Tax exemptions bleed billions from government

Part two of the report also reveals that many companies abuse the incentives by claiming excessive tax exemptions. In 2004, the BOI approved only P7.6 billion worth of income-tax holidays. But the BIR reported that income tax exemptions claimed by BOI-registered firms that year reached P19.4 billion, an excess of P11.8 billion. In other words, P6 of every P10 income tax exemption claim filed with the BIR was unauthorized, representing loss of revenue loss for government.

BIG COMPANIES expect their income tax returns to be routinely checked by the Bureau of Internal Revenue (BIR). But firms that enjoy tax and duty exemptions granted by the Board of Investments (BOI), Philippine Economic Zone Authority (PEZA) and other investment-promotion bodies belong to a special category that tax examiners wantonly ignore.

“When BIR gets the returns, they put it aside and forget all about it,” is how former BIR deputy commissioner Kim Henares describes the benign neglect on the tax examiners’ part.

The lack of attention from the BIR, coupled with weak coordination with investment-promotion agencies, is allowing some of these companies to abuse the system of fiscal incentives. Many firms claim tax exemptions far in excess of what is allowed by the authorities, costing the government billions of pesos in foregone revenue a year.

For 2004, the BOI, which has been granting fiscal incentives since 1969, approved only P7.6 billion worth of income-tax holidays, according to Elmer Hernandez, the board’s managing head.

But the BIR reported that income-tax exemptions claimed by BOI-registered firms that year reached P19.4 billion, an excess of P11.8 billion. In other words, P6 of every P10 income tax exemption claim filed with the BIR was unauthorized, representing loss of revenue for government.

The same disparity was evident in 2003. While the BOI approved income tax exemptions of only P6.7 billion, income-tax holidays actually claimed reached P25.1 billion. This represents excess claims of P18.4 billion, suggesting that P7 for every P10 claim made with the BIR was unwarranted.

The amounts look tiny compared to the government’s total budget of over a trillion pesos, but the excess claims of P11.8 billion in 2004 alone is still higher than the spending program for each of the 26 government departments in 2005, and is just about the same as the Department of Health’s. Only six agencies have budgets that are more than the figure.

Excess claims for tax exemption that the government seems powerless to check underscore how the fiscal incentives system put in place about two decades ago has assumed a life of their own and grown out of control-helping weaken the government’s financial position and its ability to provide basic economic and social services.

Total tax and duty exemptions claimed by companies as a result of various kinds of fiscal incentives to encourage investments in preferred economic activities or help disadvantaged sectors of society has almost tripled from P118.4 billion in 1999 to P299.9 in 2003, according to the Department of Finance (DOF). It fell slightly to P282.3 billion in 2004.

Unfortunately, the government has little idea how much of the tax and duty exemption claims-which represent foregone revenue – are valid or not. More than half of fiscal incentives are granted to firms registered with the BOI, PEZA, Subic Bay Metropolitan Authority (SBMA) and other special economic zones or free ports. But except for BOI, the other incentives-granting agencies do not generate statistical reports on the actual tax and duty exemptions they grant to registered firms.

PEZA-registered firms, for instance, claimed income tax exemptions worth P5.9 billion in 2003 and P6.6 billion in 2004, according to BIR reports submitted to the finance department. But how much of these were actually authorized by PEZA, which, like BOI, is required to validate the tax and duty exemptions claimed by firms located in industrial estates and economic zones, is unknown because PEZA does not come up with the pertinent statistics.

“We have the figures but we’re not conscious of adding it all up,” says PEZA spokesperson Elmer San Pascual. “We’re not concentrating on that. We’re concentrating on investments and employment.” He adds, though, that the authority has begun working to generate exemptions data because of the ongoing debate on fiscal incentives.

For sure, in a recent study that looked at the BOI, PEZA, Clark Special Economic Zone, and the SBMA, UP economics professor Renato Reside Jr. did find PEZA as having the lowest proportion of what he called “redundant” incentives that rob the government of billions in potential revenue. Reside considers tax and duty breaks given to companies that would have gone ahead with their projects even without incentives as “redundant” or “superfluous.”

Incentives make sense for companies using the country as a production base for the export market because these are “efficiency-seeking” investors who could easily set up factories or plants in other countries. Thus, investment-promotion agencies that deal largely with exporters-like PEZA-have lower figures for “redundant” incentives. Incentives granted by the PEZA, in fact, helped attract semiconductor and electronics makers who now account for 65 percent of Philippine exports, up from 36 percent only a decade ago.

Still, Reside considers some tax and duty exemptions granted by PEZA to be superfluous because they were given to “resource-seeking” investors such as mining companies, which are attracted by the presence of commercial-grade mineral ore deposits, and call center operators, who come here because of the large pools of young, college-educated and English-speaking work force. These investors, he says, would have come even without incentives because the resources they want are here.

Of course that was not how Rod Watt, Philippine country manager of Australia’s Lafayette Mining Ltd., which runs the polymetallic mineral processing facility in Rapu-rapu island off Albay province, presented his company’s position in a 2004 letter he wrote to President Gloria Macapagal-Arroyo. Pressing for a presidential declaration of the mining site as a tax-exempt economic zone, Watt said such was a “prerequisite for project finance” and “critical for the economics of the project and therefore, its development.”

In May 2004, Arroyo declared 42 hectares of the Rapu-rapu mining facility an economic zone enjoying exemptions from income tax, import duties and even local taxes.

But exactly two years after, Lafayette was ready to forego half its local tax exemptions and pay them to the Rapu-rapu municipal government, according to company lawyer Bayani Agabin.

The move was obviously part of the company’s efforts to appease angry local residents and officials in the wake of the cyanide spills in October 2005 that triggered widespread opposition to mining. But it also suggested that the Lafayette mining project remained commercially viable even if some of its tax exemptions were taken away-making these incentives, redundant.

Redundant incentives worsen the disparity across the country’s regions and reinforce inequality between the rich and the poor, Reside says.

He found in his study that BOI and PEZA-approved investments “tended to be clustered in the National Capital Region as well as Regions 3 (Central Luzon) and 4 (Southern Tagalog), which are already relatively well-developed regions.”

“The clustering of practically all investments in well-situated and well-endowed areas has effectively prevented a true regional dispersal of industries,” he says. “This preserves and reinforces disparities in income and employment opportunities across regions.”

Comparing BOI- and PEZA-registered investments with actual business activities per region, Reside found weak or no correlation between the two in most regions except Southern Tagalog. He says: “If investments were not carried out as promised, then this suggests widespread abuse of BOI fiscal incentive privileges and rampant tax avoidance and leakages.”

The story of Boni Comandante, the agricultural engineer from Dumaguete City, Negros Oriental who developed a novel technology for waterless shipment of live fish, is illustrative of how the fiscal incentives system is biased against small investors located far away from Manila.

He invented a technique for keeping grouper (lapu-lapu) and other fish alive without water for as long as 24 hours, halving the cost of transporting live fish in the Philippines while boosting the survival rate. His invention can potentially help thousands of Filipino fishermen earn more from the sale of live fish, which sell for three times more than frozen ones. Each week, Comandante ships up to one and a half ton of live fish to about 50 restaurants in Metro Manila, earning an average P1 to 1.5 million a month. The fish come from Dipolog and Pagadian in Mindanao, and Capiz and Dumaguete in the Visayas.

When he put up a company, Buhi Marine Worldwide Supply Inc., to commercialize the technology in 2004, Comandante thought about applying for fiscal incentives but was told that his venture, initially capitalized at just P5 million, was too small. Instead, he got some credit support from the state-owned Land Bank of the Philippines.

But when he and a couple of Australian partners put up a company in Melbourne to export live salmon to Japan, he was surprised when the Australian government even offered to refund his company one Australian dollar for every 75 Australian cents invested in research and development. He is planning similar ventures in Taiwan and Thailand.

Of late, both the BOI and PEZA have become more cautious about granting incentives in the wake of criticisms and controversies generated by some of the investments that received tax and duty exemptions.

Trade and Industry Secretary Peter Favila, who is also chairman of BOI, has agreed to allow the Department of Finance to review applications for tax and duty exemptions.

Similarly, the PEZA has stopped approving applications for economic-zone status for other mining projects pending a comprehensive review of whether additional fiscal incentives are still necessary to encourage mining activities. Indeed, many in the mining industry admit that mineral extraction and processing are profitable enough and no longer need additional fiscal incentives apart from those specified in the 1995 Mining Act.

PEZA is also said to be reviewing the Rapu-rapu processing facility’s economic-zone status amid allegations that a crucial signature on the Rapu-rapu municipal council resolution endorsing the project, one of the prerequisites for obtaining an economic-zone status, was forged.

Environment and Natural Resources Secretary Angelo Reyes says the National Bureau of Investigation is looking into the case, adding that PEZA may revoke Lafayette’s economic-zone status if investigators confirm the signature in question is fake.

He has urged the revocation of Lafayette’s tax exempt-status after estimating Lafayette’s fiscal perks will likely halve the government’s share in forecast revenue during the project’s six- to seven-year lifespan to only $59 million from $123 million, while boosting the company’s share from $104 million to $185 million.

But these improvements may prove too transient, reversible and inconsequential in the long run. And there’s still the BIR to contend with in many cases. For instance, even when the statistics on tax and duty exemptions are available, as in BOI’s case, weak coordination between the incentive-granting agency and BIR hampers the government’s ability to plug the wide loopholes that make excessive claims for tax and duty exemptions possible.

The BOI blames the BIR for the problem. Within a month of filing their income-tax returns, registered companies are supposed to submit the return to the BOI for evaluation and endorsement. The BIR is supposed to review the returns based on BOI’s endorsement, and go after those who fail to submit the endorsement; but it does not.

The board’s endorsement is important because it allows BOI to check if claimed tax exemptions are within bounds. There are many grounds for disallowing part or all of claimed tax exemptions. The firm’s income tax holiday may have already expired. Or, the company could be claiming tax benefits on revenue and costs that are unrelated to the registered investment.

Unfortunately, BIR examiners generally do not bother to look closely into tax returns filed by companies enjoying tax exemptions because they feel that the chances of collecting additional taxes from them are small, according to Department of Finance officials.

When the BIR tries to collect the full tax due when the company fails to submit the BOI endorsement after a month, the erring companies simply ask the BOI for a late endorsement and pay the penalties to the board. “Sometimes, the BOI gives its endorsement after two years, leaving the BIR little time to go after the erring tax payer because the prescription period is about to lapse,” says a DOF official.

According to Henares — who was former BOI governor before her stint as deputy tax commissioner — greater responsibility for checking the excess tax exemption claims rests with the BIR. “At the end of the day, they’re the interpreter of tax laws,” she says. “The BIR should insist: with no BOI endorsement your income tax holiday is no longer effective. I don’t care if the BOI gives you endorsement later.”

The BIR should also assert its prerogative to examine the return even if the BOI releases the endorsement close to the expiration of the prescription period, she says. “If there is no BOI endorsement, there is non-filing (of income tax return) and therefore the prescriptive period does not apply,” she argues.

The notion that tax and duty exemptions are the price the country has to pay for attracting investments is so pervasive, however, that BIR officials are hesitant to collect higher taxes from companies enjoying fiscal incentives even when there are clear grounds for doing so.

Told by the DENR that its way of computing the two-percent excise tax on minerals understates Lafayette’s tax liabilities by two-thirds, the BIR replied, in effect, that the country should just be happy with what it’s getting and be thankful Lafayette decided to come here instead of elsewhere.

It its letter to the environment department, the BIR said: “Our records show that the above-mentioned taxpayers have generated revenues for the government which would not otherwise have been generated. We would encourage more investments like this, subject to compliance with other laws.”