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Restructuring the Tax System

Next year, we are scheduled to take a good, hard look at our Hong Kong tax system, through the government's consultation document on the feasibility of introducing a Goods and Services Tax (GST). The Chamber has long supported the need to reduce our fiscal dependence on a small number of companies and salaried workers by broadening the tax base, and so this is indeed a welcome step forward. Our committees have been studying various options for some time, and at the appropriate juncture we will weigh into the public debate. We do, of course, welcome additional input from members.

Two other issues also need to be considered, in conjunction with a possible GST. The first is reducing government spending, which as you know your Chamber has been championing for some time. In the current fiscal year, operating expenditure is budgeted to rise by $5.5 billion, slightly more than last year, to a record high $212.2 billion. It will be the fifth straight year of increased spending.

We well understand that declining revenues have been the main source of our recent large fiscal deficits. Declining land sales, salaries, profits and overall prices have exposed a serious structural flaw in our revenue regime. However, the average 3.8 percent per annum increase in operating expenditure over the five years to next March -- at a time when our economy grew in nominal terms by perhaps 1 percent a year -- is also a serious structural problem.

To reduce our operating expenditure to the level of 2000/01 (when the economy was roughly the same size it is this year) would require trimming about $13 billion off annual spending. Obviously, such belt-tightening should not be achieved in one go, but just as clearly this is an area of critical importance to our long term economic health, and one that needs constant attention.

The second consideration is the tax base itself. Three and a half years ago, the Advisory Committee on New Broad-based Taxes pointed out that Hong Kong has a "noticeably heavy reliance on taxation from corporate profits" as a percent of tax revenue. Even if we were successfully to reduce our operating expenditure to the reasonable 14-15 percent of GDP that prevailed in the 1998/99-2001/02 fiscal years, broadening the tax base would still be both necessary and useful. And so, revenue considerations aside, the question is how to broaden the tax base.

The GST is not the only option being contemplated, but merely the one furthest along the process toward public consultation. Several trial balloons are also being floated, most of which would not be appropriate for our economy.

Recently, ideas about taxes on capital gains taxes on dividends, interest and even individuals' global incomes have been suggested. Each of these was examined by the Advisory Committee noted above, and their merits weighed for efficiency, effectiveness, revenue generation and the impact on Hong Kong's competitiveness.

The Advisory Committee's study pointed out that "capital gains taxes are relatively inefficient taxes for governments and taxpayers alike." Such taxes would encourage residents to invest offshore, "may also have a detrimental effect on Hong Kong as a destination for regional share listings and as a regional financial centre," and "could adversely affect the property and stock markets." Clearly, such a tax would be counterproductive in an economy like ours.

A tax on interest was also deemed to be inefficient, easily avoided and to have potentially adverse effects on the monetary system. Dividend taxes were deemed to be an inappropriate type of double taxation. As for taxing world wide income, such a move would likely generate no new revenue, as Hong Kong taxes are lower than those in most other jurisdictions, and taxes paid to other governments would have to be deductible from tax paid in Hong Kong.

We believe that the findings of the Advisory Committee are equally valid today.

In contrast to these possible new taxes, there is one existing tax which does not raise much revenue and whose abolition would bring significant benefits to one important sector of the Hong Kong economy, financial services. This is estate duty and the Chamber has answered the recent request for consultation by putting in a submission to government arguing for doing away with this. We believe this would greatly enhance the private wealth management business in Hong Kong, increasing greatly activity and employment in this sector.

But to return to the subject of broadening our tax revenues, the Advisory Commission determined in 2001 that a broad-based consumption tax was fair, effective, efficient, flexible, in line with international norms and quite profitable as a source of revenue.  It is of course essential that it is well designed and with appropriate exemptions. It should also on inception be accompanied by some reductions in income and corporation taxes.

In closing, let me just add that I have been heartened and encouraged by the rapid recovery in our economy this year. Our government revenues are improving, of that there is no doubt. What remains is the hard work of reducing government expenditure and devising a fair and efficient means of broadening the tax base to make our economy more robust to deal with the ups and downs which the future will undoubtedly bring.

Anthony Nightingale
Chairman
HKGCC