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Recently both the UAE and Oman hinted at applying value-added tax (VAT). True, no date has been set for implementing the proposed tax. Still, some media sources advised that the two countries could introduce VAT as early as 2009.
What matters is the very open talk of applying this form of indirect tax on goods and services. Traditionally, members of Gulf Cooperation Council (GCC) viewed sales tax or value-added tax as a taboo. VAT is a tax levied on the added value that results from exchanges, or the number of passages between the producer and consumer. Some 140 countries apply VAT, notably the European Union.
By one estimate, the UAE is considering applying VAT of about four per cent on local and imported goods and services. Conversely, Oman is contemplating a five per cent tax on products at large, with healthcare goods being a clear exemption.
VAT would partly compensate the losses in customs duties. For years, customs duties formed a key source of income for treasury, albeit after oil. Yet, tariffs imposed on international trade (mostly imports) are being increasingly evaporated, thanks to free trade agreements (FTAs) clinched with other countries. The GCC states are either collectively or individually entering into agreements that hinge on more or less doing away with customs duties.
Some 90 per cent of American goods enter the sultanate without custom duties thanks to a bilateral accord. Still, the GCC as a group is getting close to signing a free trade agreement with the 27-nation European Union.
Additionally, implementation of the customs union agreement within the GCC resulted in a loss of revenue for some countries. The customs union agreement went into effect in 2003, limiting tariffs to imports to five per cent with all external countries. Prior to 2003, some GCC states were applying higher rate on imports. In 2005, the six-nation group agreed to implement a unified external trade policy with non-members. The matter became essential after both Bahrain and Oman independently signed free trade agreements with the US.
To be sure, no GCC state is contemplating imposing taxes on personal income. Thus far, the GCC states are not interested in doing so, as part of an economic competitiveness policy. Absence of taxation is viewed as a selling point for attracting migrant workers.
The International Monetary Fund (IMF) has reportedly censured the move on the grounds of adding to ongoing inflationary pressures. Inflation rates stand at about ten and six per cent in the UAE and Oman, respectively. But inflation is a short-tem phenomenon and should not be allowed to deter sound fiscal planning. Still, it makes sense to introduce VAT when budgets are running real surpluses on the back of solid oil prices. The implementation of VAT would not be an easy task. Hence, strong oil revenue provides a necessary cushion.
Yet, VAT revenue helps GCC countries keep the economies away from oil. Currently, the petroleum sector (both oil and gas) contributes about three- quarters of treasury income for GCC countries. If any, budgets of GCC states have become more reliable on oil. This is attributed to a combination of firmer oil prices in the international markets together with declining significance of customs duties.
The VAT regime will give the GCC governments a policy measure to influence economic directions. The tax may be increased or decreased depending on economic objectives. The GCC authorities largely depend on public expenditures now to influence economic matters. Also, the linking of currencies to the dollar dictates importing interest rates prevailing in the US market.
VAT would partly compensate the losses in customs duties. For years, customs duties formed a key source of income for treasury.
The writer is a Member of Parliament in Bahrain
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