World Bank lead economist for Malaysia Apurva Sanghi said that while the hike would generate additional revenue for the government, it would “barely move the needle”.
“The finance ministry estimates that raising the service tax rate to 8% will yield another RM3 billion, but it translates to just 0.15% of the gross domestic product (GDP),” he told FMT Business.
The ratio of federal tax revenue to GDP in Malaysia now stands at 12%-13%, compared with about 20% in upper middle-income countries.
Yugendran Sivakumaran of the think tank Bait Al-Amanah shares the same view.
He said Malaysia’s GDP for 2023 is expected to be about RM2 trillion and the deficit would be around RM100 billion.
“The RM3 billion increase would barely make a dent,” he told FMT Business.
Bring the GST back
For Yugendran, a more effective way to improve the country’s financial position is to reintroduce the goods and services tax (GST).
“The service tax can bring in RM34.2 billion but the GST will likely add RM68.4 billion to the national coffers,” he said.
“This would be significantly more effective in combating our fiscal deficit,” he added.
When tabling Budget 2024 last month, Prime Minister Anwar Ibrahim announced that the service tax rate would be raised from 6% to 8% but it would apply only in selected sectors such as logistics, brokerage, underwriting and karaoke services.
Under the new budget, the disposal of unlisted shares will also be subjected to a 10% capital gains tax (CGT) and luxury goods will attract a 5% to 10% high-value goods tax.
On Nov 7, the finance ministry estimated that the CGT would generate RM800 million in revenue for the government.
Impact on the poor
One concern is that a hike in the service tax may be regressive in nature. This means it will generally have a disproportionately greater impact on the lower income group.
“Everyone is subjected to the tax, regardless of income level. That means it takes a larger percentage of income from the B40 compared to the M40 or T20, making it regressive,” Sanghi said.
Nonetheless, the economist said, an increase in the service tax rate needs to be considered in the broader context of the overall tax and spending system.
“Interestingly, for Malaysia, we find that the current mix of taxes, transfers (cash handouts) and subsidies actually reduces both poverty and inequality. That is the good news,” Sanghi said.
The not-so-good news is that other upper middle-income countries are doing better than Malaysia.
The benefits — in terms of cash or in-kind transfers such as school meals and food vouchers — that Malaysians receive amount to only 10% of the average household income of the B10 group.
In contrast, those in upper middle-income countries get 20%-25% of the average household income of their B10 group.
“So, one way of addressing the regressive aspect of the service tax is to spend more on the right kind of social programmes. And again, spending more requires raising more money,” Sanghi said.
Yugendran said the rate hike will not affect the low-income group significantly because the impact is mostly on discretionary spending rather than necessities.
“The increase to 8% is also not expected to have a significant impact on groups with lower spending power, such as the B40 or M40 groups, as the rate hike does not cover critical sectors like telecommunications and food and beverage,” he said.
“For instance, if they purchase a product from a mid-range store that costs RM30, previously with a 6% service tax, it would amount to RM 31.80. With the increase to 8%, it would cost RM 32.40 (up only 60 sen),” he added.
Look beyond taxes
Sanghi argued that improvements are needed not only in the taxation system but also in government spending and gaining public trust.
“It is also about spending prudently and plugging leakages, and ensuring that resources either raised (through new taxes) or saved (through more efficient spending) are spent in ways that benefit and inspire trust from the rakyat,” he said.
He urged the government to expedite the passage of the Government Procurement Bill, and effectively communicate the reasons behind raising taxes or cutting spending to the public.
The economist also said having a sound fiscal view of the country’s direction will be a good starting point to improve public spending.
This encompasses projecting long-term fiscal spending needs for key challenges such as an ageing population, climate change impact and food security.
“We need to know what the future spending needs are, and hence, how much more revenue needs to be mobilised as a result.
“Otherwise, we risk ending up being a case of ‘if you don’t know where you are going, any road will take you there’,” he warned.