THE INSIDE MAN

Death by taxes; The excise of the auto industry

Death by taxes; The excise of the auto industry image

Tito F. Hermoso / AutoIndustriya.com | December 05, 2016 17:39

An untimely tax on the automotive industry

Team player, despite...

Much as the automotive sector supports government moves to free up consuming public spending power by reducing income taxes to ASEAN levels and to recover lost tax revenue due to fuel taxes frozen since 1997, the proposed excise taxes that were proposed recently by the DoF for legislation by the House of Representatives would unduly burden the consumer with SRP suggested retail price] increases between 20% to 60% and this doesn't yet take into account the withdrawal of tax incentives when the BIR rationalizes the grant of incentives.

The proposed excise tax on cars

The DoF's comprehensive tax reform plan includes a restructuring of the current tax rates imposed on automobiles, more than doubling the existing excise tax from 2% to 5% for automobiles with prices below P600,000; 20% for those selling for P600,000 to P1.1 million; 40% for those with prices ranging from P1.1 million to P2.1 million; and 60% for vehicles selling above P2.1 million. As per some initial calculations applied to best selling models, a mid spec Toyota Vios will cost 90,000 more, a mid spec Innova will be taxed 560,000, while the popular top spec Fortuner will be hit with an additional 1.25M Pesos.

Awful timing

Without a doubt, this is not an opportune time to squeeze more taxes from the industry despite historically record sales as it is only now, after 30 years, that the local auto industry is playing catch up with the rest of its ASEAN members. Besides, the auto industry has always been the favorite milking cow of the tax authorities every time they need to boost revenue. This high tax regime is the reason why smuggling has long been rampant. Our sales volumes have always been laughable compared to the other ASEAN markets because the industry's market growth, ever since the PCMP years in the 70's, has always been stunted due to persistent cost disadvantages because of high energy prices, taxes and lower labor productivity vis-a-vis the rest of ASEAN. If one remembers the era of the Subic JDM imports [Japan Domestic Market], we had a situation where the Subic imports matched total local auto industry sales. Though, Port Irene imports have stopped, one cannot trust a complete shut down of the smuggling industry as in Mindanao, smuggled fuel is far cheaper than locally refined fuel. 

Middle class; the perennial milking cow

The tax authorities justification for fleecing the auto sales has been the same one time and again, i.e., only the top 10% income bracket buy cars and that the emphasis should shift to public transport. What the tax authorities refuse to to take cognizance is that

  1. car buyers, car sales and the car industry are net tax contributors to the economy.

  2. car buyers, car sales and the car industry reflect the back bone of our middle class economy. Professionals, small medium scale entrepreneurs provide high value output and this high productivity economic class need tools for their productivity. If the government willing subsidizes mechanized farming for the farmers and GPS tracking for schools of fishes for fisher folk, it should at least let the middle class pay a reasonable amount for the private car, their main productivity tool.

  3. such high taxes as proposed will back fire because auto sales will collapse

  4. it will kill not only the auto industry but also cut off a large portion of manufacturing sector.

  5. car buyers, car sales and the auto industry has long been paying for our roads and subsidizing public transportation because they are net tax payers. Besides government is supposed to subsidize public transportation and it has been using the PPP program or foreign grants for pay-as-you-go infrastructure like tollways and public transport rail networks.

Plant

Long delayed leap to progress

The industry only started to expand with the GMA era excise tax reform of 2003. The pre-2003 tax regime of high taxes have long been a disincentive to the multinational car industry. Cheaper costs and friendlier investment rules that encourage expanding output, are found even in Vietnam. Despite some sales volume improvement over 12 years, and despite competition from backdoor used SUV imports through Subic and Port Irene and our uncompetitive cost environment, the SRP of our locally made motor vehicles are higher than our neighbors save for highly taxed, high income Singapore. We have an unfortunate chicken and egg situation wherein the limited sales or small market is caused by the limited investment in local production which in turn is thwarted by the small market.

Misunderstood cause for effect

Besides the desire to balance the BIR revenues, some regulators think that any increase in excise tax on automobiles, will limit urban traffic congestion. This kind of reasoning has proven to be false as the problem is not that there are too many cars, but there are not enough roads and public transport has grown haphazardly and inappropriately. Also, the severe traffic crisis is only prevalent in cities that did not match the overall economic growth with investment in public transport and infrastructure. Many economists are of the mind that the cost of controlling congestion should not be borne by raising sales taxes but by a direct charge by the locality of the cost of congestion, like what Singapore does with its ERP [Electronic Road Pricing] CBD access.

Why punish the victims?

Besides Metro Manila and Metro Cebu, congestion is not a problem in other areas of the country. Increasing taxes increase vehicle SRP's and would be seen as collective punishment on the middle income consumer for a failure that is not of the auto industry's making. On the contrary, private transport in almost all of the country is a prime mover of the middle class led productivity in SME [small medium scale enterprises] business, continuous higher education and promotion of unique Filipino family values. It would be too simplistic and unjust to blame and punish the middle class use of private transport for the country's traffic ills. Moreover, the drafters of this new tax bill didn't seem to be aware that the price brackets they slapped with a high tax rate happens to be the most popular category for Filipino extended families, a cultural phenomena that is uniquely resilient here despite the onslaught of Western ideas about nuclear families. Taxing cars as if it is a luxury good only affordable to the rich only shows that the tax-rise drafters have never kept up with the times, and still think cars are an unnecessary “toy” of the rich.

Pillar of economic growth

As a major pillar and an engine of inclusive growth of the national economy, the fortunes and mishaps of the automotive industry deeply affects the lives of all Filipinos. Being a major contributor and participant in economic growth, the automotive industry values the health of the nation's finances and general employment. Moreover it is a reflection of the Filipino's family values. 

Promote autos to expand manufacturing

Producing 20.0% of the output of the manufacturing sector, a sector that all economists believe should be fortified as much as the agricultural sector, the automotive industry's value added employment, investment and total tax input of [34.0B] Pesos alone to the national treasury, not counting its large contribution to local government coffers, makes its role indispensably vital.

Disastrous results

The proposed excise tax increase will cause the following:

  • A drop in sales from our current high of 375,000 p.a. despite an expanding economy

  • With this drop in sales the tax intake will be greatly reduced

  • Annual sales to collapse to as low as 190,000 p.a., the level of optimistic sales when there was a high excise tax regime in 2003 [actual sales reached only 150,000]. BIR would be lucky to collect higher excise tax this time, but will also have to forego other tax income from other sources from the auto industry, employment, marketing structures, etc. If the government had State unemployment insurance, it would take a big hit. The new excise tax will result a net decrease for BIR collections.

  • When vehicle taxes are high, we will see a return of grey market imports through the “porous” south, which still manages to sneak in imported cars similar to the way the Subic and Port Irene imports flooded the market. There is no tax revenue from these grey imports. Government can talk of stricter implementation of anti-smuggling laws and vehicle registration but witness the failure to control fuel prices in Mindanao because cheaper sources are convenient to source and difficult to police.

  • Withhold any further factory investment or FDI -foreign direct investment – and skilled labor employment - affecting and maybe even scuttling the still-born CARS program of DTI. Toyota and Mitsubishi investment in new model assembly lines may need to be idled soon.

  • Downscaling in marketing [dealerships] and upstream employment. Dealer networks may have to close to shrink to pre-2004 size. More losses for employment and dealers here.

  • The network of suppliers and local parts manufacturers, who have yet to recover from reductions because of advances in technology and the ASEAN's AICO complimentary scheme where most foreign owned suppliers consolidated manufacturing in the bigger markets [definitely not us] of ASEAN.

  • The upcoming fuel tax increase, spread over 3 years, will also dampen car sales and this effect will last for the 3 year duration as fuel price increases are phased in. It won't be one oil price shock in one go, so the adjustment process is prolonged and this will also dampen consumer appetite.

  • The tax framers argue that much of fuel purchases are not done by the low income group but by the income earning businesses and individuals who pass this fuel cost to the consumer. In contrast, the same tax framers mistakenly believe that cars are only bought by the rich, but they forget that it is a valuable productivity tool for both present and future value because local public transport is such a time consuming [wasteful] effort and not a reliable nor enhancing productivity tool.

  • Although the cut in income tax to 25.0% p.a. is a boost to consumer spending power, the maintenance of the 35.0% bracket and the increase in tax for the 5.0M income bracket and beyond actually hits the car shopper of the upper categories 1.1M to 2.1M and beyond price bracket. At the most, the income tax cut will have no effect on car sales save for the 600k and below bracket.

  • The exemptions from excise tax are Jeepneys, buses, special purpose vehicles [perhaps transport for invalids] etc. This exemption is bizarre because the jeepneys, specially the mongrel backyard made ones have been due for phase out because of failure to meet crash safety and emissions standards. Which leaves us with the L-300 FB and the Isuzu i-Van. But passenger haulers with jitney style side seating is already being banned for school bus use by the government. This gives the wrong message encouraging backyard made vehicles exemption. Perhaps taxing these backyard makers are tougher so might as well exempt them.

  • The immediate effect of this tax will be a change of product mix that will sell. Sales of Wigo and Vios will grow, while Altis will slow down. The Avanza, Ertiga, Mobilio or even the smaller Indonesian Calya will replace the Innova as the default MPV. The Executive car Camry segment, already dwindling and the lifestyle pick-up [Hi-Lux, Ranger], PPV SUVs [Fortuner, Montero, Mu-X], other SUVs will drastically sink. UV Express vans like the Hi-Ace and Urvan will also suffer a drop as prices increase.

Stockyard 

Massive sales dive

Our “back of the menu card” calculations project a very optimistic 190,000 p.a. sales once this excise tax takes effect, taking into consideration a healthier economy than in 2003, the last year of high excise taxes. Nevertheless, 190,000 p.a. Is a 49.0% drop from our forecast peak sales of 2016. Of the 190,000 sales, some 10.5% of these will be exempt from excise tax as provided by the law. Which leaves the BIR with 180,000 vehicles to apply the said tax. Pick-ups, AUVs, SUVs and MPV's, including the class leading Innova, will bear the brunt of the sales decline as tax amounting to 400,000 or 600,000, which is almost the cost of another car. Sales of Wigo, Mirage, Vios, Avanza, Ertiga, basic spec AUVs, Innova and the like will become the main staple, albeit at reduced overall volumes.

The best? Status quo ante

Ideally, the Industry doesn't need another tax until we can price our cars equal to the other ASEAN nations. It needs that long road of government support because it has long been neglected for most of its existence and sometimes, milked for tax revenue with little value added to show or nudge it to a steep growth curve. It is also absurd to promote public transportation by punitively taxing the auto industry. Ever since the authorities started taxing automobile purchases, all alternative forms of public transportation were never taxed. On top of the customs duties paid on cars, motorists pay road tax – the principal fund that keeps all highways around the country up to date with road markings, guard rails and approved international traffic signs. Taxes paid by automobiles pay for roads, used by everybody. It also pays for subsidies for public transport including high cost railways. It is just unfortunate that early in our history, we chose to spend tax money on road based public transport to the neglect of railways. The auto industry should not be further burdened by taxes considering so many other sectors of the economy don't pay tax at all.

Our counter proposal : 50k/1.0M bracket flat tax

If the DoF insists on some kind of tax, we therefore propose a flat or specific “luxury” tax of 50,000 Pesos for every bracket of SRP that crosses every 1 million mark, to wit:

  • Motor vehicles costing 2M and below are exempt from this new tax as this is the entry point of starter families purchasing vehicles for multi-purpose transport

  • Cars sold at SRP between 2M to 3M bracket must pay a 50,000 flat tax

  • The next category, 3M to 4M bracket charges another 50,000, flat tax and so on.Hence a PHP22.0M Aston Martin Rapide will be taxed at PHP1.0M and a PHP35.0M Rolls Royce Phantom will pay PHP1.65M tax. This is on top of all the regular taxes imported cars pay. Not a bad deal for the tycoons, right?

  • In order to promote alternative energy, hybrids like the Prius, BYD and some Porsche and Lexus models, should be exempt.

  • This 50k flat tax should be suspended once the exchange rate shoots up beyond 50Pesos to 1.00 USDollar. Imagine if a Mirage, that today costs 600k, suddenly costs PHP4.0M because of an exchange rate depreciation, the 100k tax in this case would kill auto industry sales.

  • Of course, the auto industry and other affected stakeholders should voice there reservations or support, since our auto industry already pays a lot of taxes making our car pricing the most uncompetitive among the car exporting countries in ASEAN.

Taxation 

Scenario 1 : the current 2.0% excise tax

Credited with finally making our auto industry ASEAN competitive for inward investment and pricing, we project a conservative 375,000 total sales volume, excluding the tax exempt categories like trucks, buses, jeepneys and L300's. Our assumptions for the tax per unit sold is based on the mean SRP between base/bare spec and top of the line spec which usually nudges the ceiling price before the SRP climbs into the next price bracket. Following the DoF's price categorization, we project the segment of Php600k and below price point – Mirage, Wigo and A segment cars – as 23.0% or 86,250 units of total sales. The Php600k to 1.1M bracket – B segment Vios, Avanza, low specced Innova, AUV's, PPV's, MPV's, SUV's, Altis – is 40.0% or 168,750 units of the market, reflecting the extended family carry preference values of most Filipino shoppers. The upper spec Montero, Fortuner SUV's, Camry D-segment cars populate in the Php1.1M to 2.1M bracket and is a respectable 28.0% at 105,000 units. Rounding it all up are luxury cars costing Php2.1M and more, a good 4.0% or 12,000 units of the market. Estimating the average tax paid per unit per bracket and multiplying by sales, we forecast that the sales will net Php34.0B in taxes for government this year.

Taxation 

Scenario 2: BIR's proposed excise tax hike

Contrast this to the proposed excise tax that has a rising percentage of tax per bracket or segment. The sizable tax increase also causes bracket creep, positioning some favorite models out of reach into the next higher tax bracket. We forecast total sales to drop to 190,000 units for 2017, barely better than in 2003 when the high excise taxes were still being applied. With buyers finding their favorite MPV's out of reach, some will resort to scaling down their purchases. The 600k priced cars will be steady at 86,250 units p.a., but will now be 45.0% of the market. The 600k-1.1M bracket will shrink from 168,000 to around 81,250 or 44.0% of the shrunken market. The SUV, D-segment bracket of Php1.1M to 2.1M, usually high specced Innova and Fortuner/Montero will be decimated to around 17.0% of a shrinking market, down to 15,000 from a healthy 105,000 units. The luxury segment of over 2.1M will be a shadow of its former self at 3,750 per annum sales or less than 2.0%. The shrinking market will also crimp tax collections to a paltry Php25.87B. This is not the full bill to the economy as the shrinking market will result in layoffs, factory closures and the death of several newly minted car dealers.

Taxation 

Scenario 3 : Double the excise tax from 2.0% to 4.0%

This is the simplest since it applies to all vehicle classes and price ranges. Tax revenue is as simple as multiplying current collections by Two. Further increases in excise tax would be a matter of increasing the percentage from 4.0% to more. It is not as disastrous as Scenario 2, but it will still shrink the 375,000 units/p.a. Market to 227,500 units per year. The luxury market will still be minuscule at 3,000 units, while the Php1.1M to 2.1M bracket will do a bit better than in Scenario 2, from 18,750 sales to 25,000. There will be an improvement for the 600k to 1.1M bracket as sales will climb to 112,500 from 81,250 because this segment's net tax increase from 2% to 4% translates to be far reasonable reasonable than the DoF's excise tax proposal of approx. 400,000 PHP per unit, average. This Scenario has the lowest tax take at Php20.7B proving that high taxes that throttle sales would be an own goal to the tax authorities. Is it worth maiming sales for such a paltry pay back?

Taxation 

Scenario 4: our proposed luxury bracket flat tax of 50,000 per 1.0M price bracket

This is the easiest to simulate as all one has to do is take Scenario 1, with current tax rates for all brackets, but add an average of 100,000 PHP more to the total 36.42B in taxes for the price of the luxury segment, cars that sell for Php2.1M or higher. We assume no drop in the 15,000 unit sales of the highest category as 100,000 PHP more in SRP is not such a big burden for budding tycoons to bear with. But this scenario produces the highest tax intake of all the options we simulated. Perhaps, we dare say, our tax proposal, which hews to the original intent Secy Dominguez of taxing “luxury”, produces a win-win situation – CARS program will stay on track, FDI is not discouraged, auto sales remain high and so with the tax take.

The Best : Status quo ante

The auto industry should not suffer any new excise tax now and that back of the menu calculations for numbers and projections based on pre-2003 market factors versus today's buoyant market, proves that high tax regimes stunt growth. This excise tax, as proposed by DoF, will douse cold water on DTI's CARS program and end the dream of being a viable car production venue, the equal of any ASEAN AICO participant. Worse, it will not result in the revenue expected as there is only so much milking that the middle class and the auto industry can bear. It is disingenuous for the DoF officers to say that high taxes for the middle class and the auto industry will be used to upgrade public transport and infrastructure. As it is, these are already funded by too many taxes on the same middle class and auto industry, along with PPP's and foreign grants/debt.