By Carmina Angelica V. Olano and Marissa Mae M. Ramos
THE MEASURE TO SIMPLIFY the taxation of passive income, financial services and transactions was borne out of the need to be more competitive in attracting foreign capital and investments in order to finance infrastructure projects and promote inclusive growth through generation of more and higher quality jobs.
The Department of Finance (DoF) has been pushing a comprehensive tax reform program, whose fourth tranche involves the streamlining of taxes on passive income and financial products. Known as the Passive Income and Financial Intermediary Act (PIFITA), it has already passed the House of Representatives after its third and final reading in September and is currently pending in the ways and means committee in the Senate.
It was also among the priority bills itemized by President Rodrigo R. Duterte at his State of the Nation Address (SONA) last July.
Ultimately, the bill targets to reform the financial sector that would “increase and direct the movement of capital to where it is most needed, so that higher, sustainable, and more inclusive growth can be achieved,” according to the DoF’s briefer on PIFITA published on its website.
For one, PIFITA proposes to simplify tax rates and bases to 36 from the current total of 80 uniquely imposed on capital income, financial intermediaries and financial transactions.
Harmonizing the current tax structure will effectively neutralize tax treatment across financial institutions and instruments, and at the same time, decrease the sector’s “susceptibility to arbitrage” or leveraging of market players from differing tax treatments of financial instruments.
PIFITA also has equity considerations, noting that the current setup was observed to be unfairly distributed across the country’s income classes.
“[C]ommon interest income from regular savings deposits is taxed at 20%. These are typically the only types of investment that the poor have access to. Meanwhile, interest income from longer-term time deposits can have tax rates of as low as zero, and dividends are taxed at 10%. These are typically included in the portfolio of investments of the rich,” said the DoF in an e-mailed response to queries.
To address this, PIFITA proposes to harmonize and lower the tax rates on interest income to a uniform rate of 15%. Moreover, the tax on dividends would also have a uniform tax rate of 15%.
“The 15% proposed tax rate is within the ASEAN range, and the common tax treaty rate in 25 of 42 countries, including ASEAN, with which the Philippines has entered into. Thus, the proposed reduction in tax on interest income will help the country’s fixed-income securities be regionally more competitive,” the DoF said, referring to the Association of Southeast Asian Nations.
The bill also plans to impose a 2% premium tax on health maintenance organizations, pension and pre-need insurance products for the current 12% value-added tax.
According to DoF, PIFITA would go hand-in-hand with the first package Tax Reform for Acceleration and Inclusion (TRAIN) law and the current version of the second package, which is the Corporate Income Tax and Incentives Rationalization Act (CITIRA) under House Bill 4157.
“The reduction in the [corporate income tax] under CITIRA and lower cost of capital as envisioned in the PIFITA will have a positive impact in business operation, which could result in business expansion and better employment opportunities,” the DoF said.
“On the other hand, under the TRAIN law, the reduction in the personal income tax and the retention of exemption of minimum wage earners add money in the pockets of said workers to sustain their basic needs which could propel business activities, or increase their savings or investments which in turn will buoy up the financial sector,” it added.
Moreover, PIFITA is seen to foster greater financial inclusion.
“PIFITA is also seen to lessen the implicit bias against ordinary savers achieved through the lowering of tax rates. A general reduction of interest income tax rate would help encourage ordinary savers and investors to continue saving and investing by allowing them to keep more of their gains, thus, encouraging them to participate more in the formal financial sector,” DoF said.
IMPACT ON THE BANKING INDUSTRY
For financial intermediaries, the measure proposes the adoption of a single gross receipts tax (GRT) on banks, quasi-banks, and nonbank financial intermediaries.
“All types of income will be taxed at five percent GRT except dividends, equity shares, and net income of subsidiaries, which will remain exempt. The distinction between lending and non-lending income as well as the maturity of the instrument will be removed,” the Finance department said.
A simpler GRT structure for these financial intermediaries would also serve to help improve tax compliance as well as lowering administrative costs.
“Currently, the GRT on net trading gains on foreign currency transactions of banks and other nonbank financial intermediaries performing quasi-banking functions is higher than those of other financial institutions at seven percent and five percent, respectively. Thus, banks, as major players in the foreign exchange market, will benefit from PIFITA’s proposal to adopt a single GRT rate of five percent,” it said.
“To some extent, reducing the GRT rate, which is a ‘pass-on’ tax, will also lower transaction cost that will eventually encourage greater volume of transactions,” DoF added.
Asked for comments, the Philippine National Bank (PNB) has welcomed the tax reform, which they said, would reduce the cost of raising capital and financing to their customers.
“The proposed reforms on withholding tax (WHT) on interest income; capital gains tax on the sale, barter, exchange, or disposal of domestic securities; documentary stamp tax (DST); and GRT are essential to reducing the costs of raising capital while deepening the local capital markets,” the PNB said in an e-mail.
“With the WHT on interest income from long-term deposits or investments exceeding five years down to zero percent (but not income tax), banks are able to encourage clients to issue debt securities with longer term maturities and to have these listed in the Philippine Stock Exchange (PSE). For many of our customers, this will help encourage them to save and invest their money,” PNB said.
For ING Bank N.V.-Manila Senior Economist Nicholas Antonio T. Mapa, one financial product that may be affected by PIFITA would be foreign currency bank deposits, which “will now be treated just like peso deposits.”
“In the past, such FCDU (foreign currency deposit unit) accounts were given particular treatment to encourage the build-up of balances given the fact that the Philippines had limited ability to generate foreign currency funding. Nowadays, the [country] boasts a steady and substantial stream of remittances as well as BPO (business process outsourcing) call center receipts all on top of our export earnings,” Mr. Mapa explained.
An FCDU refers to a unit of a local bank or of a local branch of a foreign bank authorized by the Bangko Sentral ng Pilipinas to engage in foreign currency-denominated transactions.
“These changes may cause a shift in preference in types of deposits but in the end, the harmonization of rates and moves to deepen the financial sector should benefit the banking sector and the economy in the long run,” said Mr. Mapa.
FOSTERING DEVELOPMENT IN FINANCIAL MARKETS
Furthermore, PIFITA proposes tax reforms that would list out perceived barriers to the development of the domestic capital market. One provision is the gradual reduction of the stock transaction tax (STT) from the current 0.6% to zero in 2026.
To recall, the PSE has increased the STT to 60 basis points (bps) or 0.6% from 50 bps or 0.5% of the gross selling price or gross value in money of the shares of stock sold, bartered, exchanged, or otherwise disposed, as part of the TRAIN law in January 2018.
With the 0.6% rate, the PSE has the highest STT among regional markets, followed by the Bursa Malaysia Exchange with a tax of 30 bps of the transaction value. The Hong Kong Exchange charges a stamp duty of 10 bps of the transaction value, while the Singapore exchange have none at all.
“The gradual reduction of the STT…will help deepen the country’s equity market. Lower transaction costs will encourage market participation and result to greater volume of transactions,” DoF said.
The equities market would also benefit from the elimination of the initial public offering (IPO) tax.
The Finance department also noted that the Philippines and Indonesia are the only countries in the ASEAN region that collect tax on IPO, noting that its removal would “encourage public listing of corporations in the country.”
Likewise, the DST on non-monetary documents such as the sale or transfer of unlisted shares or certificates of stock will be removed under PIFITA in order to reduce friction costs and “would encourage trading activities that would spur positive economic growth.”
For debt instruments, the 0.1% transaction tax (TT) will also be removed by 2026 along with the STT.
“Just like dealers of equities, trading income of registered dealers in debt securities shall not be subject to the proposed TT but to regular income tax,” the agency said.
PNB noted that notwithstanding the favorable provisions in the bill, they said that they would have preferred a shorter timeframe in the STT’s gradual reduction.
“The timeframe for tax reforms to lower the capital gains tax among others to a zero-rated tax in January 2026 should be shortened to within three to four years from the effectivity of the PIFITA package. Waiting for the year 2026 timetable could confine the next Philippine administration, and thus, risk delaying more financial reforms if needed,” PNB said.
PNB also said that the proposed reform should have an “automatic trigger” such that when the Philippine economy attained a tax to gross domestic product ratio of 17%, the schedule of reaching a zero-tax rate on capital gains tax can be expedited.
Asked for provisions that legislators ought to have included in PIFITA, the PNB said: “All taxes on financial instruments that are publicly traded/exchanged and capital gains should be zero-rated specifically for those with maturity of five years or more. Taxes on quasi-banking functions passed on to the banks’ clients constitute double taxation on individuals and corporate entities even if the GRT is reduced to 1% for transactions beyond five years.”
“Perhaps a minimum income tax deduction of x% should be granted to low-income individuals and small and medium enterprises (SMEs) to ease to the GRT effect.”