We noticed you're blocking ads.

Keep supporting great journalism by turning off your ad blocker.

Questions about why you are seeing this? Contact us

Font Size

- Aa +

Mon 26 May 2014 04:03 PM

Font Size

- Aa +

A taxing issue for the Gulf

Abdul Aziz Al Yaqout looks at pros and cons in the ongoing taxation debate

A taxing issue for the Gulf

When it comes to the issue of taxes I find myself asking why I, a Kuwaiti, a GCC national, would be asked to speak about it. I mean, you would think taxes would be as relevant to Kuwait, as refrigerators to the North Pole.

But I have learned that this subject matter is quite relevant, also to me as a Kuwaiti and GCC national.

I also thought initially that this discussion on the introduction of taxes was a hype, driven by the press, which had picked up on a harmless statement made by Hussain Sajwani, the CEO of Damac, a few weeks ago that there was “nothing wrong” with introducing a tax to Dubai.

Also here I have had to learn that a serious debate about the introduction of taxes has actually been ongoing for a few decades. As I see it this debate centres around three matters:

One: The introduction of corporate income tax and VAT, which I believe could become a reality in the next few years. I also think there are very good reasons to introduce such taxes.

Second: Personal income tax. Something I personally believe will not see the light of day in this region in the near future.

Three: Alternatives to the imposition of taxes, such as the reduction of subsidies or imposing fees for governmental services.

Before we get to these three points I would like to give you brief overview on the history of taxation in the GCC. Taxes have been around for some time.

Kuwait and Saudi Arabia took the lead very early on in implementing tax policies. Kuwait introduced a corporate income tax in 1955, and Saudi Arabia imposed corporate and personal income tax on foreigners from the early 50s. Personal income taxes were suspended in Saudi Arabia in 1975. This, mainly due to the scale of its oil revenues and the need to recruit large numbers of foreign workers, is to help develop its economy and infrastructure.

Real efforts on a GCC level to introduce direct or indirect taxation date back to the late 1980s. This development was driven mainly by low oil prices. For example in 1988, the Saudi government sought to re-introduce personal income tax on foreign workers. However, the result was strong pressure from Saudi business against this as well as a threatened large-scale expatriate exodus from the country, which would have severely affected the kingdom's ability to function.

Next to resistance from business, socio-cultural objections also existed, mainly on the grounds that the introduction of tax was incompatible with local culture. A 1986 report on the Bahraini economy described taxes as an "idea which all the peoples of the area regard as dangerously socialist and thoroughly un-Arabian".

Since the mid-90s a number of countries have introduced taxes and in summary today the situation is as follows:

Bahrain and the UAE have no personal or corporate income taxes for locals or foreigners, except for corporate taxation of profits in the oil and gas sector and in some cases the banking sector. Like Dubai.

Saudi Arabia, Kuwait, Oman and Qatar all have introduced overseas corporate tax, which tax foreign entities that generate profits in these countries. The tax rates go from 10 per cent in Qatar to 20 percent in Saudi Arabia.

In the last years all these countries have seen reductions of their tax rates as they compete for foreign direct investment. For example Kuwait reduced its corporate income tax from 55 percent to 15 percent in 2007. At the same time we have also seen these countries rewrite their tax laws, which has resulted in an expanded tax base and the collection of taxation on cross-border transactions via the introduction of withholding taxes.

Next to corporate income tax GCC countries have also studied the feasibility of introducing VAT in the last years. Efforts to implement VAT in the GCC were put on hold in the wake of the Global Financial Crisis and the Arab Spring. But a lot of work has already been done in respect of drafting regulations and planning the necessary infrastructure. It is only a question of restarting this effort. Lately, discussions on the introduction of VAT seem to have picked up again in a number of GCC countries.

It is actually interesting that the debate about the introduction of taxes is happening now, a phase of relative economic prosperity. Because usually this subject matter comes up when oil prices are low and government budgets are under pressure. It seems to me - and this is my personal observation - that we are slowly being prepared or something.

If this observation is correct, I would see this is as a step in the right direction, because there is a good case to introduce further taxation, even in Dubai. The central, most important, argument for the introduction of taxes is the necessity to diversify revenues and implement a fiscal policy that ensures reliable and sustainable levels of government revenue throughout economic cycles.

The absence of such a policy poses a serious risk to any government’s ability to manage its economy. In our region this is compounded by further factors:

Firstly: The GCC countries are still heavily dependent on the sale of oil and gas, which are subject to volatile price movements. We have seen stable prices, but this can change at any time.

In addition, domestic energy consumption is growing at unprecedented rates. This may not be something that directly affects Dubai. But Dubai's destiny also hinges on the destiny of its neighbors, including Abu Dhabi, which in turn is oil dependent.

Secondly: We have a growing populations and it is becoming increasingly difficult to fund the scale of public welfare provisions and public sector jobs to which many have become very accustomed to. Just take Kuwait as an example where Government spending has grown from KD6bn ($21bn) in 2005 to an expected KD21bn in 2014. This is a 3.5 fold increase in spending in eight years. Three quarters of this increase was spent alone on salary increases in the public sector and benefits.

Thirdly: An additional factor is the increasing exposure to globalisation, which brings with it a growing number of free trade agreements, such as the Bahrain-US FTA or the GCC-Singapore FTA and there are other being negotiated with the EU and China.

These free trade agreements often have the abolition of tariffs and other duties as a core element. In many countries these duties do make out an important part of the annual revenues. As the free trade agreements currently being negotiated are with important trading partners of the GCC this will necessarily lead to the search for alternatives to these revenues.

As an example in 2007 about 23 percent of Dubai's total revenues were generated from trade and port operations as well as custom duties.

These facts clearly show that there is a necessity for the introduction of fiscal policies that ensure a reliable and sustainable level of government revenue. The challenge is to balance this necessity with the ability to maintain a competitive fiscal landscape.

Now I ask myself, would the introduction of an overseas corporate tax, as is imposed in almost all other GCC countries really hurt the UAE or Dubai?

I seriously doubt that. Certainly as long as the tax base is moderate. I do not even think that a local corporate income tax would really pose an issue, if the tax base were held at reasonable level. Let's say around 5 percent.

What I believe is actually more probable is the introduction of indirect taxes. At least it seems the most favorable, when hearing comment from decision makers. It is also the best way of spreading the tax burden between local and foreign individuals and companies. Again here a reasonable tax base of 3-5 percent would sound right to me today. Maybe also initially limiting VAT for example to high end consumer goods.

I now come to the second point: Personal income tax. To put it bluntly: I do not see that personal income tax will be introduced anywhere in the GCC any time soon.

A big eye opener is the fact that no less than 250 uprisings have occurred over the centuries as a result of the imposition of tax. In many cases the taxes in question were income taxes directly related to the income of people.

This is an extremely sensitive matter. Namely, in two ways:

One: As we have seen in the failed attempts to reintroduce personal income tax on foreigners in Saudi Arabia, decision makers see a material risk that the imposition of personal income tax will lead to an exodus of expatriates or at a minimum a clear decline in the attractiveness of these jurisdictions to foreigners to work in. I share these concerns.

Two: It is evident that taxation has always gone hand in hand with a stronger demand for political participation. It is best articulated in four simple words "No taxation without representation", especially if tax is levied directly on income. I personally do not think that decision makers in the GCC will want to go there yet.

This brings me to the third and last point I want to discuss. There are easier alternatives to direct taxation. I believe there is low hanging fruit out there that could address the issue of ensuring sustainable levels of government revenue without necessarily imposing taxes.

One route is clearly making direct governmental services more expensive. These are no taxes, but fees. Would increasing salik from AED5 to AED7 be such a big issue for people living in Dubai. How about increasing tax on harmful commodities such as cigarettes or alcohol? In Germany 60 percent of the price of a cigarette is tax.

My mother always said to me: There are two ways of making money - one is to make it and the second is not to spend it.

This brings me to the second route, namely to cut subsidies. In 2011 the MENA region paid subsidies alone on energy of estimated one quarter of a trillion dollars. In the UAE energy subsidies equal approximately 6 percent of GDP, in Kuwait approximately 7 percent and in Saudi Arabia 10 percent!

Do we really need Dubai government to pay half of our petrol? This is the case today. I clearly see room here to save money and at the same time avoid the ire of the population by introducing taxes. In my view it is also counter intuitive to introduce income tax or VAT and still keep such broad and far reaching subsidies.

So in conclusion my position is clear:

- Personal income tax will not see the light of day in this region.

- Corporate income tax and VAT will become a reality in the next few years and there are good reasons to introduce such taxes.

- On the other hand alternatives to the imposition of taxes do exist. And in any event cutting down on subsidies is a necessity, before taxes are introduced.

* Abdul Aziz Al Yaqout, regional managing partner at law firm DLA Piper Middle East, originally delivered this as a speech at the 10th annual Arabian Business Forum on May 19, 2014.

Arabian Business digital magazine: read the latest edition online

Khalid Al Shimmary 6 years ago

This is informative. I am a GCC national. While I see personal income taxes politically possible for higher income bracket foreign residents, I see it impossible to introduce for GCC nationals without political participation.