Policy Statement & Submission

The Hong Kong General Chamber of Commerce is pleased to submit our views on the proposed measures for broadening the tax base. As you know, we have expressed our concern for many years on this subject, and despite the challenges of discussing taxation with the community at large, we believe this consultation is the right thing to do.

In the attached appendix, we lay our specific answers to the questions raised in the consultation document. For now, let me draw your attention a the key points:

1) The Chamber agrees that the tax base is too narrow, and that steps need to be taken to ensure more stability in our revenues over the course of the economic cycle. We have long believed that a Goods and Services Tax (GST) might, if properly designed and presented to the community, address the critical structural weakness in our finances. While the proposals in the consultation document appeared reasonable, they were not presented to the public in a manner that would generate recognition of the challenges we face and the various options available. However, we still believe the right GST would be the right choice.

2) Equally important, the obverse side of the discussion has not been given its due: operating expenditure remains much too high, and needs to be reduced step by step over a relatively brief period, perhaps 3-5 years.

Despite an 18.5% reduction in civil service headcount since 1999/2000 spending increased more than 11%, according to the estimates for end-March this year. The 2007/08 Budget forecasts a greater than 25% increase in operational expenditure from the best estimates for 2006/07 to the projections for the end of the Medium Range Forecast. This level of spending cannot be supported by so narrow a tax base, and must be reduced.

Public perceptions
Perhaps the most disappointing aspect of the consultation is the very broad and persistent misunderstanding of the basic principles involved. To our distress, the government's proposals were presented by the popular media as revenue-positive, which they clearly were not. People were encouraged to believe that the purpose of the exercise was to raise additional revenue while reducing the taxes of the better-off members of society, and to do so at the expense of the poor, which it clearly would not. The very generous provisions made for insulating the least fortunate one-third of society from the effects of the GST were lost in the discussion, leading to unsubstantiated claims that the measures would be regressive.

In the end, the very loud voices of ignorance and short-term political gain won the day, and the government felt it necessary to ‘no longer advocate' the GST as an option. We find this unfortunate, but understandable. The timing might have been better, too. In particular, the highly charged political atmosphere in the run-up to the Chief Executive's election was, in hindsight, not the most opportune time for raising fiscal issues.

Despite this, the problem remains, and must be addressed: our spending is too large and our tax base is too narrow. And so, in looking to the less attractive means of achieving the necessary objectives, we offer three principles:

1) We believe taxation is one of the most important ways in which the community feels a direct stake in public affairs. Our current tax structure takes revenue from a limited number of sources and directs spending across society, as necessary. As you know, an overly narrow tax base is a shaky foundation upon which to build a more participatory civil society. As demands for greater representation in public affairs increase, the responsibility for financing public affairs must be more broadly borne.

2) An insufficiently broad tax base provides very limited – and more cumbersome – means to alleviate the effects of periodic economic downturns. Reducing the Salaries Tax rates, for example, cannot affect more than the 18% of the population that pays such a levy. Reducing profits taxes during hard times, when companies do not generate as much profit, is equally inefficient. A full 70% of profits tax revenue is derived from just 2% of the companies filing. In short, reducing tax rates does not help those who do not pay taxes.

3) Moreover, there are important long-term considerations. As we more deeply integrate with the Mainland of China, there will necessarily be a rise in the risk to our current tax base. Because of Hong Kong's small geographic, demographic and economic size, companies will likely expand their operations across the boundary. That will, to a degree, remove their taxable income from our jurisdiction, thereby increasing the risk that our own revenues will be insufficient to cover necessary spending.

Finally, there are the fiscal reserves. Because of volatility in our revenues, we need to hold in reserve sufficient funds to cover an extended period of economic hardship. We note that your latest Budget envisages a nearly 60% increase in the reserves, to $584.4 billion, over the next five years. A consolidated surplus averaging $43.7 billion, year in and year out, removes this money from private hands, where it is most likely to generate investment, consumption and jobs. But, given the threats to our revenues – and the hitherto fore inability to reduce spending – we have little choice but to make the best of such insufficiencies. Broadening the tax base will lessen the need to hold such large amounts in reserve, and may allow a significant portion of that money to be returned to taxpayers.

Our conclusion is that, when the political circumstances permit, the consultation on broadening the tax base through a revenue-neutral Goods and Services Tax is the best option for Hong Kong. However, the right timing may be several years away, and we need solutions sooner, rather than later. Hence, a combination of significant spending reductions coupled with a steady reduction in personal allowances and perhaps some modest additional measures such as departure taxes would provide the most reasonable and useful near-term solution.

We sincerely hope that the views presented here will be accepted in the spirit intended.

Best personal regards,





David Eldon
Chairman


Att

Appendix