Why the GCC really needs a VAT tax

Published March 19th, 2015 - 10:21 GMT

There is a common quote that “unity is strength”, and the Gulf Cooperation Council, or GCC, bears testimony to this. The GCC — comprising the UAE, Bahrain, Kuwait, Oman, Qatar and Saudi Arabia — was formed in May 1981. The council was created to achieve unity among members based on common objectives, and similar political and cultural identities. More than three decades after its formation, the GCC remains united and stronger, but still short of what we may refer to as a ‘full-fledged union’. The idea of transitioning from a council to a union, with complete economic and regulatory integration, was mooted by late King Abdullah bin Abdulaziz of Saudi Arabia, during the GCC summit in December 2011.The GCC member states share several social and economic characteristics supporting the creation of a union. They are high-income oil-based economies with a young and rapidly growing population that includes a large number of expatriates. In addition, GCC countries allow free trade and capital movement and majority have an exchange rate pegged to the US dollar, either directly or indirectly. The proposal for wider economic unification among GCC states has its roots in 2001 when member states inked the Unified Economic Agreement. It was followed by signing of the Customs Union agreement in 2003, introduction of unified Value Added Tax (or VAT) framework in 2007, establishment of a common market status in 2008, and recommendation for a monetary union (common currency) in 2010. However, several of these manifestos remained largely on paper and/or found partial implementation. Nevertheless, after a decade or so, a few notable achievements towards integration are visible, including the removal of customs duties on intra-GCC trade, launch of common electricity grid to share power supply and integration of financial markets. The proposal for a customs union was only partially implemented with pending decisions on issues such as regulation of common centres as free trade zones and distribution of customs revenue among member countries. During the 35th summit, held in December 2014 at Doha, GCC member countries reached an agreement to impose five per cent unified tariff on foreign imports from January 1, 2015, while consenting to free trade within GCC and adopting ‘the law of food for the GCC’, aimed at ensuring food security. Other milestone decisions included a water linkage grid to ensure water security and a GCC railway project to facilitate trade and movement of people. The water linkage grid would be a project worth $10.5 billion aimed at meeting the consumption demand of the rapidly growing population. The project involves designing large water pipelines that would link and supply member states with desalinated water in case of shortages in their existing desalination plants. The GCC is expected to spend over $200 billion for the rail project, which would link the two holy cities of Makkah and Madinah as well as connect the Arabian Gulf and Red Sea through a bridge. Such infrastructure projects are expected to enhance the prospect for regional integration. Given the recent political developments in the GCC and growing instability in the region, the GCC union is the need of the hour to protect the interests of member nations. Separately, the GCC common market would be a giant leap towards economic integration, rendering power for better infrastructure development and improved trade and job opportunities in the region. The increased volume of trade between GCC countries would accelerate development of the non-oil economic sector and increase commodity diversification, making the region self-sufficient. The GCC union will further enable enhancement of education and training facilities for the population and promote greater economic opportunities for men and women alike in the region. GCC federal governments, which earn a large part of their income from hydrocarbon sale, need to reconsider their taxation policies, which are currently among the most favourable in the world. There are two major reasons for this. First, oil prices have fallen drastically in the last six-eight months to levels that may result in most GCC member countries recording budget deficit. Second, the governments need to broaden their revenue base akin to that of developed nations to tackle such situations in the future. GCC countries have the least demanding tax systems. According to a PwC report ‘Paying Taxes 2015: The global picture’, Qatar has the lowest tax rate regime, with a net tax rate of 11.3 per cent, contributing towards labour protection in the form of social insurance and training. It is followed by Kuwait, with a labour tax rate of 12.8 per cent and Bahrain (13.5 per cent). Saudi Arabia and Oman are the only countries in the GCC to collect profit tax of 2.1 per cent and 11.3 per cent, respectively. The UAE collects labour tax at a rate of 14.1 per cent and other taxes at 0.7 per cent.

Given the recent negative oil price shock, GCC governments need to chalk out a plan to enhance their revenue base. A few ways to do this would be introducing broad-based sources of taxation (in the form of VAT), and excise duty on specific goods and products like gasoline, diesel and tobacco. The IMF has long urged GCC countries to introduce VAT. The implementation of VAT on consumption would help the government raise the required revenue from residents and expatriates.

Furthermore, introduction of three-five per cent VAT will not change the reputation of GCC countries as a low tax destination or hurt economic activity as it is an indirect tax. In addition, it will allow member countries to form free trade agreements with other countries and cover the lost income from removal of customs duty collection on these corridors.

The GCC is a group of like-minded nations, with a common heritage of cultural and social values. However, the member nations are yet to reach an agreement on the practical modalities of unification at the political level.

Full implementation of a customs union is expected to ease intra-GCC trade, enhance food security and support regional integration, providing an initial framework of success from which to further explore further union targets. 

The writer is the founder and CEO of Al Masah Capital Management Limited. Views expressed by him are his own and do not reflect the newspaper’s policy

 

 


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