration. As a result, there is a wide gap between the statutory tax system, which is modern and up to date, and the tax administration, which is corrupt and largely inefficient.

Theoretically, the reform of tax administration should include at least three objectives: i.e. to reduce costs, including collection costs and compliance costs on the part of taxpayers; to increase voluntary compliance and to reduce the scope for collusion and fraud.

To that end, various measures could be taken, for example, the production of simpler tax forms; simpler systems for filing tax returns, including electronic filing; accessible payment facilities, including electronic payment; incentives for prompt payment; realistic, clear penalties for late payment; and prompt enforcement, including court action.

The tax administration should use a system designed for checking and reducing opportunities for collusion between tax officials and taxpayers; rotating staff members to prevent close ties with taxpayers; reducing the "discretion" of tax officials and imposing tough penalties for corruption and collusion.

These are all practical programs to reform tax administration, but their implementation is what counts. Until then, changing the laws and launching tax-administration reform means far less than our common aim: for a modern, efficient and clean tax system.

The author is a staff writer for The Jakarta Post.