This is no new phenomenon, as Scottish economist Adam Smith was certain when he recognized a long time ago in his magnum opus, "An Inquiry into the Nature and Causes of the Wealth of Nations":
"The proprietor of land is necessarily a citizen of the particular country in which his estate lies. The proprietor of stock (capital) is properly a citizen of the world and is not necessarily attached to any particular country. He would be apt to abandon the country in which he was exposed to vexatious inquisition, in order to be assessed to a burdensome tax and would remove his stock to some other country where he could either carry on his business or enjoy his fortune at his ease. By removing his stock, he would put an end to all the industry in the country which he left. Stock cultivates land; stock employs labor. A tax which tended to drive away stock from any particular country would so far tend to dry up every source of revenue both to the sovereign and to the society. Not only the profits of stock, but the rent of land and the wages of labor would necessarily be more or less diminished by its removal."
Tax competition is present when investors are able to reduce tax burdens by shifting capital from high-tax jurisdictions to low-tax counterparts.
By making its tax rate competitive, a country attracts more inward investments. The increase in tax base translates to better provision of social goods as more taxes are raised despite the lowered rate. Affected counties, in an attempt to prevent further capital outflows, respond by lowering tax rates as well. In its worst form, tax competition may lead to a "race to the bottom," whereby tax rates plunge to a level so low that it threatens countries’ ability to provide basic public services. To prevent this scenario, countries foster integration through frameworks like regional trading blocs aimed to promote their common interests through a mechanism called tax harmonization.
The International Bureau of Fiscal Documentation defines tax harmonization as the elimination of differences or inconsistencies among the tax systems of various jurisdictions, or making such differences or inconsistencies compatible with each other.
Over the last decade, corporate tax rates in the European Union (EU) have fallen to an average below 30%. As EU member states strive to be a highly integrated single market, the trading bloc has much more political and commercial strength than the individual efforts of its member states, even when taken together.
The tax systems design for the initiative to link Association of Southeast Asian Nations (ASEAN) capital markets by way of a single access point for investors and issuers to any of the exchanges in the Philippines, Indonesia, Malaysia, Singapore and Thailand has been completed. According to Asian Development Bank’s Southeast Asia Department, the initiative will create the market infrastructure and regionally focused products and intermediaries to promote ASEAN as an asset class and allow distribution of listed products on ASEAN bourses. The trading link is expected to go online this year.
While the ASEAN and EU vary greatly in terms of cultures, preferences and economic structures, the EU, being the most integrated regional economic organization, serves as a good model for ASEAN taxation. The EU has become a major world power in global economic trade terms, with its common currency and external policy, and has allowed free capital movement to promote greater intraregional trade.
Learning from EU’s success, a good starting point for ASEAN tax harmonization lies in the area of double taxation. International double taxation exists when income is taxed for the same tax period twice, when it should have been taxed but once, for the same purpose and with the same kind of character of tax in at least two jurisdictions. The inefficient situation is relieved by double tax treaty provisions granting foreign tax credits, exception of foreign income and allowance of foreign taxes as deductible expense in taxable income.
Ironically, not all ASEAN members have tax treaties with other nations. Worse, some member countries do not even have treaties between other members. The Philippines, for example, has not entered into a tax treaty with Brunei, Cambodia, Laos, and Myanmar.
The lack of a comprehensive double taxation treaty among the member countries translates to missed investment opportunities as capitalists naturally avoid increased business costs, administrative burden and profit repatriation disincentives. In fact, multinationals spend considerable amount of resources on tax planning, specifically targeted to rationalize the effect on their businesses of taxes on regional and cross-border transactions.
The ASEAN capital market integration is a timely move as the failure to adopt efficient policies in the stock market will limit new capital from outside the region, with clear, significant repercussions on tax revenues and national competitiveness. With market integration, resources can be optimized and allocated to where they can be most productive. Improving share liquidity will reduce transaction costs and make cross-border flows of funds more appealing to global investors and entrepreneurs.
Since its formation in 1967, ASEAN integration has progressed slowly. Member countries need to realize that there is added value in acting and speaking as one, just like the EU.
The demand for ASEAN tax harmonization is unquestionably useful, although its realization seems far way away. The more trade barriers member countries have to break, the more committed they should be to do so.
The author is a tax consultant at the Tax Services Department of Isla Lipana & Co., the Philippine member firm of PricewaterhouseCoopers global network.
Views or opinions presented in this article are solely those of the author and do not necessarily represent those of Isla Lipana & Co. The firm will not accept any liability arising from such article; the author will be personally liable for any consequent damages or other liabilities.