The Tribune

In the second of a three-part series, Hubert Edwards explains why income and/or corporate income taxes will inevitably be key in any reform discussion.

There has been much talk and discussion about what will happen next. In my opinion, it is time for national, bi-partisan action underpinned by a broad consensus on how to move the economy forward. Election energy seems to have taken hold of the narrative. This could prove detrimental to the longer-term well-being of The Bahamas, as the need for focus and timely decisions is critical. The tensions and adversarial nature of party politics make this challenging, within the context of the present crisis, as it reduces the prospects for a meeting of the minds on issues that are fundamental to the economy's future. The stakes are high, the issues are complex and there is a need for near-clinical precision in developing solutions to find additional revenues and broaden the economy's earning potential.

Here is why. The Bahamas is not only faced with finding ways to secure recovery in existing industries, diversify revenue, drive digital transformation and address existing structural weaknesses and vulnerabilities, but also having to radically change one of its most important value propositions as an International Financial Centre (IFC) - no income or corporate tax. No matter how we slice the pudding, this issue is so fundamental to sustainable recovery that it is painful to see national narratives skirting around the issue.

Here is why I have taken that position. The issue of imposing taxes is extremely emotive in The Bahamas. Even the thought of imposing an income tax is a sufficient sin, in the minds of many, for you to be punished in the town square. There is a real, tangible fear that going down this path will significantly erode standards of living, adversely affect the fortunes of citizens and residents, and harm the overall economy - particularly the financial services sector. The question to contemplate, though, is whether this is really so. To convince persons to step forward into anything new, you must first help them fight -or at least manage - whatever their fears of change are. It is not sufficient to tell them they should not be afraid. Honest and objective behaviour will conclude that there is a real fear, broadly speaking, or at least a hardened position that outright rejects income and/or corporate taxation. The discussion must be designed to address the issues, and sensitive enough to respect existing concerns.

There is a healthy amount of discussion taking place as it relates to the possibility of The Bahamas needing to take advantage of an International Monetary Fund (IMF) restructuring programme. We can only hope it does not only come to that. However, given the current state of the public finances, it is not a matter that should be dismissed. I am aware there will be those who argue that successful programmes have been implemented elsewhere. Jamaica successfully completed two three-year programmes, and Barbados is currently doing relatively well in meeting its targets. However, there are important differences as it relates to the level of economic diversification in those countries, and the extent to which they have alternative sources of export revenue. For The Bahamas we should start our analysis by asking where, in an IMF programme, will the potential additional revenue come from, given limited options for exports. Beyond austerity measures to reduce spending, increase taxes and the privatisation of state-owned assets, where will any gains be derived from? We should therefore work as assiduously as possible to avoid calling on the IMF. The country’s increasing debt stock, though, suggests the possibility of structural adjustment exists.

The Bahamas has a growing debt stock of near $10bn and a recurrent annual interest payment of around $300m. This, though, must be assessed against the impact of COVID-19 vaccines; pent-up demand for travel and tourism; creative destruction and transformation in the digital space; and significant small and medium-sized enterprise start-ups. While these potential tailwinds can ease the challenges we face, if The Bahamas continues on its current trajectory I believe there will be little choice but to raise taxes. Ask yourself, in the face of the current circumstances, where does government get money unless the country finds new revenue to expand the tax base or raises taxes from the current base to fund spending. Or does it cut spending and raise taxes? In other words, what aspect of an austerity programme will the government choose?

The Bahamas is at a tipping point. The current system of taxation has served the country well for many years under conditions of relatively high income, low debt and low population. Despite being highly regressive and very disadvantageous to the poor, on a whole the taxation system has held. However, in the face of significant revenue shifts that have the potential to run for some time yet, there are concerns. With a larger population and more persons, in absolute numbers, operating at or below the poverty line, where regressive taxes consume most of their income and creating a vicious cycle for poverty, the time is definitely right to start considering a shift to more progressive means of earning tax revenue. The time is now to take a close look at the idea that “those who can pay more should pay more”. That discussion naturally leads to income tax, in whatever form decided, since it is a progressive system of taxation. The problem with this is that not having income tax is so fundamental to where The Bahamas is now and the current construct of the economy. Returning to the fear factor mentioned above, the imposition of income tax, especially corporate tax, could be seen as removing one of the legs of a three-legged stool. It may be possible to remain seated, but it is more likely that you will do so very uncomfortably or in fact spend all day falling. I believe we are at a tipping point and the government (this and any future administration) really has some very hard decisions to make. There are some radical shifts that are needed, and until and unless these are done The Bahamas will struggle to find that new sweet spot for funding its existence.

At the end of the day, it will come down to mathematics. Annually, the Government has to secure around $3bn or so in revenue. Historically, about $500m of that was deficit spending funded by debt. The rest comes from taxes. The deficit is now due to hit $1.3bn for the current fiscal year. VAT and Customs duties are very effective for the domestic side of the economy. However, there is the possibility that income tax (personal and corporate) could expand the tax base by making a deeper incursion into the offshore portion of the economy. That is where the challenges lie. That is where the delicacy of the decision to be made lies. This introduces an important fundamental shift in one of the arrangements that renders The Bahamas an attractive international financial centre (IFC). It does not matter how much we scream or lament the perceived unfairness of any particular arrangement. Under the current circumstances, additional taxes will be levied in one form or the other, while existing taxes are likely to increase. In the national narrative, we spend a lot of time counting the beans in the bag and lose sight of the need for there to be a proper assessment of which bag of beans we should be selecting. The current bag is regressive and disadvantages poor people and small businesses. There is another bag that is more progressive; a hybrid bag. That bag, however, is like a bogeyman to many, and there is good cause to be concerned about it.

Creditors, the European Union and income tax

At the height of the COVID-19 crisis, a prominent Caribbean economist first raised the possibility of The Bahamas entering into an IMF arrangement. The response by John Rolle, the Central Bank's governor, is very instructive. In seeking to ease the tension created by that statement, he declared that before creditors get hurt taxes will be levied. Prominent commentators have outrightly stated that there is a need for income tax, or lament the inequity of the current regressive tax regime and its inadequacy in financing government programmes. There have been questions posed to policymakers as to whether income tax will be (or at least should be) considered. It would appear that at least in certain quarters the conversation around income taxes is becoming a bit more comfortable, and definitely more serious.

It is my view that despite the lack of direct response from the political directorate, the time is here for a real shift in the tax regime. The current circumstances would dictate that we take hold of the “bogeyman bag”, so as not to bring greater harm to a very vulnerable segment of poor persons. Even if that bag is rejected there may be increases in some other areas if the larger concerns surrounding debt default and entrance into structural adjustment programmes are to be circumvented. I believe that the near-term future of The Bahamas rests significantly in the strategic moves that will be made over the next few months. It is for this reason that we cite the obvious “election season” given the propensity for shifts in policy positions, or delays in making decisions, which may be inconsistent with the desired outcomes of parties. It is easy to accept that in close proximity to an election, the likelihood of tax increases becomes difficult to imagine. It is also easy to accept that any administration shepherding the change to income tax, or foreshadowing the same, is likely to suffer a significant hit at the voting booth. The possibility, therefore, of any movement in this area within the next 12 months is therefore minuscule. Note, however, that none of the major parties will explicitly state that income tax is off the table. Any such declaration would be outright irresponsible and lacking in forethought. While I believe they will work hard to find ways of not going this route, they will not be definitive in excluding the option. Ultimately, regardless of the changes to the level of tax levied under the current system, its weaknesses mean it fails to meet the four principles of a good taxation system - fairness, certainty, convenience and efficiency. Commentators, policymakers and others readily state that the current tax regime is inequitable. We accept this and the fact that it is also insufficient, either in absolute terms or because of ineffectiveness in its administration. A regressive tax regime in an environment where large numbers of persons are suffering long-term economic fall-out will always fail to meet the fairness (equity) test.

Chief among the challenges faced by the Bahamas are debt and external threats. The state of the country’s debt draws our attention to what could emerge should there be no rebound. With national revenues where they are today, this will at least put adverse pressure on the provision of other public goods and services. In other words, creditors must be paid first and the country will never jeopardise its credit rating by defaulting on debt. That simply does not happen in this region. In the recent Budget presentation, it was revealed that government revenue-to-GDP is in the region of 14 percent. This is low, and definitely an impact of the COVID-19 downturn. However, the Bahamas has always lagged peers in this metric. The longstanding, and recently renewed, discussion has been the need to increase that to 20 percent. If this is correct and necessary, the question is how we will get there. One thing I am confident of is that we should all start getting prepared to pay a little bit more. The only way to get there, in the face of all we have discussed to this point, will be through new taxes,unless it can be shown that more effective administration can and will produce the difference between these two yields.

How it is done is where the rubber meets the road, and the devil will be in the details. We certainly are at a point where I think it will be seriously considered. It is important to note that some of the factors that made The Bahamas vibrant, and highly successful, have changed - and continue to change rapidly. Factors such as population size, quantum of debt, rate of growth of debt, more expansive and expensive public services demands, and potentially declining national revenue. All these exert adverse pressure on the current revenue space. With a very limited tax base, it is akin to solving a mathematical problem. If too many factors are held fixed, the desired solution will not be derived. With changing demands, the pressure of debt repayments and lack of revenue it is reasonable to anticipate an upward shift in the level of tax burdens borne by citizens and residents. Any honest discussion on the breadth of the tax base, though, will never ignore the offshore segment. The segment holds great potential for broadening the tax base. However, there are also significant challenges that could follow as such moves will disrupt the settled position of The Bahamas' value proposition in that arena.

To be continued........