By Bernie Cahiles-Magkilat, August 27 2018; Manila Bulletin

Image Credit to Manila Bulletin/PHILEA

The country’s high-caliber foreign investors have warned government of breach of contract and dire consequences should the proposed removal of tax and fiscal incentives granted to them pushes through under the second package of the comprehensive tax reform program of the Duterte administration.

In a position paper submitted to Finance Secretary Carlos G. Dominguez, the Philippine Ecozones Association (PHILEA), which is composed of 13 developers that either own and or manage 22 economic zones where 1,171 many of them high-caliber investors are recipients of government’s fiscal and non-fiscal incentives, strongly oppose the corporate income tax (CIT) and fiscal modernization under the proposed CTRP Package 2, now dubbed “Trababo Bill.”

The Trabaho bill, which promises to create more jobs, seeks to lower corporate income-tax rate from 30 percent to 20 percent by 2029 and rationalize fiscal incentives.

From the current 30 percent, the bill cuts the rate of corporate- income tax to 28 percent beginning January 1, 2021; 26 percent beginning January 1, 2023; 24 percent beginning January 1, 2025; 22 percent beginning January 1, 2027; and 20 percent beginning January 1, 2029.

As for the fiscal incentives, the government would like it to give it only to deserving and targeted investors for a specified period of time.

“The removal of incentives granted to existing registered enterprises, is tantamount to a breach of our contract with government, hence, violative of the constitutional prohibition against impairment of contracts,” stated the document, copies of which were also furnished to Trade and Industry Secretary Ramon M. Lopez and Board of Investments Managing Head and DTI Undersecretary Ceferino S. Rodolfo, Finance Undersecretary Karl Kendrick T. Chua and Philippine Economic Zone Authority Director-General Charito B. Plaza.

The position paper signed by PHILEA President F. Francisco S. Zaldarriaga cited Section 10 of Article III of the 1987 Constitution of the Philippines, which provides that “no law impairing the obligation of contracts shall be passed.” This provision establishes a constitutional proscription against the impairment of the obligation of contracts while also establishing a constitutional right which plays an essential role in protecting the sanctity of agreements that give rise to a healthy business environment.

“Ecozone investments have poured in billions on the premise that the government accord them such fiscal incentives – by law. To tamper with/water down these benefits mid-stream is a potential magnet for barrage of legal suits,” the document stated.

PHILEA pointed out that the primary goal of the creation of the special economic zones is not to cater to the certain public needs that need to be served, but rather, these ecozones were created to help spur economic growth.

The incentives were established under the reliable permanence of legislation, as opposed to mere government regulations that easily change from administration to administration, have often been used in representations by the country’s authorities in enticing foreign investors to come to the Philippines.

“The withdrawal of fiscal incentives will then lead to adverse effect on foreign direct investments (FDI) in the Philippines similar to the case of China and Indonesia,” said PHILEA.

PHILEA noted that one of the threats to Indonesia’s economic growth was the instability of its regulations in relation to foreign investment. Because of the volatile nature of the regulations surrounding foreign investments, some members of the government are concerned that foreign investors are discouraged from putting money in Indonesia.

PHILEA also would like to debunk the theory that the incentives represent foregone revenue, but said these represent the cost of inducing the inflow of foreign investments. Its benefits far outweigh the costs of the projected foregone government revenues.

“DOF has computed as foregone revenues of the government would not even be possible if not for the existing incentives that attract foreign investments. Without the incentives offered by these IPAs, there would be no revenue to collect in the first place because investors would not be drawn to the Philippines,” it said.

In a study, PHILEA noted that in 2016 the projected P163 billion in foregone income was compensated by the P685 billion in approved investments by investment promotion agencies.

Clearly, the tax expenditure in giving incentives should be treated as an investment by the government that results in exponential growth for the economy.

“It is not in changing the existing incentive structure that we can improve our competitiveness. The country is already at a disadvantage vis-à-vis its ASEAN neighbors due to supply side and institutional challenges of the country, and our current incentive system is merely at par with them. Thus, any reduction in incentives further erodes the Philippines’ competitiveness in attracting investments,” it added.

PHILEA further debunked another DOF claim that the Philippines offers “very generous tax incentives” which are too costly to maintain.

“This is incorrect,” PHILEA said showing comparative ITH periods in ASEAN countries. Brunei Darussalam, Indonesia and Lao PDR offer the longest ITH at a maximum of 20 years.

After ITH, some of the ASEAN countries grant a reduced CIT or special tax on gross income.
Specifically, Thailand and Vietnam offer a 50 percent CIT reduction after the expiration of the ITH which is based on net income. Note that the statutory CIT of Thailand and Vietnam is at 20 percent. Thus, after ITH, investors in Thailand and Vietnam will enjoy a 10 percent CIT based on net income. In contrast, the Philippines offers a 5 percent special tax on gross income in lieu of all national and local taxes subject to exceptions after the expiration of the ITH. When compared, the special tax rates after ITH being offered by other ASEAN countries, such as Thailand and Vietnam, seems to be better since the reduced CIT is based on the net income whereas the 5 percent preferential rate after ITH being offered by the Philippines is based on gross income which will effectively be higher than the 10 percent CIT of Thailand and Vietnam.

Furthermore, PHILEA pointed out that other ASEAN countries also offer cash grants and subsidies. In fact, Malaysia offers reimbursable dollar-for-dollar grant on qualifying research and development (“R&D”) expenditures. Singapore, on the other hand, offers cash grants typically co-funding of 30 percent or 50 percent of qualifying cost categories. The Philippines does not offer these kinds of incentives.

In addition to the high tax rates, the incentives offered by the Philippines is not even at par with the regional countries since other ASEAN countries offer longer tax holiday periods and other incentives such as cash grants/subsidies.

In the absence of fiscal incentives, PHILEA said the Philippines’ effective tax rate or the difference between the pre-tax of return and the after-tax rate of return to those financing the investments, including the burden of personal and indirect taxes, is high by regional standards.
Thus, to be competitive, the Philippine government, through the different investment promotion agencies, must continue to offer various fiscal incentives to lure investors to park their capital in the country.

“The provision of incentives will be the only consolation for investors to stay in the Philippines. If these fiscal incentives will be removed as part of the proposed tax reform package of the Philippine government, there will be a huge risk of losing these investors. It would be erroneous for the government to experiment on the possibility if investors will stay or leave the country when incentives are withdrawn since FDIs play a vital role in the economic growth of the country. The challenge for the Philippine government, therefore, is how to make the country more attractive to investors and be able to draw level and compete with its rapidly developing ASEAN neighbors,” PHILEA stated.

With the private sector leading the charge in ecozone development, ecozones multiplied from a mere 2 in 1994 to 86 operating public and private (manufacturing related) special economic zones by 2017.
Ecozones offer high quality and good-paying jobs to Filipinos. So far, these foreign investors provide direct employment to more than 1,417,947 in 2017 from only 220,000 in 1994. This excludes the downstream-collateral employment.

Ecozone exports grew from a mere $2.7 billion in 1994 to an estimated $40 billion in 2017 alone. Export revenues from manufacturing economic zones account for about 69 percent of the total of the country. These companies further fueled the domestic market with P296 billion worth of local supply purchases in 2017 and P253 billion in 2016.

PHILEA member locators account for over half of these exports and investments all over the country.