Tax transparency and the shadow economy

Bhima Yudhistira Adhinegara
INDEF Researcher

IO – The ‘Era of Information Transparency’ is upon us. Tax cheats are discovering there is nowhere to hide from the taxman any longer, as more than 100 countries, including Indonesia, have come together to form the ‘Tax Automatic Exchange of Information’ (AEOI) in 2018. When initially proposed in the OECD forum in 20??, the concept of a ‘tax information exchange’ garnered a strongly supportive response from all members of society. However, as it turned out, there are deviant authorities in the Indonesian Government who interpret AEOI to mean they possess the right to spy on the domestic accounts of Indonesian citizens and taxpayers (TPs). This fatally erroneous concept remains common even now.

Targeting Domestic TPs Instead
In the AEOI Statutes, what is meant by ‘exchange of account data for tax purposes’ is ‘the exchange of account data of foreign citizens in Indonesia for account data of Indonesian citizens overseas’. Against this, the technical provisions of the Regulation of the Minister of Finance No. 70, year 2017, interprets this to mean that ‘account transparency’ includes accounts of Indonesian citizens in their own country. Where does this clause state that AEOI applies to state citizens in their own country? This is absolutely baseless, and is in fact a dangerous perversion of the direction of AEOI.

The second error is that that the minimum balance of any personal account selected for monitoring is Rp 1 billion. This has already been revised upward from an initial balance of Rp 200 million, after many Micro, Small, and Medium Enterprises (Usaha Mikro, Kecil, dan Menengah – ‘UMKM’) protested because the threshold was considered too low. In fact, the threshold amount of Rp 1 billion is actually quite odd, because in the original AEOI agreement, the minimum balance to be monitored is USD 250,000, equal to Rp 3.3 billion. The Government’s action of changing the threshold of domestic balances to Rp 1 billion is like ‘hunting in a zoo’, a desperate measure taken after their high-profile tax amnesty failed to bring in an anticipated volume of repatriated funds.

Efforts to influence the return the wealth stored abroad through a tax amnesty were halted halfway. From 2016 until the end of March 2017, only Rp 147 trillion of the Government target of Rp 1,000 trillion of funds was successfully repatriated. In terms of a declaration of wealth, the Government initially estimated that Rp 11,000 trillion of Indonesian citizens’ wealth stashed abroad has escaped any monitoring by the tax administration. In fact, the volume declared of Indonesian citizens’ wealth included in the tax amnesty was only Rp 1,179 trillion. Declared domestic taxpayer wealth is actually much greater, at Rp 3,687 trillion.

This showcases the abject failure of the tax amnesty, and the fact that the Government is actually on a witch hunt for domestic taxpayers. Such a failure does in fact have extensive consequences. The 2017 taxation target actually achieved was only 90% of the Rp 1,472.7 trillion. There is thus a Rp 130 trillion potential that failed to be collected, i.e. there is this level of tax income shortfall. Tax realization growth within the past 2 years was only 4%. This is a serious threat to tax income, because the Government is forced by law to maintain deficit levels at >3% of GDP.

Shadow Economy
In 2018, the Government’s desperate efforts to achieve its taxation target, which rose more than 20% of the amount realized in 2017, ended up with a set of immature tax policies. What happens when the public feels that AEOI is being willfully misinterpreted by their Government? In his Shadow Economies around the World, a paper delivered to the IMF, Friedrich Schneider stated that ambiguous tax policies will encourage the proliferation of a ‘shadow economy’, signifying both legal and illegal transactions unrecorded by the tax administration.

In an atmosphere of widespread alarm that tax information transparency actually targets domestic taxpayers, the taxpaying public, particularly those already participating in the tax amnesty, might be stampeded into making mass rush withdrawals. This dangerous potential must be mitigated, because the public’s mistrust of banking would threaten the general liquidity of banks and strongly impede the current trend to a ‘cashless society’. Massive property and vehicle sale and purchase transactions without any tax reported could be one result.

In short, an unwise tax policy could lead to mass financial suicide, as taxation targets would not be achieved as financial distrust takes root among the public against both banks and the government. The case of Greece can serve as a chilling example: when taxation became more aggressive, the number of shadowy (unreported) transactions peaked spectacularly as people tried to evade payment of taxes. Scheneider’s report is a cautionary entreaty meant to forestall other countries from falling into the same trap that caught Greece out.

The increase of the volume of monies hidden under mattresses, buried underground and disguised by untaxable transactions, such as investments in digital currencies like Bitcoin, is a signal of the public’s reluctance to entrust their precious savings in the formal financial system. Note that there are already more than 1 million active Bitcoin players in Indonesia. This number warrants a study that correlates the increase of Bitcoin investments with domestic taxation policies.

Furthermore, the worst kind of impact of public panic would be faltering growth of household consumption. Note that the consumption ratio to GDP in 2017 was 56%, while annual consumption growth for the same year was just 4.95%. Because of the feeble growth of household consumption, overall economic growth remained stagnant at 5%. If public trust remains low, there is a concern that middle-class spending behavior will constrict, as worried citizens keep their money in their pockets.

Subdued lower class spending power and middle/upper class spending restrictions resulted in the closure of various retail stores in 2017, ranging from middle-class 7-Eleven to high-end Clark’s; they reluctantly concluded they would leave Indonesia, thousands of suddenly-unemployed citizens in their wake. The number of active credit cards decreased 162,000 in 2017, to only 17.1 million. This trend will likely continue, as data on credit card transactions for Rp 1 billion and higher is monitored.

Has the Government prepared appropriate mitigation steps to compensate for the impact of tax information transparency on the economy? Apparently not. The authorities seem to discount the existence of a shadow economy, while its actual impact on Indonesia’s economy will be enormous.