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Who pulled the strings? A comparative study of Indonesian and Vietnamese tax reformHeij, Gitte

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RIJKSUNIVERSITEIT GRONINGEN

Who pulled the strings?

A comparative study of Indonesian and Vietnamese tax reform

Proefschrift

ter verkrijging van het doctoraat in de Rechtsgeleerdheid

aan de Rijksuniversiteit Groningen op gezag van de

Rector Magnificus, dr. F. Zwarts, in het openbaar te verdedigen op

donderdag 11 oktober 2007 om 16.15 uur

door

Gitte Heij

geboren op 29 september 1965 te Amersfoort

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Promotor: Prof. dr. J. Griffiths Beoordelingscommissie: Prof. dr. M. G. Asher Prof. dr. I.J.J. Burgers Prof. dr. J. L. Campbell ISBN: 978-90-367-3145-4

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Acknowledgements During my initial tax law study two university lecturers made a lasting impression. Mr. A. Nooteboom who taught international tax law with a passion and enthusiasm that awakened my interest in international tax law and John Griffiths who opened my eyes to the limitations of law with his lectures in sociology of law. Both heavily influenced my academic interests since graduating in 1990. And it is no surprise that John Griffiths became my thesis supervisor. I thank him for patiently guiding and supervising me through this difficult process. Seventeen years ago I met Mukul Asher at the University of Singapore. His generosity of heart and academic mind are an inspiration. I have benefited immensely from his knowledge of Southeast Asia and in particular his knowledge of fiscal policy in the region. I am forever in his debt. During my years of study and research that led to this thesis I have met many generous people. I am very grateful for their advice, comments, critiques, suggestions, questions, discussions and their sharing of information. They include George Adijondro, Els Barends, Carole Beaulieu, Mark Beeson, Melanie Beresford, Halka Beseda, Del Blakeway, Ian Chalmers, Richard Ecleston, Rob Finlayson, Adam Fforde, John Gillespie, Jonathan Haughton, Mai Hoang Pham, Kanishka Jayasuriya, Lloyd Kenward, Carl-Bernd Kaehlig, Ben Kerkvliet, Tim Lindsey, Usmanto Njo, Pip Nicholson, Owen Podger, Avi Rehill, Una Rehill, Garry Rhodan, Sally Sargeson, Phillip Shah, Adam Schwarz, Chau Thi Nguyet Le, Roman Tomasic, Carol Warren, Jim Warren, Heleen Weyers, Heinrich Winter, Jeffrey Winters, all those interviewed for this thesis, my colleagues at TAMF and my students in Asian Comparative Tax Law at Melbourne University. I thank the staff of the then Indonesian accounting firm, Touche Ross Darmawan & Co, where I did my traineeship. My subsequent research was conducted during my years as a research fellow at the Asia Research Centre at Murdoch University in Western Australia. I thank the Centre and their staff for their support. The same applies to the staff at the International Bureau of Fiscal Documentation in Amsterdam who patiently guided me through the myriad of available information, particularly, Anna Bardadin and the late Mr. K.S. Jap, who provided great advice and guidance. I would like to thank the members of the reading committee, Irene Burgers, John Campbell and Mukul Asher for their constructive feedback and proposed improvements. Finally I would like to thank my dearest friend, Sytske Buwalda. She believed in me and in my work when I didn’t and without her generous support I would not have completed this thesis.

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For Tineke de Knijff

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Foreword Since my first visit to Southeast Asia in the 1980s I have been taken by this part of the world. Over the last 17 years I have spent much of my time (both working and holidaying) in the Asian region and particularly in Indonesia. The contrast between my country of birth, the Netherlands, and Southeast Asia could not have been bigger. I grew up with the rigidity of a Calvinist heritage of soberness, seriousness, self-importance and work rather than pleasures. Southeast Asia and Indonesia, in particular, has the delight of chaos, the personal warm heartedness and generosity and the strength of communities. It has shown me a lightness of being that has made my life so much richer and more enjoyable (having an Irish husband helps too). During my research and international tax advisory work in the 1990s it became clear to me that Vietnam and Indonesia had taken very different approaches towards the flood of foreign advisers invading their countries. In both countries, I met some of the most respected foreign advisers with impressive expertise. Unfortunately, I met then, and still continue to meet, some less-than-impressive advisers.1 I have been taken aback by the level of mediocrity and irrelevance in some foreign advisory reports, filled with rhetoric about what countries should or should not do, without any link to reality. Foreign advisers who felt they could advise on matters they actually knew very little about, but because they felt superior, would provide it anyway. This often results in shallow advice that any government official could just pull off the internet or find in a library textbook on the ABC of tax. I am painfully aware that these advisers are often hired by ill-informed donor agency bureaucrats, pushing the political agenda of the agency or the ‘buzz’ concepts in fashion at the time and that these donor agencies, in turn, had to demonstrate responsiveness to their financiers, the governments of donor countries. This puts additional strain on advisers and makes it even more important that they act in the most professional manner. The arrogance of certain donor agencies and individual advisers seems never ending, but Southeast Asian governments are becoming increasingly assertive and do not shy away from putting institutions and people in their place.2 The Vietnamese were, and still are, miles ahead in their assertiveness compared to many other South East Asian countries. I witnessed Vietnamese bureaucrats outsmarting an overly smug in-country IMF representative who was trying to lay down the law with the Vietnamese Government. On the other hand, I saw Indonesian Government officials, equally frustrated with donor agency advisers, much less successfully trying to outmanoeuvre them.3 Some of the foreign advice was and is heavily pushed by multinational companies with their own different agenda. Worse still, these agendas are sometimes copied by donor agencies who confuse trade policies with sound development aid. Multinational

1 As we say in the world of aid, the ‘three M factors’ that have prompted the adviser to go abroad: mediocre,

misfit or marriage break-up. 2 I am aware, though, that countries like East Timor, so dependent on foreign aid, are hardly in a position to

stand up to foreign advisers. 3 Having said that, in 2006, the Indonesian Minister of Finance, Sri Mulyani, told an IMF delegation that she

had had enough of short-term, fly-in fly-out advisers and that they needed to come up with something better if they wanted to be involved in donor projects with her department.

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companies would argue with the Indonesian and Vietnamese governments that taxes were the determining factor in deciding where to locate their overseas operations while they would tell me in private meetings that it actually was not all that important. These experiences over the years have been the reason for conducting this PhD study. Why did Vietnamese bureaucrats act with so much assertion compared to their Indonesian counterparts? And was the role of sometime mediocre foreign advisers as big as it seemed or was the reality different? And what was the role of multinationals? Is globalisation truly that important? I have worked on a range of aid projects and still have much to learn.4 Fremantle Western Australia June 2007

4 Over the last 15 years, I have been involved in a range of development aid and investment projects in

China, Indonesia, East Timor, and Vietnam. Since 2004, I have been the project director of a large five-year aid project (funded by the Australian Government) on economic governance in Indonesia. One of the core focuses of this project is assisting the Director General of Taxation in Indonesia in various areas of tax administrative reform. Over the last 15 years I have advised numerous foreign investors regarding tax issues in Southeast Asia. I am senior associate of Melbourne University, where I guest lecture in Asian Comparative Tax Laws.

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Table of Contents

GLOSSARY ...............................................................................................................................................8

1. INTRODUCTION ......................................................................................................................12 1.1 GENERAL ...................................................................................................................................12 1.2 STRUCTURE OF THE STUDY ......................................................................................................12 1.3 CASE STUDIES ...........................................................................................................................13 1.4 RESEARCH QUESTIONS .............................................................................................................14 1.5 METHODOLOGY .........................................................................................................................15

2. THE DEFINITION OF TAX .....................................................................................................16 2.1 INTRODUCTION...........................................................................................................................16 2.2 VARIOUS DEFINITIONS OF TAX ..................................................................................................17 2.3 THE PROBLEM OF ‘IMPLICIT’ TAXES .........................................................................................24 2.4 CONCLUSION .............................................................................................................................25

3. TAX POLICY AND TAX REFORM .......................................................................................26 3.1 INTRODUCTION...........................................................................................................................26 3.2 GENERAL CHARACTERISTICS OF TAX POLICY .........................................................................26 3.3 FACTORS INITIATING AND INFLUENCING TAX REFORM ............................................................31 3.4 THE LIMITS OF TAX REFORM .....................................................................................................34

4. THEORETICAL FRAMEWORK ............................................................................................36 4.1 INTRODUCTION...........................................................................................................................36 4.2 INSTRUMENTAL, IDEOLOGICAL AND SYMBOLIC USE OF LEGISLATION ...................................36 4.3 RELEVANT THEORIES ................................................................................................................38 4.4 PROPOSED MODEL FOR RESEARCH .........................................................................................50

5. THE 1983 INDONESIAN INCOME TAX REFORM ...........................................................54 5.1 INTRODUCTION...........................................................................................................................54 5.2 INDONESIA: COUNTRY BACKGROUND ......................................................................................54 5.3 GOVERNMENT STRUCTURES AND LAW-MAKING PROCESSES BETWEEN 1975–90 ...............58 5.4 HISTORICAL OVERVIEW OF THE INDONESIAN TAX SYSTEMS...................................................60 5.5 BACKGROUND OF THE 1983 TAX REFORM ..............................................................................69 5.6 THE ESTABLISHMENT OF THE TAX REFORM STUDY PROJECT.................................................70 5.7 STAGE 1: JANUARY TO JUNE 1981 .........................................................................................72 5.8 STAGE 2: JUNE 1981 TO OCTOBER 1982 ..............................................................................73 5.9 STAGE 3: NOVEMBER 1982 TO SEPTEMBER 1983 ................................................................84 5.10 MAJOR INCOME TAX LAW DEVELOPMENTS AFTER 1984.......................................................87 5.11 CONCLUSION .............................................................................................................................90

6. THE 1987–‘94 VIETNAMESE CORPORATE INCOME TAX REFORM .......................93 6.1 INTRODUCTION...........................................................................................................................93 6.2 VIETNAM: COUNTRY BACKGROUND .........................................................................................94 6.3 GOVERNMENT STRUCTURES AND LAW-MAKING PROCESSES 1984–‘91 ...............................96 6.4 HISTORICAL OVERVIEW OF VIETNAMESE TAX .........................................................................98 6.5 BACKGROUND OF THE 1986–‘90 TAX REFORM ....................................................................103 6.6 THE REFORMS 1986–90.........................................................................................................108 6.7 REACTIONS TO THE TAX REFORM...........................................................................................121 6.8 DEVELOPMENTS AFTER 1994.................................................................................................123 6.9 CONCLUSION ...........................................................................................................................127

7. CONCLUSION ........................................................................................................................129

NEDERLANDSE SAMENVATTING .................................................................................................141

REFERENCES ......................................................................................................................................157

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GLOSSARY Direct tax: There is no generally accepted distinction between a direct and

an indirect tax. John Stuart Mill gave the following definition: “A direct tax is one which is demanded from the very persons who it is intended or desired should pay it. Indirect taxes are those which are demanded from one person in the expectation and intention that he shall indemnify himself at the expense of another.” Direct taxes are generally taxes levied on persons. Direct taxes are generally imposed on income, capital gains and net worth. Gift tax, death duties and property tax are also considered direct taxes (International Bureau of Fiscal Documentation 1996, p.93).

Horizontal equity: Doctrine which holds that similarly situated taxpayers should

receive similar tax treatment, for example, taxpayers who earn the same amount of income or capital should be accorded equal treatment (International Bureau of Fiscal Documentation 1996, p.156).

Indirect tax: See ‘direct tax’. An indirect tax is generally imposed on

transactions, goods or events. Indirect taxes are one of the oldest sources of government revenue. Examples include VAT and sales tax (International Bureau of Fiscal Documentation 1996, p.166).

PAYE: The letters PAYE were first applied to the British pay-as-you-

earn system whereby tax was levied on the current salaries and wages of employees in such a way that the sum of the deductions from current income would at the end of the tax year be roughly equal to the tax otherwise due. The phrase has been extended to other schemes for deducting income tax from salaries or wages, even where the deductions must be corrected by an end-of-the-year adjustment or must be supplemented by an additional tax where the taxpayer’s total income exceeds certain limits (International Bureau of Fiscal Documentation 1996, p.224).

Progressive tax system: Tax system under which the average rate of (income) tax

increases as income increases (International Bureau of Fiscal Documentation 1996, p.236).

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Regressive tax system: Tax system that takes a greater percentage of a lower income

than a higher income (…). The retail+ sales tax is generally a regressive tax since it applies across the board to all sales regardless of the purchaser’s income. The burden of the tax falls more heavily on those who are less able to pay (International Bureau of Fiscal Documentation 1996, p.246).

Target system: A feature of the Indonesian tax system, the so-called ‘target

system’ has prevailed in Indonesia for centuries (Lerche 1980, pp.34-51). When the government prepares its annual budget, targets are set nationally for the tax revenue to be produced. The targets are set top-down, and in the lower ranks tax administrators have to meet these targets, which are not always realistic in light of the economic conditions of a particular region. Local tax collectors adopt the principle ‘taxation by negotiation’.

Tax burden: For public finance purposes the tax burden, or tax ratio, in a

country is computed by taking the total tax payments for a particular fiscal year as a fraction or percentage of the Gross National Product or national income for that year (International Bureau of Fiscal Documentation 1996, p.296). For companies and individuals the tax burden is computed by taking the total tax payments for a particular fiscal year as a fraction or percentage of total gross income for that year.

Tax holidays: A fiscal policy measure often found in developing countries. A

tax holiday offers a period of exemption from income tax for new industries in order to develop or diversify domestic industries. The exemption is usually given for a term of years to ‘pioneer’ or ‘infant’ industries (International Bureau of Fiscal Documentation 1996, p.299).

Tax threshold: Level of income, capital, sales etc. at which tax commences to

be levied. A taxpayer with income below the threshold level is exempt from tax. (International Bureau of Fiscal Documentation 1996, p.305).

Vertical equity: Doctrine which holds that differently situated taxpayers should

be treated differently, i.e. taxpayers with more income and/or capital should pay more taxes (International Bureau of Fiscal Documentation 1996, p.329).

Withholding tax: Tax on income imposed at source, i.e. a third party is charged

with the task of deducting the tax from certain kinds of payments and remitting that amount to the government. Withholding taxes are found in practically all tax systems and

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are widely used in respect of dividends, interest, royalties and similar payments. (….) A wage tax is usually levied as a withholding tax. Withholding tax may be provisional or final. If provisional, the amount withheld will be credited against the taxpayer’s final tax liability and adjusted accordingly (International Bureau of Fiscal Documentation 1996, p.305).

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The public finances are one of the best starting points for an investigation of society, especially though not exclusively of its political

life. The spirit of a people, its cultural level, its social structure, the deeds its policy may prepare — all this and more is written in its fiscal

history, stripped of all phrases. He who knows how to listen to the message here discerns the thunder of world history more clearly than

anywhere else. Joseph Schumpeter 1918

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1. INTRODUCTION

1.1 GENERAL Many countries overhaul their tax systems from time to time. In the Asian region countries like Indonesia, China, Malaysia, the Philippines, Singapore, Vietnam and Thailand have all undergone drastic tax reforms in the last 20 years. The need to fill the government coffers, attract foreign investment and make the tax system more equitable are among the factors instigating these tax reforms. Leading politicians, key institutions, external advisers, lobby groups and parliamentarians are just a few of the actors initiating or setting the tax reform agenda and influencing the actual reform process. But who truly pulls the strings? And how does this process work in countries with non-democratic governments? Is it different from democratic countries? Moreover, many countries have received the invited and sometimes uninvited assistance of advisers of multi- and bilateral donor agencies. The role of these foreign actors is sometimes controversial and it remains unclear what their actual influence is in these reform processes. And how does their role relate to the idea that without ‘local ownership’ most reform projects are doomed to fail (Allott 1980; Walle 2005, pp.65-78). The initial tax law reform may look great on paper, but without local ownership who is going to implement and adhere to the new laws? What happens once foreign advisers have gone home? So who and what truly influences these tax reform processes? That is the key question of this study. The 1980s corporate and income tax reforms in Indonesia and Vietnam are analysed to find answers to this question. The starting point for the analysis is fiscal sociological theory.

1.2 STRUCTURE OF THE STUDY Chapter one provides a short introduction to the main features of the research. A multi-disciplinary and comparative approach to the definition of the term `tax’ is discussed in chapter two. It is often presumed that everybody knows what the term means, but the definitions most commonly used are designed by economists and lawyers. Such definitions only cover a small part of the much broader area of taxation and using them would limit the research conducted for the two case studies. Chapter three gives an overview of the main characteristics of the policy area of taxation and pays special attention to the tax reform processes in the Asian region over the last 20 years. This is important, as it places the two case studies in a broader context. Chapter four explores theoretical approaches to law-making processes, distinguishing between explanatory theories and descriptive frameworks. The chapter concludes with a theoretical model that describes and to some extent explains the various factors that influence tax reform processes, a model that will be applied to the two case studies. Chapter five starts by introducing the main features of Indonesian history, society and political organization. It then describes the corporate and income tax reform of 1984. A similar presentation of the second case study, Vietnam’s corporate and income tax reform of 1989–93, follows in chapter six. Chapter seven compares the two case studies. Are there any general conclusions we can draw?

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Who and what influenced the two reform processes? Does the theoretical model work in both case studies? Does it explain the different influences? Can it be used for other case studies? And if not, what are the limitations of the model and can we adjust it to make it more relevant for other case studies?

1.3 CASE STUDIES The study focuses on the corporate and income tax law reforms of Indonesia and Vietnam in the 1980s. It largely excludes from consideration the actual implementation of these laws since a serious study of this would involve questions, methods and data quite different from those relevant to the study’s key theme: who and what influences the shaping of these tax reform processes? However, understanding the process of change does require some assumptions about the practical relevance of the tax laws designed and approved by the parliaments in both countries. In Indonesia, for example, it is not uncommon that laws are drafted and approved by parliament but never implemented. This is not the case with the tax laws investigated in this study. They have been implemented and significant amounts of revenue have been generated since their adoption.

Little research in this area has been done in developing countries let alone in Southeast Asia. In selecting the case studies it was important that they both involve countries in the Asian region in roughly the same time period and involving the use of foreign advice. Sufficient information had to be available in order to conduct meaningful research. Both Indonesia and Vietnam decided to overhaul their tax system in the 1980s. Indonesia made this decision in the early 1980s when it realised that its oil revenue would be declining, resulting in revenue shortage in the short-to-medium-term future. Vietnam decided to do so in the late 1980s as part of a market reform policy that jeopardised its traditional revenue derived from state-owned enterprises. Both countries have been subject for long periods to foreign rule that have importantly influenced their bureaucratic systems. Vietnam was occupied by Chinese and French rulers (and to a lesser extent by Americans). Indonesia was colonised by the Dutch. Both countries believe they have to operate in a competitive international environment to attract foreign capital. They adopted policies in their tax reforms specifically designed to attract foreign capital and be competitive in the Asian region. Furthermore, both countries made the choice to use tax legislation as a tool for social and economic change. Both countries used and still use the services of foreign advisers to assist in the drafting of new tax legislation as well as in implementing tax laws. Advice has been received from multilateral aid agencies, such as the World Bank and the International Monetary Fund (IMF), and from bilateral international organisations. Indonesia received the most assistance from a team from the American Harvard Institute for International Development (HIID). Vietnam received assistance from various foreign organisations, including the Swedish aid agency, SIDA (Swedish International

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Development. Cooperation Agency). During the Indonesian income tax reform process, a HIID team was invited by the Indonesian government to give assistance. The HIID group had been in Indonesia since the early 1960s and had expressed its concern over the sources of government revenue. However, the group did not get much support for its position until the Indonesian government realised that it faced severe problems due to declining oil revenue. It was only then that the government gave Harvard carte blanche to go ahead with proposals for major tax reform. The HIID team (mainly consisting of economists) was involved in revising tax policies, giving technical advice regarding the different taxes, and the actual drafting of the new laws. Formally, the Ministry of Finance (and the Tax Department of this Ministry) had final responsibility for the reform process, and the Minister of Finance played an important role. The quite drastic tax reform process in Indonesia is in sharp contrast with the much more deliberate tax reform process in Vietnam. Consensus was required from a range of ministries, the drafting of tax laws and their final approval by the national assembly took many years, and proposals as well as laws were subject to frequent and major changes. Vietnam has received tax advice from many different international organisations, including the World Bank, IMF and Asian Development Bank, HIID, but most importantly from the Swedish aid agency SIDA. SIDA’s role largely involved technical rather than policy advice. The SIDA team were mainly tax administrators from the Swedish Tax Revenue Department. In summary many factors, some similar, influenced the initiation and shaping of their respective tax reform. But which factors were determining their respective processes and were these factors the same for both countries? It is important to emphasize that in the years since the tax reform processes of the 1980s and early 1990s in Indonesia and Vietnam, much has changed in the tax laws of both countries. However, the key questions in this thesis have not thereby become outdated. This thesis aims to develop a model for understanding differences in tax reform processes based on the two case studies, a model that will be valid and applicable long after the developments studied have ceased to be relevant.

1.4 RESEARCH QUESTIONS

Key Question Who and what influenced the different stages of the tax reforms in the 1980s in Vietnam and Indonesia? This question addresses the central theme of the study: the groups and interests influencing public policy in regard to tax reform in the two countries. Who influenced these reforms?

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Sub-Questions

1. What factors led to the initiatives to overhaul the existing tax laws in Vietnam and Indonesia in the 1980s? The factors that lead to a reform initiative may play a role in who or what influenced the reform (Campbell and Allen 1992; Campbell 1993). Most studies in the area of tax reform emphasise economic factors as the main factors responsible for change. Other factors include geopolitical conflict (Campbell 1993).or electoral politics and the ruling party’s central objective of staying in office (Ecleston 1998).

2. Who were the key actors involved and which groups or interests did

these actors represent? Why and how were particular groups successful in influencing the reform?

Who were the key players in the reform process. Observing that particular groups were influential is important. But, where it is possible to say anything about it, the ultimately interesting question with broader theoretical and practical implications is why and how certain groups were able to exercise power.

3. More specifically, what were the influences of foreign advisers in the

legislative tax reform? Most developing countries, including Indonesia and Vietnam, use

foreign advisers to assist them with their tax reform. And many bilateral and multilateral aid agencies believe that they can play an important role in advising countries, developing countries in particular, on economic policy including their tax policy. The fact that they are so frequently used in these reforms, combined with the delicate issue of ‘local ownership’ as a prerequisite for success (Walle 2005) explains the detailed attention paid to this ‘interest group’.

4. What role did international factors play in shaping parts of the tax

reforms? The actors involved in the reform in both case studies often invoke

international factors such as globalisation and international competitiveness in support of lowering corporate and income tax rates and in favour of tax incentives. How sound are such claims, and what role do they actually play in fiscal decision making?

1.5 METHODOLOGY The research involved a combination of literature research and in-country fieldwork. The literature research included local newspapers, archives, journals and magazines as well as internal memos issued by various government departments and foreign

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actors such as domestic ministries of finance, Asian Development Bank, IMF and the World Bank. The fieldwork included interviewing key decision-makers and key advisers in the tax reforms in both countries. Where possible, the names and nature of the interviews are mentioned in footnotes on the relevant pages throughout this study. Fieldwork in Indonesia was mainly conducted in the period 1993–98 and in Vietnam 1995–98. Country specialists were also interviewed to put the reforms into perspective. Interviews were conducted with historians, political scientists, anthropologists, economists and lawyers who have particular expertise in Vietnam or Indonesia. Obtaining information on the reform in Indonesia proved to be much easier than in Vietnam. As is explained in the Vietnam chapter, difficult access to information is a challenge faced by many researchers and relates to the unique features of the Vietnamese socialist government structure.

2. THE DEFINITION OF TAX5

2.1 INTRODUCTION

Many contemporary social, economic and political studies in the area of taxation do not give any attention to the definition of the term ‘tax’. Apparently it is assumed that everybody understands what the word ‘tax’ means.6 It is important to distinguish between tax and taxation. Taxation refers to the act or practice of imposing taxes or the fact of being taxed. Taxation can also refer to the revenue gained from taxes. For our research we focus on the definition of ‘tax’ rather than taxation. This chapter discusses various definitions of ‘tax’ and their often overlooked shortcomings. Such discussion is crucial to our analysis of the case studies of tax reform in chapters 5 and 6. As these case studies will demonstrate it is impossible to explain the reforms with the help of the generally used definition of tax. Comparisons between different tax systems in different countries also require a workable definition of the term ‘tax’ and other terms related to this such as tax burden and tax ratio. Statistical analysis and international tax comparisons are made almost impossible due to the different classification of tax versus non-tax revenue (as touched on by Bird (Bird 1991). Nevertheless, statistics on tax burden, distribution of tax burden, and tax revenue, that make use of very limited definitions, are often used as a foundation for advice on tax measures in developing countries. One only has to 5 This chapter has been published in slightly different form in Heij, G. (2001). "Definition of tax in the Asian

context." Asia-Pacific Tax Bulletin 7(4). The 1911 edition of the Encyclopaedia Britannica defines taxation as “That part of the revenue of a state which is obtained by compulsory dues and charges upon its subjects”.

6 For example, Steinmo, S. (1993). Taxation and Democracy; Swedish, British, and American Approaches to Financing the Modern State. New Haven and London, Yale University Press. Campbell, J. L. (1993). "The state and fiscal sociology." Annual Review of Sociology 19: 163-185, Campbell, J. L. (1996). "An institutional analysis of fiscal reform in post communist Europe." Theory and Society 25: 45-84.and Urrutia, M., S. Ichimura, et al., Eds. (1989). The Political Economy of Fiscal Policy. Tokyo, The United Nations University.

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look at the many tax policy papers issued by the World Bank and the Asian Development Bank to see how such statistics are used to form the basis of policy advice (World Bank 1992).

2.2 VARIOUS DEFINITIONS OF TAX The term ‘tax’ refers, according to the Organisation for Economic Co-operation and Development (OECD), to

… a compulsory unrequited payment to the government. Tax may be assessed on a person, entity, assets etc. Tax may be levied in the form of an income tax, gift tax, estate tax, excise tax, inheritance tax, value-added tax, sales tax, capital gains tax, property tax etc.(International Bureau of Fiscal Documentation 1996, p.292).

‘Requited’ payments are payments which are reciprocated or returned and do not qualify as a tax because there is a clear and direct benefit in exchange for the contributions made. The OECD definition excludes, for example, charges and levies because they are not unrequited (although it could be argued that the word ‘unrequited’ is rather ambiguous). The OECD definition does not explicitly include payments made in kind nor disguised taxes that do not fall under the forms mentioned in the definition. The Oxford English Dictionary (Onions 1992) defines a tax as …a compulsory contribution to the support of government levied on persons,

property, income, commodities, transactions etc, at a fixed rate mostly proportionate to the amount on which the contribution is levied.

The element ‘compulsory’ is common to both definitions. ‘To the support of government’, is vaguer than ‘to the state/government’. The OECD definition does not mention anything about the unrequited character of a payment and it puts particular emphasis on the proportionate character of tax. According to the economist Tiley (Tiley 1978, p.3), taxes have the following elements: They are compulsory, they are imposed under the authority of the legislature,

they are levied by a public body and they are intended for public purposes. According to the Penguin Dictionary of Economics (Bannock, Baxter et al. 1972, p.395) a tax is ...a compulsory transfer of money (or occasionally of goods and services)

from private individuals, institutions or groups to the government. It may be levied upon wealth or income or in the form of a surcharge on prices.

In summary the following elements recur in most legal definitions of tax. Tax is

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• compulsory • a contribution in monetary or other form • by individuals, organisations or other entities • received by the government • for public purposes • ‘unrequited’

Such a definition may be useful for legal purposes and can be helpful for the various tasks of public administration. For example, it may assist in establishing which court (administrative, civil or tax) is authorised to deal with particular financial disputes or which government body is authorised to collect a certain level of payments. Thus, for example, in the case of particular levies, local councils or private institutions may be authorised to collect payments, whereas in the case of a ‘tax’ the central government may be the only authority.7 There are many different definitions from a technical fiscal perspective. Significant contributions have been made by tax lawyers, accountants and fiscal economists discussing and defining the term, sometimes arguing over subtle differences. According to fiscal economist Steven, it is impossible to give a general definition of tax. He points out that there are so many differences that it is crucial to examine each tax law, tax treaty or other arrangement for its individual approach to the term tax. (Steven 1998, p.7). This is illustrated by the long and painful tax harmonisation process in the European Union. One of the main problems is the wide range of definitions of tax, taxable income and tax base used by its member countries (Tax Analysts 2000). Within the economic sciences the legal approach to the definition of tax gives rise to various problems. Economists are, as social scientists, interested in the actual tax burden and/or actual government revenue. The legal definition does not solve this problem. For example, are social security contributions a tax or not? Are royalties a tax or not? In both cases the payments contribute to state revenue are often collected at the same time and with the same collection procedure as income tax, and are perceived as a tax by the people who pay, but according to the legal definition they are not included as a tax. Many economists use the legal definition as a convenient way to compile data that can easily be quantified. This information results in statistics used for comparative research on a national and international level and the collected data feeds easily into economic models.8 But the information may be far from complete as the real tax burden or level of revenue may differ from the data collected. For tax advisers, the legal definition may not suffice to fully inform their clients about their real financial burden. For example, the tax rates of Singapore or Hong Kong

7 Politicians use this legal definition to their advantage. For example, they may decrease the taxes levied

under the legal definition and increase other government levies and direct fees. Based on the legal definition, the official tax burden declines, which is often warmly welcomed by the electorate, even though the actual financial burden increases.

8 When I pointed out to a senior economist that the existing legal definition does not give a true picture of the actual tax burden and tax revenue in Indonesia, he replied, “That may be true, but any other definition does not fit into my economic models and statistics”. This economist played an important role in the Indonesian tax reform process in the 1980s.

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may look relatively low but the real financial burden can be much higher as governments obtain a large part of their revenue via the leasing of government-owned land. Taxpayers in Indonesia or Vietnam may experience significant additional payments in the form of facilitation fees paid to tax officials in addition to the legal taxes payable. More problems occur when the legal definition is used for research in the area of sociology, as it arbitrarily limits empirical research. There are payments that do not constitute a tax under the legal definition but could be seen as such by sociologists. Nevertheless, the social sciences have largely neglected the problem, with many social science reference works, such as sociology encyclopaedias, omitting the term ‘tax’ altogether.9 Let us examine in more detail the shortcomings of the generally used legal definition of tax. Tax payments must be compulsory All definitions of tax implicitly or explicitly presume the compulsory character of payment. In most cases this will not be problematic, as not many people would voluntarily pay taxes. However, problems do occur if a tax is not compulsory in a legal sense, but non-payment would lead to social, economic or other pressures. In other words, social control and pressures can force people to pay taxes that in a strict juridical sense may not be classified as such. An interesting example is the so-called ‘poverty tax’ introduced in Indonesia in 1996. Under a decree that became effective on 4 December 1996, a 2% surcharge was levied on the after-tax profits and incomes exceeding IDR 100 million of both companies and individuals. The revenue from the surcharge was officially earmarked for helping the poor. The payments were made to charitable foundations controlled by former President Suharto. The Indonesian tax department was appointed as collector of the payments. The levy was a political gesture from the Indonesian Government to curb increasing criticism that the gap between the rich and poor in Indonesia was widening. Payment was initially voluntary, but was later made compulsory. However, that was not done by law but only by decree, which is not the official procedure for the introduction of new taxes. During the period this charge was levied (1996–98) various approaches were applied regarding the levy. Those foreign businesses active in Indonesia (and therefore subject to paying taxes) that were not involved in Indonesian government work were generally advised by their tax advisers not to pay. They could defend themselves by saying that paying might cause problems in their home countries10. Those foreigners involved in government work did pay the 2%. Although legally they perhaps were not obliged to do so, economic pressure insured that they would pay as long as they 9 Elliot, F. and M. Summerskill (1957). A Dictionary of Politics. Great Britain, Penguin Books, Theodorson, G.

A. and A. G. Theodorson (1969). A Modern Dictionary of Sociology. United States, Harpers & Row, Rademaker, L., Ed. (1978). Sociologische encyclopedie. The Netherlands, Het Spectrum, Marshall, G., Ed. (1994). Oxford Concise Dictionary of Sociology. Oxford, Oxford University Press.

10 For example, according to various rulings under American law the payments can be seen as illegal payments.

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wanted to obtain government contracts. Indonesian taxpayers generally did pay because they felt obliged to do so, since the president initiated the levy and chaired the foundation. Non-payment could be seen as a direct protest against the president, with unpredictable consequences. Those paying the 2% would all agree that it was a tax, even though they would concede the weak legal basis. In short, the term ‘compulsory’ is not always sufficient as it does not cover the prevailing social and economic pressures under which payment takes place. Moreover, the example illustrates that the condition that the state should be the receiver of the payments is not always met. It is interesting to note that none of the available revenue statistics on Indonesia include any of the payments made to Suharto’s foundations. Neither the statistics of OECD, IMF or World Bank nor the statistics provided by the Indonesian Ministry of Finance give any information about this flow of revenue. Payment in money or another form Historically, much of the revenue of political rulers has been in natura (Grapperhaus 1989). Many countries use conscripted labour for military and other purposes. One could argue that this constitutes a tax, namely the difference between the remuneration of the conscripts and that necessary to attract the same number of people on a voluntary basis. (Prest 1972, p.147) In the Indonesian situation, community service (gotong rojong) is an important element of income in natura at the local village level. The service finds its roots in the adat11 laws of Indonesia and goes back many centuries. The service is in some ways recognised by the central government as a form of taxation. On the island of Bali, for example, the service has been seen as a substitute for paying land and building tax (PPB). This view only started to change in the second part of 1997, when Indonesia faced serious economic problems and a major decline in government tax revenue. A similar service, corvee, applied in pre-revolutionary France when labour had to be supplied to the state without pay for certain purposes. Although corvee was formally abolished after the end of French rule it is still widely performed in rural Vietnam. In November 1997, the Vietnamese Government proposed the formal reintroduction of working one day a week or month for the public good, which was accepted. No statistics on tax revenue include the value of such mandatory services, nor are they included in the assessment of the actual tax burden in a particular country. Generally taxes are paid by both individuals and various social and economic organisations. But sometimes such payments must be made that are not labelled as taxes but are hard to distinguish from tax. This problem is not new. The 1911 edition of the Encyclopaedia Britannica (p.325) pointed out that the state may have other sources of income, for example, from state properties. The entry draws attention to the problems that exist in distinguishing between those two sorts of income. For example, as mentioned earlier, the tax rates of Singapore or Hong Kong may be relatively low but the real financial burden can be much higher as governments obtain a large part of their revenue via the leasing of government land. 11 Adat law is the customary law of Indonesia.

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As well, certain groups may in fact contribute much less to government revenues than initially thought. In the case of countries with strong government control of the economy, such as Vietnam, Indonesia, India, Malaysia, Singapore and the People’s Republic of China, state support for state-owned enterprises (SOEs) forms a real problem in assessing the tax burden for these enterprises. Such support can take the form of certain pricing policies towards SOEs, for example, allowing them to acquire human, financial, land and other resources at below market value. Taxes have to be paid to the government According to Prest (1985) it is possible to levy a tax without there being any flow of funds to the government. He suggests, for example, that tariffs and/or import controls intended to protect local producers, which force domestic consumers to pay higher than international market prices, can be seen as implicit taxes. Another example is when producers or consumers have to adjust their behaviour in order to conform to environmental standards. The control of housing rents below or above market levels can be seen as another example, whereby the landlords are either taxed or subsidised. This sort of implied tax is never included in fiscal statistics. Taxes are for public services Taxes are collected to fund public services. What the term ‘public services’ means can be quite controversial. What is viewed by some as a public service may be seen as payment to individuals by others. For example, in the Philippines the family of former president Marcos used tax money for personal purposes and few would argue that a public service was provided in this way. Nevertheless, nobody would challenge the tax character of the revenues collected that were subsequently used for the Marcos family, and fiscal statistics took no account of such private use. Further problems may occur with fines. The main purpose of a fine is allegedly to correct certain behaviour while the main purpose of a tax is supposedly to generate revenue for public services. Most agree that penalty payments to prevent delayed compliance are not part of a tax but more in the nature of late filing charges or interest charges which fall under tax compliance costs. But tax codes are full of provisions intended to encourage or discourage behaviour. Take, for example, the fact that many governments intend to discourage smokers by levying high levels of sales tax on tobacco products. The excise taxes on alcohol are included in all statistics as tax revenue, while the main purpose of some of them (for example, in Scandinavia) is to correct certain behaviour.12 In short, there is a grey area between fines and taxes. In Indonesia, penalties outlined in the Indonesian tax laws are used as an additional source of revenue for the tax department. They are sometimes levied at random and in some cases without cause, or at least with only a disputable reason. Only when the sums are large are taxpayers tempted to appeal to the tax appeal board, a time-

12 Tiley argues that the important difference between the two is that the court has the power to vary the fines

and to imprison for continued breach, and this marks off the breach of the criminal law from carrying on a taxable activity. This is a weak distinction, since taxes are in part often subject to negotiation and penalties (e.g. for many traffic offences) are in practice fixed (Tiley, J. (1978). Revenue Law. London, Butterworths.).

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consuming and costly exercise.13 If the penalties are used as an unofficial source of revenue for tax officials, they are of course not included in the revenue statistics, although a very real part of the ‘tax burden’. Another grey area is the payment of facilitation fees to civil servants, a phenomenon of considerable importance in many countries. The payments can relate to settling a final tax assessment, to obtaining certain services or goodwill from the local, provincial or central government, or simply avoiding harassment from government officials. The economists Booth and McCawley pointed this out in 1981 (Booth and McCawley 1981, p.137) in regard to the Indonesian situation:

The many unofficial levies imposed by military and civilian personnel on a wide variety of business and personal transactions are of considerable importance in discussions about the overall tax burden in Indonesia. While these levies have long been a well-known feature of Indonesian life in spite of various official campaigns to eliminate them, they tend to be overlooked in discussions about revenue policy. But in parts of the outer islands, these levies are almost certainly of more importance than conventional tax collections. In addition, they give rise to considerable popular resentment because of their arbitrary nature and the inconvenience they cause.

On a local level many taxpayers do not make a distinction between official and unofficial payments made to representatives of the public service. The additional levies are often significant for those at the village level. When we use the OECD definition it may seem that the actual tax burden at the local level is quite low. However, if we apply a broader definition, the outcome may be quite the opposite. In the case of Vietnam, economists like Beresford warned that the situation would lead to severe problems. Unfortunately, Beresford’s concerns have been proven correct and, in 1997, riots broke out in northern Vietnam. Local villagers were increasingly angry with the government for demanding higher contributions, some based on the laws and some not (Beresford 1997). Many of these contributions are not reflected in government tax revenue statistics. Taxes are unrequited Following the OECD definition, social security contributions are included in total tax revenue. Thus, countries with no, or a limited, social security system, for example, Hong Kong, appear to have a lower percentage of total tax revenue (as a percentage of GDP) than those countries with an extensive social security system, such as the Netherlands and Sweden. But one could argue that social security payments are in effect compulsory insurance payments, so there is a clear benefit in exchange for the contributions made, even though the payments are made to the government. From this point of view, they should not be considered a tax. On the other hand, others argue that because of the lack of a direct connection, such payments should be seen as a tax (Tiley 1978). The recent trend in many European countries to privatise

13 To the surprise of many, most cases before the appeal board were decided in favour of the appealing

taxpayer (at least in the period 1984–97). Unfortunately, the then president forbade making the appeal board’s decisions public. According to well-informed tax advisers in Jakarta, the court decides around 80% of tax appeal cases in favour of the taxpayer.

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pension funds, sickness benefits and health insurance funds creates new problems. Do payments to private funds fall under the definition or not? Royalties on minerals are not included in the OECD definition because they are seen as payments in exchange for the exploitation of particular minerals. Thus, such payments are not unrequited. However, in some countries there are particular tax regimes for mining companies, which may result in increased tax revenue. In other countries rich in minerals, mining companies may enjoy considerable tax incentives that are compensated for by higher royalty levels on minerals. This results in misleading statistical comparisons of the real tax burden in different countries. The issue of taxes versus charges for government property or services is a continuing source of confusion. Recent court cases in Europe show that there are no simple answers. The tax harmonisation process in the European Union has resulted in court cases about whether certain charges should be classified as turnover taxes (Tax Analysts 2000). One could argue that a government charge directly related to the provision of a service cannot be classified as a tax. But it is not uncommon that there is an excess profit included in the fee, for example, in the case of patent fees. In that case the excess profit could be viewed as a tax.14 In Hong Kong there has been a long tradition of using land revenue for government purposes. Via a system of leasing Crown land Hong Kong has been able to keep tax rates low; however, the costs of leasing land and property are astronomical.15 Problems with comparing tax revenue as percentage of GDP One of those who has recognised the dilemmas of the concept of a tax is the economist Sandford (1989). He acknowledges that the common method defining the overall tax burden16 — total tax revenue as a percentage of community output (GDP) — has its shortcomings. This percentage may not cover all actual taxes as demonstrated above. Moreover, as he points out, there are significant problems when we compare the overall level of taxation as opposed to the division of the separate taxes within the overall tax revenue in various countries. The overall level of taxation says very little about the breakdown of various taxes, possible tax incentives, rebates, rates etc. Sandford knows the approach is not perfect but sees it as the best option in order to provide a rough indication of the overall level of taxation. The problems with defining the term ‘tax’ also occur with the definition of ‘GDP’ (broad versus narrow, what to include in

14 The Canadian courts have been forced to clarify this matter in various court cases (Tiley, J. (1978).

Revenue Law. London, Butterworths.). They ruled that the payment is a charge rather than a tax for government services: 1. If the services are provided directly to the individual. 2. If it relates to the service given and does not depend upon the payer’s ability to pay or depend on the value of, for example, the payer’s property. 3. The charge may result in a profit as long as it is a reasonable one. It remains unclear how the word ‘reasonable’ is interpreted. If this ruling applied in other countries it could mean that services where payment depends on a payer’s income, for example, would be classified as tax.

15 In 2000, it was estimated that property-related income accounted for one third of total government revenue in Hong Kong. If land sales were included, more than half of government revenue would come from property (Lingle (2000). "Step Back, Mr Tsang." Far Eastern Economic Review 163(10): 33.).

16 According to the International Tax Glossary: “For public finance purposes the tax burden, or tax ratio, in a country is computed by taking the total tax payments for a particular fiscal year as a fraction or percentage of Gross National Product or national income of that year” (International Bureau of Fiscal Documentation (1996). International Tax Glossary, International Bureau of Fiscal Documentation.).

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GDP and what not to include), which means that comparing tax ratios is even less reliable.

2.3 THE PROBLEM OF ‘IMPLICIT’ TAXES One of the few social scientists who has attempted to formulate an alternative definition of tax is Prest (1985). Based on his research in the UK, he makes a distinction between explicit and implicit taxes (Prest 1985, p.11):

By analogy with an explicit tax, an implicit tax must have the general economic characteristics of compulsory deprivation (of private sector purchasing power); but without there being any flow of funds from the private to the public coffers. With an implicit tax, Group A may find its purchasing power reduced whilst Group B’s increases; but such a transfer takes place by means other than through the government’s formal tax-collection and expenditure-disbursement machinery (though due in some fairly direct way to government action).

He thus mainly follows the legal definition outlined above, but the difference is that there is no budgetary evidence of the transaction. As Bird (1991, p.3) points out, Prest’s definition means that no legislature need pass a tax act; no tax collector calls at your house; no taxpayer has any occasion to complain about the inequitable and inefficient nature of the tax system to which he or she is subjected; indeed, most would not even know they had been taxed. But due to the implicit tax, one is poorer and probably someone else is richer due to government action. In the UK, Prest identified various types of implicit taxes: tariffs and import controls, the pricing policies of public enterprises, rent and other price controls, land-use controls, and minimum wage laws. He argues that implicit taxes actually perform the tasks of explicit taxes but that it is very hard to put any figures on them. Mohammed and Whalley (Mohammed and Walley 1984) estimate that perhaps up to 45% of the GNP of India is produced by distortionary government policies (for example, artificial price settings, protection of state-owned enterprises, and government monopolies). However, the work of Prest, McLure, Mohammed and Whally only covers a part of the limitations of the legal definition. There are no published studies available that deal with all the aspects of implicit taxes in a comprehensive way. Rabushka and Bartlett (Bird 1991, p.7) conclude that:

There are a whole range of governmental actions which can be categorised as implicit taxes, in that they increase the prices of goods, the cost of doing business, or lower the rate of return. While it is extremely difficult to calculate the precise level of such ‘taxes’, they impact on incentives in the same way that explicit taxes do. Since such implicit [taxes] may be of significantly more importance than explicit taxes in determining a developing country’s growth prospects, further research in this area should be a high priority, in order to quantify and categorise such ‘taxes’ and hopefully lead to their reform.

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Based on these findings, the Sequola Institute attempted to fill in the gaps with collaborative research — titled ‘More Taxing Than Taxes?’ — by various economists on the issue of implicit taxes (Bird 1991). But the study still does not cover some of the shortcomings of the legal definition. Although it addresses problems of state-owned enterprises etc, it does not deal with unofficial levies by tax officials or other government employees, nor with payments in labour or kind, nor with the often-overlooked problems with the term ‘compulsory’.

2.4 CONCLUSION Realistically, it seems impossible to develop a workable definition of the term ‘tax’ that covers all the different possible uses of the term and does justice to concerns about the ‘real’ tax burden and so forth. However, it is important to be aware of what one is leaving out: whatever tax definition is selected, it will only cover a small part of a large and complex area, and it is inevitable that a significant part will be excluded. For the social sciences a broader definition is needed if research is to give a more truthful picture of the reality of tax in society. However, doing so leads to a range of practical problems. Most statistics on tax revenue and the breakdown of the different taxes collected do not include any of the factors included in a broader definition. It would be very difficult to quantify the tax burden under a broader definition. But the fact that there are many ‘taxes’ not included in a narrow definition of tax definitely needs to be taken into consideration. This study will use the OECD definition of tax for practical reasons (in particular, the availability of data). However, where relevant, detailed attention will be paid to a broader conception of tax, particularly when discussing the case studies.

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3. TAX POLICY AND TAX REFORM17

3.1 INTRODUCTION The general features of tax policy are as much a neglected area as the definition of tax. Discussing these features is crucial before embarking on our case studies, in order to permit us to distinguish between the particular features of a specific case and features common to many tax systems or that part of a general global trend. Unfortunately, very few studies conducted by political scientists and sociologists pay attention to this issue. For example, such a general feature is that tax policy contains multiple, sometimes competing, goals, ambitions and grounds. Governments use taxes for redistribution purposes, to promote investment, to discourage certain behaviour, to stimulate economic growth, and to improve international trade flows, to name just a few objectives. In other words, there is nothing special to a particular country when tax policy reflects the government’s wish to use taxes as an instrument (effective or not) for political and economic purposes (Steinmo 1993). Another general feature is that tax is a policy area characterised by the absence of enthusiasts offering to increase their tax burden, although interest groups often propose to increase taxes for somebody else. Protests against increases in taxes are common in every society although the shape and form and intensity of the protests obviously depend on the specific circumstances. Such general background features are important precisely because they apply to any tax policy-making and not only to one particular case. It would be naïve to seek to ‘explain’ them in a local context. This chapter deals with the main characteristics of tax policy formulation and tax policy before it explores some of the key factors that trigger tax reform. It also pays some detailed attention to tax policy in Southeast Asia (the setting for both case studies), the US (home country of key foreign tax advisers during Indonesia’s 1983 tax reform) and Sweden (the Swedish National Tax Board played a role in parts of the Vietnamese tax reform between 1987 and 1994).

3.2 GENERAL CHARACTERISTICS OF TAX POLICY Tax policy formulation, generally the primary responsibility of a country’s ministry of finance, involves three steps (Thuronyi and Gordon 1996, p.5):

1. Policy development (often involving economists) 2. Technical analysis (often involving lawyers, accountants and tax

administrators) 3. Legislative drafting (involving legislative draftsmen and lawyers)

In some countries, for example Canada, the three groups are combined in one department within the tax policy and legislation branch of the Department of Finance

17 Part of this chapter appeared in Fernandez, P., G. Heij, et al. (2002). "Tax policy and electronic

commerce." Bulletin for International Fiscal Documentation 56(1): 30-39.

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(Thuronyi and Gordon 1996, p.5). In most countries these steps will involve experts from different ministries. The first step is crucial, for it is at this stage that tax policies are shaped. It can make a big difference if the economists involved are employed within the state bureaucracy rather than being external and hired for the particular task of proposing reform options. In the first instance, operating within the government framework, they will generally be aware of the political and practical realities of any proposal. In the second instance, the advice comes from people who can provide independent views about ideals and goals that are often based on widely accepted economic theories, but often turn out to be politically unrealistic once the bureaucracy and the government start to discuss the proposals (Heij 1996; Heij 1997). As pointed out by Gordon and Thuronyi (1996, p.1), in most member countries of the OECD the tax legislation process18 has developed into a

complex ritual whereby different groups compete to pass through the legislature their vision of an appropriate tax policy. A major bill in a country like the United States involves the input of thousands of professional lobbyists, policy analysts, lawyers, accountants, economists and even ordinary citizens.

Most developing countries have a less complicated process, with far fewer people involved. Generally, the people involved have a background in economics or finance. The use of jargon is widespread and many with no background in this area will indeed feel that they have no clue as to what is going on. The development of tax reforms often involves a number of experts including (Thuronyi 1996, p.xxix):

■ Macroeconomists and public finance specialists, who assist with revenue targeting and cash flow requirements.

■ Economists, who project revenues from various tax proposals and advise on the possible economic impact of different taxes.

■ Tax administration specialists, who advise on the administrative feasibility of proposed taxes.

■ Technical tax specialists, such as lawyers, accountants and economists, who assist with the details of specific types of taxes and their design.

■ Legislation drafters.

18 I use the word process to mean, a set of activities that must be performed to achieve some

goal. The activities are usually conceived as a sequence of steps.

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Obtaining revenue A principal purpose of most tax laws is to create revenue for the state in order to cover state expenditures (Howlett and Ramesh 2003, p.110). How much revenue is required depends on the level of government expenditures (see below) and other possible revenffue sources available to the government. In communist countries the government will largely depend on revenue obtained from state-owned enterprises and in most cases the (explicit) general tax burden on its citizens will be quite low. In countries rich in natural resources, for example various oil-producing countries, the tax burden may also be low since the government will obtain significant funds from selling resources.

Tension between budgetary and instrumental goals In addition to the task of providing revenue, taxes can also be used as an instrument to allocate resources, stabilise economic activity or reallocate income. Many neo-liberal economists (who gained popularity in the late 1970s onwards) prefer to stick to the revenue task of taxes (Campbell 2004, p.152). They believe that it is best that a tax system be neutral between economic choices (such as consumption and savings), between economic activities, and between different sections of the economy (Noord and Heady 2001, p.16). It is their belief that interventionist tax policies are more likely to create market failures than to correct them. Many of them believe that there is actually very little role for governments to play in correcting the markets. Some others believe that the government needs to deal with market shortcomings, but in other ways than via the tax system: private sector competition policy, public investment in areas such as education, infrastructure and research, and so forth (see for example, (Noord and Heady 2001, p.16). In line with this thinking, Owens (head of the Fiscal Affairs of the OECD), developed a set of principles for the design of a tax system (Owens 2006). These include simplification, fairness, removal of tax obstacles to growth, and an efficient tax base. It is important to note that what is fair and efficient is very subjective and can be widely interpreted by national tax policy makers. These principles may mean something very different to a Vietnamese government policy maker (fairness may be viewed as those who have a high income should be subject to high income tax rates) than to Owens. Furthermore, the ‘neutral’ approach favoured by many economists is not always implemented in the real world of policy making, the realization of outwardly similar tax principles often getting lost in the political process, as illustrated in the work of various researchers focusing on OECD countries (Steinmo 1993; Ecleston 1998). Politicians face pressures from all sides and the handing out of tax incentives can be a powerful tool to buy votes or other support (as well described by Kardell (2004). Although a large group of economists, including Owens, is concerned with the use of tax as a policy instrument because this may cause undesirable distortion in the economy, there are supporters of this approach. The supporters, including Keynesians, neo-Keynesians and institutional economists ((Campbell 2004, p. 152-

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154) often on the left of the political spectrum, point to successful examples of using taxation as an active tool in shaping the economic development of a country like Sweden (Steinmo 1993). During the last twenty years of the 20th century most OECD countries moved away from using tax policy as an instrument of economic management (Swank 1998). Many OECD countries have in this connection lowered tax rates and at the same time reduced government expenditures and incentives. In the 1908s and 1990s, there has been a general trend toward making tax systems more neutral with regard to different types of income and investment (for example interest income versus wages). However, the manner in which such changes have been implemented and the extent to which different countries have adopted these goals varies widely (Steinmo 1993, p.30). When one examines closely the reforms that many countries implemented in the 1980s, it becomes clear that reform often meant redistributing existing tax burdens downwards. The argument of social justice dominant in the 1960s and 1970s had been overtaken by the aim of stimulating economic growth. And part of economic growth is international competitiveness. As Steinmo points out, in the late 20th century most economists accepted that a successful capitalist economy depends not only on a successful capitalist class, but also on that class’s willingness to use and invest its money in the domestic economy (Steinmo 1993, p.158). Since the turn of the century, we see a slightly different trend with various types of income and investment receiving sometimes different tax treatment depending on their international mobility (Asher 2005). The desire to increase international competitiveness means that tax incentives continue to be popular among tax policy-makers and tax administrators particularly in Asia. For example, tax holidays are still often found in many countries. Academic and expert opinion on fiscal incentives differs quite markedly from the actual behaviour of the policy-makers and tax administrators.19 Tax policy-makers tend to favour the use of fiscal incentives while academic and expert opinion on the other hand assigns them at best an extremely limited role.20 Experts warn that the apparent effectiveness of fiscal incentives is actually dependent on non-tax factors in a country, rather than depending on the tax incentives’ characteristics (Tanzi 1992, p.58).21 In addition, many experts believe that it is better to focus on the capacity to sustain growth rather than focusing on incentives per se.22 This was in line with international

19 In my professional experience as international tax adviser, businesses may say publicly that the level of tax

plays a major role in their business decisions, but in reality it plays a far less important role. As most business people act in a very pragmatic way, they will try to get as much tax reduction as possible and play this argument as often as they can (Heij, G. and T. Stromback (1997). Australian Service Companies in Indonesia: Learning from Experience. Murdoch, Asia Research Centre, Murdoch University.).

20 There are several problems associated with the use of tax holidays. One could argue that they are actually useless because in the first years of operation most companies would not make any taxable profits anyway. And secondly, they can give rise to tax fraud as a company may set up a new company to conduct similar activities once the tax holiday period is over.

21 Transparency of the formal and informal fiscal incentives’ regimes has been rather low in Southeast Asia. Except in Singapore, there has been a noticeable lack of post-incentive evaluation of performance of firms granted formal fiscal incentives (Asher, M. G., Ed. (1992). Fiscal Incentives and Economic Management in Indonesia, Malaysia and Singapore. Singapore, Asian-Pacific Tax and Investment Research Centre.).

22 The symbolic aspect can be important in the use of tax policies. Use of tax incentives to introduce a new activity or advanced technology into a country when there is negligible presence of existing firms may have

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thinking in the 1970s in the US. For example, foreign adviser Lou Wells (involved in the 1980 Indonesian tax reform) recommended in a 1981 memo23 that “the existence of tax incentives to offshore plants” was not very effective. In another memo in the same period he argued that the role of tax incentives in influencing investor decision-making is likely to be quite small.24 If tax incentives are used, he argued, they should be easily advertisable and simple. Another foreign advisor to the Indonesian Government at that time, Bob Conrad, supported this view. He pointed out that tax incentives might be of very limited value in inducing firms to go public.25 With the possible exception of Thailand, all Southeast Asian countries have had an active fiscal policy of tax incentives to help attain economic and social objectives. (Asher and Heij 1999, pp 25-34) Government policy has focussed not just on particular tax incentives but has also included equity participation by government-linked entities, public funding for requisite manpower training, provision of land at concessional rates etc. Southeast Asian countries have operated on the assumption that in a globalised world those able to attract a particular activity or a plant to their country will be in a better position to grow. Thus, it is the insecurities of globalisation that have been driving formal tax incentives in these countries.26 At the same time, formal tax incentives are only a part of the overall picture. Negotiation of informal tax incentives with particular tax officials is not uncommon in some Southeast Asian countries.27 So even though formal tax incentives may not be available, taxpayers may still enjoy significant tax benefits. As with formal incentives, informal incentives are likely disproportionately to benefit large companies, both domestic and foreign. Another source of tension between budgetary and instrumental goals derives from the political ideal of ‘equity’. The belief that a tax system should be equitable (both horizontally and vertically) makes tax systems very complicated because equity as a goal brings with it exceptions, exemptions, deductions etc. A good example of such a system is the US, which is very equity-oriented.28 US tax policy-makers have created a very complicated tax system that avoids high revenue regressive taxes (like a value-added tax), traditionally has highly progressive tax rates, and has thousands of exemptions, deductions, write-offs and special rates designed among other things to accommodate taxpayers’ varying ability to pay (Steinmo 1993, p.34). In summary,

some justification, (Tanzi, V. (1992). Fiscal Policies in Economies in Transition. Washington, International Monetary Fund.).

23 Internal memo from Wells to Gillis and Williamson regarding tax incentives dated 24-7-1981. 24 Internal memo from Wells to Gillis and Williamson dated 28-7-1981 25 Internal memo from Conrad to Gillis and Williamson dated 20-8-1981. 26 This strongly suggests that prospects for co-operation in the area of fiscal incentives have become even

dimmer than before the financial crisis in Asia in the late 1990s. Thus, any harmonisation of fiscal incentives or of tax treatment of foreign investment is not likely. In addition, foreign investors do not envisage benefit to them of greater co-operation among the Southeast Asian countries in this area. Indeed, they may increase their pressures on local governments to provide more tax incentives.

27 Lax enforcement, even when it is not politically motivated, has often acted as an arbitrary and capricious form of tax incentive. On the other had, in some cases, benefits conferred by fiscal incentives on a firm may be negated by irregular and unofficial levies, often at local levels.

28 This is not to say that the American system is actually more equitable than other systems. There is no evidence for that. The main result has been a complex and low revenue yield tax system.

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the American system is the opposite of the simplicity and transparency most economists strive for when designing an ideal tax system. In contrast with what many would expect, the US income tax system has traditionally been more progressive than the Swedish or the English system. Capital income (interest and dividends) in the US has been more heavily taxed than earned income. This is in sharp contrast with Sweden of the 1970s and early 1980s, where income in the form of dividends and interest was so heavily supported that the government would actually have gained revenue if all taxation on capital had been abolished. The Swedish system was designed to encourage the use of capital because this is supposed to contribute to growth and jobs. The tax system provides very attractive incentives to those who place their wealth and income back into the economy’s active working capital stock rather than consuming it (Steinmo 1993, p.37-44). The Swedish tax system relies heavily on the high revenue yield of a broad tax base. Far from being progressive, the system taxes earned income of ordinary workers heavily both directly and through its high indirect taxes.29 The drastic Swedish tax reforms of the 1980s changed this only to some extent. By 1990 the income and corporate tax system had been simplified, their base broadened and their rates reduced. Tax incentives for capital income were scaled back and the heavy reliance on income tax decreased as indirect taxes increased. In Southeast Asia, tax revenue traditionally relied heavily on indirect taxes, mainly trade taxes such as import and export duties, and in that sense the historical developments have been different from those in many Western countries (Asher and Booth 1983, p. 4). For example, over the period 1970–76 the ASEAN countries of Indonesia, Malaysia, Philippines and Thailand received the majority of their tax revenue (excluding oil and gas) from indirect taxes such as sales tax, excise tax, import and export duties (Asher and Booth 1983, p.3). Personal and corporate income tax formed a small part of overall revenue and although the nominal rates were over 50% in some cases, many incentives were available to reduce the tax burden for those subject to these taxes. The debate on the political ideal of ‘equity’ was not a priority for fiscal policy-makers in ASEAN (except Singapore) in the 1970s and early 1980s.

3.3 FACTORS INITIATING AND INFLUENCING TAX REFORM Various factors give rise to changes in tax systems (Tilly 1975; Campbell 1993). Geopolitical conflicts, fiscal crises as well as economic conditions create pressure on those in power to increase tax revenue or to change the existing tax system to shift the burden.

Taxation, state-formation and warfare The need for funds to finance wars is an important element in understanding the historical development of many tax systems. An excellent analysis of this phenomenon is given in The Formation of National States in Western Europe edited by Charles Tilly (1975). In their contribution to this standard work, Ardant and Braun 29 In a 1982 OECD study, taxes were found to be least progressive in Sweden (Steinmo, S. (1993). Taxation

and Democracy; Swedish, British, and American Approaches to Financing the Modern State. New Haven and London, Yale University Press.).

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demonstrate the important role tax systems play in shaping the formation of national states (Ardant 1975) (Braun 1975). Ardant shows that building up armies and conducting wars were the main force behind increases or changes in domestic tax systems and tax burdens in the course of European state-making. At the same time, the most serious conflicts between European rulers involved disputes over exemptions from taxation, while in the early periods of state-building the most important motivation to expand and reorganise officialdom was in order to collect taxes from an unwilling population. One could argue that all this is no longer relevant in the modern world. But in fact defence budgets still form a large part of government expenditures for many countries. For example, the limited expenses on defence after the Second World War undoubtedly influenced the Japanese tax system. In 1982 Japan spent only 5% of its total government expenditure on defence, comparable to Hong Kong with 4%. This is in sharp contrast with countries like Thailand (20%), Indonesia (14%) and Singapore (23%) (Urrutia, Ichimura et al. 1989, p.20).30 It is no coincidence that Japan and Hong Kong have been among the few countries in the Asian region that escaped a value-added tax, a revenue-spinning tax for many other countries.31

Economic conditions In some cases, the overall tax burden as a percentage of GDP has changed in conjunction with economic prosperity. This can be explained as a result of a Keynesian approach to economic policy, whereby stimulation of consumer demand is seen as an appropriate response to economic down-turn, and vice versa. For example, Japan introduced significant tax cuts in 1997 and 1998 to cope with its recession.32 It was expected that a decrease in the tax burden would stimulate domestic spending and it was hoped that this in turn would stimulate economic activity. The Bush administration adopted a similar strategy in 2001–02 to prevent the economy from entering recession. The role of internationally mobile capital is a factor to be considered in tax policy.33 But opinions are divided, according to Steinmo (1993). Redistributive tax policies are difficult to maintain when capital can cross borders easily and Freeman (Swank 1998) argues that the free flow of capital has intensified the tax avoidance measures of multinationals and diminished the power of governments to finance public services. Others believe that capital mobility has undermined the power of labour unions and social democratic parties in their struggles for redistributive tax policies (Steinmo 1993). Most economists argue that although tax is only one consideration for capital investors, potential tax liability can be a disincentive to investment and many presume that at the end of the day, capital will flow to those countries with the lowest tax burden (Swank 1998; Noord and Heady 2001). 30 No precise figures are available for Vietnam. Defence expenditures were subject to secrecy during the

1980s. 31 Hong Kong is considering such a tax, though, to fund its greying population. 32 See International Bureau of Fiscal Documentation various issues of the Bulletin for International Taxation

and the APTB News. 33 The small and inconclusive amount of work on the effects of international capital mobility on domestic tax

systems focuses on OECD countries rather than developing countries. Nevertheless, it offers some valuable insights into some of the general characteristics of tax policy.

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One of the most interesting studies in this area is by Swank (1998). He argues that the domestic context of a particular country plays an important role in determining the influence of international capital mobility on the relevant corporate tax levels. He mentions a number of factors that are important in this context (1998, p.677). To begin with, non-tax factors including a nation’s domestic markets, skilled labour and related human capital investment, political stability and low levels of labour unrest are of importance to capital investors. Swank points out that even if policy-makers advocate a diminishing role of the welfare state (i.e. during the Thatcher and Reagan administrations), the impact is often limited due to adverse political costs and a myriad of institutional impediments. Domestic economic dynamics and structures also need to be considered. Swank refers to the work of Wallerstein and Przeworski (Swank 1998, pp.671-92) who argue that when extensive investment credits are available, it is irrelevant what the actual tax rate is for uninvested profits, regardless of the possible mobility of capital. Finally, the role of mobile capital may differ according to the sectoral and product diversification of domestic capital and the extent of international focus of the domestic economy. The same does not apply for trade openness (Steinmo 1993; Swank 1998). Although rather weak, there is a relationship between corporate tax rates and the openness of a country’s trade: the overall business tax burden decreases slightly under international trade openness. Countries with an internationally dependent economy tend to adopt a policy of low corporate tax rates with few tax incentives. If the corporate tax rate is too high, profits will be transferred out of the country via transfer-pricing methods.34 The result is that the overall corporate tax burden has not been reduced as a result of an increase in capital investment flows (Campbell 2004, p.143). Campbell actually compared the tax regimes for 17 OECD countries between 1990 and 1998 and concluded that there was very little change. Those taxes most likely to be affected by globalisation (capital gains tax, corporate income tax, and individual income tax) did not change significantly (Campbell 2004, p.143). Earlier in 1993, Steinmo concluded the same, although some lower corporate tax rates have been offset by the abolition of specific corporate tax incentives such as investment-related allowances, credit and exemptions, resulting in an unchanged tax burden for the corporate sector (Steinmo 1993). A related factor is the clear shift in many OECD countries from market-regulating to market-conforming policies (Boskin and Mclure, 1988). Once this shift had been accepted as the appropriate policy to stimulate domestic and foreign investment, the policy of specific tax incentives is seen as an inefficient allocation of investment, prone to tax avoidance and a form of lost revenue (Swank 1998, p.691).

Fiscal crisis In many countries tax levels are raised when revenue falls short. The case study on Indonesian tax reform (see chapter 5) clearly illustrates that over-dependence on oil 34 Transfer pricing can be described thus: “A transfer price is the price charged by a company for goods,

services or intangible property to a subsidiary or other related company. Since these prices are not negotiated in a free, open market they may deviate from prices agreed upon by non-related trading partners in comparable transactions under the same circumstances (…) Abusive transfer pricing occurs when income and expenses are improperly allocated for the purpose of reducing taxable income. The manipulation of transfer prices by multinational enterprises has attracted the attention of tax authorities worldwide” (International Bureau of Fiscal Documentation (1996). International Tax Glossary, International Bureau of Fiscal Documentation.).

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revenue, creating a risk of a future fiscal crisis, forced the Indonesian government to reform its tax system. The tax history of most Asian countries illustrates that reform is often a response to a fiscal crisis (as seen in the late 1990s).

3.4 THE LIMITS OF TAX REFORM Tax laws do not escape the limitations of law as a tool for change (Allott 1980). Several studies have been published regarding the successes and failures of tax reforms in developing countries where foreign advisers and the use of foreign tax laws as models have been important. One well-known case is the tax reform in Colombia in the 1960s, under the guidance of the Canadian professor Bird. At the start of his task, Bird was rather optimistic: “My principal thesis is that tax policy in a developing country ought to be considered as an essential instrument of development policy” (Bird 1970, p.xi). However, after completing his task Bird came to the conclusion that: “The prospects of substantial tax reform can be no more than a reflection of those for real change in the political and social balance” (Bird 1970, p.197). His findings are confirmed by Diaz who headed the tax reform team in Mexico in the period 1978–82. His judgement was, “It must be emphasised that we should not expect too much. The highest aspiration of a tax system is the modest goal of not interfering too much in allocation while exacting a fair contribution from all members of society,” (Diaz 1987, p.356). In conclusion, in most countries the key objective of tax policy is to fill the state coffers. And this objective is often the reason for tax reform. If other sources of government revenue are declining or under threat, the need for tax reform increases. But despite the objections of many economists, most governments will use taxes as an instrument for non-revenue purposes to serve their social and economic policies. These instruments may be in the form of tax incentives, subsidies etc. Over the last two decades, tax incentives have lost their popularity in many OECD countries where governments have favoured overall lower tax rates rather than specific incentives. In Southeast Asia there continues to be a tendency to use tax incentives particularly to promote private investment (both domestic and foreign). Tax revenues in OECD countries rely on a mix of income taxes on both individuals and corporate entities and indirect taxes, particularly various forms of consumption taxes. Indirect taxes, the oldest sources of government revenue, are those tax imposed on goods, transactions or events. They may include sales tax, a value added tax, excise duties, stamp duty, services, and registration duties. In Southeast Asia there has been a heavy reliance on indirect taxes, particularly on trade taxes. However, in recent times there has been a move away from such dependency and tax revenue increasingly comes from income tax and some forms of consumption taxes. In most countries, tax policies often are initially developed by experts; however, political realities can prevent the adoption of the proposed policies. The final product is often very different from the initial draft. Each country has its own policy processes and in many cases thousands of people are involved. Governments are often lead by electoral considerations in their tax policies, for example in the US with its traditional focus on equity, which has resulted in a very complex tax system. In most developing

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countries these processes may be less complex and there is less emphasis on equity. And as we will see in the following chapters, although the electoral process may be not as important in non-democratic countries in the Asian region, that does not mean that governments are not sensitive to their citizens’ needs. They need a support base to stay in power and this is a very powerful factor in tax reform processes. Like most legal reforms both in developing and developed countries, one should have modest expectations regarding the expected outcome of such reforms. Moreover, in developing countries, governments are faced with additional barriers such as inadequate administrative capacity and lack of resources to implement legislation. These reflections lead us to the next chapter: what model can we use to capture the above complexity of tax reform with so many factors and actors involved?

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4. THEORETICAL FRAMEWORK

4.1 INTRODUCTION The aim of this chapter is to design a model that can describe and where possible explain who and/or what influenced the tax reforms in our two case studies. As so aptly observed by Schumpeter (1954), the founder of fiscal sociology:

The public finances are one of the best starting points for an investigation of society, especially though not exclusively of its political life. The spirit of a people, its cultural level, its social structure, the deeds its policy may prepare — all this and more is written in its fiscal history, stripped of all phrases. He who knows how to listen to the message here discerns the thunder of world history more clearly than anywhere else.

The social sciences and particularly the fiscal sociological approach are used for my two case studies. Examining the Indonesian and Vietnamese case studies requires a combination of macro- and microsocial perspectives. As Snyder (1980) argues, a microsocial perspective that focuses on local phenomena within a single country is inadequate for understanding all those aspects of legal developments it shares with many other countries. Little sociological research focuses on law-making and particularly who and what influences law reforms; what there is mainly concerns Western democracies. The same applies a fortiori to research conducted in the area of fiscal sociology. The theories discussed below all have their origins in the social sciences and are based on the more general literature on policy-making. The aim is to find a theoretical model that permits us to study the question of influence and can be applied to the two case studies of Asian developing nations reforming their tax systems. But before summarising existing approaches in sections 4.3 and 4.4, it is important to pay attention to the different functions of law. These different functions need to be distinguished from the theories of law-making, and may further help in analysing the complicated process of law-making and will be discussed in the next section.

4.2 INSTRUMENTAL, IDEOLOGICAL AND SYMBOLIC USE OF LEGISLATION Laws, including tax laws, are seen by many as an appropriate instrument to engineer social and economic changes. Such an approach embeds the basic error that society and law are two separate entities, so that legal changes and laws can be used to influence society (Griffiths 1979). It opposes the view emphasised by non-instrumental approaches that laws are interrelated with social processes. Instead, it implicitly adopts a ‘determinist’, top-down command idea of law. Griffiths argues that it is no surprise that many laws seem to have little or no impact since the legislator so often proceeds on the basis of such an instrumentalistic approach. Although

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instrumentalism has proven to be an unsuccessful approach both in the sociology of law and in the practical art of establishing legislation (Griffiths 1979), many institutions are still wedded to it. Tax reform programs subsidised by international organisations like the World Bank and the Asian Development Bank strongly reflect this approach. Many even presume that laws are — or ought to be — solely instrumental. Frequently, however, laws are symbolic or ideological rather than instrumental. Often a law may contain all three elements or two of the three. Aside from these shortcomings, the main problem with this approach is that it does little to assist us in describing and analysing who and/or what influences tax reform. The ideological approach to law is clearly visible in a country like Vietnam, where laws are supposed to reflect the socialist ideology of the government. But Western societies too know the ideological use of law. One of the best known studies is by Douglas Hay on 18th century criminal law, placing this law in its political context of protecting the property-owning classes (Bottomley and Parker 1997). In the tax law area, one could argue that steeply progressive income tax laws are often a reflection of social-democratic values, while a flat income tax is often associated with neo-liberal ideology. In contrast with instrumentalist laws, symbolic legislation has as its main function the satisfying of opposed social interests. One of the most important writers in the area of the symbolic use of law is Thurman Arnold. He argues it is “through the art of laws that abstract ideals are manipulated to disguise the impossibility of realising them in practice” (Cotterrell 1986, p.108). Arnold sees law as a useful instrument to unite very different interests, ideals and opinions: “It fulfils its functions best when it represents the maximum of competing symbols,” (Cotterrell 1986, p.108). The symbolic use of law can be of great interest in the area of taxation, where instrumental and symbolic use of law may coincide.35 Take, for example, tax incentives, which are used in a variety of ways to give relief to particular groups in society, or at least appear to do so.36 In some countries in the Asian region, the practice of taxation by negotiation is still common. These countries may obtain much-needed international approval by reforming their tax systems according to the wishes of the IMF, World Bank or Asian Development Bank. Little may change for the average taxpayer regardless of the formal legal changes. As pointed out by Campbell (1996) in his study of fiscal reform in Eastern Europe, the desire to please foreign actors can play a crucial role in the tax legislative process, even if actual implementation is not really seriously contemplated. The desire to become members of the European Union and GATT was, in this case, the motivating force. This illustrates that although most research on symbolic use of law refers to unifying competing interests on a national level, it can equally apply to an international setting.

35 Although that in itself is not enough to label tax laws as symbolic legislation. There is the danger to label

laws as purely symbolic just because they fail in their implementation. 36 A well-known example is the tax incentive given to foreign investors who directly invest in developing

countries. It has been argued that reduction or exemption from corporate tax in the first few years of operation is of little use. Not much profit will be incurred in those initial years and the tax benefits are actually cumbersome. Nevertheless, many countries offer such arrangements, as it is an attractive gesture to welcome foreign investors.

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These three approaches are not all that helpful for describing or explaining who and/or what influences tax reform. They have merit as all three approaches influence the political response that governments may take as part of tax reforms. . Instrumentalism will not provide the answers to our question, “Who and what truly influences the tax reform for our two case studies?” But it is an approach that is, consciously or subconsciously, adopted by many tax reform advisers. And it may very well be the basis for political decisions in tax reform. The same also applies to ideology and symbolic use of law. They may explain the political decisions governments take as part of tax reform packages. These approaches need to be included in the theoretical model, so that they can be tested in the two case studies.

4.3 RELEVANT THEORIES Theories in the area of policy-making and legal change their shortcomings, as explained in more detail below. They vary greatly among themselves, and one approach alone never seems entirely comprehensive. It is for this reason that combinations of different theories are often used in case studies. Campbell, for example, used four theories (discussed under ‘institutionalism’ below) in tandem, although they have very different premises. Analysing fiscal reform in Eastern Europe, he concluded that:

Post-communist fiscal reform was constrained by concerns for reducing the monitoring and enforcement costs of tax collection, using tax policy to stimulate economic growth, cultivating ideological consent to taxation […], developing memberships and associations with various international communities like the European Union, GATT, IMF and the World Bank […], electoral considerations, interest group struggles, policy legacies, and political institutions (Campbell 1996, p.74).

In other words, each of the different forms of institutionalism had its merit in explaining the fiscal reforms. But he does not answer these questions: What is the contribution of each approach? Is one more important than another and why? Campbell’s work illustrates the basic problem of using various theories simultaneously. Comparing data from different case studies demands a certain consistency. But because of the different assumptions of the theories used, it becomes very difficult to describe different case studies in the same consistent way. Thus, for example, if we used all four theories to study who and what truly influenced the tax reforms in Vietnam we would have to collect a great deal of data to look at the question from the four different theoretical perspectives and then we would need to attempt to put a weighting on which approach was more influential than others in the Vietnamese situation. Moreover, most theories pay little attention to the role of particular persons influencing policy-making. They may focus on the role that individuals play in a group or larger context, but they rarely go beyond that. For example, the fact that the Indonesian Coordinating Minister for Economic Affairs, Finance and Industry, who was in charge of the tax reform in the early 1980s, had just completed his study in the

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US seems to have had a great influence on his approach to the largely US-dominated advisory team. It explains why all discussions between the team and the Indonesian Ministry of Finance were conducted in English, excluding many possible Indonesian participants. Moreover, smart foreign advisers will look for so called ‘champions’ within government departments expecting that they will be instrumental in carrying forward the proposed reforms.37 For example, in Indonesia, the Director General (DG) of Taxation is a crucial person to foster successful reform. Without the DG’s support, many tax reform programs are doomed. The first question foreign advisers would ask would be: “Is there support from the DG for any reforms?” This is not to say that the characteristics of particular individuals are the most important factors in law-making. Individuals and groups undoubtedly have their own characteristics and agendas, but the way in which they pursue and translate their interests is shaped by institutions (Hall and Taylor 1996). Which leads us back to the institutional theories. I turn now to an overview of the most important theories that have been used to analyse the role of government institutions and government structures in policy-making over the last three decades (Hall and Taylor 1996). Institutionalism Institutionalism deals with the role that government institutions and structures, such as the organisation of the legislative process, play in the determination of social and political outcomes (Hall and Taylor 1996). It includes quite distinct approaches, including rational choice theory, organisational theory, sociological institutionalism and historical institutionalism. Often the ‘institutional analysis’ used is a combination of the different institutional theories, but the emphasis is usually on historical analysis. Unfortunately, most of the literature refers to Western democratic societies (see (Campbell 1996), (Hall and Taylor 1996), (Steinmo, Thelen et al. 1992), (Steinmo and Tolbert 1998) and (Suchman and Edelman 1997), for example the role of parliamentary committees, and is therefore of limited use in the Asian context. In our two case studies, where the countries involved have until recently been subject to foreign rulers, the historical continuity of institutions presupposed by institutionalism is largely absent. In Vietnam, for example, tax authorities have for many centuries been related to foreign rulers. Tax was associated with foreigners and paying taxes was seen as a form of collaboration with the enemy. After the communist takeover, tax was not a very relevant issue since most revenue was collected from state-owned enterprises and from private ‘capitalist’ initiatives. In the course of the tax reforms in the 1980s it became clear that depending o the type of tax involved various ministries were

37 This is pointed out by Owens, who observes that political champions are crucial in

reform processes, to ensure that the reforms obtain sufficient support and are swamped by the pressure of special interest groups. Owens, J. (2006). "Fundamental Tax Reform: an International Perspective." National Tax Journal LIX(March 2006).

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playing an influential role in the legislative process. But this was an entirely new phenomenon within the institutional history of Vietnam. When it comes to execution, a very important role has (for many centuries) been played by village committees. These committees are probably the only continuous institutional element in the overall development of the tax system in Vietnam. Such features of the post-colonial situation complicate the use of institutional analysis.

Rational choice theories Politics is a series of collective action dilemmas. As those involved seek to maximise their preferences, the collective outcome may not be optimal. It is believed that without appropriate institutiona l arrangements actors are prevented from taking a collectively superior course of action. The rational choice approach within institutionalism holds that particular institutions develop as a result of efforts to reduce the transaction costs of undertaking the same activity. It also addresses the question how individuals build and mould institutions to achieve their interests (Campbell 2004, p.15). Several assumptions are made in regard to human behaviour in rational choice theories (Hall and Taylor 1996, p.944) (Levi 1988). One is that actors involved have an unchanging set of preferences or tastes and behave strategically and in a calculated manner to fulfil these preferences. In the case of tax reform, rational choice theory asserts that political elites pursue fiscal reform to maximise government revenue, at least so long as the reform does not undermine the political support of their taxpaying electorate. But as pointed out by Levi (1988), maximising revenue is constrained by the type of political institutions they operate in. If governments have to negotiate with parliament the outcome is different from dictatorial governments that do not need to negotiate but merely announce.

The approach has been controversial and has its opponents. One of the main criticisms is that it takes individual decision-making out of its social context. The fact that humans are social beings and that the behaviour of the relevant actors are of a fundamentally social character is ignored. Individuals’ preferences and choices are shaped by the organisation they work in, their culture and their history. Therefore this approach is not used in my theoretical model.

Sociological institutionalism Institutionalists in sociology believe that institutions are not the result of rational efforts to improve efficiency. They argue that most institutions are actually the result of culturally specific practices and therefore must be explained in cultural terms. Three features are characteristic of sociological institutionalism (Hall and Taylor 1996, p.947). The first concerns the definition of an institution, which is much broader than the same term used by economists and political scientists. It not only includes formal rules, procedures and norms, but also symbol systems, cognitive scripts and moral templates. The approach thus tends to break down the division between institutions and culture. Secondly, it has a distinctive approach to the relationship between

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individual actors and institutions, assuming that behaviour is not so much strategic as largely determined by the actor’s worldview. This does not mean that there is not a degree of rational or calculated behaviour, but generally actors will choose familiar patterns or established routines. Thirdly, in contrast with rational choice theorists, sociological institutionalists see a much greater role for institutions. The former assume that institutions affect the strategic calculations of actors, while the latter assume that their influence stretches much further to include the most basic preferences and sense of identity of actors. This approach to law-making seems plausible, particularly when analysing socialist government institutions as in Vietnam where individuals seem diligently to follow the culture of their organisations and rarely appear to act independently. Although this approach does not pay attention to the specific individuals involved in policy-making, it does explain behaviour in terms of the role actors fulfil in a group or larger organisation. The emphasis on the cultural factors that influence behaviour within institutions in policy-making is important and this theory should be used in the model. A subset of sociological institutionalism is organisational theory which focuses on the transnational environment. This theory holds that the influence of the international political community is the chief determinant of fiscal policy-making (Campbell 1996, p.48). Political elites that want to see their country gain access to a particular international community adopt institutions and policies accepted within that community. In the area of tax reform, countries will adopt the fiscal policies of those countries they want to be associated with even if this undermines a careful fiscal policy or a balanced budget. The approach covers only a specific part of tax reform policy, namely that which is of supposed importance in the international arena. Campbell (1996) used this approach to research tax reform in Eastern Europe and concluded that it had some merit though it only explained part of the reform. I will cover this approach in my theoretical model under the more general heading of international influences (see also below under globalisation).

Historical institutionalism There are several characteristics of historical institutionalism (Hall and Taylor 1996, p.938) (Campbell 2004, p.23). Historical institutionalists emphasise the inequalities of power implied in the operation and the development of institutions: some groups have more ready access to the decision-making process than others. Historical institutionalism regards institutional development as dependent on its specific context. Institutions are viewed as re-occurring features through history and play an important role a set of ‘historical paths’. Contrary to the rational choice belief that institutions are efficient and have clear aims, historical institutionalists emphasise unintended consequences and inefficiencies as important features of actual institutions. Finally, they believe that institutional analysis needs to include other

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factors such as socio-economic development and changes in ideas and beliefs in order to account for political outcomes. When looking at the relationship between institutions and actors, the historical approach realized that the calculation approach of rational theorists is insufficient to explain people’s motivations for certain actions. It acknowledged the cultural approach of sociologists. It wanted to address how institutions shape not only people’s strategies but also their preferences and goals(Campbell 2004). Steinmo’s case studies on comparative tax law development in Sweden, the United States and the United Kingdom are a good example of the historical institutionalist approach (1993). But historical institutionalists have yet to answer questions about the precise relationship between behaviour and institutions and how ideas influence decision making and institutional change (Campbell 2004) Although these four approaches are all parts of institutionalism, they have actually quite different and opposed views in their explanation of what role government institutions and structures play in the determination of social and political outcomes.

The rational choice approach believes that individuals have a fixed set of preferences that are not influenced by the context in which people operate, aside from Levi’s constraints ((Levi 1988)). In other words it dismisses the social context of decision-making. In contrast, the organisational approach focuses on the context, but mainly on how the international community influences domestic policies. This is partially useful if this approach is combined with possible other theories that are not limited to the international aspects. Sociological institutionalism is particularly important and relevant for our research questions. It is an adequate tool when examining the influence of the culture within an institution on those working in it. This approach provides a more realistic relationship between institutions and the behaviour of those individuals working in them than the rational choice approach because it takes account of the fact that individuals are influenced by these institutions in their decision-making. Finally, historical institutionalism mentions a range of factors that may be of influence, including social and political aspects. The weakness of this approach is that it remains very general and provides little guidance on how these factors influence the behaviour of actors and how it relates to institutions. For this reason it is not included in the proposed model for research.

Sociological institutionalism combined with the international aspects of organisational theory adequately addresses the international, institutional, cultural and historical factors that shape individual preferences and choices. Therefore these two approaches are particularly relevant in contributing to the theoretical approach that is developed later in this chapter.

Classical democratic theory In contrast to institutionalism, classical democratic theory believes that the electorate is the key in government law-making. According to this approach, governments are constrained by their electorate. Electors vote for and against parties on the basis of

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distinct policy alternatives, and policies are then shaped by electoral concerns and outcomes. Although this approach seems less applicable in non-democratic settings, it can be argued that most governments, democratically elected or not, are concerned about possible unrest in society, if only because it may threaten the position of those in power. In any society the struggle to attain and retain power is an important factor in explaining political behaviour. It is for this reason that all governments — democratic or non-democratic — are very careful in introducing taxes that are felt immediately by large parts of the population. For example, some Asian governments have been very careful in applying a land tax. This direct tax, often charged to people in the countryside, can create unwelcome resentment against the central government. The now defunct poll tax in the UK is another good example of the social upheaval taxes can create, forcing governments to rethink their policies. As pointed out by Winters in the Indonesian case: “The central issue is not the role of elections per se, but the ways state leaders attain and retain their positions of power… In places where elections are less important, the focus must be on the processes and power dynamics associated with challenging those in office.” (Winters 1996, pp.15-16). The problem with this approach is that it seems tailored towards democracies and it does not distinguish between the competing interests within the population with which political leaders are concerned. What it does provide though, is an awareness that those in power will be very conscious of and influenced in their actions by those who can get them into power and ensure that they can stay in power. For this reason this approach is included with the interest group approach in the model.

Interest group or pluralistic theories The ability of interest groups to influence political elites plays an important role in determining policies according to pluralist theories (Campbell 1996, p.49). In this context the work of Risse-Kappen (1996) is of interest. Kappen argues that domestic structures of institutions determine the policy impact of interest groups. This pluralistic approach views power as being related to issues not to elites. Different issues attract changing coalitions of interest groups. In non-democratic societies, however, the right of association is often lacking and therefore interest groups may hardly exist, except those incorporated into a government-controlled system. Vietnam, for example, does have formal interest organisations but they are recognised and controlled by the state. Interest group pressures and competition between interest groups takes place within a tightly structured and restrictive framework (Riedel and Turley 1999, p.40). Interest group theories assume a certain accessibility to policy-making that is often not available in non-democratic societies, at least not to most groups. The only time that they will be heard is if the status quo and political stability is under threat. Moreover, interest groups in Indonesia and Vietnam during the time of the case studies were closely linked to the ruling elites rather than to a common cause. That is not to say that interest groups in non-democratic countries do not have influence.

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They do, but they are not the independent groups envisaged by Kappen. So this approach is relevant, and will be included in the model, as long as it is clear that interest groups in countries like Indonesia and Vietnam are very much linked to elites rather than issues.

Globalisation theory Finally, there is the theory of globalisation prominent in economic theory, suggesting that tax systems in the world will follow international trends, mainly due to the demands of international competitiveness ((Campbell 2004). Campbell distinguishes two elements. One element that has often been mentioned as important is the role of capital. Capital investment resources are owned by private owners or by large agencies such as the World Bank and IMF. A country’s need for capital is seen to influence its economic policies, including its tax policy. The results are low corporate tax rates and an attractive tax treatment of investors aimed at reducing the costs of doing business for foreign investors. This is supposed to result in reduced government revenue, so that expenditures on social welfare and other costly parts of social safety nets must be slashed. The second element covers the transformation of national economies as a result of the increased power of large multinational corporations which can easily move from one country to another. As described by (Hirst and Thompson 1997, p.10) , multinational companies become transnational companies that are major players in the world economy. There has in fact been very little research that measures the actual influence of globalisation in the area of domestic tax reform, although many observers presume globalisation has played an important role in the shaping of national tax systems in the Asian region. But as shown by the research of Hist and Thompson (1997) and Campbell (Campbell 2004, pp. 137-149), it is important not to overestimate the role of globalisation. For example, when looking at historical trends in taxation in Southeast Asia, we see in the first four decades of this century similar trends throughout the region presumably due to the similar changes many Asian countries were undergoing in this period. There was a decline in land tax while there was an increase in taxes on foreign trade and income and excise taxes. One could argue that present trends in Southeast Asian tax developments are again due to domestic economic changes. Most Asian countries face increasing expenditure on infrastructure (as in Vietnam), or on pensions and other social benefits (in countries like Singapore). These countries have had to look for new revenue sources and this led to the introduction of VAT or some similar tax that had been introduced in many European countries thirty or forty years before. The change was not caused by globalisation in the tax area but by an increasing need for revenue sources. Similarly, there is clear evidence that the role of agreements between the ASEAN countries has an impact on the level of import and export duties. Given the doubtful influence of globalisation, this approach does not provide useful insights into our key research questions.

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In our search for answers to the question, “Who and what influenced the different stages of the legislative tax reforms in the 1980s in Vietnam and Indonesia?”, organisational theory and sociological institutionalism may be very useful to provide the international and domestic context that shapes the key actors in the reforms. The interest-group approach seems potentially useful for providing explanations about how domestic structures determine what and who are influential and how they exercise their influence.

The public policy model According to Howlett (Howlett and Ramesh 2003, pp.52-53), three institutions are

important in the policy process: the organisation of the state, the society, and of the international system. These three institutions are the context in which the policy actors, who can be either individuals or groups, operate. There may be great variations in the type of actors depending on the country, policy sectors and point in time. Howlett distinguishes the following categories of actors (Howlett and Ramesh 2003, pp.65-83):

1. Elected officials, residing within the state apparatus; 2. Appointed officials, residing within the state apparatus; 3. Business actors; 4. Labour; 5. The public; 6. Think tanks and research organisations; 7. Political parties; 8. Mass media, residing within society; and 9. Interest groups.

While such actors are obviously important, categories 3, 4 and 5 are often absent in

non-democratic societies and the model is much too general and limited to give an adequate description of the distinct parts of a particular policy-making process. It does not, for example, include possible international actors or influences such as international expert advisers, multilateral institutions or globalisation trends. In summary this theory is unsatisfactory.

Agenda-setting approach The agenda-setting approach, first developed in the 1960s, focuses on how issues appear on the governmental agenda for action. This first stage is perhaps the most important stage of the policy cycle (Howlett and Ramesh 2003).. Empirical evidence in Western settings indicates that in many instances policy processes are initiated by members of governments rather than by social groups. It is generally accepted that a variety of political, social and ideological factors determine which problems gain access to the policy agenda for resolution by the government. Agenda-setting typically involves four stages: an issue is first initiated, solutions are specified, support for the issue is mobilised and, if this is successful, the issue enters the institutional agenda. The approach offers few tools to analyse the subsequent process after the

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successful agenda entry. It also tells us very little about who or what has influence on the actual tax policy making resulting in the tax reforms. It only makes some generalist references to those influences. For these reasons we will not use this approach.

The rational model, the incremental model and the garbage can model These three models are grouped together as the first two are the best known models of public policy decision-making (Howlett and Ramesh 2003, pp.166-173). The third model has been formulated as a reaction to the first two. The first, the rational model of policy-making, has its roots in business decision-making and has been adopted for the public area. It features many of the same aspects as discussed above under rational choice theory. It starts with the rather naïve notion that all involved in the decision-making agree on how to define the problem. The model then prescribes procedures for decision-making that will result in choosing the most efficient way to achieve certain policy goals. Rather unrealistic assumptions are the main weakness of the model. It assumes that decision-makers achieve total comprehensive rationality in their decisions, that they consider all options and select the most efficient one, and that in this process they are aware of the consequences of these options. In the real world, not all options are known to all actors and they may select one based on ideological or political grounds rather than on grounds of efficiency. Furthermore they often do not know in advance what the consequences will be. The incremental model was developed to deal more realistically with the behaviour of decision-makers. It describes public policy decision-making as a political process characterised by bargaining and compromise among self-interested actors (Howlett and Ramesh 2003). These decision-makers only consider a few options and will not look further if they feel an acceptable solution has been found; they are mainly concerned with solving immediate problems rather than achieving higher goals. This approach has many critics who argue that the model does not include any kind of goal orientation. And there are ample examples whereby policy makers will have higher/longer term goals in mind, particularly with regard to tax reform. The approach seems to believe that most reforms are small, ad hoc and short term; the reality is that there are also large-scale, innovative overhauls in public policy-making. The limits of both models lead to the development of the garbage can model. In this model the process of policy-making is seen as highly ambiguous and unpredictable with only a limited relationship to the search for means to achieve a certain goal. This model rejects the assumptions made in the other models that intentionality, comprehension of problems and predictability of relations among the various actors are characteristic of such processes. Coincidence plays a major role in the garbage can model. I have no doubt that there are instances where decisions are made in a hurry and that coincidence rather than rational, thorough planning seems to explain the outcome. Be that as it may, my experience in tax reforms suggest that a more orderly process is applied in a majority of the tax reform cases.

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The arena model With the foregoing models and their shortcomings in mind, the Dutch political scientist Koppenjan developed the arena model. It is a descriptive model intended to assist in analysing complex policy-making. The concept of an arena plays a central role in this model and can be described as: A meeting place for issues and feelings looking for decision situations in which

they may be aired, solutions looking for issues to which there may be an answer, and participants looking for problems or pleasure (Koppenjan 1993, p.33).

The model distinguishes four different aspects of the policy-making process:

1. The context of the process, those factors that influence the composition of the arena, including the features of the particular policy sector and broader features of the government structure;

2. The make-up of the arena; 3. The strategies adopted by the actors to influence the composition of

the arena and the processes within the arena; and 4. The start, length and end of the process.

This model is useful to describe particular policy-making processes. But the focus of my research is on influence on the actual tax reform process, not on describing the process itself. The model is too broad, one can include anything in the arena, and it has no explanatory features. It will provide us with little new insights into why certain influences are greater than others or why these factors/actors matter at all.

Fiscal sociology What is fiscal sociology? Schumpeter (1954) and Goldscheid (1958,) believed that fiscal sociology provides a macro-historical model that explains the dominant drivers of change in society, its politics and economics. Schumpeter, who wrote his famous “The crisis of the tax state” in 1918, and Goldscheid were products of their time and they saw their approach as an alternative to Marxism and other theories in the social sciences in their time. Schumpeter’s 1918 paper took an inter- and multidisciplinary view of fiscal policies, budgets, fiscal history and the fiscal burden put upon citizens. The paper touches on many issues, but the various observations are not used to develop a coherent theory.38 For a long time, few others built further on Schumpeter’s work. Campbell, whose work was mentioned in chapter 3, was inspired by Schumpeter’s work and has been one of the leading fiscal sociologists in recent times. He views fiscal sociology as the sociological analysis of taxation and public finance (Campbell 1993, p.163). Campbell developed a hybrid model for the policy-making processes with particular reference to the determination of tax policy (see Figure 1 below). 38 As pointed out by Moore (Moore, M. (2003). The New Fiscal Sociology in Developing Countries. Annual

meeting of the American Political Science Association, American Political Science Association.), this is understandable as Schumpeter’s paper was written to answer the question of whether the Austrian tax state could survive the political and economic turmoil of contemporary central Europe, and not to develop an overall theory.

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Figure 1. Conceptual Model of the Determination of Taxes (Campbell 1993)

The model starts off with the possible causes of tax increases. Under the heading ‘Crisis’, Campbell identifies three causes: geopolitical conflict, macro-economic conditions, or fiscal crisis39. It is true that in times of war taxes tend to increase.40 If a domestic economy becomes more open, that is, dependent on imports and exports, taxes are also likely to increase. Finally, in the case of a fiscal crisis, government revenues tend to fall short and taxes increase. Campbell’s reasons seem helpful in explaining changes in levels of tax; this part of the model may apply to many cases of tax reform and may be expanded to examine cases where the aim of tax reform is different from increasing taxes. In some Asian countries the aim of recent tax reform

39 Building on earlier work including Schumpeter, J. (1954). "The crisis of the tax state." International

Economic Papers 4(34): 5-38., Peacock, A. T. and J. Wiseman (1979). "Approaches to the analysis of government expenditure growth." Public Finance Quarterly 7: 1-23. Steinmo, S., K. Thelen, et al., Eds. (1992). Structuring Politics: Historical Institutionalism in Comparative Perspective. New York, Cambridge University Press. Steinmo, S. (1993). Taxation and Democracy; Swedish, British, and American Approaches to Financing the Modern State. New Haven and London, Yale University Press. Musgrave, R. and A. T. Peacock (1958). Classics in the Theory of Public Finance. London, Macmillan & Co. Goldscheid, R. (1958,). A sociological approach to problems of public finance. Classics in the Theory of Public Finance. R. A. Musgrave and A. T. Peacock. London, MacMillan & Co.

40 And those increases are not always reversed after the war, as pointed out by Peacock and Wiseman (Peacock, A. T. and J. Wiseman (1961). The growth of public expenditure in the United Kingdom. Princeton, Princeton University Press..

Crisis

Geopolitical Fiscal

Economic

Political Response

Change of level of tax Change tax system

Change in distribution of tax burden

State Structure

Political access Tax collection

capacity

Political Representation

Political party & electoral system

System of interest representation Party control

Balance of Class & Interest Group Pressure

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was to simplify and streamline the existing tax system, sometimes with the aim of higher tax revenue, but also with the aim of attracting foreign investors. The symbolic use of tax laws, especially when foreign investors are involved, should not be underestimated. It is important to realise that when the political response is one of change, that does not mean that there is a real change taking place. It is not uncommon that tax law changes have a merely symbolic character, as when the formal tax burden is changed, but the real tax burden hardly changes at all. Campbell sees three elements influencing the political response: the structure of the state, political representation and class and interest group pressure. After Campbell developed this model, he added new features based on his work in Eastern Europe. He added that the response was not only to address possible fiscal reform but also to (Campbell 1996, p.46):

■ fulfil the requirements of foreign actors; ■ alleviate domestic political demands; ■ conform to policy legacies inherited from former regimes; and ■ facilitate the development of market economies.

The political response will be influenced by the characteristics of political representation including factors such as the political party and electoral system, and the system of interest representation. Most work in this area focuses on democratic societies or the former communist countries in Eastern Europe. Here it is clear that the system of political representation plays a role in the shaping of tax policy. This is illustrated by the work of Steinmo (1993; 1998), Campbell (1992; 1993; 1996), (Ecleston 1998). Electoral considerations influence tax policy as political parties want to ensure support from their electorate to stay in power. However, studies conducted on multi- or two-party systems in the US, UK, Sweden, Australia and Eastern Europe have limited application on single-party state systems in many other countries around the world. Very little work has been done in regard to non-democratic societies in, for example, Southeast Asia. This part of the model refers to the state’s institutions, as discussed earlier under sociological institutionalism, including the tax administration. Is there easy access to these institutions and how capable is the administration in securing tax compliance. According to Campbell, the fiscal problems of post-communist states are as much institutional problems of state-building, state-dismantling and policy-making as they are of poor macroeconomic performance. This is confirmed in the work of Steinmo (1993), who conducted a comparative study of tax-policy developments in Sweden, the US and the UK. It is not only characteristic of post-communist states but also of Western democracies that the existing institutional structure plays a major role in the shaping of a country’s tax system. Steinmo convincingly demonstrates that over a period of more than a century the institutional structure of Sweden, the US and the UK influenced the design of tax laws and the political choices made in regard to tax policies.

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The small amount of research in this area indicates that if interest groups have easy access to tax policy-making this will result in a lighter tax burden. The US tax system is a good example. If access is more difficult the tax burden is likely to be heavier, as is the case in Sweden (Steinmo 1993). Nevertheless, much more work needs to be done in this area to support any firm conclusions. With interest group theories in mind, this part of the model could also be expanded. Campbell’s work is the most interesting amongst the often general and broad descriptive theories. He has made a genuine attempt to combine the descriptive parts of tax reforms with explanatory factors. He has succeeded in identifying the relevant factors, that influence tax reform. Unfortunately even his model has its shortcomings. It is tailored for democracies with open and transparent electoral systems. It heavily focuses on institutions rather than individuals as possible key actors in tax reform. Finally his model seems to pay little attention to the cultures within institutions and how that relates to political representation and the role of government.

4.4 PROPOSED MODEL FOR RESEARCH I now come to the theoretical model that I will use for my two case studies. I begin with the conclusion, based on the foregoing discussion, that no one of the existing approaches, covers and explains the different aspects of the legislative process of tax reform. Organisational and sociological institutionalism and interest group theories attempt to give some explanation of the reasons why law-making processes have developed in a certain direction. None of them is adequate, but they all contribute insights into the myriad of factors that influence the law-making process. The theories of fiscal sociology are to some extent descriptive and have not developed into one comprehensive theoretical approach capable of a consistent explanation of fiscal development. Campbell’s model is the most useful one, covering both the description and explanation of tax It is the only model that identifies the relevant factors that influence tax reform. Therefore, the most attractive option is to use Campbell’s model combined with aspects of organisational and sociological institutionalism and an interest-group approach adjusted for a non-Western setting.

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Figure 2. Proposed Model for Research

Gl

3. Crisis

Geopolitical Fiscal

Economic

7. Political Response (symbolic or non-symbolic)

Change of level of taxation

Change taxation system Change distribution of tax burden

4. State structure Culture of Public Institutions

Role of individuals within state structure or political

representations Tax administration

Political access

Political Representation Political party & electoral

system System of interest

representation Party control

Government Role Foreign advisers

commissioned by the government

6. Balance of Class and Interest Group Pressure

Wide range of interest groups,

including groups that do not have access through political

representation or state structures

1. Definition of Tax

2. International Influences

5. Context

Domestic economic context

Government policies Fiscal policies

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Overarching the model is the definition of tax, the starting point of any analysis of tax reform as explained in chapter 2. As outlined in chapter 3, international factors may influence domestic tax reform. This influence was seen again in this chapter when discussing organisational theory. Campbell’s part of the model on state structures is refined and expanded. Campbell’s model distinguishes between the legislative and the executive and the institutions serving the executive. In non-democratic societies these boundaries are often blurred. For this reason, they are combined here in box 4. The ‘Culture of Public Institutions’ has been added, reflecting the importance of sociological institutionalism and emphasising the culture within an institution that shapes the actions of individual actors. Tax policy makers and tax administrators are part of a bureaucracy and will pay detailed attention to their role within the institution. As trained bureaucrats they will follow acceptable practises and procedures established within their organisation. If we expand the state structure component and add the component of key individuals (champions of change, see (Owens 2006, p.131)), the model becomes even more useful.41 It would also address the concerns outlined by Kardell (2004, pp. 36-37) that Campbell’s model fails to take account of the fact that the state is not instrumentally responsive to a single class interest, but to a range of interests. The role of the government has also been added as a separate category: the executive is often the driving force in reform as discussed in various examples in chapter 3. Then there is the role of foreign advisors. Foreign advisers will not provide their services without government permission.42 A senior government member will carry the final responsibility for authorising a technical assistance project taking place within his or her country. So it is important that foreign advisers are included within the government role. Embedded here is the role of individuals. Box 5 is new and represents the wider context and captures various aspects discussed in chapter 3. Tax reforms are influenced by the domestic economic context and by government preferences in policies, particularly in fiscal policies. These contexts are not stand-alone parts and are influenced by the state structure and the system of political representation. Box 6 refers to interest groups,. As discussed earlier in this chapter, Risse-Kappen’s (Risse-Kappen 1996) work on interest groups is relevant to the theoretical framework, although his conception of interest groups is too limited for non-democratic societies. If people have no right to organise themselves the term interest groups may have a different meaning. For example, it may cover influential local groups closely linked to the political ruling class. The power of multinational

41 I am aware, as pointed out by Kardell, (Kardell, A. L. (2004). Modelling the determinants of industry political

power: Industry winners in the economic recovery Tax Act of 1981. Sociology. Texas, Texas A&M University: 138.), that Campbell’s model may not explain the mechanisms of success.

42 If it concerns bilateral aid, often government-to-government aid agreements are in place, and there are similar agreements between multilateral donors and recipient countries. If the services are funded by the recipients themselves, government permission is still required.

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corporations (MNCs) can also influence tax reforms and can fit under the umbrella concept of interest groups. In 1989, Caltex Indonesia’s CEO described the company’s approach to expressing dissatisfaction with the government’s tax policy:

If the rate of return here becomes too low for us, or if the risks become too high, we will begin to disengage. This point must be clearly conveyed [to policy-makers]. We don’t give ultimatums, we just file our regular budget reports and it’s clear from the figures that we’re cutting back. They call us up and ask why our figures are going down, and then we explain. […] But what is important for us is that the fiscal terms here in Indonesia be kept as good as possible. […] We have lots of choices in where to invest around the world, and we keep a close watch on all of them (Winters 1996, p.24).

As a part of the mass of interest groups, those groups in society that may be seen as threatening the status quo are also included. In non-democratic societies, these groups may hold no electoral power and may have no access to interest representation so they do not belong in box 4. However, they may be a threat to the political stability of ruling governments and in that sense they actually may have influence. In box 7, the aspect of symbolic use of law is made explicit. As mentioned at the outset of this chapter, there are examples where there is an apparent political response, but very little actual change at all. For political or other reasons, tax reform is introduced whilst the end result is no change whatsoever. So for each sort of political response it is possible that the response is in fact only symbolic. This model will be used for the two case studies in the coming two chapters. It is a descriptive model that has explanatory features. These features represent the theories discussed earlier including sociological institutionalism, international influences as discussed under organisational theory and globalisation theory. It also includes interest group theories. The result is that the model provides both descriptive and explanatory parts to answer the question, who and what influenced the tax reform processes in Indonesia and Vietnam? In the last conclusive chapter, the model will be re-examined in the light of the findings of the case studies.

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5. THE 1983 INDONESIAN INCOME TAX REFORM

5.1 INTRODUCTION In 1983, Indonesia adopted a radical tax reform package which came into force in 1984–86. The new tax laws replaced a complicated system of colonial corporate and individual income tax laws as well as the 1951 sales tax law. The main public reason for passing this legislation was to increase non-oil-related tax revenue43 and thus reduce dependence on oil revenue (Asher 1997) (Booth 1992, p.41). This chapter analyses the 1983 income tax law-making against the background of the political environment in Indonesia. It does not pay specific attention to the VAT, a tax that also formed an important part of the reform.44 The chapter aims to provide an insight into who and/or what influenced this tax reform. It also discusses the limitations faced by policy-makers and the role of various influential actors in this particular law-making process.45 The main aim of this chapter is to examine who and what influenced the tax law reforms, including interest groups, media, the government, political parties and foreign advisers. The chapter starts with an introduction to Indonesia, followed by an analysis of its government structures and law-making processes during the time of this case study. It then provides an historical overview of Indonesian taxation and examines the background of the 1983 tax reform. These aspects together form the setting in which the actual reform took place, which is subsequently discussed. The chapter concludes with an update on tax law developments after 1983, followed by some conclusions.

5.2 INDONESIA: COUNTRY BACKGROUND More than one thousand islands make up the Republic of Indonesia. The country is rich in resources, particularly in oil. In 1998, 200 million people were living in Indonesia, the majority (around 60%) on the island of Java. The country is divided along racial, ethnic, religious, class and regional lines. The ethnic Chinese minority in Indonesia counts for less than 5% of the population but controls more than 70% of the Indonesian economy. After more than three centuries of Dutch colonial rule, Indonesia became independent in 1945. The Dutch came to the Indonesian archipelago as spice traders 43 In oil-exporting countries, tax revenue are often divided into non-oil tax revenue and income tax revenue

from the oil and gas sector Asher, M. G. (1997). Reforming the tax system in Indonesia. Tax reform in developing countries. W. Thirsk. Washinton, D.C, The World Bank, Regional and Sectoral Studies..

44 VAT, by its very nature, is a totally different tax than income tax or corporate tax. Ultimately, VAT bears on individual consumers of goods and services. Often those who pay are not fully aware of their tax burden This means that the tax law making processes of VAT are very different to corporate and individual income tax law making.

45 As mentioned in 1.3, It is important to emphasize that since the tax reform processes of the 1980s in Indonesia, much has changed in the Indonesian tax laws. The principal purpose of the study is to develop a model for understanding such tax reform processes.

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at the end of the 17th century, aiming to secure control of the major ports of northern Java and the main (spice) trade centres of the other islands.46 By the middle of the 18th century, the Dutch colonisers politically controlled most of Java. During the 19th century, pressured by economic demands and foreign competition, the Dutch felt their loose control over the outer islands was no longer sufficient. They wanted closer control and a uniform administration and this led to severe conflicts with local forces. At the beginning of the 20th century, the Dutch claimed control over the entire Indonesian archipelago. This control lasted until the Second World War, when Indonesia was occupied by the Japanese (Schwarz 1994, pp. 1-24). In 1945, Sukarno, leader of the independence movement, proclaimed the nation’s independence, but the Dutch Government refused to accept. It was not until 1949 that the Netherlands, after years of military action, finally handed over power. Sukarno, a prime figure during the conflicts with the Dutch, became the first president of an independent Indonesia (Schwarz 1994, pp. 1-24). Under the new Constitution, the People’s Consultative Assembly (MPR)47 was established.48 The MPR exercises the sovereignty of Indonesia, which resides with the people. The MPR meets at least once every five years49 and has the authority to enact and to amend the Constitution. It also provides the broad outlines of national policy. It includes members of the House of Representatives (DPR, the Indonesian version of parliament), representatives from the various regions of Indonesia, political parties, and delegates from ‘functional groups’ such as labour unions, the military and co-operative societies. In practice, the parliamentary democracy that followed after independence was often disorganised and far from effective. Many politicians simply lacked experience (Schwarz 1994). The government had an anti-Western foreign policy, rejected Western aid and withdrew from the IMF, and World Bank. In its domestic policies, the government nationalised most foreign businesses and exercised extensive price controls (Nasution 1983). In 1965 an attempted communist coup led to the collapse of the Sukarno era.50 General Suharto emerged as the leading figure of the armed forces, suppressing the coup. In what amounted to a successful counter-coup, Suharto established himself as president and took governmental control in 1966. Suharto’s regime, backed by the Indonesian army, lasted for more than three decades until 1998, and is often labelled the ‘New Order’. The regime has been criticised for restricting political freedoms, for human rights abuses, and for corruption. At the same time, during this era the standards of health, education, housing and transport improved. Over the last 40 years, Indonesia has had no outspoken enemies and has fought no wars. Since the late 1980s there have been increasing pressures for more democracy and openness. 46 During the Dutch occupation of Indonesia, Indonesia was better known as the Netherlands Indies, a term

not used in the text to avoid any confusion. The Netherlands Indies had its own government established and controlled by the Dutch.

47 Madjelis Permusjawaratan Rakjat. 42 The constitution was written in July and August 1945, when Indonesia was emerging from Japanese

control at the end of World War II. It was abrogated by the Federal Constitution of 1949 and the Provisional Constitution of 1950, but restored on July 5, 1959 (http://en.wikipedia.org/wiki/Constitution_of_Indonesia).

49 Since 2000, the sessions are held annually. 50 The coup is still subject to much speculation and it is still not clear who was involved and what exactly

happened, including the role of the army during the coup and Suharto’s role in particular.

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In 1998, President Suharto stepped down as president in the midst of economic crisis and political turmoil and Indonesia began its first steps on the road to a return to democracy. In 1966, when Suharto took control, the Indonesian economy was near collapse. His government immediately introduced an economic stabilisation and rehabilitation program to re-establish order in Indonesian society and to stimulate economic development. Part of the agenda was to restore a balanced budget and from 1967 onwards all budget decisions were centralised in the Ministry of Finance. The government believed that in order to realise this program, popular participation in politics had to be strictly limited. The roles of the MPR and the DPR were greatly restricted. In 1967 the government gave itself the power to appoint one-third of the members of the MPR and one-fifth of the members of the DPR. Suharto wanted to ensure that the parliament would approve his policies and not offer alternative ones; in effect parliament became a toothless tiger (Schwarz 1994, pp.30-32). As Suharto stated, “With one and only one road already mapped out, why should we then have nine different cars?” He added: “The general elections must serve the very purpose for which they are held, that is, to create political stability. Only these kinds of elections are of value to us.” (Schwarz 1994, p.32). 51 Suharto initiated the party organisation Golkar as the regime’s parliamentary vehicle. Civil servants were forced to vote for the Government’s party Golkar and the establishment of other political parties was curtailed. The economists52 Mohammed Sadli, Emil Salim, Subroto, Ali Wardhana and Widjoyo were appointed to carry out Suharto’s economic program and acted as personal economic advisers to Suharto. Widjoyo and Wardhana were the two key people in charge of the tax reform. In 1962, he received a PhD in the US at the University of California at Berkeley (as part of a Ford Foundation program to train economists). From 1968 to 1983, Wardhana was Indonesia’s Minister of Finance. He then became Coordinating Minister for Finance and Industry from 1983 to 1988. He later held several positions within the World Bank and the IMF. Widjoyo was based at the national planning board, called Bappenas, developing economic policies. These economists remained Suharto’s advisers or members of his cabinet for many years, and according to Bresnan, Suharto’s stable relationship with these five experts was exceptional (1993, p.73). Suharto and his team were in charge for more than 25 years, and during this period there were no major ideological changes (Winters 1996, p.xiv). The economic advisers, also known as the ‘technocrats’, were not the only actors attempting to shape Indonesia’s government policies. There was a group of so-called economic ‘nationalists’ who believed that the government should play a large role in the economy and should give more support to indigenous businesses. This group did not have much economic power but definitely had political power. The third group, widely known as the ‘cronies’, consisted of people who were close to President Suharto and included his relatives, as well as some of Indonesia’s very wealthy, often

51 Since 1971, the DPR has comprised 460 members (this was recently increased to 500). Of those, formerly

360 (now 400) are elected representatives from the various political parties. The president appoints 100 members from non-military and military functional groups.

52 Most of them were university professors.

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Chinese, businessmen, such as Bob Hasan and Liem Sioe Liong. A large majority of the wealthiest ethnic Chinese businessmen owe their entry and subsequent success in business to high-powered government officials (Schwarz 1994). They had the advantage of being close to the president, but at the same time they had to operate in a tactful way, since Chinese businessmen are the subjects of considerable racial hostility from most Indonesians. The economic advisers were all but one educated in the US.53 Wardhana’s study in the US and this seems to have had a great influence on his perception of, and approach towards, the largely US-dominated advisory team. The advisers had the full support of organisations such as the World Bank, IMF, USAID and Indonesia’s creditors group (known as the Inter-Governmental Group Indonesia, IGGI). They shared the same economic ideology, with an emphasis on free markets, transparency and balanced budgets. After the political turmoil in 1965, an IMF team returned to Indonesia in July 1966 and, a month later, a World Bank mission arrived to assess which imports were most needed. Their representatives worked closely with the technocrats and a signal was sent to the international community that this economic team would have a strong influence on economic policies under President Suharto (Winters 1996). After 1965, when the economic ministers started to implement their policies, Indonesia had an investment climate similar to that of its neighbouring countries, one relatively open to foreign investors. This started to change in the second part of the 1970s because of the oil boom. The government received plenty of revenue from oil resources and was therefore less responsive to the technocrats’ wishes to improve the investment climate to lure investment capital. The nationalists’ political influence increased and large investments of government capital were made in domestic industries. During this period, Suharto gradually increased his political control. It was not until 1982 that the Indonesian government began again to seek to improve the competitiveness of the country’s investment climate when it became clear that an influx of capital was required to stimulate the Indonesian economy (Winters 1996). But, at the same time, the regime did not make the elimination of corruption a priority. On the contrary, corruption became institutionalised, with army officers and their (often Chinese) business partners as the main beneficiaries (Schwarz 1994). The ‘level playing field’ view promoted by the technocrats did not go down well with the beneficiaries of the policy of favouritism. Although the technocrats exercised significant power, it was definitely not unlimited. They were given room to introduce regulations to improve the investment climate in Indonesia, but they did not have the power to make real changes in the way the Indonesian bureaucracy operates. As expressed by Wardhana, “Our frustration is that we have control over part of the game but we can’t win the game unless other parts play along,” (Schwarz 1994, p.77). Unlike other countries, Indonesia does not have many politically powerful societal actors. Oil companies and other large enterprises exert a certain influence, but the same cannot be said of the majority of Indonesian businesses, especially smaller 53 Prof. Dr. M.A. Subroto received his education at the Faculty of Economics at the University of Indonesia

and McGill University, Montreal, Canada.

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sized businesses that are not in a position to consider relocation and have little say in policy matters (Winters 1996). The institutional structure of the state, especially of those institutions responsible for economic policy, remained remarkably unchanged in this period. At the same time, the country steadily increased its integration into international markets of all kinds, particularly during the 1980s (Winters 1996, p.xi). After Suharto came to power, the independence of the provinces (other than Java) declined and so did the role of political parties. During the late 1960s and 1970s, political opposition was steadily destroyed by the Suharto regime. The regime demonstrated that it would not hesitate to use force against anybody who dared to oppose it regardless of whether they were the urban and rural poor or middle and upper class figures of Indonesia. This factor is very important when analysing the tax law-making in the 1980s. The fact that there was little opposition is to a large degree the result of fear that opposing the regime in any visible way would not be tolerated.

5.3 GOVERNMENT STRUCTURES AND LAW-MAKING PROCESSES BETWEEN 1975–90 During the New Order period, the Indonesian government was centralised and hierarchical and important strategic decisions regarding the 27 Indonesian provinces were made by the national government in Jakarta. Most financial resources used by the provincial and local governments came from the central government. Executive power rested with the president of the republic. As already mentioned, in the period 1975 to 1985, Suharto gradually increased his political control and increasingly prevented criticism from coming to the surface (Schwarz 1994). The result was that Indonesian law-making became more and more authoritarian and centralised. Even if it appeared that ministers acted rather autonomously, no official law-making policy of any weight was adopted without the approval of President Suharto. The success of different competing groups in gaining access to the political agenda and achieving implementation of their agenda was dependent on the president’s appraisal of the consequences of a proposal for his own political strategy for retaining power (Winters 1996). This was exactly the line of reasoning the team of economic advisers would use to exert their influence. They would point out to Suharto that not implementing certain economic policies or measures could destabilise his regime. Ensuring economic growth and the elimination of poverty were two key elements for stability, and convincing factors for Suharto`s economic advisers to use in their efforts to persuade him of their case. Non-governmental actors such as orthodox Muslim leaders, nationalist politicians, progressive academics and liberal economists were all excluded from the political process and were dissatisfied with the political ground-rules created by Suharto. But criticising the president was unwise in a country where political opposition was not tolerated. Instead, these actors used the indirect method of criticising those close to the president. The technocrats, lacking any political party backing, were an easy target for many non-governmental actors to promote their views and channel their resentment (Schwarz 1994). In addition, if one set of actors lost influence, another group of actors would gain. For example, an often-used tactic by the nationalists was accusing the

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technocrats of leaning too heavily on foreign advisers. In some instances this tactic worked and weakened the position of technocrats and increased the power of the nationalists over Suharto’s policies. Law-making processes There are various forms of law-making in Indonesia (Damian and Hornick 1972). As in many other countries, ‘constitutional’ issues are not just resolved in the formal constitution but also in other sources of law, such as MPR decrees (King 2001, #369). A decree of the MPR generally outlines national policies in the legislative and executive areas of government. Those related to legislation have to be implemented in the form of statutes while those concerning executive policies have to be implemented by Presidential Decree. In addition to statutes, there are government regulations promulgated by the president to implement a statute. Furthermore, there are Presidential Decisions to implement the Constitution, a decision of the MPR, or to implement a government regulation. Moreover, other regulations, often announced by a minister, implement regulations of a higher order. Very important in the legislative process are statutes enacted by the DPR. They are passed for the purpose of implementing either the Constitution or a decree of the MPR. The president also has emergency power to promulgate ‘regulations in lieu of statute’ which are of the same rank as statutes but must be withdrawn unless approved by the DPR at its next session. One of the main features of Indonesian statutes is their broad and general character (Damian and Hornick 1972). Often, statutes leave details to lower executive measures, effectively authorising lower levels of government to exercise significant law-making powers. The various stages of the legislative process involving statutes include the following steps:

1. The president or a minister takes the initiative for new legislation. A committee is established within the relevant ministry.

2. A draft is discussed with the senior staff of the relevant ministry and, if

applicable, internal/external consultants.

3. The draft is then sent to the secretary of the president (the State Secretariat).

4. The president approves the draft.

5. The draft then goes to the DPR and members of parliament invite the

relevant ministry to explain the draft and often the minister or senior staff of the ministry give the explanations.

6. A parliamentary committee is formed, generally consisting of about 30

members.

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7. The committee discusses the draft, article by article, and amendments are made.

8. The draft is approved by parliament.

9. The draft is sent to the president for ratification.

In the legislative process, it was, and still is, quite common for foreign advisers to play a role. As pointed out by Winters:

Those familiar with Indonesian nationalism and pride might be surprised to learn that top policy-makers are extraordinarily comfortable using foreign consultants to draft the country’s legislation. My own observations and direct experience confirm that as late as 1991 American consultants were still drafting major Indonesian legislation (tax reform, capital markets, trade deregulation etc) (1996, p.61).

5.4 HISTORICAL OVERVIEW OF THE INDONESIAN TAX SYSTEMS

General The history of the Indonesian tax systems can be divided into three periods: the pre-colonial period, the colonial period and the post-colonial period. The main emphasis here is on the development of the income tax system over the centuries. It is important to realise that in the past it was common that tax collectors received part of the taxes collected, a practice, although illegal since the 1950s, that is still in fact prevalent. Moreover, for many centuries, it has been common to pay additional fees, on top of the official fee payable, to various government officials. These fees, often labelled by foreign observers as bribes, are paid to ensure receipt of a particular government service, varying from obtaining documents from a police department, licenses from the motor vehicle department, to the working permits from the immigration departments. The amounts, though small, are crucial to prevent delays. More recently, additional payments of a different kind apply to contracts with the government. In this case, the amounts paid to government officials are much more substantial54 and are paid by companies eager to obtain government contracts. Foreign and domestic companies pay enormous amounts of money to secure government work. These payments can be made in the form of an equity share in the company involved (Schwarz 1994). During the Suharto era there was no political will to change these practices and, on the contrary, many of Suharto’s relatives and close business friends were involved in this way of doing business.

Pre-colonial period The mobilisation of labour to harvest the resources of the seas and land forms the core of the tax system in pre-colonial Indonesia. The pre-colonial Javanese dynasties

54 In some cases, up to 15% of the contract value.

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operated on this system of taxes paid in kind (Schwarz 1994, p.3). The payment could be made in rice or pepper or in labour such as building roads or palaces, personal services to the king and other officials, and military service.

Colonial period From 1830 onwards, the Dutch started to make a serious effort to exploit Indonesian resources. During the colonial period existing taxes were reshaped and a range of new taxes was gradually introduced. The main flow of total colonial revenue, however, came from non-tax revenue, including government trade monopolies in salt, opium and pawnshops and the sale of natural resources (forestry, coal and tin). Moreover, the Dutch colonial government received profits from public enterprises such as the railway and bus services, harbour works, post and telegraph services, and electricity. This changed in the period 1900–41, which was marked by an increasing tax burden on indigenous Indonesians. Taxes gradually took over the predominant role in government revenue (Booth 1980). In 1900, 38% of total revenue found its source in tax; in 1939 this was 63% (Booth, O'Malley et al. 1990). This increase was at the expense of revenue from monopolies and the sale of products. The period also saw a decline in revenue from land tax combined with an increase in excise and income taxes. Tax under Dutch rule can be divided into four separate periods (Paauw 1954). The first period, 1620–1800, was characterised by exclusive economic access to Indonesia by the Dutch East India Company. Taxes did not play an important role in government finance during this period and were limited to some commercial profits. But the Company imposed heavy levies on the local population via the ‘quota and supply’ system. Towards the end of the 18th century, the colonial government continued the tradition of payments in kind. These payments could be in the form of work on agricultural land (Heerendiensten or statute labour) or performing village duties. On Java, more so than on the other islands, significant payments in kind were made in the form of village duties (Booth 1980). The second period, 1800–70, included levies on the sale of certain goods such as opium, liquor and tobacco, and on certain activities, for example, the slaughtering of cattle and the sawing of wood. This period also saw the start of a heavy reliance on land taxes,55 introduced during the short British occupation of Java (1811–16). But the British attempt to create a uniform land-tax system failed and after return to Dutch rule, the Dutch decided that the system was not generating the desired revenue. They changed the tax system from cash payments to payments in kind under the so-called culture system. Under this system, local farmers had to pay tax in the form of a share of their production of agricultural export crops. Moreover, farmers were obliged to sell their remaining export crops to government collection agencies at below-market prices (Paauw 1954). Additional to these taxes was compulsory labour on government plantations for very low wages. The culture system was abolished in 1861; during its life span a minimum of 20% of total village cultivatable land had been used for government purposes

55 In the 19th century land became a more important commodity followed by the increasing importance of

minerals.

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(Paauw 1954). After 1861, the agricultural sector continued to carry a major tax burden with high levels of export duties on agricultural products. Rubber plantations especially bore the brunt of this tax. Moreover, the agricultural sector was a major consumer of imported goods subject to import duties, thus increasing their overall tax exposure. The major shift of opening Indonesia to private capital marked the beginning of the third period in 1870. The Dutch introduced levies on foreign enterprises in the form of enterprise and business licence fees. This period saw a gradual move away from land taxes to taxation of the non-rural sector (Paauw 1954). This trend became pronounced during the fourth period which commenced in 1920. In 1867 land taxes contributed 49% of total tax revenue but by 1929 this had decreased to 11%. Over the same period there was also a move away from revenue from export sales towards tax revenue.56 Although the colonial government made serious attempts to increase the revenue flow from income tax, the major bulk of tax revenue came from indirect taxes, especially import duties (see Table I). Other indirect taxes included excise taxes on liquor, petroleum products, matches, tobacco and sugar.57 Furthermore, there were capital assets taxes, slaughter taxes, export duties largely levied from agricultural products, stamp taxes, motor vehicle tax, lease and permit tax, and taxes on the transfer of property. Table 1 outlines the different sources of tax revenue during the first four decades of the 20th century. It is important to realise that tax payments in kind, such as labour and rice, are not included in the table, although they formed a significant part of the overall tax burden.

56 Indonesia’s revenue structure during the period 1900–40 is similar to that of its neighbouring countries

during this era, with a large part of revenue coming from non-tax sources. For tax revenue one can see a decline in land taxes and an increase in trade taxes and excises (Booth, A., W. J. O'Malley, et al., Eds. (1990). Indonesian Economic History in the Dutch Colonial Era. New Haven, Connecticut, Yale University Southeast Asia Studies.).

57 This is not a complete list, but covers the most important indirect taxes. Minor taxes not mentioned in this list include, for example, dog taxes, lottery taxes and permits for Chinese dice games.

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Table 1. Percentage Breakdown of Colonial Tax Revenues 1901–1940 (percentage of total tax revenue)

INCOME TAXES

YEAR

Pers

ona

l C

orpo

rate

NATIVE LAND TAX

URBAN

LAND TAX (a)

HOUSE & PROPERT

Y TAX

EXPORT TAXES

IMPORT TAXES

EXCISE

S

OTHER

(b)

1901–5 8 32 4 2 3 18 10 23

1906–10

13 26 4 2 3 20 12 20

1911–15

20 21 3 2 3 23 11 17

1916–20

22 16 3 1 3 23 9 24

1921–25

37 9 2 1 3 19 7 22

1926–30

15 17

11 2 1 4 25 11 14

1931–35

21 5

13 2 2 4 22 18 13

1936–40

16 16

8 2 1 12 18 21 6

Source: (Booth 1980, p.93) a) Land tax paid by urban property owners. b) Includes war profit tax, transfer tax, stamp duties, slaughter taxes and

other miscellaneous taxes.

Income tax Up until 1920, under Dutch rule there were two tax systems, one for indigenous Indonesians and one for Europeans living in the colony. Further, the tax systems of the trade centres, Java and Madura, were different from those in other parts of Indonesia.

Indigenous income taxes until 1920 As mentioned earlier, during their brief period of occupation (1811–16), the British introduced two new taxes, a tenement tax on non-agricultural land owned by indigenous people and a tax on agricultural land. After return to Dutch rule, the tenement tax was extended to non-indigenous people of Asian origin. In 1839, it was converted into a business tax with an exemption for farmers (Mansury 1984). The rate was 2% of income from trading, business, personal and professional services

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above a certain threshold. This tax applied until 1905 when it was replaced by a tax on business and other income. This new tax had a tax-free threshold combined with progressive rates and applied to indigenous and non-indigenous Asians living in Indonesia. Exemptions were given to government officials and those who paid land tax. From 1907 onward, corporations with indigenous or Asian shareholders had to pay a tax that was levied on all income derived from agriculture, manufacturing, trading activities and the provision of services. And although there were some differences, the overall tax structure was quite similar for the outer islands.

Taxes for Europeans living in Indonesia until 1920 Europeans living in Indonesia had their own personal tax system as well as a patent tax. This patent tax targeted income in the form of money or goods and the applicable rate was 2%. In 1908 an income tax replaced the patent tax for Europeans residing in Indonesia. Non-residents were also subject to the tax for income received from Indonesia. Over the years, the rate increased to 8% by 1918. During the First World War, in 1916, the Dutch government launched a tax on war profits which was abolished in 1919.

The 1920 unified Income Tax Law and the 1925 Corporation Tax Ordinance The 1920 tax reform was a major overhaul of the previous system and especially the income tax law was seen as a milestone in modern taxation (Mansury 1984). It unified the separate tax systems for indigenous and European residents in Indonesia and introduced the principle that the tax was levied on net rather than gross income.58 It worked on the assumption that the income earned on a particular date (1 January of each calendar year) was a fair representation of the income earned throughout the year and this income was accordingly taxed. Any excess or shortfall would be rectified in the tax assessment of the following year. All residents of Indonesia earning above the tax-free threshold were subject to this new income tax (principle of domicile), although there was no definition of residency in the law; this being left to the interpretation of the tax administrators. Individuals as well as companies or any other commercial entity were subject to the Income Tax Law. Non-residents receiving income from Indonesia were also subject to this law (based on the source principle). The rates were progressive for individuals and flat for companies at 6%. However, there was a higher rate of 10% on so-called excess profits.59 The new law had only a short life. The government appointed several consecutive tax reform committees to decide whether there should be a separate income tax for

58 As pointed out by Mansury (Mansury (1984). "A bird's eye view of Indonesian income taxation history."

Asian-Pacific Tax and Investment Research Centre Bulletin(12). Although the government aimed at unifying the income tax systems for indigenous Indonesians and Europeans in Indonesia, this was not entirely realised. The land rent system as an income tax for indigenous Indonesians from land revenue remained applicable for Java and Madura, Bali, part of Kalimantan and South Sulawesi.

59 Excess profits were defined as distributed profit that exceeded 8% of the paid-up capital Ibid..

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corporations, and if so what their tax base and rate structure (progressive or proportional) should be (Mansury 1984). The committees made several recommendations, including the abolition of the higher excess-profit tax rates and a preference for a flat tax rate of 10%. This resulted in the Corporation Tax Ordinance of 1925, an ordinance that, although subject to various modifications, remained in place until the 1983 tax reform. The ordinance dealt with issues such as accounting principles, depreciation for tax purposes and the revaluation of assets.

The 1932 Personal Income Tax Law With the promulgation of a separate corporate tax system in 1925, it seemed logical to revamp that part of the 1920 Income Tax Law part that related to individuals. The modern provisions for corporations in the 1925 ordinance regarding depreciation and accounting principles could equally apply to individuals but the 1920 Income Tax Law did not deal with these issues. Furthermore, the government aimed to coordinate the personal income tax with the system in the Netherlands so as to avoid double taxation for those with income in both countries. Such coordination would also mean that Dutch case law in the area of personal income tax could be used in Indonesia. Nevertheless, it took many years before a new personal income tax law was introduced. There were delicate topics to be resolved such as the appropriate rate structure, the tax-free threshold and the collection system.60 In 1932 a new Personal Income Tax Law was finally introduced. It retained the domicile principle for residents of Indonesia and the source principle for non-residents. A novelty, however, was the inclusion of a time test: any person residing in Indonesia for more than 365 days would be classified as a resident for tax purposes. Those residents leaving the country for less than 365 days were still considered tax residents of Indonesia. There was much discussion about the level of the tax-free threshold (Mansury 1984). Under the 1920 Income Tax Law, the threshold was 120 guilders and the government decided to keep the same limit under the new 1932 law. This increased the number of people in the lowest tax brackets without producing much extra revenue and at great administrative expense. Moreover, paying income tax is often perceived as politically sensitive, in contrast with indirect taxes that often go unnoticed by those paying them. Although the advisory team suggested increasing the tax-free threshold, the colonial government decided otherwise. In defence of this decision, the government pointed out that “it was the obligation of everyone in society to contribute to the government”. But the reality was different. The tax burden increased significantly, especially at the beginning of the economic crisis in the 1930s. Indigenous Indonesians were the main contributors to land tax, export and import tax, and excises on petroleum products, matches, tobacco and sugar. These were taxes that were relatively inelastic in relation to changes in indigenous income (Booth 1980). If taxes paid in the form of labour or rice were considered, the burden was even heavier on indigenous Indonesians during this last part of the colonial period. 60 Moreover, the government was awaiting the outcome of commissioned research on the tax burden. Ibid.

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The 1935 Wage Tax Ordinance In 1935, the first system of withholding tax was introduced with the Wage Tax Ordinance. The employer collected the tax when wages were paid out to employees. If the wages were low, for example for servants, a system of wage tax stamps applied. The withholding tax, though efficient in theory, caused many headaches with insufficient administrative capacity to ensure payment, especially when low incomes were involved (Mansury 1984).

Post-colonial period 1940–81 During the Second World War, the Japanese government replaced the Personal Income Tax Law with the 1944 Transitional Tax Law. Meant as a temporary measure only, the Transitional Tax largely followed the principles of the 1932 Personal Income Tax, although there were some differences, including the change from a fictive to a real assessment system. This meant that the definite tax assessment would not be issued until after the end of the taxable year. A provisional tax could be levied based on the income earned in the previous taxable year. It also meant the abolition of the time test for determining tax residency. After the independence of Indonesia in 1945, the newly established government stipulated that all existing laws would remain in place until further notice. In 1957, the Indonesian Government renamed the 1944 Transitional Tax the 1944 Income Tax. In 1961, the Wage Tax Ordinance was added to the 1944 Income Tax. The 1925 Corporate Tax Ordinance remained in place. In 1967 the system of advance payment of taxes changed, as a result of Law No. 1 1967. Under this law, the system of provisional tax assessments issued by the tax authorities was no longer applicable for tax payments during the taxable year. Instead, corporate taxpayers had to self-assess what their income during the year was going to be and pay the right amount of taxes to the Treasury, the so-called MPS system.61 Under this new system, on average the monthly corporate tax payable was 1% of gross revenue or sales. However, the rate could be different based on the type of business (Mansury 1984). In addition to the MPS, the MPO system was introduced, paying taxes on behalf of others.62 Various organisations, such as government agencies, were appointed as MPO withholding-tax collectors. They had to withhold a certain amount of corporate taxes when paying for the purchase of goods. The rate for MPO payments was 2% of sales. Both MPO and MPS were in fact systems of prepayments of corporate taxes, with a credit available for the taxes due at the end of the taxable year. In 1959 a withholding tax on dividends was introduced. This tax was broadened in 1970 to include interest, dividends and royalties. As with the other withholding taxes, this tax involved a prepayment of the tax liabilities due after the taxable year.63 These tax laws, especially the Corporate Tax Ordinance of 1925, knew various amendments over the years, and gave birth to large numbers of decrees, regulations, 61 MPS stands for Membayar Pajak Sendiri, calculating and paying one’s own tax. 62 MPO stands for Memugut Pajak Orang, withholding other taxpayers’ tax. 63 Unless the receiver was a non-resident of Indonesia. In such a case the withholding tax was final.

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amendments, circulars etc. It became confusing for both tax administrators and taxpayers to work with these laws. The Ordinance, for example, had an extensive system of tax incentives and privileges. The tax incentives were used to promote investment in favoured industries such as export and the development of less developed regions. In order to finance this expensive system, the overall corporate and individual tax rates remained high during the first part of the Suharto era. In the late 1960s state-owned enterprises were important contributors to corporate tax revenues. When Suharto came to power, his government made a serious attempt to increase tax revenue from other sources, especially revenue from customs duty collection, income tax and proceeds from excise and sales taxes (Nasution 1983). These efforts had some results. Still in 1983-84, state-owned enterprises contributed half of the corporate income tax collected (Asher and van Eeghen 1987, p.134). In 1980 1.2 million individuals paid income tax (219,000 self-employed taxpayers and an estimated 1 million tax payers who paid tax under the withholding tax system), of the estimated 11 million that should be paying income tax (of a population of 147 million at the time) (Asher and van Eeghen 1987, p.134) The overall tax revenue increased during the period 1969–79, even if oil-related tax revenue is excluded. The domestic tax ratio, including oil, increased from 7.1% in 1968 to above 18% in 1976–77. When oil is excluded, the ratio grew from 6% to more than 8% (Nasution 1983). The modest increase in overall non-oil tax revenue (excluding corporate income tax revenue from oil companies) in the period 1969–79 can be explained by various factors. First, there was an improvement of collection rates in personal income tax and indirect taxes; second, Indonesia experienced a high inflation rate in the 1970s as well as a real growth of the economy. Third, various new taxes were introduced, including the 1969 sales tax on imported goods. Even though there was an increase in non-oil-related tax revenue, the bottom line was, that during the first 15 years of the New Order, most tax revenue came from oil companies. In the second part of the 1970s oil and gas revenue counted for more than 10% of GDP. Non-oil tax revenue was around 8%. After the second oil boom in 1978, oil and gas revenue had risen to over 16% in 1981 while non-oil tax revenue fell to 6.6%. In 1981 foreign aid accounted for 3.4% of GDP (Nasution 1983). Indirect tax revenue grew at a similar pace to the overall growth of the economy. The direct taxes, such as personal income tax and corporate income tax, did not generate much revenue. This was partially caused by tax incentives, including corporate income tax holidays, varying from two-to-six years, while the shareholders of those companies did not have to pay Indonesian taxes on the dividends received during the period of the company’s tax holiday. Those companies not qualifying for the tax holidays could be eligible for an investment allowance. The allowance was a deduction from taxable profits of 20% of the amount invested spread over four years at 5% annually. Further incentives were available for companies to sell their shares to the public, to use public accountants to audit returns, and to promote development of co-operatives. Some companies were eligible for accelerated depreciation and there were generous carry-forwards of losses for newly established companies. Any losses incurred could be

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carried forward for four successive years.64 If the losses were incurred during the first six years after establishment of the company, these could be carried forward for an indefinite period. But the advantages of tax holidays and tax incentives are often exaggerated as illustrated by a case study in a 1980 World Bank report on Indonesia (World Bank 1980). Those foreign companies enjoying tax holidays in Indonesia complained that they were still subject to a withholding tax levied on traded commodities. Although this tax was meant to be a prepayment of the corporate tax liabilities at the end of the taxable year, it was a final tax for those companies that had been granted a tax holiday. The result is that the actual benefits of tax holidays were significantly lower than appeared. Moreover, the additional fees and levies collected by various government departments were definitely not subject to any tax holiday, adding to the overall costs of doing business. Another feature of the Indonesian system was the so-called ‘target system’, mentioned above, that has prevailed in the Indonesian tax system for many centuries (Lerche 1980, pp.34-51). In 1999, the system was still in place. Tax revenue is collected according to this system. When the government prepares its annual budget, targets are set for tax revenue. The targets are set at the top, and in the lower ranks tax administrators have to meet these targets, which are not always realistic and in line with the economic conditions of a particular region. Local tax collectors adopt the principle of ‘taxation by negotiation’, subject to tax regulations and the targets set (Nasution 1983). Prior to the oil boom, the Indonesian tax structure was quite similar to many other developing countries, with a heavy reliance on indirect taxes. In 1966, indirect taxes accounted for 80% of total tax revenue. By 1977–78 this had decreased to less than 25% due to the huge increase in oil-related tax revenue. However, as a percentage of non-oil tax revenue, indirect taxes still accounted for 76% in the financial year 1977–78 (Glassburner 1979). Overall, the tax system in the 1970s was regressive due to this heavy reliance on indirect taxes. Even though the personal income tax was very progressive, it only accounted for 3% of total tax revenue. In 1979, Glassburner pointed out that if Suharto was serious about his policy aim of stability, growth and equity, the last one, equity, needed attention, a view shared by Nasution (1983). Non-regressive or progressive taxes ought to be further developed to tax the income of the Indonesian wealthy and to reverse a disturbing trend of regressive taxes in the first 15 years of New Order policy. Glassburner believed that the corporate and personal income tax laws at the time were not sufficient to achieve this. The present structure of and rate schedule of the personal and company income

taxes is such that enforcement is all but impossible, even if the competency and incorruptibility of the tax collectors were above reproach (Glassburner 1979, p.312).

64 In most countries carry-forward of losses is only allowed for a limited number of years.

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5.5 BACKGROUND OF THE 1983 TAX REFORM The 1970s were not conducive to a major overhaul. Oil prices were booming. Oil revenue was so high that the relevant government ministers did not see any urgency to reform the tax system. Although Indonesia accounted for only 6% of OPEC production, oil accounted for two-thirds of Indonesia’s exports. But the oil boom also made clear that there were great disadvantages from the sudden inflow of external funds because the economy could not absorb this inflow without inflation. This dependency on oil did not escape the attention of international organisations. There were various attempts and proposals to reform the tax system by the IMF and the World Bank. In the 1960s and 1970s, year after year, their reports paid attention to problems in the tax area, but the comments were generally broad and the advice was quite general, without going into detail about how to reform the existing tax system (Lerche 1986, p.179). It is important to understand that organisations such as the IMF and World Bank had an immediate interest in reforming Indonesia’s tax system. Since Suharto came to power, Indonesia depended significantly on foreign aid as a source of government revenue, and the multilateral agencies wanted to see some certainty that Indonesia would be able to repay those debts. In 1970, Musgrave, an international tax expert and public finance specialist, prepared an extensive assessment of the tax system, which was reviewed by an IMF mission in 1974. The German government initiated a technical assistance study on organisational reform in the tax area in 1978–79. This was followed by a German development aid project to reorganise and computerise part of the tax system. German assistance came on the scene once again in the 1980s with the implementation of the 1983 tax reform. The project then focused on tax administration. In 1979 Ali Wardhana acknowledged the need for tax reform to decrease the dependency on oil revenue (Winters 1996, p.164). As Lerche points out (1986, p.172), this was, in the middle of the oil boom, a farsighted and fortunate conclusion. Although Wardhana was the crucial initiator of the tax reform, the reform would not have been possible without Suharto’s support. Although Suharto did not want to be bothered with the details, he approved the reform in principle.65 One of the problems was that there were only a few people within the Ministry of Finance who had the expertise required to assist in the reform.66 The education statistics for that period illustrate the problem. In 1980, only 0.1% of people over the age of 14 in Indonesia had completed post-secondary education. In Malaysia this percentage was 10 times higher and in Australia it was even 100 times higher with

65 Interviews with former Director General of Taxation and Minister of Finance Mar’ie Muhammad, tax and

legal adviser Greg Churchill, and retired senior tax official Hadikusumo. 66 Interview with Dr Lloyd Kenward, former IMF representative in Indonesia and economic adviser on various

aid projects in Vietnam and Indonesia, 27 November 2005. As Kenward pointed out: “In those days very few senior public servants had received tertiary education let alone studied abroad and there were simply very few people in Indonesia who were able to assist.”

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close to 10% of the population receiving tertiary education67 (Barro and Lee 2000). This may partly explain the large number of foreign advisers used in the drafting of the new tax legislation. An additional reason as suggested by Lerche was that the Ministry of Finance preferred foreign advisers during the drafting stages to avoid the leaks and lengthy discussions that would have occurred if domestic consultants, academics, businessmen etc. had been included (Lerche 1986, p.183). As mentioned earlier, the use of foreign advisers was an easy target for the nationalists. And with the growth in domestic confidence in the late 1980s and with the Indonesian economy booming, many, especially American, advisers were sent home. Using foreign advisers can be an easy way of ‘scapegoating’. At the end of the day, those in government could always say that they relied on foreign advice and any mistakes made could be blamed on the advisers involved. The use of foreign advisers can also be used as a shield against any criticism, using the status and expertise and perceived objectivity of foreign consultants as a defence against any pressure from local groups.

5.6 THE ESTABLISHMENT OF THE TAX REFORM STUDY PROJECT In early 1981, Wardhana took the initiative to overhaul Indonesia’s tax system. As Minister of Finance, he was in charge of overseeing the Directorate General of Taxation. The government, and Wardhana in particular, did not want to give the impression that it was overly influenced by one particular organisation such as the IMF. It did not want to rely on the tax model of one particular country or donor. Indonesia’s financial decision-makers were open to learning from other countries’ experiences, for example the Shoup mission in Venuzuela and Liberia, and the Musgrave–Gillis mission in Columbia (Gillis 1985, p.77). Although the major reason for the reform was, to raise non-oil tax revenue, there were additional goals. They included the streamlining of the tax laws, improving the tax administration in order to provide better services and increase efficiency, and reducing tax-induced distortions in the allocation of resources and achieving economic neutrality (Harberger 1988, p.32). Moreover, it was crucial that the poor not be made worse off as a result of the reform (Asher 1990, p.16) . Wardhana requested the assistance of the Harvard Institute for International Development, better known as HIID68, during that same year, 1981. Indonesia became one of the biggest customers of HIID. This was a logical choice as the institute had advised the Indonesian government on economic issues since the early 1960s.69 It had already had several advisers, including Malcolm Gillis, based in the Ministry of Finance in Jakarta. Wardhana asked HIID, and Gillis in particular, to organise a team of experts from around the world to assist in drafting completely new tax legislation and improve the tax administration.70 The Indonesian Government paid all HIID expenses. It wanted 67 As we will see later, during the tax reforms in Vietnam in the late 1980s–early 1990s, 1.4% of the

population received tertiary education. No statistics are available for Vietnam for 1980. 68 In the 1960s HIID operated under its former name: the Harvard Development Advisory Service. 69 See Winters, J. A. (1998). "A review of 'Building a modern financial system: The Indonesian experience' by

David Cole and Betty Slade." Journal of Asian Studies 57(3): 908-09. 70 Internal report of HIID by C. Williamson Gray 1984.

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to ensure that it was seen as independent in its selection of advisers. Had aid funds been used, the donor may have had influence over the appointment of foreign advisers. HIID’s approach was unique, as it not only included policy recommendations, but also involvement with the actual drafting of legislation. The HIID advisers, with Cheryl Williamson as the HIID resident coordinator in Jakarta, worked with Mr Salamun (until 1982, Sutadi71) and his Directorate General of Taxation. For three years this team worked together with Indonesian officials from the Ministry of Finance formulating options for tax reform and preparing draft laws. There were around 30 to 40 people from the tax department involved. Not all tax officials involved spoke English. Most correspondence and discussions between the team and officials of the Indonesian Ministry of Finance were conducted in English without translations or interpreters, excluding a large number of possible Indonesian participants. The members of the HIID technical team included mainly economists (19 economists, 6 lawyers and 2 accountants/computer specialists). Of the 19 economists, 12 were from the US. HIID, together with the Indonesian authorities, included seven non-Americans — one of these was the Dutch economist S. Cnossen — to give the team a more international image.72 Of the remaining six, most had lived, studied or worked in the US. All six lawyers involved were American-based and educated. The overall approach to the tax reform reflected the background of these advisers. The economists, mainly academics, mostly stuck to the principles outlined in chapter 3: confine the objective of taxes to producing revenue and aim for a tax system that would be neutral between economic choices and between economic activities. They had experience with the very complex US tax system, which many regarded with horror. They believed that interventionist tax policies would be more likely to create market failures than to correct them. Many of them believed that there was actually very little role for governments to play in correcting the markets (Winters 1996). Others believed that the government should deal with market shortcomings in other ways than via the tax system, such as through private sector competition policy or investment in areas such as education, infrastructure and research. The tax reform study project was lead by a steering committee of senior officials from the Ministry of Finance, including Wardhana, Salamun and Committee Secretary Haryono. This committee formally took part in all decisions that dealt with key policy matters. Subcommittees were established to deal with income tax, value-added tax and tax administration. As we will see later in this chapter, the committees’ memos often partially defended existing procedures and regulations in an attempt to balance the recommendations made by foreign advisory reports. In some instances, the memos echoed the foreign advice, but tailored it to the Indonesian situation, reflecting the influence of the committee members. But the internal memos between HIID consultants of the project clearly show that the subcommittees had little influence in the discussions with the articulate and highly experienced foreign advisers (Williamson 1984). 71 Sutadi was Director General of Taxation from 1972 to 1982. In mid-1982 Wardhana ordered his

replacement. Although Sutadi was formally included in the exchanges of information between the advisory team and the Indonesian Ministry of Finance, he did not play a major role. Various people urged his replacement to restructure the Directorate General and to curb rampant corruption. His successor was the well respected Salamun, who was more involved in the reform process than Sutadi.

72 Interview with S. Cnossen, March 1998. In this interview Cnossen emphasised that both HIID and Wardhana did not want to give any room for criticism that the team was dominated by Americans. Mainly for this reason other foreign advisers were invited to join the team.

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5.7 STAGE 1: JANUARY TO JUNE 1981 At the beginning of 1981, eight ministerial-level decisions were made regarding appropriate strategies and tactics (Gillis 1985, p.228). Those responsible were the ministers involved in economics and finance, but they received informal advice and a wealth of information from the HIID advisers.73 The decisions were partly based on the lessons learnt from tax reforms in other countries. They reflected tax policy approaches popular in the US in the 1960s and 1970s. The case studies used from other countries, especially Colombia, involved to a large extent the same American-educated economic advisers who were part of the HIID team (Gillis 1994). First, it was decided that it was crucial to take enough time to complete the task; months would not be enough,74 instead, years were needed to make the reform a success. The ministerial group did not expect any revenue shortfalls until late 1983, allowing them ample time to revamp the tax system. Second, based on the 1968 Colombia tax reform experience, it was decided that tax policy decisions needed to be converted into laws immediately in order to avoid technical problems later on. In the process of drafting, any inconsistencies or problems that came up could be resolved straight away. Thus, it was scheduled that after the second year of technical studies, a team of lawyers would convert the policy decisions into legislation. Envisaging that all technical studies would be completed within two-and-a-half years, an additional three months was allocated to complete the drafting process. The entire reform process had a 33-month schedule (Gillis 1985, p.228). Inspired by the Colombian experience, the team decided that in addition to the economists on the team, it was important to include a number of lawyers to convert the tax policies into draft legislation (Lerche 1986, p.180). The third decision related to the use of foreign advisers. Based on the experiences in Colombia, the group decided that to ensure the appropriate implementation of the new laws, it was important to involve senior officials in the reform. A steering committee of senior government officials (with limited capacities in the English language) was designated from the various parts of the Ministry of Finance. The task of the committee was to monitor and participate in the work of the expatriate technical team. Fourth, a decision was made for a low-key approach to reform. This meant that it was not desirable to have a large contingent of foreign advisers ‘on the ground’. The general procedure was that the foreign experts would liaise with the resident consultants: Williamson for the specific legal issues and Gillis for the main part of the work. The HIID experts would work on a fly-in fly-out basis and were often no longer than one or two weeks in Indonesia to assess the situation, mainly in the period

73 Gillis, fully appreciating the notion of ‘local ownership’, gives the impression he was only one of the many

players in the reform process. See, for example, Gillis, M. (1984). Macro and Micro Impact of Tax Reform in Indonesia. Boston, Harvard Institute for International Development. The reality was that he was the most important foreign adviser who enjoyed the confidence and respect of Indonesian key decision-makers. And he was involved in the initiatives to start the reform in the first place.

74 This was in contrast to the rather quick tax reform process in Colombia, Japan, Bolivia and Liberia.

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1981–83. In most cases, Gillis summarised the advice/memos from the various foreign advisers and sent the summaries to Wardhana and Salamun. An implication of the low-key approach was that there was to be no public discussion. The foreign economists on the team agreed with this approach as they believed public discussion would only complicate their task and increase the risk of ending up with less simple tax laws, as various groups would attempt to lobby for particular tax incentives. But the real pressure to treat the draft laws as state secrets came from the government, including Wardhana.75 A fifth decision concerned the training and education of tax officials. Because the project allowed for plenty of time, this aspect could be incorporated. It was decided that the tax department needed more capable staff and about 20 or 30 people were sent abroad in the late 1970s and early 1980s to prepare for the tax reform package. Most of these officials received their further education in Europe (especially the Netherlands) and the US and most returned in 1984. They were heavily involved with the subsequent implementation of the 1983 reform, but were not key players in the policy-making leading to the new tax legislation. The sixth decision was to start from scratch, abolishing most existing tax laws. There were very few elements in the old tax system that needed to be maintained. The seventh decision was another benefit of the longer time-frame: to address procedural and administrative issues as well as implementation within the reform framework. For this reason, the team of technical advisers needed to include data communication specialists, tax administrators and accountants. The eighth decision was that, in contrast to many tax reform projects, there would be no single final report. Instead, technical studies on particular issues were presented to the policy-makers as soon as the studies were completed. This immediate feedback meant that adjustments could be made. According to Lerche, (1986, p.180) no preconditions or limits were set for tax innovations, allowing room for new ideas and experiments. Finally the oil sector was explicitly exempt from the new income tax law. This sector had its own tax regime, outlined in the so-called production-sharing contracts.

5.8 STAGE 2: JUNE 1981 TO OCTOBER 1982 During this stage, a number of foreign consultants on the team made brief visits to Indonesia to obtain the information necessary to formulate their advice, especially in the period June to October 1981. From November 1981 to October 1982, further analyses were made in the US and Jakarta, with several consultants (including Bird and Wells) revisiting Indonesia for further research. During this period, consultants (including Perry, Andrew Quale, Cnossen, McLure) produced numerous memos on a variety of tax issues. The memos were sent to the HIID team leaders, Gillis and/or 75 HIID had worked in many other countries with, in some cases, extensive public debate during the reform

(for example, in its various consultancy projects in Africa and Eastern Europe).

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Williamson. It was mainly Gillis who liaised with the Ministry of Finance and Wardhana, in particular. See Table 2. below for the consultants used by HIID . The Table gives the background and qualifications of the advisers used. It is compiled based on information obtained from various sources (mainly internal memos from HIID). I am fully aware that the Table is incomplete as no further information has been available.

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Table 2. List of HIID advisory team76

Economists Experience in Indonesia

Advisory role in reform process

Affiliation at time of consultancy

Reports written

Ralph Beals — US International tax and excises

Richard Bird — Can

None Income taxes Taxation and the agricultural sector Framework for tax reform

University of Toronto

The revenue target system (28-8-81) Revenue targets revisited (10-7-82)

Sijbren Cnossen — NL

Substantial Internal indirect taxes Tax administration measures to support tax reform Framework for tax reform

Erasmus University, Rotterdam

Together with John Due, sales tax and MPO (8-81) Tax arrears and enforcement measures (5-9-81) Design and drafting of tax procedures law

Robert Conrad — US

Substantial Revenue forecasts: existing and reformed system Information systems Income taxes Natural resource taxes

Duke University (on leave 1981–83 at Harvard University)

Tax incentives for going public (20-8-81) Business income and withholding-tax systems Tax system analysis (8-81)

David Dapice — US

International tax

Jean Due — US None Taxation and the agricultural sector

University of Illinois

John Due — US None Indirect taxes University of Illinois Together with Cnossen, sales tax and MPO (8-81) Export taxes

Sebastian Edwards — Chile

None Framework for tax reform

Banco Hipotecario, Santiago, Chile

Export certificates (8-81) Pension payments to civil servants in Indonesia (8-81) International tax Taxation of interest

Malcolm Gillis — US

Substantial Revenue forecasts: existing and reformed system Income taxes Internal indirect taxes Natural resource taxes Institution building (fostering tax planning and research) Framework for tax reform

Harvard University (HIID)

International tax Excises

Richard Goldman — US

Some Taxation and the agricultural sector

Harvard University (HIID)

Clove market structure and taxation (31-7-81) Kretek industry: tax and related issues (8-81) Tax policy and market restriction on palm oil (8-81)

Dan Gressel — US None Framework for tax reform

University of Chicago

Preliminary projections of public savings 1982–83 (12-9-81) International tax

Arnold C. Harberger — US

Some Framework for tax reform

University of Chicago

Influence of international oil prices (8-81) Indexing methods for tax purposes

Thomas Hart — None Revenue forecasts: Duke University Tax identification numbers

76 This Table was drafted by the HIID team and used for internal purposes. The classifications of levels of experience were made by the HIID team.

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US existing tax system and reformed system Information systems in taxation Income taxes Internal indirect taxes Institution building (fostering tax planning and research)

Glenn Jenkins — Can

Debt- equity ratios for deductibility of interest payments

Dietrich Lerche — Germany

Property tax Estimating the revenue impact of selected product taxes

Charles McLure — US

Together with Wells, further issues on tax incentives for foreign investment (6-8-82) Designing a simple income tax (18-8-82) Taxation of interest

Richard Musgrave — US

Some Harvard University (emeritus) University of California, Santa Cruz

Dwight Perkins — US

None Taxation and the agricultural sector

Harvard University — Director HIID

Guillermo Perry — Colombia

None Tax administration measures to support tax reform Income taxes Institution building (fostering tax planning and research)

Partner Meija, Millan and Perry, Bogota, Colombia (former director of national taxes, Colombia)

Personal income tax and related issues (9-81) Preliminary thoughts on personal income tax reform (2-82) Together with Williamson, potential number of personal income taxpayers, taxable income and tax vs present figures (2-82) Real estate and derived income tax and valuation of property

Sattya Poddar — Can

Carl Shoup — US None Wealth tax Framework for tax reform

Colombia University (emeritus)

Net wealth taxation and suggestions for general framework of tax system (17-9-81) Possibilities of a flat tax

Emil Sunley — US None Tax administration measures to support tax reform Information systems in taxation Institution building (fostering tax planning and research)

Until June 1981: Deputy Assistant Secretary, US Treasury After August 1981: Haskins and Sells

Tax administration, taxpayer identification, master tax files and other issues (8-81) Deductibility of depreciation.

Louis T Wells — US, specialised in business administration

International tax issues Harvard University Tax incentives for offshore plants (24-7-81) Tax provisions in geothermal contracts (31-7-81) Tax incentives for foreign investment (28-7-81) Together with Quale, taxation of financial institutions (1-82) Together with McLure, further issues on tax incentives for foreign investment

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Lawyers

James Clad — NZ Substantial Taxation and the agricultural sector Legal issues Income taxes

1980–81 Centre for International Affairs, Harvard University (on leave from NZ Foreign service)

Tax administration

Edward Craft — US

Andrew Giffen — US

Cheryl Williamson Gray — US

None Income taxes Internal indirect taxes International tax issues Taxation and the agricultural sector

Harvard University Together with Perry, potential number of personal income taxpayers, taxable income and tax vs present figures (2-82) Potential for using PEDA data to assess PPd and PKk (5-3-82) International aspects of Indonesian income taxation (22-3-82) The PBDR: its application to international and domestic transactions (6-4-82) International taxation: an introduction to the issue of transfer pricing between affiliated parties (4-82)

Karl Price — US

Andrew Quale — US

None Income taxes International tax issues Natural resource taxes Legal issues

Coudert Brothers (law firm), New York

Together with Wells, taxation of financial institutions (1-82) Accounting International tax

David Rosenbloom — US

David Smith Substantial Tax administration measures to support reform Legal issues

Harvard University

Stanley Surrey — US

Legal issues Framework for tax reform Tax administration measures to support reform International tax issues

Harvard University

Accountants and Computer Scientists

Barbara Burton — Can

Malcolm Lane — US

The discussions on the new Income Tax Law Although there were several meetings with the Indonesian members of the subcommittee on income tax (as explained earlier various subcommittees were established to deal with the different taxes), most discussions took place between the HIID consultants themselves or between Wardhana and one or more HIID consultants.77 Gillis and Williamson were the main interface between the foreign

77 Interview with S. Cnossen, 16 March 1998.

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advisers and the key Indonesian players. Most foreign advisers did not communicate directly with the Indonesian experts involved. Instead they would report to Williamson or Gillis. It was not uncommon for Gillis to organise a meeting between Wardhana and two foreign consultants who held different views on a particular income tax issue. It was then up to Wardhana to make the final choice.78 Because the whole reform was conducted at a very low visibility level, outside groups did not have much opportunity to exercise any influence. This would have been a very delicate matter anyway, as political opposition was not tolerated and many players depended on the goodwill of the government in one way or the other. Cronies of Suharto were undoubtedly not very worried about the changes in income tax law since Suharto could be expected to protect their interests. As Schwarz later pointed out (1994, p.65), “Protection from the tax office is one form of patronage that Suharto uses to secure the loyalty of influential members of the Indonesian elite.” Key recommendations for the new Income Tax Law In 1982, HIID presented its summarised recommendations to the reform project’s leading steering committee of senior officials from the Ministry of Finance, including Wardhana, Salamun and Committee Secretary Haryonot. The key recommendations as well as further discussion regarding the proposed Income Tax Law are examined below. Unified income tax law The advice of foreign advisers to unify the corporate and individual income tax systems under one income tax law was quite unique. Most countries have two separate laws for the different groups of taxpayers. The move was largely driven by the desire for simplicity: one unified tax law would be easier to administer than two separate tax laws. The income tax subcommittee was less convinced and expressed its concern that not enough research had been done to justify the move towards a unitary system. But Wardhana agreed with the foreign advice. Tax incentives In their early memos, the consultants advised the abolition of most, if not all, incentives, including tax holidays and exemption from dividend tax for foreign investors, accelerated depreciation schemes, generous carry-forward provisions and reduced rates for companies going public. The advisers were convinced that simplicity and overall lower rates were the keys to success and that it was unnecessary to have specific tax incentives or tax holidays.79 They believed that these actually played only a very limited role in the decision-making of mobile investors. The advisers used the findings of a survey among American investors in Indonesia to support their view. The survey results indicated that tax incentives did not play an

78 Interview with S. Cnossen, 16 March 1998. 79 See chapter 3: Tax Policy and Tax Reform Processes.

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important role in attracting foreign investment.80 The findings of the survey were used to convince government officials who had expressed concerns. According to Winters (1996, p.168), the tax reform planners and policy-makers were very concerned with the reactions of mobile investors to cancellation of specific tax incentives. In reality, it was mainly the Indonesian participants in the reform process who expressed this concern. Large domestic and foreign investors, hearing rumours about the proposed changes, pressed policy-makers to listen to their issues, but the HIID team dismissed their concerns. Smaller private investors were not too worried, as they viewed the tax incentives as measures favouring foreign investors. The subcommittee on income tax expressed its concerns about cancellation of all tax incentives, but they did not succeed in convincing Wardhana. He agreed with the foreign advisers to abolish all incentives. But the concerns from the Indonesian side were expressed again when the laws were tabled in parliament. Minister of Finance Prawiro, who succeeded Wardhana in 1983, defended the move by echoing the opinions of the foreign consultants. It is interesting that in communication with the outside world, policy-makers depicted the research conducted on this topic as a wide, in-depth, multinational survey. As we have seen, the survey conducted was in fact not that broad, but the conclusion seems valid as explained in chapter 3. In addition, foreign investors, often in joint ventures with local partners, perfectly understood that the Indonesian way of paying taxes was often ‘taxation by negotiation’, an area where their joint venture partner would take charge, knowing the rules of the game.81 This casts doubt on the usefulness of tax incentives if informal incentives can be negotiated anyway. And tax holidays or incentives do not diminish the, often costly, additional charges levied by various government officials (including tax officials).82 In any event, the parliament accepted the explanation given by the Minister of Finance and the new 1983 tax law abolished all income tax incentives. Those tax incentives with unlimited duration which were in force prior to the 1983 Income Tax Law expired as of 1 January 1984. However, the 1983 Income Tax Law did not prematurely terminate pre-existing incentives with a limited duration.

80 Internal memo by Wells and McLure to Gillis, summarised by Gillis and forwarded to Wardhana and

Salamun. The factors affecting investment decisions of foreign investors (in order of importance) were: 1) political stability 2) size of Indonesian market 3) economic growth 4) production costs 5) government development programs 6) tax incentives 7) government regulations 8) increase in per capita income 9) access to raw materials 10) domestic competition 11) import substitution policies 12) fear of loss of export market 13) size of Asian market

81 In 2005, this is still the case in my experience. Although foreign companies are subject to corporate tax rules, there is still a lot of scope for negotiation.

82 Foreign investors mainly complained in the late 1970s about the large sums of money that had to be paid to customs officials (World Bank (1980). Indonesia: Country Report. US, Word Bank.).

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Lower tax rates According to Gillis, the use of higher tax rates to increase revenue was never considered (Gillis 1985, p.222). This was much in line with the prevalent tax policy views in the US at the time; according to Williamson. One reason for this was that sharply progressive tax rates give a strong incentive for widespread tax evasion (Williamson 1984, p.7). 83 Undoubtedly these views were shared by most, if not all, the American-trained advisers on the team. Gillis stresses though that:

Income tax rates under the new Indonesian system are … comparable to those contained in the Bradley-Gephardt Bill proposed in 1983 for the United States. Inspiration for the Indonesian income tax reform, however, arose not from any worldwide movement toward flat-rate income taxes, but recognition of the futility, in the Indonesian context, of unenforceable high progressive rates of tax (Gillis 1985, p.222).

In fact it seems that income taxes in Indonesia are unenforceable regardless of their rate because of severe problems of a tax administrative nature. Lower corporate and individual income tax rates became one of the key features of the new Income Tax Law. The former corporate tax law had three corporate tax rates, the highest being 45%. The individual Income Tax Law had 19 different rates, the highest being 50%. Under the new law, three tax brackets were introduced, varying in the range 15–35%. For individuals, the tax threshold was doubled, so that the number of taxpayers would be greatly reduced. The advisers argued that broadening of the income tax base (in other words including more sources of income, eliminating exemptions of certain income and reducing tax deductions) and better law enforcement would more than compensate in overall tax revenue for the reduced tax rates. The subcommittee on income tax, however, did not agree with the proposed changes. It commented that “the progressive rates proposed are not steep enough and are not fulfilling the spirit of the corporate income tax to impose progressive tax as a tool to redistribute income”.84 Moreover, they were concerned that lower tax rates would not generate the revenue required from the corporate world. However, the committee did not influence the views of Wardhana and the final version of the new tax law was in accordance with the proposals outlined by the foreign advisers. Deductible costs and fringe benefits The value of fringe benefits, such as company cars, housing, recreational activities, club memberships etc. were deductible by the employer (and not taxable in the hands of employees) under the old corporate tax law. Under the new proposals of the advisory team, fringe benefits were no longer tax deductible at the corporate level (but remained not taxable as far as employees were concerned). This was a major simplification of the old system, but at the same time a concern for many corporate 83 Williamson argues that steep progressive tax rates lead to tax evasion in many developed nations, an

assumption often accepted and used and much in line with tax-policy thinking in the US in the 1970s (see chapter 3). No one disputes that extremely high income tax rates will increase evasion. However, there seems to be little difference in tax evasion in developed countries whether the top individual income tax rate is 60% or 50% or whether the maximum corporate tax rate is 45% or 35% (Williamson, 1984, p.206).

84 Memo signed by Mansury, date unknown.

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taxpayers (Awanohara 1983, p.56). 85 The new rules for fringe benefits would have no effect on government bodies, which could still pay their employees fringe benefits. These bodies did not pay corporate tax, so the abolishment of corporate tax deductions for these benefits did not affect them. Their employees would continue to receive these fringe benefits. For this reason, the advisory team pushed quite hard to have in-kind benefits provided to civil servants included in taxable income. Many received significantly less wages than their colleagues in private industry, but this was compensated with significant fringe benefits. The HIID advice made sense, as it would tax different sorts of individual income equally. However, their recommendations would have created significant upheaval within the civil service. Fringe benefits in the form of free education, domestic and overseas trips etc. formed an important part of civil servants’ salary packages. The salary itself was often barely enough to support an average family, and side revenue from other activities was used to make ends meet. Wardhana knew very well that his power was limited, and decided against this aspect of the proposal, so the taxation of fringe benefits for civil servants did not appear in the final version of the proposed tax law. The new tax approach to fringe benefits created concern when the draft law was tabled in parliament. Members of parliament suggested that this approach was contrary to Indonesian paternalistic culture in which it is common that an employer provide housing, cars and travel. However, the concerned members of parliament did not receive support from the economic ministers and senior bureaucrats, who argued that the new proposal was a core part of the new Income Tax Law and would enhance a policy of ‘clean wages’ (Williamson 1984, p.17-9). Prawiro persuaded parliament to accept the new fringe benefit tax system. Taxation of foundations and co-operatives

Foundations (yayasan) are widespread in Indonesia. In mid-1983, according to World Bank estimates, one-sixth of all rupiah time deposits were owned by yayasans (this was more than the total of deposits held by all private enterprises) (Williamson 1984, p.32-4). Under the old tax laws, those yayasan that did not exclusively serve the public interest would be liable for tax. In practice, yayasan never registered for income tax purposes. Their finances were beyond any scrutiny by the state. For this reason, foundations were very useful vehicles to avoid tax.86 Many foundations had the support of provincial governors, prominent business people, religious groups, state-owned enterprises and well known local citizens. In addition, many yayasans were established and controlled by the Suharto family (Leith 2002, pp.69-100). In theory they were set up to provide funds for charity, in reality they were established to evade taxes and accumulate wealth (Aditjondro 2000), blurring the demarcation between public and private funds. Suharto and his inner circle controlled the five largest yayasans in Indonesia.87 And according to Aditjondro, an outspoken Suharto critic who spent decades researching the regime’s business dealings, a large portion of the yayasans’ funds were used to purchase controlling shares of companies for

85 An exception was made for companies active in remote areas. 86 Foundations are known in many countries as a useful vehicle to avoid tax liabilities. 87 Dakab, Dharmais, Supersemar, Tritura, and Amalbhakti Muslim Pancasila were the five largest

(Aditjondro, G. (2000). Chopping the global tentacles of the Suharto oligarchy: Can Aotearoa (New Zealand) Lead the Way? Indonesia, New Zealand, University of Newcastle.).

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Suharto family members, friends, political allies and business associates (Aditjondro 2000).

The draft Income Tax Law did not really solve this problem. It specifically exempted certain forms of income received by foundations from tax and no longer exempted them from the requirement to file a tax return.88 Foundations are only taxable in respect of profits from a business or enterprise not exclusively serving the public interest, but the term ‘public interest’ is not defined in the law. Williamson pointed out that defining this term is “a task that will be important in the future for limiting abuse of this exemption” (Williamson 1984, p.32-4). Her report indicates that it was politically not feasible to have a more stringent tax regime for foundations.

For co-operatives, a similar situation existed. Under existing law, profits were tax exempt for the first five years of operation; during the next five years reduced tax rates were available. The tax office lacked instruments to investigate and exercise control over co-operatives, resulting in large tax evasion schemes. The advisory team suggested treating co-operatives like companies, with one exception. A deduction would be given for actual refunds made to members of income earned exclusively from services to the members.89 But the final version tabled in parliament was quite different. A tax deduction for income earned exclusively from services to the members for the co-operative would be available before any refunds were made to the members. Thus, the new provision did not give any fiscal incentive to pay out the income made to the members. This actually meant that co-operatives could accumulate large amounts of profit without paying any tax. Co-operatives, often linked to government departments and the Suharto circles, formed an important part of the economy, and were a sensitive area for government policy. Policy-makers were all too aware that this investment form had to be treated with great care.90 Simpler pay-as-you-earn system and withholding-tax system A cornerstone of the new system was the new withholding-tax mechanism. Employers were required to withhold taxes upon payment of salaries to their employees. Moreover, organisations were required to withhold tax from any payment in the form of dividends, interest, rent, service fees and royalties made to any other entity. These proposals were not controversial. Although the subcommittee for income tax did have some concerns, it agreed with the overall principle. Taxation of income of civil servants Under the old tax regime, civil servants were effectively exempt from paying income tax.91 Formally, the government paid income tax on behalf of its employees; civil servants would receive their income net of any taxes payable. In addition, the latter received significant benefits in-kind that were also tax exempt. Under the proposed legislation, civil servants would be fully liable for income tax. The foreign advisers argued that those working for the government, especially, should be the first rather

88 That means that they can formally be audited by the tax department to scrutinise the nature of their

business. 89 Income earned from unrelated activities would be fully taxable. 90 As described by Aditjondro: (Aditjondro, G. (2000). Chopping the global tentacles of the Suharto oligarchy:

Can Aotearoa (New Zealand) Lead the Way? Indonesia, New Zealand, University of Newcastle. 91 This system goes back a long way, as in 1905 the income tax law exempted civil servants from paying tax

on their salary.

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than the last to pay tax. This was accepted in the new law. However, fringe benefits in the form of housing, travel and food, often a major part of income, would not be included in taxable income (see above under ‘Deductible costs and fringe benefits’). Moreover, civil servants received a pay raise to compensate for the taxation of their income. Interest on time deposits The taxation of interest on time deposits turned out to be one of the major hurdles in the tax reform process. Under the previous tax regime, interest paid by domestic banks on deposits was fully tax exempt in the hands of the receiver. This exemption was based on a 1973 decree issued by the Ministry of Finance. There were also exemptions for some other forms of interest payments (Williamson 1984). For example, interest paid on bonds issued by the State Highway Authority was tax exempt under ministerial decree. The reform team advised that interest should be fully subject to income tax and included this in the draft law submitted to parliament. But this part of the law became the only concession made due to pressure from the parliament. Giving in to pressures from financial circles, parliament approved the law with interest taxable in principle, but added a provision leaving the issue of the taxation of interest on time and savings deposits to be decided by governmental regulation (Williamson 1984; Gillis 1994). A subsequent decree was issued that exempted interest of time and saving deposits from income tax until further notice (Gillis 1994). This created a major economic distortion, since dividend was taxed but interest on time deposits was exempt, clearly favouring one investment form over another. Looking behind the scenes, it becomes clear that larger interests were at stake. The state-owned banks relied heavily on the in-flow of money from time deposits. These money flows were lent to large corporations (often related to the Suharto family) for investment projects (Schwarz 1994, p.151). Private banks considered these projects too risky, so it was very important for the corporations to be able to secure the funds from state-owned banks. The taxation of time deposits would jeopardise the steady flow of funds available to lend to these companies. State banks, however, were not the only beneficiaries of the exemption; representatives of the Private National Banks Association (Perbanas) also welcomed the exemption from income tax as a useful instrument to mobilise funds.

Conference, October 1982 Late in 1982 (22–23 October), HIID organised a conference in the US to discuss various aspects of the new tax laws with consultants and Indonesian officials (mainly those on the steering committee). During this conference consensus was reached on a number of topics. Much time was spent on discussions surrounding the existing sales tax and the proposed value-added tax.

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5.9 STAGE 3: NOVEMBER 1982 TO SEPTEMBER 1983 During this stage final adjustments were made to the consultants’ reports and all the tax reform proposals were discussed with the steering committee. The committee, under the strong leadership and influence of Wardhana, had been kept up-to-date through the whole period of the reform and accepted the proposals made. So the drafting teams started their work and finalised the draft laws by mid-1983. According to Gillis (1989), June and July 1983 were critical months for the reform. The major hurdle was the proposed abolition of corporate tax incentives. Arguing against any form of corporate tax incentives seemed unlikely to be effective, since such tax incentives were widely perceived as useful. Instead, Gillis and his colleagues suggested presenting the law change as a more effective form of tax incentives because of its overall lower tax rates. The Minister of Co-operatives, especially, was a serious opponent of the new proposals. The team, as well as the economic ministers, feared that if he succeeded in obtaining specific incentives for co-operatives, other interest groups would follow suit. Therefore, the first step was to win his support. A great deal of persuasion was required to convince him that even without specific tax incentives, most co-operatives would not pay any taxes. After his approval was secured, the team obtained the support of the president and the rest of the cabinet before the drafts were tabled in parliament.

Approval by the parliament Suharto’s support for the new tax law package did not go unnoticed. The first signals of his approval came in July 1983 when Finance Minister Prawiro told the press that Suharto had asked him to seek immediately to amend the country’s taxation law in a bid to increase efficiency in tax collection.92 This was followed in mid-August by the president’s ‘State of the Nation’ address to the DPR, during which he gave his support for the draft bills. He stated that “with the reform, the system will be more fair and fitting while the number of taxpayers will grow larger”. In late August 1983, he met with DPR Speaker Amirmachmud and urged him to give the handling of the tax bills top priority.93 The message was clear: the president had given his imprimatur to the reform package and DPR members were very much aware what this meant in terms of room to make major changes to the draft bills. In November 1983, the parliament formed a special committee that worked for 35 days and approved the bills (Law on Income Tax, Law on Value-Added Tax and Sales Tax, Law on General Rules and Procedures of Taxation) with only a few significant changes or additions94. Members did not have much room to manoeuvre given the clear support of the president for the new law. Moreover, there was very little time for lengthy discussions or to raise the public support that one might assume would be needed for such drastic reform. The proposals were presented in parliament early in November 1983 and it was announced that the new laws should be applicable as of 1 April 1984. Some questions were raised by the committee, but

92 Jakarta Post, 27 July 1983, p.7. 93 Jakarta Post, 2 September 1983, p.1. 94 Each committee member received Rp. 500,000 for his or her services. It is not uncommon for members of

parliament to receive additional income for passing a new law through parliament. The payment for passing this law was not very high; converted according to currency rates at that time, about $US200.

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according to lawyer Greg Churchill,95 the debates were characterised by an attitude of ‘the experts know best’. When members of the parliamentary committee questioned the draft laws, they were told that the expert advisers said that this was the best way, so they had to be accepted. HIID as such was not often mentioned. Instead, Prawiro stated in press conferences that the government had hired tax experts from various countries including Colombia, West Germany, Canada, the Netherlands and the US. One of the small political parties, PDI, stressed the importance of a general basic tax law, which would provide a philosophical underpinning of all tax laws, as well as requesting concessions for social or religious expenditures. A spokesman for the faction argued that a clearly understood philosophical base should be included to increase tax compliance and that therefore a basic law was needed. Prawiro rejected this argument and stated that a basic tax law was not necessary because the tax bills already stipulated basic tax rules.96 There were other concerns, as pointed out by Awanohara (1983, p.56):

In parliament, one political organisation has argued against what it considers as too few income brackets and too low luxury taxes, as well as against taxing co-operatives. (…) Yet another group is worried about too strong sanctions against non-compliance. There is also a more generalised feeling that the new laws will once again give too much discretionary power to the finance minister and the director general of taxation.

But despite these concerns, in the second week of December the DPR passed the three bills (Law on Income Tax, Law on Value -Added Tax and Sales Tax, Law on General Rules and Procedures of Taxation). The timing of the new legislation was very fortunate, as the world price of oil started to slide gradually from the end of 1982 clearly demonstrating the need for alternative sources of government revenue. This made their introduction a lot easier.

Role and reactions of the Indonesian tax administration The reactions to the new laws from tax administrators were generally rather hostile, partially because the depersonalisation and simplification of the tax system could reduce the additional revenue earned by tax collectors (Winters 1996, p.167). According to an economist at USAID, Gillis had a difficult time introducing the proposed reforms to the tax administration:

The tax office, and all the vested interests associated with it, fought him tooth and nail. Only with the financial collapse of the government sector in 1983 was he finally able to gain some ground (Winters 1996, p.165). 97

Moreover, many tax administrators felt that they were not properly consulted during the reform: This is illustrated by a letter sent by a tax administrator to the editor of the 95 Interview 10 December 1997. Greg Churchill had been working in Indonesia for more than 20 years. 96 Jakarta Post, 14 November 1983, p.7.

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Indonesian newspaper Republika (2 March 1993).98 This former senior tax official, Suharsono Hadikusumo, criticised the methods used in the 1983 tax reform. He wrote:

a. In the first phase, they made new bills/changes in the old laws in

English, based on their own surveys. The bills were handed to the Director General of Taxes.

b. The Director General of Taxes had the bills translated into Indonesian. Teams of directorate officials were formed and assigned as counterparts for the consultants.

c. Each team voiced its opinion on the bills at meetings with the Harvard consultants. Very fundamental opinions and original proposals from the teams were very hard for the consultants to accept and the final results showed very few changes from the drafts made by the consultants. Just look at the Indonesian version of the laws: many parts are just clumsy and rigid translations from the English.

Hadikusumo had a point that senior tax officials did feel left out. The available memos suggest that there was little effort made by most of the foreign advisers to communicate or discuss their advice directly with people of the Indonesian steering subcommittee on income tax. 99 No translations were made and Indonesian committee members struggled to understand what it all meant. These communication processes could have been conducted in a better way to obtain support from senior officers. The problem remained, though, that there was limited expertise in the tax office (few officials had received sufficient education and training), which made in-depth technical discussions between foreign advisers and the steering subcommittee difficult, and Hadikusumo did not address this problem.

Reaction from the public Indonesia in 1983 had an authoritarian regime that did not tolerate opposition and this of course influenced public reaction. For example, the press, under strict government control, had to take great care in its reporting, especially when it involved sensitive issues such as the business dealings of the president’s family or directly attacking a minister favoured by the president. It was not until late 1983 that newspapers started to report on the upcoming tax law changes. The press mainly summarised the statements made by Prawiro outlining the broad principles and emphasising the positive elements of simplicity and that overall lower tax rates would outweigh the abolition of tax incentives previously in place. Most large domestic and foreign investors were located in Jakarta, which was strictly controlled by the central government. So even if larger businesses had had strong objections to the new legislation, they would have felt reluctant to express them.

97 It is important to keep in mind that in most organisational restructures there is a fear of change (Clegg, C.

and M. Fitter (1981). "Organisational and behavioural consequences of uncertainty: A case study." Journal of Occupational Behaviour(2): 155-175.

98 Translated by the US Embassy Translation Unit. Press summary and press review. 99 I refer to the internal memos sent by HIID team members, a complete list of the memos is available in

Appendix 1

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Many, especially the larger domestic and foreign businesses,100 were dependent on government contracts or licenses (for example, in the construction area, aid projects, the press and mining). By expressing criticism, they would jeopardise their future chances for government work or obtaining required government licences (Schwarz 1994; Winters 1996) ((Heij and Stromback 1997). Moreover, business was dominated by influential, often ethnic Chinese, corporate players who were used to striking their own deals with government departments based in Jakarta and/or with the president. Those who were in some way related to or linked with President Suharto were not too concerned about the new legislation. For them the practice of taxation by negotiation continued, with the enormous advantage of being close to the president. They did not expect very much to change under the new Income Tax Law. Civil servants may increase their income by forcing people to pay illegal levies for particular government services, a common practice in various countries, including Indonesia. Especially small- and medium-sized indigenous Indonesian businesses lacked the power and the connections with high level bureaucrats to protect them against demands for such payments. This was one reason why most reactions from small- and medium-sized businesses to the announced tax reform were rather mild. Their financial burden would hardly be subject to change. With the tightening of the formal audit system, more supervisory control over tax officials, and abolition of tax exemption for civil servants, it was not unreasonable to fear that with less opportunity for illegal levies, any such opportunity left would see higher illegal fees. In addition, there were very few avenues to air concerns or represent the interests of smaller-sized businesses. The fact that the law-making process was so low-key, reduced most influences from this business community (as Gillis and Wardhana had intended). Some in the business community felt that the simplification of the tax law could reduce the scope for creative interpretation by local tax officials. But the fact that so much detail of the new law was left to the discretion of the Ministry of Finance to deal with in further guidelines did not help to provide clarity. Some of these guidelines took years to be issued, while others never saw the light of day. There was little protest in relation to personal income tax (apart from the taxation of civil servants discussed earlier). Fewer than 5% of individuals would actually earn enough to exceed the tax-free threshold. Those individuals were mainly the very rich and employees of large corporations whose taxes were withheld monthly.

5.10 MAJOR INCOME TAX LAW DEVELOPMENTS AFTER 1984 Non-oil income tax revenue increased remarkably (in absolute terms and as a percentage of GDP) after the new legislation was enacted in 1984 (Heij 1993, p.3) showing the success of the reform. In 1984 non-oil income tax revue as percentage of GDP was 2.4%, by 1990 this was 3.4%, a significant increase (Heij 1993, p.3-4). The majority of the increase of total tax revenue came from the 1983 income tax and the 1985 sales tax (after 1985 a value-added tax (VAT) was combined with a sales tax on luxury goods). With the introduction of the VAT in 1985, the revenue from

100 In Indonesia a few large companies, whether private, state-owned, or foreign, dominate many industries.

(Schwarz, A. (1994). A Nation in Waiting, Indonesia in the 1990s. St Leonards, Australia, Allen & Unwin.

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sales tax increased dramatically from 5.8% of total tax revenue in 1984 to almost 20% in 1990; income tax revenue also rose significantly over that period (Heij 1993, p.3-4). The period 1990 to 1999 saw a further rise in revenue from both types of taxes. We have seen that various issues were not dealt with in the 1984 Income Tax Law. The law did not deal with many detailed practical problems, for example, depreciation of assets, taxation of foreign fisheries businesses, financial institutions and shipping companies, special tax rules for investment fund companies and venture capital companies, and guidelines regarding deductibility of head office costs (Heij 1993, pp.1-14). It was left up to the Minister of Finance’s discretion or the Director General of Taxation’s authorisation to issue further guidelines in due course. But some guidelines were not issued until the early 1990s, leaving taxpayers in limbo for many years (Heij 1993). The first major changes to the 1983 Income Tax Law were introduced in 1990.101 The economy was booming and a growing self-confidence among government ministers102 and senior tax officials resulted in the belief that foreign advice to improve the tax laws was no longer needed and that some of the recommendations from the past were not suitable any longer. This resulted in the re-introduction of income tax incentives to promote investment in Eastern Indonesia.103 The government also included interest from time deposits in the income tax base. The reasoning behind this measure was to encourage investment in the stock exchange. The withholding tax on time deposit interest payments generated a nice windfall for the government during the financial crisis that commenced in 1997, when interest rates increased sharply, and was one of the major reasons why the government budget deficit in 1998–99 was not as high as originally forecast. In 1994 the government gave the company Timor Putra significant tax incentives to develop the so-called ‘national car’.104 The incentives were abolished in 1998 after Suharto stepped down as president. In 1995, income tax incentives for certain corporate taxpayers were introduced in the form of accelerated depreciation, extended carry-forward of losses to ten years (under the 1984 Income Tax Law this was five years) and a reduction of withholding tax on dividends. The year 1995 saw also the lowering of the income tax rate from 35% to 30% and a widening of the withholding tax system. Currently the tax rate is 35% for individuals and 30% for companies. In 1996 the government announced the reintroduction of corporate income tax holidays for large investors in specific industry sectors. The incentives included complete relief from corporate income tax and withholding tax on dividends for a maximum period of ten years, plus a possible two-year extension for certain new businesses established outside the islands of Java and Bali. A ministerial team was 101 The changes were formally approved as law in 1991 and subsequent implementing regulations introduced

in 1992 and 1993. 102 Including J.B. Sumarlin as Minister of Finance and DG of Taxation Dr Mar’ie Muhammad. 103 This change can be interpreted as a symbolic gesture and a political move to include the outer regions

rather than a real attempt to attract investment into that part of Indonesia. Aside from investment in resources, the outer regions did and do not attract major investment.

104 This tax incentive was clearly pushed by President Suharto to benefit his son Tommy Suharto. The incentive was not favoured by the then Minister of Finance (interview with Mar’ie Muhammad, June 1998).

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appointed to recommend which industries should benefit from the holiday. It was not until 1998 that specific guidelines regarding these incentives were issued. In April 1999, six firms had been granted the facility, while another 30 applications were still under consideration. All firms granted were affiliated with Suharto. The Indonesian Parliament revoked tax holiday incentives in the year 2000. Another interesting development was the introduction of a so-called poverty levy in Indonesia in 1996. Under a presidential decree that became effective on 4 December 1996, a 2% surcharge was levied on the after-tax profits and incomes exceeding Rp100 million of both companies and individuals.105 The revenue from the surcharge was officially earmarked for helping the poor. The payments were channelled to charity foundations controlled by President Suharto and did not appear in the government revenue statements. The tax office was appointed collector of the payments. The levy was abolished in 1998. Since 1998, Indonesia has undergone substantial political reform. This has made the arena in which tax policy-making takes place quite different. The present democratically elected government has to take the wishes of its electorate much more seriously than the Suharto regime ever did. It also has to deal with the legacy of the Suharto era, with Suharto cronies desperately trying to cling to privileges. They have a lot to lose, including their tax privileges, something they won’t give up easily. The drastic political changes have seen much more public debate regarding tax problems and future tax policies. For example, in June 1999, a tax corruption seminar took place attended by 200 tax lawyers, government officials, accountants and students as well as representatives from several political parties, an event that would have been impossible in the 1980s and early 1990s. The question remains if this public debate will result in strong action. To date very little has been done. After experiencing rapid rates of economic growth over a prolonged period, Indonesia, together with other Southeast Asian countries, has been undergoing a severe economic crisis since late 1997. Presently Indonesia’s tax policy is under serious economic and political pressure. Due to political instability and the crisis, foreign investors have been avoiding Indonesia and the government is very keen to reverse this trend. Drastic changes to the 1983 Income Tax Law may be introduced attempting to lure in the desperately wanted foreign capital. This would mean more tax incentives, a doubtful instrument, though increasingly used by Indonesia’s neighbours in Southeast Asia. On the other hand, as a result of the crisis, Indonesia formally requested help from the IMF. So the foreign advisers are back in the tax policy-making area, with the government locked into a stringent fiscal policy dictated by the IMF, and tax incentives are not high on the IMF agenda. But because of the major political changes in the last few years, an authoritarian top-down approach based on foreign advice only, as in the 1983 tax reform, is no longer a realistic possibility for the present government to use to shape its tax policy.106

105 The legal status of the poverty levy was unclear: was it voluntary or compulsory? The

presidential decree (4 December 1996) introducing this levy did not clarify this. 106 Having said that, some of the strategies adopted by the Indonesian Government are the same

as in the 1980s, illustrated by accusations surrounding the latest memorandum of economic and financial policies signed between Indonesia and the IMF on 20 January 2000. According to the IMF, a major concern of many foreign business people was the feeling that they were under

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5.11 CONCLUSION Indonesia’s tax reforms were initiated in response to concern about the country’s heavy dependence on oil resources. Revenue from oil companies formed the major source of income for the Indonesian Government and this dependency was a cause of concern for the economic policy-makers of Indonesia. The reform was pushed by far-sighted economic ministers rather than forced by an immediate economic or fiscal crisis.

The reforms were initiated and formulated by a relatively small group of people, particularly Minister Wardhana together with a select group of foreign consultants, mainly Americans hired by HIID. But Wardhana could only succeed with the reform because of the implicit support he enjoyed from President Suharto. The reform can be seen as a limited success for the technocrats in Indonesian policy-making. Wardhana’s team achieved those outcome that were relatively easy to achieve, but in the sensitive areas of the civil service and the Suharto interests, they were unable to pursue their proposed reforms. Those tax proposals that might have created social unrest or economic or political instability never made it to the final version tabled in parliament. Moreover, reforms that would directly have affected the president or powerful supporters around him did not succeed or were watered down. For example, the taxation of foundations and co-operatives, and the taxation of benefits in-kind received by government officials, touched on very sensitive issues in the highest government circles. It was therefore left to later ministerial discretion to deal with these matters. In other words, senior policy-makers were free to develop their new tax laws, but only within the boundaries set by President Suharto.

The reform included some lessons from previous Indonesian experience as well as from other tax missions and country studies. However, the main framework of the new income tax law was based on the dominant views amongst economists in the US and Western Europe concerning what constitutes a good and efficient tax system. These views emphasised the goals of simplicity and appropriate tax technology, low tax rates, and the abolition of tax incentives. The aim of simplicity, though, resulted in too much discretion for the Ministry of Finance and much uncertainty regarding its practical application of the income tax law. Leaving the implementation of further guidelines created major problems. Guidelines were issued many years later or not issued at all. In effect, the law was designed by macro-economists with little appreciation of the administrative and practical implications of the polices adopted. Those left to work with the income tax law were given very little sense of ownership.

increasing scrutiny by Indonesian tax officials. Dodsworth, the IMF representative in Indonesia, accused Indonesian tax authorities of justifying their stepped-up examinations and assessments by saying, “The IMF is making us do it”. In other words, tax authorities are scape-goating the IMF for increased enforcement, a measure that is desperately needed to increase state revenue. Moreover, it seems likely that tax officials interpret this new enforcement policy quite differently from the way it was intended by IMF advisers.

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Wardhana led the tax reforms with support from other cabinet members.107 Wardhana depended particularly on one key foreign consultant, Malcolm Gillis. HIID, and Gillis in particular, emphasised that the final choices were made by the Indonesian policy-makers and not by HIID. The facts (including the number of internal memos) do not support this. HIID advisers clearly had the upper hand and the steering and subcommittees were no match for them in the decision-making. Part of the reform was the narrowing down of proposed options and setting priorities, a process controlled by a selected group of foreign advisers with the support of Minister Wardhana.108 Senior tax officials played a very minor role in the reform and had little influence.

Tax administrators felt left out and the letter of Suharsono Hadikusumo (Hadikusumo 1993) clearly aired their grievances. The shortage of tertiary-educated tax officials who might have influenced the debate did not help. Nor did the apparently rather limited efforts of the reform team members to include their Indonesian counterparts. The fact that the team comprised mainly academic economists, who most certainly would adhere to the instrumentalistic approach to law, also did not assist engagement with Indonesian tax administrators. And the reform team did not seriously address the issue that without local ownership any reform project is doomed to fail. The resistance within the tax department to implementation of the law partially relates to this. The culture of Indonesian public institutions is well illustrated in this case study. As with many Indonesian government departments at the time, few Indonesian bureaucrats had the right skill sets and adequate education, resulting in those Indonesian officials involved being no match for foreign advisers when debating reform aspects. The sensitive issue of bribery and corruption, intrinsic in the culture throughout large parts of the bureaucracy, plays an important role in many decisions made regarding the reform. The top-down approach, so common in Indonesian governments (as previously introduced by the Dutch colonial rulers), was clearly applied in this process.

The role of interest groups in the reform clearly reflects the power structure of Suharto’s Indonesia. Public criticism would have been dangerous. But the regime did have to take account of public reaction. Most people were not affected by the reform as only companies and high earners were included in the new tax net. But in areas where they could be affected, such as the taxation of civil servants, a key support group for the regime, the reform was extremely careful not to upset this group too much. Suharto’s cronies benefited from their connections as the reform team was clearly steered away from the taxation of foundations and cooperatives. In addition, these close allies could rely on their connections to ensure that the practice of taxation by negotiation would continue. Other less well connected companies were very cautious as Suharto’s influence was far reaching and could easily jeopardise their businesses.

The press was in no position to create public debate and political parties had only very limited room to exercise any influence once the law was tabled in parliament.

107 Such as Radius Prawiro, Widjojo Nitisastro, and J.B. Sumarlin 108 The same observations are made by Winters in regard to the overall economic policy and the role of HIID

in Indonesia (Winters, J. A. (1998). "A review of 'Building a modern financial system: The Indonesian experience' by David Cole and Betty Slade." Journal of Asian Studies 57(3): 908-09.).

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International factors, as outlined in organisational theory, had some role in the reforms, as the views represented by the economists on the team were a reflection of the demands of international competitiveness and other international trends in fiscal policies. As discussed in Chapter 3, the worldwide neo-liberal model that emerged in the 1970s influenced many economists, including HIID consultants. And their advice to the Indonesian Government reflected that thinking. In addition, the advice also reflected an ideal tax system as seen by economists (Owens 2006). The definition of tax is very important in analysing this case study. In Indonesia the payment of bribes, additional fees and levies and other informal payments is a fact for many individuals and companies. As mentioned above, it is an intrinsic part of the bureaucratic culture within Indonesia. Including these forms of taxes in the discussion of the tax reform is crucial in understanding the process and the reaction of certain groups. For example, certain business groups were clearly not much concerned about the formal changes in the laws as these would not influence the informal payments they would have to make. And the amounts of money paid to government officials to obtain government contracts were much more substantial than the possible increase in tax burden under the new tax laws. The political response to a looming fiscal crisis was an overhaul of the tax system including a change in the level of taxation. It remains to be seen if the distribution of the tax burden changed. Overall the reform did result in a significant increase in non-oil-related tax revenue. The tax laws were broad and often did not deal with detailed implementation regulations, particularly in sensitive areas. They also did not change the burden of informal taxes so part of the reform can be seen as essentially symbolic.

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6. THE 1987–‘94 VIETNAMESE CORPORATE INCOME TAX REFORM

6.1 INTRODUCTION Between 1987 and 1993 Vietnam introduced drastic corporate and individual tax reforms.109 The reforms were needed to raise desperately needed revenue for a communist country facing bankruptcy. This chapter analyses the tax reform in the context of the opening of Vietnam’s economy as it aimed to reform its communist system into a socialist market economy. As with the Indonesian case study, the Vietnamese case study focuses on income tax for companies; no specific attention is given to reforms in the turnover tax, the introduction of a value-added tax and reforms of the special sales tax110. The chapter aims to provide an insight into who and what influenced the tax reform. What were the limitations faced by policy-makers? And what was the role of various influential actors, including foreign advisers? State enterprises were for many years the main contributors to Vietnam’s government revenue. After the introduction of a market-oriented system in the late 1980s, the revenue from state enterprises dropped significantly. In addition, until 1989, foreign grants, mainly from the former Soviet Union, constituted 20% of total government revenue (SIPU 1993). The Vietnamese Government faced declining revenues while at the same time its budget was rapidly expanding. In order to deal with the revenue shortfall, the government introduced a range of new taxes in the late 1980s and 1990s. Between 1990 and 1995 Vietnam carried out the first major phase of reforming its tax system.

I wish to emphasise that for this study far less information was available than for the Indonesian case study. As mentioned in chapter 1, this is a problem faced by many conducting research in Vietnam.111 As pointed out by Vietnam expert Melanie Beresford (1997, p.188), “… the closed character of the state system and the concern of the Communist Party leaders from the earliest times to present a unified front to the rest of the world makes it very hard to obtain a clear picture of Vietnamese policy-making. Therefore we often guess how political positions are arrived at and how leaders gain the necessary support for them.” The Vietnamese case study consists of two parts. The first part focuses on the Foreign Investment Law (1987), dealing with the taxation regime for foreign investors. The second part focuses on income tax of domestic corporate entities. Particularly for the first part, limited information was available about internal decision-making. Because the second part involved advice from the Swedish aid agency and the Swedish tax administration, I was able, under Swedish disclosure laws, to obtain more information regarding the processes leading to the New Profit Law of 1990.

109 As mentioned in 1.3, It is important to emphasize that since the tax reform processes between 1987 and

1993 in Vietnam, much has changed in Vietnamese tax laws. The principal purpose of the study is to develop a model for understanding such tax reform processes.

110 See footnote 44. 111 One hour interview with Dr Lloyd Kenward, former IMF representative in Indonesia and economic adviser

to both Vietnamese and Indonesian government departments, 27 November 2005. As he pointed out: “Generally Vietnamese public servants take meticulous notes of meetings, developments and processes. However, it is extremely difficult to have access to such information. The Vietnamese will see no reason to share that with foreign researchers, unless there is a clear benefit to them. So you often will not have access to such materials.”

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The chapter starts with an introduction to Vietnam, followed by an examination of its government structures and law-making processes during the time of this case study. Next an historical overview is given of Vietnamese taxation and the background of the 1987–90 tax reform is examined. These aspects combined provide the background against which the actual decision-making of the tax reform took place, which is subsequently discussed. The chapter concludes with an update on tax law developments after 1990, followed by some conclusions.

6.2 VIETNAM: COUNTRY BACKGROUND The name Vietnam is useful, but not entirely appropriate, for describing the history of what we currently call Vietnam. During the period 1000 BC to 1000 AD, Nam Viet covered roughly the northern part of Vietnam (see map). The southern part, the Champa, did not stretch as far south as Vietnam does today. Under the Le dynasty, 1414–1700, Nam Viet expanded further south and the southern part, Champa, declined. The traditional centre for the Vietnamese was and is the Red River delta in the north of Vietnam. The area is suitable for wet rice cultivation and people, attracted by the fertile land, moved to this area. As the population and the demand for agricultural land increased, there was a need for expansion. There were no possibilities to move further north due to the Chinese presence. Because of their dependency on low-lying delta land for their rice-based culture, the only move the Vietnamese could make was to the south. Around the 13th century the Vietnamese had started to move down the coast of central Vietnam (de Vylder and Fforde 1988, p.21). The move southwards took many centuries, and it was only in the beginning of the 19th century that the Vietnamese reached the northern part of the Mekong delta in the south of today’s Vietnam. The system of local collectives, including the rural communes, which predates the socialist system by many generations, is important not only historically, but also as a means to understand contemporary Vietnam. The system gave protection and a basic social framework, which was not only economic but also social and even spiritual, for those living in rural areas. Communal assets were common in the local systems. The communes were taxed as a collective, which gave the local members of the community some leverage against state officials, often viewed as corrupt and brutal, who came to collect taxes (de Vylder and Fforde 1988, p.21). This does not imply that the state did not have a certain authority. Vietnam was under Chinese rule circa 200–930 BC. One heritage from over 700 years of Chinese domination is a deeply rooted system of powerful, centralised bureaucracy. Belief in this system is still present among many Vietnamese, in addition to a tradition of strong local communities. After independence from Chinese rule, a number of dynasties ruled Vietnam, until French colonial rule began in 1859. French rule was met with great hostility and various groups in Vietnamese society tried to raise anti-colonial movements. It was ultimately the communist movement, the Viet Minh, that was successful.

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In the early 1940s, the French Government became unable to control large areas of Vietnam and the Vietnamese resistance began to gain ground, especially in rural areas. In 1954, the French were defeated at the battle of Dien Bien Phu. After French surrender, the Geneva Accords were signed providing for a temporary division (300 days) of Vietnam into a northern and a southern part and the scheduling of nationwide elections in 1956. After the signing of the accords the south was governed by an anti-communist leader, Ngo Dinh Diem. Diem feared a victory for the Communist Party and therefore did not implement the election arrangements of the Geneva Accords. Instead he held a referendum and declared himself president, a move supported by many Western countries (Steinberg 1987, p.361). The North Vietnamese government, under the control of the Communist Party, undertook development programs, which involved setting up a huge bureaucratic system to allocate resources into key sectors for national construction (de Vylder and Fforde 1988, p.26). In the late 1950s, the government adopted the official policy of collectivisation of agriculture (supported by China) (Beresford 1997, p.181). Peasants were reorganised into agricultural co-operatives, which were seen as an appropriate substitute for the traditional collectives. The co-operatives had a broad range of tasks including providing welfare, social reorganisation and sometimes financial assistance to their members. A radical land reform programme saw 1.5 million peasants each receiving half a hectare of land. The government also started a major crackdown on ‘land lords’, many of whom were denounced to security committees. In the first year of independence, 10,000–15,000 people were executed and 50,000–100,000 were imprisoned. During this period, the North depended heavily on foreign aid. From 1963 to 1975 foreign grants and loans formed more than 60% of the non-military budget. The government had not given up its claim to South Vietnam. In 1976, after a ten-year war, in which the US supported the South Vietnamese government, the two countries were formally reunited. After 1976, the south of Vietnam was suddenly transformed to fit the North Vietnamese model. Farms were collectivised, leading to a drop in farm production. Private companies were nationalised, small business people were forced to abandon their businesses, and the middle class was subject to harassment of all kinds, including re-education camps and exclusion of their children from education (Marr 1994). In 1978, anti-capitalist campaigns were launched targeting private businesses and many Vietnamese (mainly ethnic Chinese) fled the country. In the late 1970s, as Vietnam emerged from 30 years of national division and war, most of its economic policy-makers had very limited experience and what they had was often based on a neo-Stalinist command economy. The Communist Party was eager to translate its victory in the war against the South and the US into national and institutional unity. It brushed aside regional differences and looming problems with implementing socialist policies through weak institutions in a less than enthusiastic southern Vietnam.

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Between 1979 and 1986 the communist system started to show signs of decay (Marr 1994, p.5). The communist leaders became increasingly nervous, seeing their power declining as they lost control over developments. The Vietnamese currency, the Dong, significantly declined in value (in 1985 at a rate of 16–18% per month) which further undermined public confidence (Marr 1994, p.5). The farm co-operatives in the north were dysfunctional, farmers in the south evaded the rigid co-operative structures, and the informal economy blossomed, thus undermining the government’s planned economy. Vietnam’s foreign policies had turned out to be quite painful, especially its role in Cambodia.112 There were ongoing tensions with China and the break-up of the Soviet Union in the early 1990s made it doubtful whether continued support from this source could be counted on.113 It was against this background that the government decided to introduce market-oriented economics and as part of that reform to introduce a range of taxes. But as pointed out by Riedel (1999, p.8), “Vietnamese policy-makers were pushed by these international developments, but even more importantly they were pushed by the actions of individual communities and factories which spontaneously experimented on their own with (…) market-oriented solutions to the manifest failures of the planning system.” In other words, the pressure for change came from the bottom of the Vietnamese system before the leaders at the top understood their necessity.

6.3 GOVERNMENT STRUCTURES AND LAW-MAKING PROCESSES 1984–‘91 Vietnam is divided into 53 provinces and further subdivided into close to 500 districts and 17 towns. The districts are subdivided into approximately 1,000 communes. At each level of government there is a legislative authority and an executive body elected by the legislative. At the central level is the Legislature, the National Assembly, and the Government headed by the Prime Minister (Pott 2002, p.117-118). The Communist Party is the dominant force in the political system of Vietnam. But the Constitution requires all organisations of the party to operate within the framework of the Constitution and the laws. The party is clearly present at all levels of administration to ensure that leadership is not threatened and that there is consistency with central policies (Bergling, Haggqvist et al. 1998, p.82). How the Vietnamese political system works in practice and how pressures from interest groups translate into policy changes remains hard to determine. As mentioned earlier, Beresford (1997, p.188) points out that the closed character of the state system makes it very hard to obtain a clear picture of Vietnamese policy-making. Or as journalist Beaulieu puts it (1993), “Information exchange is not a Vietnamese strength, at least not as far government goes.” She is supported by researcher Nguyan Thanh Ha, who claims that, “… the legacy of wartime secrecy, 112 In 1991, the Paris Peace Accords were signed that included the withdrawal of the Vietnamese Army from

Cambodia. 113 The late 1980s–early 1990s saw the democratisation of Eastern Europe and the break-up of the Soviet

Union.

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based on the military principle of limiting the flow of information to those with a proven need to know is still very apparent and also makes discussion and scientific debates more difficult” (Nguyen Thanh Ha 1992). Is the Vietnamese Government strongly authoritarian or does it rule thanks to a broad consensus from its citizens? As outlined by Kerkvliet (1996, p.65), four distinct representations of society–state relations can be found in Vietnam. The first representation sees the governing and rule-making bodies of the state as almost self-contained; social forces simply have no impact. The second approach sees the state and the Communist Party, in particular, allowing social forces to participate but only via institutions and organisations established by the state. The state uses these organisations to foster its own agenda. The third approach holds that the power of the state is far less unqualified than the first two assume; it describes the Vietnamese state as trying not very successfully to impose its policies on society. The fourth representation sees the state considering social pressures and demands, especially if they derive from peasants and/or workers, two groups the Communist Party claims to serve. Although only limited work has been done to test these different representations, Kerkvliet convincingly argues that the fourth approach is closest to reality (Kerkvliet 1996). The central government needs to take local and provincial governments into consideration. Much of Vietnam’s politics can be seen as a lively dialogue between the centre and localities (Haughton 1994, pp 1-33). Although the centre has far-reaching powers of resource allocation, directing foreign aid and investment, it does attempt to reach general consensus regarding its longer-term policies. Most local governments use the strategy of selective implementation and application of government policies in case of disagreement. Although government policy has changed, many of the socialist features of the 1960s and 1970s remain. Ministries are divided into many different compartments with a strong vertical organisational structure that provides linkages between Hanoi and provincial and even district levels. Horizontal communication between ministries or even within each ministry is often problematic. Prior to the 1975 unification, the party’s central committee was dominated by senior officials who served in the central party apparatus in the central government or in high positions in the army (Thayer 1996, p.47). After reunification, the committee changed to include provincial party leaders and other secondary-level officials. As Thayer (1996, p.59) shows, the reunification of 1975 had a great impact on both North and South Vietnam. Some argue that during this period the seeds of economic reform were planted in the North and that the South never accepted the socialist policies from the North. The law-making process was, at least in form, very much a top-down affair, especially until the early 1990s. Legislative support for government policies was guaranteed since the communist party dominated the National Assembly (NA), the highest representative body. The NA is elected for a period of five years. Strict conditions apply to most candidates for the NA, including membership of the Vietnamese Communist Party.114 In 1992 the Constitution was revised to strengthen 114 A minority of non-party members is allowed in the NA.

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the role of the NA in the legislative process. The NA now meets twice a year (each session lasts up to five weeks). The Standing Committee is the permanent body of the NA serving as legislature between the sessions of the NA. Laws have the highest status and need to be approved by the NA. Ordinances can be approved by the Standing Committee of the NA. The government has authority to enact decrees. There are seven committees of the NA (Bergling, Haggqvist et al. 1998). The committees are: Law (largest and most important); Economy and Budget; Social Affairs; Culture and Education of Youth, Youngsters and Children; Science, Technology and Environment; Defence and Security; and External Relations. Laws are generally created by drafting committees set up under the responsible ministry or agency. When the NA adopts a plan for a new law or to revise existing laws, it delegates the carrying out of the plan to the Standing Committee. The plan also designates the agency that will draft the law and stipulates a timeframe for this work (Bergling, Haggqvist et al. 1998, p.29). The ministerial committee collects material and feedback from agencies and organisations and may also arrange seminars for experts and researchers during the drafting process (Bergling, Haggqvist et al. 1998, p.29).When the drafting is completed the law is sent to the government, which decides whether to submit it to the Standing Committee of the NA. The Standing Committee then designates one or more committees of the NA to examine the draft. For tax laws, this is the Economics and Budget and the Law committees. The views of these committees, the government, and possibly other organisations are taken into account by the Standing Committee before it adopts a proposal (in the case of an ordinance) or submits it to the NA (in the case of a law). The NA approves the law by majority vote. The president publishes the laws and ordinances. Tax policies are determined at the central level (Bird, Litvack et al. 1995, p.22). The Ministry of Finance (MoF) and particularly its General Department of Taxation (GDT) are the key policy-makers in the area of taxation. Within the MoF, the vice-minister, together with the Director of International Co-operation (within the MoF) play an important role. In the GDT, the Director General, the Deputy Director General, and the head of the Foreign Investment Enterprise Taxation and International Co-operation and the Taxation Policy Division, are key players.

6.4 HISTORICAL OVERVIEW OF VIETNAMESE TAX From the 1st to the 6th century AD Vietnam was occupied by China. This era involved intensive exploitation in the form of taxation (Hodgkin 1981, p 22). The main burden of taxation during this period fell on the peasantry and craftsmen. Although the arrangements by which tax collectors could keep part of the collected revenue as a form of salary may have contributed to a motivated team of collectors, tax evasion was nevertheless widespread. This period was followed by the Vietnamese Tang dynasty (618–906 AD) which was marked by a strong, unifying, administrative framework. The dynasty increased their

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control in Vietnam. They introduced new taxes such as a graduated property tax. The mountain regions, regarded as barbarous, came under a separate tax regime. These minority peoples suffered especially from the weight of taxation.115 At the start of the 10th century the Tang Dynasty was crumbling and in 906 it collapsed. For several decades the rich Vietnamese Khuc Thua Du family held power. During this period (906–30 AD) taxes were reduced significantly. This independence lasted for 70 years until, with the establishment of the Ly dynasty in 1009, the Chinese ruled again.

The Ly dynasty (1010–1225) was a period in which the rulers paid much attention to improving and strengthening the administrative system. Professional administrators were in charge. These mandarins had rights of taxation that could be inherited by their oldest sons for a small fee. The mandarin bureaucracy only dealt with village-based Councils of Notables. Villages acted like corporate entities or organised interest groups in their dealings with central–local relationships. Village leaders interacted with families and clans, but not individuals (Gillespie 2001).

In order to finance the administration, many new taxes were centrally introduced in 1013, including taxes on rice fields, mulberry orchards, foodstuffs brought to market, salt imports, rhinoceros’ horns, elephants’ tusks, oils and perfumes, and forest products (Hodgkin 1981, p 35). The Ly dynasty set up a national register of the male population. While the main reason was to create a national army (in addition to the existing private armies), the information was also used as a basis for tax assessment. The 13th century saw the establishment of the Tran dynasty that lasted from 1225 until 1400 AD. Under this regime, taxes increased and it became possible to pay taxes in cash. At the district level, officials were appointed to collect the taxes in the different villages. Normally one official would be in charge of two-to-four villages. In the 14th century the Tran dynasty weakened, in part because of the burden of taxation. Prior to 1378, only land-owners paid taxes, but in 1378 this was extended even to landless people. These increases were introduced to finance the Champa wars in which Vietnam was involved. The measure caused much resentment among the poor, who were scarcely able to feed themselves, let alone pay taxes. The system of taxation was reformed in 1396, the government responding to threats of unrest over the tax burden. Taxation was made progressive and the area of rice fields possessed became the basis of assessment for taxation. Landless peasants, widows and orphans were exempt. In 1428 the Le dynasty was established. Le Loi, a Vietnamese from Thanh Hoa province, was the first ruler of this dynasty. The Le rulers were active in expanding southwards. In order to fund this expansion they reformed the tax system. Expenditures increased not only for the army but also for the bureaucracy, palaces, pagodas and court ceremonials. The tax burden increased, taxes became more complicated and were strongly regressive. Those belonging to the privileged class

115 Not only did they suffer from a heavy tax burden, they also had to face a system of exchange, whereby

three kilograms of salt, which they had to import, was equal to one buffalo (Hodgkin 1981, p.27).

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(mandarins) were exempt from land tax, a tax most peasants had to pay. This was in sharp contradiction with the government’s own code (the Le Code),116 which stated:

In the assessment and levy of taxes and corvees, those who violate established rules (this means taxes and corvees shall be imposed first on the rich and the strong and then on the poor and the weak; first on households with many men, and then on households with few men) or considerations of equity (this means fair apportionment between the poor and the rich, the strong and the weak; fair decision on who must serve first and who must serve later, who shall perform the light tasks and who shall perform the heavy tasks), shall be demoted or dismissed117 (Nguyen 1997, p.187).

Phan Huy Chu, a 19th century historian, described the tax situation in the first part of the 17th century as follows:

Because of the lacquer tax, lacquer trees had to be cut down. Because of the silk tax weaving looms were destroyed. Taxes on wood forced woodcutters to put away their axes (Hodgkin 1981, p 79).

Tax evasion was widespread although the Le Code included severe punishment for corrupt officials and tax evaders.118 When the Chinese invaded Vietnam in 1788, the Vietnamese resistance was lead by Quang Trung. In 1789, Quang defeated the Chinese. He managed to mobilise the mass of the peasantry, but faced a country in desperate need of food. Quang used taxes as a threat to increase land cultivation. Communes were given a year in which to bring fallow land into cultivation, under threat of having to pay twice as much tax in the year after. At the same time taxes on local products were reduced or abolished. When the Nguyen dynasty was established in 1802, the population registers became the basis for the taxation system. Detailed information was held in these registers on every peasant and the land he owned. This information was useful in assessing liability for land tax. Another important tax was the so-called ‘body tax’ or poll tax, mainly paid by peasants aged between 20 and 55, since many privileged groups were exempt (Hodgkin 1981, p. 109). Other taxes levied included taxes on the products of mines and forests, on crafts, saltworks, cinnamon, fisheries, incense, honey and mats. The second part of the 19th century was marked by encroaching colonialism. This period also saw an increase in the tax burden. The reasons for the increase included the very costly administrative structure the French colonisers introduced, the need to finance the formation of six companies of ‘native troops’ in 1862, and the French desire to demonstrate that the new colony was self-supporting (Hodgkin 1981, p 154). The existing land tax almost doubled to around 20% of an average peasant’s income. The 116 For a discussion about possible drafting dates see Nguyen Ngoc Huy and T. V. Tai (1987). "The Lê Code."

Law In Traditional Vietnam 2: 21-29. and Gillespie, J. (2001). "Globalisation And Legal Transplantation: Lessons From The Past." Deakin Law Review 5.

117 Article 325, Chapter on Household and Marriage, The Le Code. 118 For example, article 541 in the Chapter on Deceit and Forgery of the Code states:

“Whoever is alleged to be dead to evade the head tax and corvee shall be condemned to penal servitude as a soldier assigned to elephant stables. He shall be required to pay the tax and the charge for the missed corvee as well as the punitive damage to that amount.”

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burden of the land tax could force poor peasants to increase their debts, resulting in being forced to sell their land to rich landlords in order to pay their taxes. The poll tax, introduced under Nguyen, increased substantially.119 Europeans and those working for the French were exempt from this tax. Another group that was exempt were Buddhist monks. This exemption was used by unemployed people in the 1930s to evade the poll tax, disguising themselves as monks by dyeing their clothes and shaving their heads (Woodside 1976, p.197). The French also continued with the so-called corvee, compulsory work for the government without payment. The corvee was in theory 5–20 days a year and could involve working on infrastructure projects such as railway- and road-building projects and later for rubber plantations. Corvee work could be far from home, the working conditions were poor and unhealthy, and often took much more than five days. However, many managed to escape the corvee (Woodside 1976). The French introduced other new taxes, including taxes on rice wine, opium, tobacco and gambling. Excise taxes on the government monopolies of alcohol, opium and salt accounted for 70% of the government’s operating revenue. The alcohol tax was especially unpopular among the peasants (Gran 1975; Hodgkin 1981, p 180): first they paid a land tax to cultivate the land, than they paid a tax on rice, followed by a tax on alcohol (rice wine), a product of the rice. The salt monopoly was another harsh levy, as salt formed an important ingredient in the usual diet of rice and fish (dried and salted). With high salt taxes, salt became beyond the reach of many households. The French Government’s approach towards taxation was based on taxation of the individual instead of a more communal unit of taxation (as under mandarin bureaucracy). Previously, if a village collected more taxes than budgeted the surplus was used as a buffer for unexpected costs or needs. This system was abolished under the French, leaving villages sometimes with severe financial problems (Gran 1975, p 336). In comparison with the period prior to French colonisation, tax revenue increased ten times: 2 million francs in 1867 to 19 million francs in 1879 (Hodgkin 1981, p.154). Tax evasion was very common even though tax collectors could be extremely harsh in order to collect the required taxes. French assiduousness, especially in collecting salt and alcohol taxes, created a surge in tax evasion among the peasants and increased smuggling and the production of ‘moonshine’. The French, aware of the problem of tax evasion, introduced a system of identification in 1902 to improve the collection of direct taxes. Each taxpayer had to carry a card that was used as identification and tax receipt. The card led to another source of tax evasion as a French official document in 1915 described:

The personal tax cards ... leave open the gates to a multitude of abuses whose repression is quite difficult and in many cases impossible. These cards are, in effect, impersonal, and the number of adult Vietnamese who lack one is very considerable. The tax loss is appreciable. Many of the cards are fantasies.

119 The body tax was raised from 0.5 piastre to 2.5 piastres around 1900 (Hodgkin (1981). Vietnam: The

Revolutionary Path. London, Macmillan Press.

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They are bought in any village, at any price, under any name. Despite the orders given to notables not to sell the cards, this commerce is still very prosperous (Gran 1975, p 354).

Before 1900 many villagers managed to escape most taxation. But the card had some success, and the government increased the number of taxpayers in the period 1900–20. Those who were the main victims of the tax system were those most easily traced in the administration system, such as the Chinese minority, merchants, and many small business people. These were mainly found in urban areas, where what local wealth there was had concentrated. They were regularly burdened with new taxes and duties during the period 1864–1920. The villagers ‘only’ had to pay some of these taxes, mainly those on salt and alcohol. The tax regime undoubtedly contributed to popular resistance to the colonial rulers. ‘It is only because the taxes are too high and we are not able to pay them that we must voice our opinion together,’ said the poet Nguyen Thuong Hien in 1908 (Hodgkin 1981, p 181). In that year a great anti-tax revolt from March to May took place. Under the slogan ‘Don’t pay taxes to the French’, the protesters challenged the tax system as well as the corvee or forced labour system. The government’s answer to the protests was violent and there was considerable bloodshed. In the period 1918–40 the number of tax collectors rose, corruption flourished and added to the formal costs of taxation. Penalties on tax evaders were increased. The French and their local administrators were brutal in their pursuit of those not paying their taxes (in 1934, 20% of Vietnamese households did not fulfil their tax requirements) and police and soldiers frequently ransacked houses to arrest tax evaders (Gran 1975). Another aspect that provoked anger among many taxpayers was the fact that tax was not always collected in the villages where they lived. Sometimes the peasants had to come to a district office, half a day’s travel away. Once there, they might have to wait up to three days before a tax collector was able to meet them and collect usually more than the official taxes. In 1938, villagers from the mountainous areas marched to Cao Bang, protesting against the heavy tax and corvee duties and demanding better living standards. The government came to the conclusion that most tax officials were not capable of doing their work and that they had let potential revenue escape then. Governor General Robin of Indochina addressed the problem in 1934: “The perpetrator of frauds would disappear if his gain was not greater than the risks he ran,” (Gran 1975, p.428). In the early 1940s, the French lost control over large areas of Vietnam as the Vietnamese resistance began to gain ground, especially in rural areas. The so-called Red Villages issued several rules, including the abolition of all colonial taxes, poll tax, salt tax etc. These rules were formalised in 1945 when the Communist Party of Vietnam issued guidelines on how to rebuild and develop Vietnam.120 Included in the

120 On 2 September 1945, Ho Chi Minh read Vietnam’s declaration of independence in Ba Dinh Square

(Hanoi).

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proposal were guidelines in regard to taxation. The French taxes and corvee were to be abolished and replaced by a mildly progressive income tax. After the independence, the Vietnamese communist party introduced a farm tax, based on agricultural output. Over time other taxes were imposed on the private sector. One example of taxation under the communist government was the tax on business transactions levied between 1975 and 1978, the so-called ‘unreasonable profits’ tax. An income tax applied to private shopkeepers, a commodity tax for certain goods (mainly non-essentials), a slaughter tax and customs duty. Collecting taxes was in the hands of village committees. However, as noted above, most state revenue came from state-owned enterprises (SOEs), which contributed to the state coffers by way of remitting profits as well as paying taxes. The government paid only limited attention to possible other taxes and did not develop these until the early 1990s.

6.5 BACKGROUND OF THE 1986–‘90 TAX REFORM The decline of revenue from SOEs and the ending of Soviet funds, combined with an ever-expanding budget, put the Vietnamese Government in a difficult position. Prior to 1988, over 70% of tax revenue was collected from only a few SOEs (Jenkins and Terkper 1992, p.6). As mentioned below, the Vietnamese Government had been pressured into experimenting with economic liberalisation before government revenue dried up. Once that happened, it added to the push for a further move into a market economy. Forced by the urgent need for other sources of government revenue121 and the need for private investment, the Vietnamese Government introduced major tax reforms. In 6.3 I discussed the system of political representation and the role of government which is an important part of the model (see Chapter 4) used for the two case studies. Continuing the model, I will now discuss the rise of reformers in the communist party and their economic and fiscal policies. This provides an analysis of the causes for reform and the context of the reform itself. I also pay attention to the culture of public institutions following earlier discussions about sociological institutionalism, including a detailed discussion of the Vietnamese tax administration. In addition, this part addresses the use by the Vietnamese government of foreign advisers. Further following the model, I will discuss the role of interest groups (see also interest group theories in Chapter 4).

Reformist rise in the communist party The political key to change was in the hands of Truong Chinh, a senior Party official who had been the designer of the land reforms in the North in the 1950s and the driving force behind the integration of the South into the communist system. As a former general secretary of the party he was well respected. And it was Chinh who started to listen seriously to the complaints and frustrations of local officials in 1984 121 The steady flow of Soviet advanced army supplies stopped too, and budget constraints forced cuts in the

defence budgets. Some army units did not have the funds to provide food and clothing to their personnel. This caused the military to become more involved in business activities.

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(Riedel and Turley 1999, p.18). There were complaints by individual communities and factories which requested market-oriented solutions as answers to the failures of the planning system. In other words, the pressure for change came from the bottom of the Vietnamese system before the leaders at the top understood their necessity. Many believe that Chinh was the key in organising the frustrations and complaints into an articulate movement (Riedel and Turley 1999, p.18). Chinh had an ally in Party Secretary Nguyen Van Linh, who favoured economic reform. In 1985, Linh was promoted to the political bureau and Chinh became Secretary General of the Party. Jointly they were able to deal with conservative members opposing economic change. But both were products of the Party system and they would not suddenly condemn past Party policies. Moreover, the Party consisted of a highly consensual top leadership which ruled out any radical plans (Riedel and Turley 1999, p.41). At the Sixth Party Congress in December 1986, the Party introduced the strategy of doi moi (renewal). The fresh approach was received with enthusiasm by Congress participants. However, the new ideas did not include a more democratic multi-party system. People were invited to express their grievances, but not by establishing their own interest groups; rather, by using the existing institutions (Marr 1994, pp.5-6). Reformers like Chinh were allowed to make changes, but only in the margin (Riedel and Turley 1999, p.20). Doi moi was not as radical as often portrayed and the discussions at the Sixth Congress are a clear illustration of the mind-set of many members at the time. There was elaborate discussion about whether private enterprises should be permitted to hire up to 10 or 30 workers and if the capitalist economy should be allowed back into northern Vietnam (Riedel and Turley 1999, p.19). Beresford compellingly argues that the doi moi reform was a good illustration of the fact that Vietnamese political leaders behaved very much like their pragmatic counterparts in other countries rather than as zealous communists. They skilfully built coalitions of interest to support certain policies (Beresford 1997, p.188). They carefully considered the dominant interest groups, including those within the party system with ties to SOEs, and farmers’ groups. During this period members of key party organisations who seemed to represent old-style, conservative, dogmatic communist views, were replaced with representatives who favoured more liberalisation (Beresford 1997, p.188). The Vietnamese General Tax Department In 6.3 I discussed the Vietnamese state structures in general. An important part of state structures in the model is the tax administration itself, which is discussed here. As shown in the organisational chart below, in Vietnam the tax policy division is part of the overall tax administration. In some countries this division is based in Treasury or other parts of the government. In 1990, the tax department employed more than 34.000 people, not including the 20,000 part-time employees who collected taxes at the village level (see the organisational chart below). The majority of these full time employees came from the army. A majority of GTD employees had no training in tax matters. However, at central level, a large majority of employees (approximately 220 in 1992–93)

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had a university education (Gandhi, Nellor et al. 1993, p.87). In 1990, 1.4% of all Vietnamese above 15 years old had received tertiary education, compared to 0.2 % of Indonesians in the same age group in 1990 (Barro and Lee 2000). Many in the tax administration had received tertiary education both in Vietnam and abroad (mainly in other communist countries).122 The high level of in-house expertise at the central level of the Vietnamese department of taxation is an important factor. As shown in the Indonesian case study. Minister Wardhana was in a difficult position, he wanted drastic tax reform, but did not have qualified in-house staff in his Ministery of Finance to develop these reforms. His Vietnamese counterparts at central level were better educated which lessened the need to look for foreign expertise.

122 Based on my experiences and interactions with members of GDT.

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ORGANISATIONAL CHART OF THE VIETNAMESE TAX ADMINISTRATION

MINISTRY OF FINANCE

GENERAL DEPARTMENT OF TAXATION

TAXATION BLOCK Turnover Tax & Excise Tax

Division

Project Tax & Income Tax Division

Import-Export Duties Division

Foreign Investment Taxation and International Relations Division

Agriculture Taxation Division

Registration Tax & Other Taxes &

Charges Division

FUNCTIONAL BLOCK

Organisational Development and Training Division

Taxation Policy Division

Controlling & Auditing Division

Tax Forms Division

Computer Division

Statistics, Planning, Accounting

Division

Information to the Public and Internal Competition Division

OFFICE & SUPPORTING BLOCK

Administrative & Secretarial Division

Supply Division

Budget Division

PROVINCIAL & CITY DEPARTMENT OF TAXATION

TAXATION BLOCK

State-Owned Enterprises Management Division

Agriculture Taxation Division

Registration Tax & Charges

Division

FUNCTIONAL BLOCK

Organisation, Training & Public Information Division

Taxation Policy Division

Tax Forms Division

Computer Division

Statistics & Planning Division

Auditing Division

OFFICE & SUPPORTING BLOCK

Internal Administration Division

Budget Division

DISTRICT SUB-DEPARTMENT OF TAXATION

Planning & Collection

Group

Collecting Teams in

Communes & Villages

Auditing & Contracting

Group

Personnel,

Budget, Administratio

n, Supply Group

Traffic Collection

Stations (at railway & bus

stations, airports etc)

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Foreign advisers Another part of the model under State Structures part of the model is the use of foreign advisers. When making changes in its overall communist approach in the mid-1980s, Vietnam was very careful in inviting foreign advisers to assist. It adopted the policy that advice from abroad needed to come from a wide and diverse selection of countries. For this reason, it was quite common that advice was sought from four or five countries, regardless of the topic. The IMF had regularly sent staff to Vietnam beginning in 1975, and IMF missions made several visits during the first half of 1989 to discuss Vietnam’s arrears. The government’s interlocutor with the IMF, Nguyen Xuan Oanh, had worked for the IMF in the early 1960s. The problem was that the IMF had no real leverage over policy because the US Government prevented lending to Vietnam. This also kept the Asian Development Bank and World Bank from becoming more active in Vietnam (Riedel and Turley 1999, p.22). As Riedel and Hurley point out, none of these organisations could put pressure on Vietnam to adopt IMF-approved policies. The external push had to come from other directions, mainly the loss of support from the socialist countries. Vietnamese policy-makers were well aware of the IMF strategies when they drafted their Foreign Investment Law in 1986–87 and when they were in the early stages of drafting their profit tax in 1988 and 1989. But they identified more closely with their Chinese neighbours and other Asian countries when considering their longer-term future than with Anglo-American models as promoted by the IMF (Riedel and Turley 1999, p.43). Moreover, the advice given by the multilateral aid agencies was already embraced by policy-makers themselves. They knew that the recommendations made by these agencies were the gateway to international capital and investment. They cleverly used the successful examples of their neighbouring Asian ‘tigers’ in a bid to sell their Foreign Investment Law and other reform policies domestically (Riedel and Turley 1999, p.45). It is important to note that most of the World Bank, Asian Development Bank,123 UN Development Programme,124 IMF125 and various other bilateral aid projects such as

123 The Asian Development Bank initiated a project in the audit area in Vietnam. The main reason for this

initiative was the increasing pressure from member countries to improve the transparency of the financial system. The bank was already in the process of issuing more grants and loans to Vietnam and wanted to ensure some accountability for the funds given.

124 Early in 1990 the MoF and the Vietnamese Central Bank signed an agreement with the UN Development Programme. The IMF was selected as the executive agent. After 1993, the IMF appointed one long-term advisor who worked together with short-term consultants in the area of tax policy and tax administration. The UN also funded the tax administration modernisation project.

125 The IMF has had a representative in Vietnam since the early 1990s. It has published a stream of reports advising the Vietnamese Government how to develop its tax system. In 1994, an IMF mission visited Vietnam to report on tax and customs administration reforms. The mission members met with Vice-Minister of Finance Nguyen Sinh Hung and Vice-Minister of Finance Pham Van Trong. The mission had detailed discussions with Tran Xuan Thang, head of the General Department of Taxation, and his deputies Nguyen Thanh, Deputy Head of the Customs Department and Do Huu Ngap, Director of General Affairs. The report states: “Since 1989, progress has been made in setting up a basic tax system in Vietnam that is suited for a market economy”. (Corfmat, F., J.-P. Bodin, et al. (1994). Vietnam: Strategies and Priorities for Tax and Customs Administration Reforms. Washington, International Monetary Fund, Fiscal Affairs Department. This is a clear example of the different views held by IMF representatives versus Vietnamese Government officials who did not want a market economy but a socialist-market economy instead. The IMF, too, emphasised the need for simplicity of the tax system and for a self-assessment system (Corfmat, F., J.-P. Bodin, et al. (1994). Vietnam: Strategies and Priorities for Tax and Customs Administration Reforms. Washington, International Monetary Fund, Fiscal Affairs Department.).

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Germany’s 1994 assistance to the budget department and French assistance to MoF staff did not commence until 1993.126

Interest Groups What the press could write and how people organised their daily lives were increasingly less circumscribed after 1986. But the Party still played a very central role in Vietnam. There was little tolerance of any criticism of the one-party system, and religious and political dissenters were dealt with harshly.127 The new party Secretary General, Nguyen Van Linh, interpreted doi moi as a tool for economic reform rather than for more democratic processes.128 This made it very difficult or even impossible for society groups to act independently from the Party. I now turn to the actual economic reforms including the introduction of the Foreign Investment Law and the Profit Tax that the government introduced as its political response to the fiscal pressures it was under.

6.6 THE REFORMS 1986–90 The following discussion of the income tax reform has two distinct parts: one dealing with the Foreign Investment Law of 1987 and the other with domestic income tax law and the new Profits Tax of 1990. First I discuss the broader economic response developed by the Vietnamese Government.

Broader economic response The government took a range of measures to improve its fiscal position. In 1987, it introduced the Foreign Investment Law and an Import–Export Tax Law. In 1988, the system of licensing and quotas was largely replaced by import and export duties and foreign investment regulations were introduced. With the introduction of the Foreign Investment Law, Vietnam slowly started to attract foreign investment. Most of this came from the East Asian ‘tigers’, all of whom found Vietnam’s low labour costs attractive since their competitive edge was being eroded by rising costs. Thus Vietnam opened up to foreign investment at an opportune time, when rising land/labour costs in other parts of Asia, and burgeoning capital surpluses among the ‘tigers’, meant that Taiwan, Hong Kong, Korea, Singapore and some of the ASEAN countries as well, were looking to invest abroad, especially in labour-intensive, export-oriented manufacturing. Vietnam, with its large, cheap, labour force, proved an inviting destination for their investment dollars. Reforms undertaken after 1986 included almost total price liberalisation, bringing the official exchange rate into line with market rates, and giving managers of enterprises

126 The activities of the IMF and UNDP largely overlapped the projects of the GDT and NTB. For this reason

Sweden initiated closer discussion and communication between the different donors active in the area of taxation.

127 Doi moi was also seen as a good opportunity for economic perestroika and political glasnost. According to Marr (Marr, D. G. (1994). Walking on One or Two Legs in Contemporary Vietnam. ASAA Conference, Perth, Asia Research Centre.events in the USSR and Eastern Europe provided an opportunity for critics within Vietnam.

128 Under doi moi people were allowed, and at times encouraged, to air their complaints but only via the well established institutional channels.

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much greater autonomy to make commercially-based decisions. Since 1989, Vietnam has been a major rice exporter. The state and collective sectors, while still dominant, were reduced, and private enterprise was officially encouraged. Economic policies removed the traditional socialist emphasis on heavy industry and gave priority to food production, consumer goods and exports. Vietnam rapidly diversified its trade, which up until 1990 was 70% with the COMECON (socialist bloc) countries, and its major trading partners started to include East Asian countries such as Singapore and Japan, which together accounted for half of Vietnam’s trade by 1995 (Spencer and Heij 1995). In 1989, Vietnam witnessed the collapse of Eastern Europe and the unravelling of its political ruling elites. These developments put further pressure on Vietnamese policy-makers to improve private sector activities and increase revenue sources. In 1989, the government abolished the two-price system (official price versus market price), meaning all prices were now market prices. It cancelled most subsidies to government employees, the printing of money was reduced and a positive interest rate was now allowed. This resulted in much lower inflation in 1990 and increased output by farmers (Marr 1994, p.6). Table 3. Government Revenue Sources 1988–91 (% of total revenue)

Source 1988 1989 1990 1991

State-owned enterprises

63.8

47.0

40.0

36.2

Non-state sector Agricultural tax Non-agricultural tax

18.4 7.8 10.6

18.9 7.9 11.0

15.7 4.8 10.8

21.3 7.1 12.8

External trade

7.5

9.3

11.9

13.4

Other revenue Fines/lotteries/fees Crude oil Foreign remissions

10.3

- - -

24.8

- - -

32.4 8.8 19.9 4.8

29.1 6.3 22.0 0.7

Source: (World Bank 1992, p.57) As Table 3 shows, revenue from SOEs dropped to about 47% in 1989 and 40% in 1990. In 1990, the government did enjoy some relief thanks to revenue from oil exploration. The oil revenue filled the gap left by declining ability to take profits and to tax SOEs129 (Haughton 1994, p.5). Between 1989 and 1991, the government introduced drastic measures to curb public expenditures: it abolished subsidies to SOEs, cut state investment programmes, slowed wage increases for public servants and demobilised half a million soldiers (Riedel and Turley 1999, p.23). Many SOEs folded, though these were mostly smaller ones; the large ones survived. Most people benefited from the government’s measures as inflation sharply decreased. In 1989, over 70% of the Vietnamese workforce were farmers and only 15% worked in

129 These revenue streams filled in the gap long after 1990.

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the civil service. The liberalisation of agriculture prices and the abolition of the collectives (land tenures were distributed to individual households) resulted in increased income for most farmers. The fast growing private sector was able to absorb many former SOE employees (Riedel and Turley 1999). The reforms in the early 1990s aimed to move the economy from a centrally planned one to a more market-oriented model.130 On the economic front, the government tried to reduce the amount of red tape, but the sheer size and power of the bureaucracy needed to maintain the kind of controls that the government also wanted, made this a difficult task. On the fiscal revenue side, a few SOEs generated most of the revenue in the 1980s. These SOEs were mostly owned by various ministries at central, provincial or local level (two-thirds of all SOEs were under province/city or district jurisdiction) (Marr 1994, p.7). Aside from these few revenue-generating enterprises, the government acknowledged that a significant number of these SOEs were not profitable, but it was understandably reluctant to allow massive, rapid restructuring, with its inevitable shedding of labour, in the context of an unemployment rate of 20% and no social security network.131 But revenue from these weak SOEs continued to decline and the government was forced to look for alternative revenue sources.132 Agriculture supplied an important part of tax revenue via a separate tax, the agricultural tax (see Table 3). The tax depended on the specific category of land (how it was classified). The rate was fixed in tonnes of paddy rice per hectare and taxpayers had the choice to pay their taxes in cash or in kind. Revenue from this tax was in no proportion to the overall share of agriculture in the economy, the agricultural sector paying far less tax than other economic sectors.133 The tax was adjusted downwards for crop failures but not adjusted upwards for higher yields. A pattern of expectations among farmers had grown so that it would have been difficult for the government to increase agricultural tax revenue without upsetting a majority of the population.

Reforming the legal framework Vietnam reformed many sectors after 1989. The first wave of commercial laws, comprising the Law on Foreign Investment 1987, Land Law 1988 and Ordinance on Economic Contracts 1989, were mainly based on Chinese market reforms. Only in

130 This can lead to contradictions, best summed up in a phrase from the April 1992 Constitution: “... a multi-sector

commodity economy operating in a market-oriented mechanism under the administration of the state and in accordance with socialist orientation.”

131 At the same time, domestic investors were unwilling to take risks buying the stocks of these enterprises. There were few investors, especially as there was no previous culture of risk-taking investment. There had been some success in selling bonds issued by some SOEs (in the cement industry), but the selling of such debt instruments is of course far from privatisation (Spencer, C. and G. Heij (1995). A Guide to Doing Business in Vietnam. Perth, Western Australia, Asia Research Centre, Murdoch University.

132 As discussed in chapter two, the definition of tax is deceptive when examining the revenue flows from state-owned enterprises. SOEs received many benefits from the Vietnamese Government and their real contribution to the state coffers is lower than stated below.

133 For example, in 1992 the agricultural tax was 10% of total revenue even though the agricultural sector represented 40% of the economy in that year (Jenkins, G. P. and S. E. Terkper (1992). Vietnam's Tax Reforms: Policies in Transition Economies. Cambridge, Massachusetts, Harvard International Tax Program, Harvard University.

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areas where China lacked appropriate experience were laws imported from Western countries, for example, the Law on Companies 1990 was based on French law (Gillespie 2001).

As the economic reforms progressed, the state needed a legal framework that devolved economic decision-making power to market players. This, in turn, required massive importation of Western commercial law (often funded by foreign aid agencies). Especially after the 1992 Constitution recognised private commercial ownership, commercial legal frameworks covering companies, taxation, securities, insurance, anti-monopoly and many other areas were introduced (Gillespie 2001).

The existing tax regime prior to 1987 was marked by a complex structure (a myriad of rates and schedules) and a narrow base that mostly relied on transfers from SOEs (Zee 1993, p.281). Moreover, SOEs were able in practice to negotiate their tax burden. Prior to 1990, most taxes were collected at the provincial and district levels, resulting in illegal tax incentives given by local authorities to SOEs (Zee 1993, p.281). In regard to the tax reforms, Table 4 outlines the tax laws introduced in the period 1989–93. Table 4. Tax Reforms

ENACTED

APPLIED FROM

AMENDED

Foreign Investment Law

1987 1987 Various

Excise Tax law 30 June 1990 1 October 1990 September 1991 July 1993

Turnover Tax law 30 June 1990 1 October 1990 September 1991 July 1993

Profit Tax Law 30 June 1990 1 October 1990 July 1993

Agricultural Tax (Ordinance) Agricultural Tax Law

July 1993

1994

1991

Natural Resources Tax (Ordinance)

30 March 1990 1 January 1991

Personal Income Tax (Ordinance)

26 March 1991 26 March 1991 January 1993

By 1989, the Vietnamese Government had arrived at several key objectives (Zee p. 281): 1. Replacement of the existing tax regime, which was largely based on decrees and

regulations 2. Uniform tax treatment of SOEs and private sector companies 3. Greater revenue mobilisation through base broadening and including the growing

private and trade sectors

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The Foreign Investment Law 1987 The Foreign Investment Law (FIL), passed in 1987, set out priority areas for foreign investment.134 The law outlined the different steps required for foreign investors to set up activities in Vietnam. This included permitted forms of investment, the maximum percentage of foreign participation and the licences required to operate in Vietnam. The law also outlined the tax rates applicable. The creation of the FIL involved a range of institutions, think tanks, the GDT and senior bureaucrats in the MoF. It was these highly educated and well informed officials who developed the new tax policies. However, the basic ideas and features of the FIL were not of their making. They came from Vietnam’s neighbour, China. The Vietnamese FIL had strong similarities with the Chinese foreign investment laws. In the mid-to-late 1980s the Vietnamese Government looked abroad for examples of successfully attracting much-needed foreign capital. It should come as no surprise that developments in China were used as an example. At the time Vietnam did not receive much ‘Western foreign advice’ and, given the common communist features in both China and Vietnam, Vietnam naturally found the experiences of its northern neighbour particularly relevant. Both countries had large pools of unused or underused resources, particularly labour in the countryside. This rural labour force could be used for industrialisation. This is not to say that the reforms in Vietnam and China were quite the same. At the start of its reform in the late 1980s, Vietnam was much poorer and less industrialised than China. Vietnam’s communist history was shorter than China’s and Vietnam therefore faced less political resistance when introducing the reform than China did. At the same time, China had the advantage of support from Western countries and Japan while Vietnam was subject to an embargo by those very same countries. China had a reasonably smooth ride with increased trade and foreign investment while Vietnam suffered from the loss of support from Eastern Europe. It is fair to conclude that balance of payment difficulties, accelerating inflation and revenue loss played a far greater role in Vietnam than in China (Riedel and Turley 1999, p.12). In order to understand China’s FIL, we need to go back to 1978. In that year China commenced its economic reform, opening its economy to the outside world and reforming its economy to attract foreign capital and technology. China’s increase in foreign direct investment was closely related to its rise in exports. In 1978, foreign trade only accounted for 9.8% of GDP; in 1990 this was 35.2% of GDP (Liew 2000, p.146). Many foreign investors relocated their labour-intensive factories to China (from Hong Kong and Taiwan) to take advantage of cheap labour. The Chinese Government encouraged this with the setting up of so-called special economic zones, where an attractive investment regime applied, including reduced tax rates. Part of China’s economic reform was the introduction of the Joint Venture Law of 1979, which covered Chinese–foreign joint venture enterprises. In 1986, the Wholly Foreign-Owned Enterprises Law was introduced and in 1988 the Law on Chinese– 134 On 29 November 2005, the National Assembly of Vietnam passed the Law on Investment No.

59/2005/QH11 which took effect on July 1, 2006. This new law abolished the FIL and created a uniform legal framework for, and levels the playing field between, domestic and foreign

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Foreign Co-operative Enterprises. The three laws together formed China’s legal framework for foreign investments and clearly reflected the government’s objectives to attract foreign capital, import advanced technology and management techniques, promote international trade and co-operation and maintain the policy of opening China to the outside word (Li 1993, p.269). China’s existing tax system was inadequate given these reforms (Li 1993, p.272). There were too few types of taxes being levied and the tax rates were very high resulting in a heavy tax burden. The government did not levy corporate income tax on the profits of SOEs, but it did charge a corporate income tax for collectively-owned enterprises, with high tax rates. As in Vietnam, taxes were not normally enacted by the National People’s Congress, but were often promulgated by temporary stipulation of the State Council, authorised to do so by the Congress (Li 1993, p.272). These stipulations did not have the authority of a tax law. The Chinese Government decided to establish a separate tax system that supported foreign investments. A joint venture income tax and a foreign enterprise income tax were introduced by formal legislation.135 Compared to their domestic counterparts, foreign investors enjoyed lower tax rates (for example, 30% versus up to 55% for domestic taxpayers) and were eligible for tax incentives depending on the activity of the company. The tax incentives included tax exemptions for up to two years and reduced rates of 15% for the third year; these periods could be extended depending on the activities performed. Foreign investors active in the special economic zones also enjoyed tax rates of 15%. The overall tax burden was significantly lighter for foreign enterprises than for domestic enterprises. According to Li (1993, p.270), the combined tax burden of enterprises with foreign investment was about one-third of that borne by domestic enterprises.136 Many believe the Chinese dual system was a compromise to ensure swift approval by the National People’s Congress (Li 1993, p.272). The special tax system for foreign investment was in line with international standards and conventions, a prerequisite for companies operating in an international environment, where attracting foreign capital and exporting to international markets are crucial. China’s approach of creating a separate tax system for enterprises with foreign investment was quite unique. Most other countries have a unified tax system combined with possible tax incentives, or Special Economic Zones, to attract foreign investment and technology, but these incentives do not detract from the generally unified nature of their tax system (Li 1993, p.271). The developments in China were closely followed by the Vietnamese Government. Vietnam adopted China’s unique approach with the introduction of its FIL (Beresford 1997, p.190). There were many similarities between China and Vietnam that led the government to choose this model. The common factors were:

investment (Nguyen, T. M. (2006). High lights of the new investment and company laws of Vietnam. Newsletter Tilleke & Gibbins Consultants Ltd. June.

135 This was in contrast with the domestic tax law regimes which continued to be issued in the form of temporary stipulations.

136 Based on statistics for Shanghai Industrial Enterprise 1987–90.

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1. Vietnam, too, needed a tax system to accompany foreign investment; the existing tax laws were inadequate to cater for foreign investors. There were too few types of taxes being levied and tax rates were very high resulting in a very heavy tax burden. The FIL introduced a joint venture income tax and a foreign enterprise income tax.

2. As was the case in China, the Vietnamese FIL can be seen as a compromise to ensure swift approval by the NA without giving up on socialist ideals, with domestic private initiatives kept out of the new tax regime. The FIL ensured that the tax parts were in line with international standards, essential for companies operating in an international environment where attracting foreign capital and exporting to international markets are crucial.

3. Like their Chinese counterparts, the Vietnamese Government considered the tax burden an important factor influencing investment decisions and therefore believed it was important the rates were internationally competitive. Having the separate tax system meant that it was possible to have the rates low without affecting the large tax revenue stream received from domestic enterprises (mainly collective-owned enterprises) due to high domestic corporate tax rates.

The FIL set priority areas for foreign investment, including the possibility of 100% foreign ownership (although most foreign investors preferred to form joint ventures with mainly Vietnamese SOEs). The law outlined the different requirements for foreign investors to set up activities in Vietnam. These included obtaining licences, the forms of investments allowed and the level of foreign participation. The government clearly outlined the areas in which foreign investment was desired, including (Heyde and Chew 1992, p.273):

• major economic programmes involving export-oriented production or import substitution;

• high technology industries using skilled labour or raising the production capacity of Vietnamese enterprises;

• labour-intensive industries using raw materials and natural resources originating from Vietnam;

• infrastructure development; and • foreign exchange-earning services such as tourism, ship repair, airport and

seaport services. In contrast with the Chinese example, the FIL itself also outlined the corporate taxes payable by foreign investors. The rates varied between 10% and 25%.137 The actual rate was negotiated for each project with the State Committee for Co-operation and Investment (SCCI),138 which was responsible for obtaining approval for the agreed rate from the MoF. The lower rates of 10% or 15% were available for companies with large capital investments (1992 amendments).139 Generally companies investing in 137 The rates could even be lower in the Special Economic Zones (SEZ) that Vietnam established. SEZs are

not further discussed here. 138 This committee was established in 1987. 139 Since amendments were made to the Foreign Investment Law in late 1992, profits tax has ranged between

10% and 25%. Investors are also eligible for tax ‘holidays’ (ranging from one-to-four years after the first year of profit-making) and reductions on profits tax (ranging from two-to-four years after the expiry of the tax holiday). The most favourable terms are available to manufacturing companies operating in Export Processing Zones. Similar terms are available to companies developing infrastructure in ‘difficult’ areas, to reforestation projects and to projects designated as strategic.

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heavy industries were subject to lower rates than services companies (Haughton 1994, p.15). This was a key characteristic of the planned economy that favoured heavy industries. However, it was criticised by foreign economists like Haughton who argued that, “it remains doubtful if digging up more minerals (heavy industries) is more worthwhile than providing a better system of credit for farmers (services) or producing shoes for export (light industries),” (Haughton 1994, p.15). Any profits that were reinvested were exempt from tax under the FIL. This exemption was not available to their domestic counterparts under their Profit Tax, as will be discussed later. Taxable income included all revenues from the sale of products or provision of services, as well as other income resulting from any activity during a tax year (Heyde and Chew 1992, p275.). Revenues were calculated differently for foreign joint venture partners as compared to their Vietnamese joint venture partners. Tax deductible expenses included most standard business expenditures. In addition there was a catch-all category of other expenditures. However, these expenditures could not exceed 5% of the total of all other deductible expenditures. FIL investors were allowed to use a foreign accounting system, subject to approval by the Ministry of Finance. In some cases such approval would only be granted if certain modifications in the accounting system were made (Heyde and Chew 1992, p.275). The result was that foreign investors in similar situations would end up with quite different tax liabilities.

1989 Major tax reforms and the start of Swedish assistance The Swedish aid agency, SIDA, played, and still plays, a role in tax reforms in Vietnam. The relationship between SIDA and Vietnam has its roots in the 1960s and 1970s. Sweden, under consecutive social-democratic governments, was one of the few Western countries that continued providing aid to Vietnam during the years of war. In 1969, it was the first Western country to open an embassy in Hanoi. This resulted in SIDA having significant political support in government circles in Hanoi. Moreover, the Vietnamese Government viewed the social-democracy model, as applied for many decades in Sweden, as a useful example for Vietnam. Co-operation between Sweden and Vietnam in the area of tax started in 1989 (thus after the enactment of the FIL). In that year, the National Tax Board (NTB) of Sweden visited Vietnam, which was followed by a Vietnamese visit to Sweden. The Vietnamese delegates were from the MoF and the GDT. The timing of the two visits coincided with the drafting of the new Profit Tax Law by the GDT and other MoF staff (it was enacted in June 1990). The team was interested in Sweden’s corporate tax system and the specific tax incentive policies it had continued for several decades. In the 1980s Sweden had overhauled its tax system and reduced corporate tax rates from 56% to 30%. It retained certain tax incentives, which was possible because Sweden’s tax revenue did not heavily depend on corporate tax revenue, its main source of revenue deriving from indirect taxes. As the Vietnamese delegates later explained, the structure of the tax rates selected in the reforms of the profit tax of 1990 were influenced by knowledge gained from the visit to Sweden in 1989 (SIPU 1993, p.8).

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It should be noted that most of the tax collaboration between Sweden and Vietnam took part in the period after the initial corporate income tax reform of 1990 and the role of Swedish advice is of limited relevance to our case study of the 1990 profit tax. The Swedes had only limited input during this period. Nevertheless important, having said that, I briefly discuss the key elements of the cooperation as background information. In 1991, the Swedish–Vietnamese tax project started under guidance of the Leadership Board of the GDT with the Deputy Director General as the authorised representative. On the Swedish side, the international consulting office of the Swedish NTB was responsible for co-ordinating the project (Swedish International Development Cooperation Agency 1997).

The project’s estimated cost was SEK 9 million,140 financed by SIDA and the MoF (General Department of Taxation 1993). Significant funds were allocated for interpreters so non-English-speaking participants in the project would not be excluded.

The objective of the co-operation was to assist the Vietnamese Government with (SIPU 1993, p.5):

• creating a coherent legislative framework for taxation in Vietnam,

• developing and strengthening the basic structures of the tax administration, including the elaboration of the internal organisation of the tax department on central, regional and district levels.

• preparing at least one handbook for operational routines,

• implementing pilot projects in one or two districts to test the computerisation of the administration,

• developing a comprehensive training system for staff and laying the basis for a decision on the future institutional arrangements for staff training.

According to the evaluation report of the project (SIPU 1993, p.6), the project was based on the exchange of information and on the transfer of ‘know how’ in the field of tax policy and tax administrative issues. Expertise and experiences of the NTB were made available to their Vietnamese counterparts through mutually agreed activities. The Vietnamese were responsible for the application of new ideas and knowledge which was gained during the co-operation.141 The NTB’s major task was to facilitate increased knowledge and competence on tax policy and tax administration. A large part of the project focused on study visits by Vietnamese delegations to Sweden and other countries, visits by Swedish experts, and on seminars and workshops in connection with study visits in Vietnam. At no point did Swedish advisers write advisory reports as the HIID advisers did in Indonesia. Making a wide range of information sources available was the core of the Swedish assistance. It was then up

140 In 1992 a further SEK 2 million SEK was allocated to the project to fund equipment for a local area network

at the GDT. Approximately SEK 900,000 was allocated for tax policy assistance. 141 I am fully aware that claims of local ownership statements are easily echoed in donor agency reports and

not always substantiated. In this case, the SIDA reports do substantiate this approach, the Vietnamese counterparts were truly driving the reforms and applications of ideas.

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to the Vietnamese team to translate that into policy advice. There was a highly skilled and educated pool of Vietnamese tax officials who were able to provide high calibre reports and analysis. This Swedish approach of ‘changing within’ is also in sharp contrast with that of other agencies. The IMF, for example, produced several reports based on short-term visits142 advising Vietnam what it should or should not do and describing how inadequate the system was (Gandhi, Nellor et al. 1993; Corfmat, Bodin et al. 1994). These reports generally ignored the political realities of policy-making. The agreement between the Swedish NTB and the Vietnamese GDT facilitated various visits by Vietnamese delegations to study the Swedish tax system. The GDT team conducted 12 study visits to Sweden (including 64 delegates) to research tax policies and tax administrative matters. Eight other visits were made by a total of 40 delegates to the Philippines, Singapore, Indonesia, Thailand, China, Malaysia, South Korea and Hungary (see Table 5. below for an overview of these visits). After each visit the Vietnamese delegation drafted a report with findings that was subsequently circulated within the MoF and distributed to the members of the NA.

This was only a part of the overall tax project. Many other visits were conducted regarding tax organisation, operational handbooks, computerisation, training (total of five visits abroad to Sweden and Singapore). The Swedish NTB had 10 missions to Vietnam with a total of 20 experts advising on the different areas outlined in the agreement. Under the project, 25 scholarships were given to Vietnamese tax administrators. Six officials went to Singapore for tax training and nine went for computer training. Ten officials went for English language training to Thailand and Sweden. The Vietnamese tax administration has limited experience with computerisation for surveillance and control of tax assessments and tax avoidance. The use of modern technology, including the development of tax information systems, is of great importance to enable the tax administration to fulfil its tasks adequately. Positive steps were made by the Vietnamese Government with the introduction of computers in the Tax Department in 1993 under a Swedish pilot project.

Table 5. Visits to Sweden and other countries during 1991-1992

1. Study visit to Sweden to discuss tax policy and tax administrative matters. Four Vietnamese experts went on the trip together with one interpreter, 1991.

2. Visit to Vietnam for policy discussions. Two experts, 1991.

3. Visit to Sweden to study operational routines for collection of each specific type of taxes. Four experts, one interpreter, 1992.

4. A Vietnamese delegation visited Indonesia to study tax policy and administration. Four experts, one interpreter, 1992.

5. A Vietnamese delegation visited Hungary to study tax polices and tax administrative matters (emphasis on VAT and agricultural tax). Four

142 Often visits of two weeks or less form the basis of expert advice. For example, in the case of Gandhi’s IMF

report, the team spent 14 days in the country.

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experts, one interpreter, 1992.

6. A Vietnamese delegation visited the Philippines to study tax polices and tax administrative matters. Four experts, one interpreter, 1992.

7. A Vietnamese delegation visited Thailand to study tax polices and tax administrative matters. Four experts, one interpreter, 1992.

8. Visit to Vietnam by senior Swedish experts for discussions on tax policy and co-ordination for project implementation.

The SIDA project conducted several activities, including a seminar on VAT and excises in Vietnam, attended by two Swedish tax experts. There was also a Vietnamese visit to Sweden studying Swedish tax policy after the 1991 reform (VAT and capital income tax). The delegation contained four experts from the MoF and GDT (and one interpreter). In addition, another delegation of four experts from the MoF and GDT (and one interpreter) visited China in 1992 to study China’s overall tax system. The new profits tax of 1990143 Earlier on in this chapter we saw that Vietnamese tax policies are decided at the central level (Bird, Litvack et al. 1995, p.22). Generally, the MoF together with the GDT are the key policy-makers in the area of tax. Within the MoF, the vice-minister, together with the Director of International Co-operation (in charge of donor projects and coordination) play an important role. In the GDT, the Director General, the deputy Director General, and the head of Foreign Investment Enterprise Taxation and International Co-operation (in charge of tax) and of the Taxation Policy Division are key players. The domestic tax reforms were guided by the Vice-Ministers of Finance Pham Van Trong and Phan van Dinh, as well as Nguyen Duc Duy, Deputy Director General of the GDT144 and Tran Van Ta, Secretary General, and Nguyen Ba Toan, Director of International Co-operation at the MoF. Minister of Finance Ho Te had no direct involvement in the tax reform. In effect, tax policy was shaped at the highest level of the GDT and the MoF. There was only limited input from the wider community.145 Regarding tax policy matters, staff of the Fiscal Policy Department of the MoF and the tax policy division of the GDT played a major role. According to Tuan-Hiep Dang, who worked at the GDT during this period, most decisions regarding the content of the legislation were made by the GDT.146 As he explained, the senior members of the GDT usually made the first draft for a new law or a revised tax law. Most of the decisions to make certain changes in the tax laws or to design new laws were made by the GDT. In a few minor cases, issues were initiated by

143 The discussion below excludes the turn over tax. 144 Followed by Mr Truong Chi Trung (the then Deputy Director General) for the second phase of reform

1994–97. 145 This meant that the tax laws could be seen as more progressive because generally leaders in the

government sector tended to express modernist views, while representatives of the party, work, mass association, and political organisations in the military and security sectors had defended traditionalist ones (Riedel, J. and W. S. Turley (1999). The Politics and Economics of Transition to an Open Market Economy in Vietnam. Washington, Organisation for Economic Co-operation and Development.).

146 Two hour Interview on 16 June 2000 with Tuan-Hiep Dang.

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request or suggestions made by the Party, but these mainly related to concerns by the Party regarding agricultural land tax and personal income tax. Dang pointed out that after the draft for the Profit Tax Law was tabled at the NA, no substantial changes were made: “The members of the National Assembly often lacked the sufficient knowledge or information to really influence the debate. They would only comment on a particular detail if that had their attention, but they did not have the overview to give any structural comments.”147 In contrast, for example, to the import-export duties’ legislation which relied heavily on Ministry of Trade data and co-operation, the Profit Tax Law did not depend on other ministries. It is hard to obtain much reliable information on what influenced Vietnamese policy-makers in designing the profits tax. China had enacted a similar tax in 1984 and some of its features can be found in the Vietnamese version of 1990 (Hussain and Zhuang 1998, p.58). As with foreign investments, the profit tax favoured investments in heavy industry over services, reflecting features of the planned priced economy (see for more details (Thi Nguyet Le 2006. p.150). Comparing the profits tax, applicable to domestic companies and the FIL, applicable to foreign investors incorporated under the FIL, results in the following overview (Haughton 1994, p.14): Locally owned and joint venture companies Sectors Tax rates Heavy Industry 30% Light Industry 40% Services 50% Foreign companies* Categories Tax Rates Standard 25% Preferential** 15 or 20% Exceptional*** 10% Notes: *Foreign companies had to have at least 30% foreign participation. **To qualify, special conditions had to be met regarding the number of employees, advanced technology, minimum export levels and large invested capital. The 15% rate applied to investment in infrastructure, heavy industry and natural resources, build-operate-transfer projects or in remote areas. ***Applied to investment in mountainous areas only. For domestic companies, profits in excess of VND 6 million148 (just above 500 US dollar) were subject to a 20% surtax. If earnings were re-invested, the tax on this part of income could be reduced by 50%. However, this was significantly less generous than the tax regime for foreign investors. The profit tax was enacted into law in October 1990 for the private sector and became applicable to SOEs in January 1991 (Jenkins and Terkper 1992, p.26). In 147 Two hour iInterview on 16 June 2000 with Tuan-Hiep Dang. 148 Between 1990 and 1995 the exchange rate for 1 US dollar was approximately 11,000 Dong.

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contrast to China, where the non-SOEs and SOEs had separate tax regimes, the Vietnamese opted for the same tax regimes for both types of enterprises (Hussain and Zhuang 1998, p.60). The profit tax explicitly excluded the agricultural sector of Vietnam and therefore only covered a small part of all the economic activities of this rural society. Agricultural producers had a separate tax — the agricultural tax — and were not subject to the profits tax. Problems emerged as the law did not define taxable income and deductible expenses in detail. The tax base was turnover-less-expenses, with no proper clarification of expenses (Jenkins and Terkper 1992, p.27). The fact that these deductions were not defined meant that there was no discussion or opposition to the tax as in Indonesia. Most business taxpayers and tax officials agreed on acceptable tax deductions by negotiation.149 In addition to a profit tax, companies faced a so-called turnover tax (which was replaced by a value-added tax in 1999), one of the most complicated taxes in Vietnam. Many felt the rates were too heavy and that the final profit levels were not taken into consideration. The tax was levied as a percentage of total turnover (which was often estimated) and varied from 0.5% to 30% (11 different rates) depending on the perceived profitability of the sector and whether a particular item was imported or domestically produced. Businesses involved in the production of goods for export could be exempted. The tax caused unrest on various occasions with taxpayers accusing tax officials of imposing turnover tax randomly and increasing the rates regularly (Phuong 1996, p.5). Moreover, in addition to the above taxes, SOEs had to pay cash depreciation and user charges (Jenkins and Terkper 1992, p.27), despite the profit tax being presented as the sole unifying tax for all domestic companies, including SOEs. These rates were significantly higher than for their foreign counterparts, clearly illustrating the government’s different approach to domestic corporate taxpayers. Amendments to the 1990 Profits Tax The Profits Tax Law was amended on 6 July 1993 to reduce the tax rates as a measure to encourage domestic business initiatives (Dick 1993, p.9; Dao Tri Uc 1996, p.12). All three corporate tax brackets were reduced by 5% to 25%, 35% and 45%. The lowest rate applied to energy, mining, forestry and fishing; the medium rate to light industry, food processing and other production; the top rate was applicable to trade, restaurants and the service sector. The amendments also introduced the carry-forward of losses for three years and extended the credit of up to 50% of tax liability for reinvestment, to promote reinvestment of capital. In addition, new enterprises were not liable for profit tax for two years and then paid only 50% of the standard rate for the following two years. In mountainous regions, this reduction lasted for four years, signalling that the government was attempting to promote investment in the poorest parts of the country.

149 Interview on 16 June 2000 with Tuan-Hiep Dang.

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6.7 REACTIONS TO THE TAX REFORM Before discussing the reactions to the profit tax and FIL reform it is important to emphasise that the informal levies charged by a range of authorities did not change. As pointed out by Thayer (1996, p.56), abuse of power by party and state officials was (and is) a very serious problem in Vietnam. The once squeaky-clean image established during foreign occupation was long gone and many Vietnamese experienced the abuse of power. Vietnamese party officials acknowledged the seriousness of the problem, that many Vietnamese experienced a serious financial burden due to illegal fees rather than formal taxes. Local authorities levied a wide range of taxes and fees and sought ‘donations’, many of them with no basis in law. The GDT even issued warnings to taxpayers that there seemed to be a persistence of ‘unofficial’ fees deliberately being imposed by government branches and regional and local authorities (Vietnam News, 18 April 1993). So any changes in formal tax levels would only have a limited impact on the overall financial burden of taxpayers.

Views of Vietnamese tax policy-makers The FIL was clearly a victory for particular groups of senior policy-makers. Or as described by Riedel (Riedel and Turley 1999, p.40), “… of course Vietnam has formal interest organisations of the state corporate variety, but it is the interests embodied in government agencies and branches of the party that are primarily able to exert pressure on top leaders and policy.” According to Hiep Dang,150 the GDT had independence in developing its tax laws and was generally positive about both the tax parts of the FIL as well as the profit tax. But as we have seen earlier, since senior GDT officials represented Party views there would have been little disagreement in any event.

Reactions from the public The FIL and profit tax only applied to enterprises and since 70% of the Vietnamese workforce were farmers, the local impact of the new FIL and Profits Tax Law was limited.151 Many of those who were affected by the new laws were not inclined to pay tax at all (Haughton 1994, p.14). For centuries the Vietnamese tried in many ways to hide their wealth from their foreign oppressors. The effects of historical experience in the field of taxation are summarised in the comments of the rector of Hanoi’s Finance and Accounting College: “In the past, paying taxes meant supporting the invaders. Now we must teach people that by paying taxes they are helping themselves, helping their communities to provide better services. We need education and public debate” (Beaulieu 1993, p.4). In the early 1990s the Vietnamese Government started an educational program in secondary schools to increase tax awareness, explaining

150 Interview on 16 June 2000 with Tuan-Hiep Dang. 151 Many had greatly benefited from the liberalisation of agricultural prices and decollectivisation and had seen

their household income increase. For those without work after the collapse of SOEs, the private sector was blossoming and many managed to obtain work in this sector (around one-third of SOE employees found work in the private sector) (Riedel, J. and W. S. Turley (1999). The Politics and Economics of Transition to an Open Market Economy in Vietnam. Washington, Organisation for Economic Co-operation and Development.

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what taxes are and why it is a citizen’s duty to pay tax (Beaulieu 1993, p.15). The program was based on similar Swedish educational projects.

Foreign corporate taxpayers The Vietnamese Government sought to encourage foreigners to invest in Vietnam. Foreign investors’ initial reaction to the FIL seems to have been very positive, but once established and doing business successfully, many experienced high, sometimes illegal, taxes, harassment by tax officials, and the problems of hidden fees (Spencer and Heij 1995). Some foreign investors estimated that corruption added 5% to 10% to operating costs (Spencer and Heij 1995). For example, if a foreign company wanted to obtain a fax line, the telecommunication company would charge a fee of approximately US$300 just for giving permission, without providing any matching services (Haughton 1994, p.17). Moreover, the idea of the FIL being a ‘one stop shop’ that would deal with all issues faced by foreign investors turned out to be far from reality. An example of the difficulties foreign investors faced was a case in the Hai Phong port. The Hai Phong tax department complained that foreign companies did not pay their taxes as projected tax revenue was much higher than actual revenue. Four of the 21 foreign projects had not registered at all with the tax department. Other complaints included not registering a company’s accounting system with the MoF, not submitting annual accounting reports or not using the forms issued by the tax department (Vietnam Investment Review 1994, p.10). However, the department admitted that foreign companies faced many difficulties when they tried to fulfil their tax duties. These difficulties, according to the department, related to the lack of professional knowledge and the lack of foreign language skills of the tax collectors. The complicated laws formed another problem for foreign investors. Even with the best intentions, foreign investors may not have complied with the law because of a lack of understanding of the Vietnamese tax system.

Corporate taxpayers/private companies: domestic Given the history of Vietnam, private businesses kept a very low profile during the 1980s and into the 1990s and had very limited power to influence tax policies. Although an emerging group, private small businesses were not powerful enough to exert effective pressure for change, even at the margins. At the same time, there are indications that a large number of Vietnamese private businesses understated their actual income (Riedel and Turley 1999, p.25). Many did feel, though, that the Profit Tax Law was harsh in comparison with the FIL. Whilst foreign investors paid a maximum of 25% income tax, and often much less, local business paid up to 45% (Beaulieu 1993, p.9). Many business owners perceived that government officials’ harassment prevented them from being successful. Domestic investors may, indeed, have been encouraged by the Vietnamese Government to start a business. These other (financial) requirements had often a much more serious impact on private businesses than the formal tax obligations.

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For example, in 1988 Hanoi’s first private domestic construction company was established (Far Eastern Economic Review 1992). The company, Thai Thanh Construction Enterprise, completed 23 construction projects in the following two years, including schools, shops and student dormitories. In December 1990, the People’s Committee of Hanoi requested that for future bids for construction projects by private companies, these companies would have to make a deposit equal to the total value of the project. Unable to fulfil this requirement the company appealed against the People’s Committee’s decision, without success. The company was shut down (Far Eastern Economic Review 1992).

State-owned enterprises In the 1980s, all large companies were SOEs (Riedel and Turley 1999, p.33), dominated by the Communist Party. Many SOE managers and directors were party members and many Communist Party committees had commercial interests in the SOEs. SOEs had serious political influence and their managers often considered private businesses as a necessary evil or unwelcome competition (Riedel and Turley 1999, p.34). Even though some of the privileges of SOEs were formally abolished, SOEs continued receiving privileged treatment.152 They were therefore not much concerned about the introduction of the new tax laws. Often SOEs benefited from special concessions from the government, they continued to be able to access cheap credit from state banks, and they successfully monopolised their markets with government support. At the same time, SOEs were the main perpetrators of tax fraud, according to investigations by the GDT (Vietnam Investment Review 1993, p.1). In summary, when the broad definition of tax is applied to this case study, it becomes clear that for many affected by the new tax laws, important parts of their tax bill remained the same. Informal taxes did not change and formed a large part of their overall tax burden. Moreover, only a selected group was affected by the new laws; the majority of rural Vietnamese were not affected. Those affected were not always in a position to express their views. In the 1980s and early 1990s private company owners were still experiencing hostility from government officials as well as large parts of the public (many educated under communist rule). SOEs were affected but knew that there was always room to use their power and influence to reduce the overall financial burden on their companies.

6.8 DEVELOPMENTS AFTER 1994 In the early 1990s, Vietnam’s economic growth was to a very large extent driven by the dynamism of the rest of the region (Spencer and Heij 1995). Vietnam had rapidly diversified its trade away from other communist countries to include East Asian countries such as Singapore and Japan, which together accounted for half of Vietnam’s trade by 1995 (Spencer and Heij 1995). But the optimism of the early 1990s faded in the late 1990s. Vietnam’s reforms had stalled and its economic growth lagged behind that

152 It is worth mentioning that the issue of SOEs receiving favourable treatment is not unique to socialist

countries, as some suggest. Market economies such as Malaysia, Thailand and Indonesia face similar problems with their SOEs.

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of its neighbours, particularly China. Many believed that the government was clinging too closely to a Marxist approach and was not embracing true reform (Riedel and Turley 1999, p.9). This resulted in limited economic growth and therefore limited growth in tax revenue from the profits tax and the FIL. This trend continued until 2005/6. Foreign investment seems to have picked up since 2006.153 The first phase of tax reform in Vietnam had increased tax revenue significantly.154 As outlined in Table 6 below, the move away from the dependence on revenue from SOEs was remarkable. During the period 1990-1994, the average growth of GDP was around 7.5%. However, attempts to increase the private sector’s tax share has had some success. In 1999, a new corporate tax law was introduced with a standard 32% rate applicable to businesses involved in manufacturing, trading and services. Foreign-investment companies, along with SOEs and domestic private companies and small businesses, were taxed at this rate, although there were many exceptions applied (in the form of additional remittance income tax and supplementary income tax) for both foreign and domestic corporations (see (Thi Nguyet Le 2006). This new law was issued in response to complaints by domestic groups that there was no level playing field as between foreign and domestic investors. In 2004, a revised corporate tax law established a unified rate of 28% with no exceptions (Thi Nguyet Le 2006, p.158). This was taken a step further in 2005 . On 29 November of that year the NA passed the Law on Investment No. 59/2005/QH11, which took effect on 1 July, 2006. This new law abolished the FIL and created a uniform legal framework for, and ‘leveled the playing field’ between, domestic and foreign investment (Nguyen 2006).

153 Interview with lawyer Andrew Hilton, foreign investment adviser in Vietnam, 14 October 2006. 154 While Vietnam has made considerable effort to improve its statistical service, its capacity to collect and analyse

statistical information is still rudimentary. It is difficult to obtain accurate figures. Nevertheless, some indication is given by the statistics supplied in the Tables below.

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Table 6. Breakdown of Government Revenue 1987 1988 1989 1990 1991 1992 1993 1994(P*)

As % of GDP Domestic Government Revenue 14.3 13.1 16.0 16.1 14.8 18.6 22.9 25.1 Fees, lottery earnings etc. 1.0 1.3 2.3 2.2 1.5 2.4 2.9 2.1 Non-tax rev., incl. depreciation 0.6 0.6 0.9 1.3 0.9 2.0 1.5 1.3 = Tax Revenue 12.8 11.1 12.9 12.6 12.0 13.7 18.5 21.7 . Oil-related revenue 1.2 2.2 2.4 3.8 4.1 3.9 = Non-oil tax revenue 12.8 11.1 11.7 10.4 9.5 9.9 14.4 17.7 Of Which: Agricultural Tax 0.5 1.0 1.3 0.8 1.0 1.2 1.0 0.6 Personal Income Tax 0.0 0.0 0.0 0.0 0.1 0.1 0.1 0.2 Land and Housing Tax 0.0 0.0 0.0 0.0 0.0 0.0 0.1 0.1 Import and Export Duties 0.7 1.0 1.5 1.9 1.6 1.9 4.0 5.7 Taxes on JVs & private enterprises 1.4 1.4 1.8 1.7 1.3 1.6 2.5 3.4 Taxes on SOEs 10.2 7.7 7.2 5.9 5.5 5.0 6.6 7.8 Memo items : Turnover tax revenue (all) 2.9 2.8 Profit tax revenue (all) 1.8 1.8 Special consumption tax (all) 1.2 1.2 Trade taxes/imports 4.1% 5.7% 3.8% 4.8% 5.3% 6.8% 13.6% 17.6%

Source : Tran (1992): Ministry of Finance; Statistical Yearbook 1992; World Bank (1992) Table 1 (*)= projections only. The data in this Table is incomplete, no further information has been available. Table 7. and 8. show that the reform process made progress in shifting the tax revenue base from agriculture and SOEs to private sector and taxes on trade. Table 7. Vietnam: Share of Major Sectors as Percentage of Total Government Revenue

YEAR TAXES ON TRADE

AGRICULTURE TAX

NON-AGRICULTURE PRIVATE SECTOR

STATE-OWNED ENTERPRISES

OTHERS

1991 11 7 9 72 1

1996 25 3 15 54 3

Source: (Bell 1997) Table 8. Vietnam: Share of Major Taxes as Percentage of Total Tax Revenue

YEAR PETROLEUM TAX

TRADE TAXES

TURNOVER TAX PROFIT TAX EXCISES OTHERS

1991 21 11 20 13 8 27

1996 12 25 17 16 5 25

Source: (Bell 1997)

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As outlined in Table 9., the overall tax-to-GDP ratio rose from about 14.7% in 1990 to over 23.6% in 1996 (Nguyen 1997, p.5). In 1990, non-SOEs contributed 4% of GDP to total government revenue. In 1996, non-SOEs contributed 10.7% of GDP to the total government revenue. Over the same period the revenue received from SOEs had remained steady at around 9%. Table 9. Government Revenue 1990–97 Percentage of GDP

1990 1995 1996 1997

Total revenue and grants 14.7 23.9 23.6 22.2

Tax revenue, excluding SOEs 4.0 10.5 10.7 11.4

Tax revenue and transfers from SOEs 8.6 9.8 9.7 8.4

Source: (Nguyen 1997, p.5 ) In 1995, tax revenue increased, but still fell short of national targets. In 1996, the GDT complained that tax revenue did not meet targets and it pointed out a range of reasons why tax compliance and tax revenue were low in Vietnam. These included:

• the complexity of many tax laws and a confusing tariff system; • taxation laws that left large gaps for tax evasion; • ‘unofficial’ fees deliberately being imposed by government branches and

regional and local authorities;155 • poor collection management; • the extent of change in tax laws and policy making it difficult for the tax

administration to issue detailed instructions for implementation; and • the occasional reluctance by the provinces to pass on to Hanoi tax revenue

collected locally156 (Vietnam Investment Review 29 Jan–4 Feb 1996, p.12). In addition, in the 1990s problems remained with the privileged treatment of SOEs, even those that were loss-making entities (and most of them were). Although there was a trend to move away from SOE revenue, SOEs still contributed a significant part of government revenue. Problems occurred since it was virtually impossible to treat SOEs and private companies on an exactly equal footing. Even if the tax rules were equally applicable to both sectors, some special privileges for SOEs remained. Thus when SOEs substituted their equity for interest-deductible debt financing (under cheap credit arrangements with state banks), this deduction may have significantly decreased their taxable income.157 155 This resulted in increased protests by taxpayers at the local level. In September 1997, the severe unrest in

Thai Binh province was caused by corrupt local officials levying illegal taxes. 156 The central government had to face the occasional lack of political will at lower government levels to hand

over taxes collected on behalf of the central government. For example, many southern provinces were net contributors to the national budget while the northern provinces were net receivers. Ho Chi Minh City complained that it could keep only a very small portion of the taxes it collected. This led to several conflicts, with the central government accusing some provinces of hiding tax revenue (Vietnam Investment Review (1994). Vietnam Investment Review(5-11 September): 10. Under a new law, effective from 1997, clear guidelines were given regarding the rights and obligations between all administrative levels, from central government to local levels (Vietnam Investment Review (1996). Vietnam Investment Review(25-31 March).The receipts from turnover tax, income tax, natural resource taxes and land revenue were shared between the central and provincial governments. The provincial governments received revenues from housing tax, licence tax, registration tax and various fees and charges. Various other charges and taxes including the taxes on land were shared between the provincial and commune levels of government.

157 Private companies could not deduct their interest costs above a certain ratio of debt vs. equity (most cases 3 to 1). If the company had debt over this ratio, no interest costs could be deducted.

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6.9 CONCLUSION The failures of the socialist planned economy resulted in the decision to open up the economy for foreign investment, to allow more private initiative and to reform the tax system to increase government revenue. The cracks in the planned economy commenced before the collapse of SOEs and the drying up of Russian aid funds in the late 1980s. In the early-to-mid-1980s, the communist leaders had already become increasingly nervous, seeing their power decline as they lost control over key parts of the planned economy. As mentioned earlier in this chapter, policy-makers were forced to act by the actions of individual communities and factories, which requested market-oriented solutions as answers to the failures of the planning system. In other words, the pressure for change came from the bottom of the Vietnamese system, but still within the state apparatus, before the leaders at the top understood the need for change. These developments led to the 1986 doi moi policies, which resulted in the introduction of a foreign investment law to attract foreign investment. The FIL included a section on the taxation of foreign investors in Vietnam. The government was well aware that the domestic income tax system needed reform as well and commenced this in the late 1980s, before the ending of Soviet funds. It was the urge to do so due to the need for other sources of government revenue and the need for private investment. Key reformers had sufficient influence within the Communist Party to push reform. But even the reformists were products of the party system and had limited room to manoeuvre. They were allowed to make changes, but only in the margins. The doi moi reforms set the broad policy frameworks for tax reform to take place. The design of the tax laws themselves involved senior personnel of the GDT. These staff members were trained in Party thinking and ideology and would not have proposed any reform contradicting the Party line. The domestic profit tax reflected this ideology of the government towards private sector initiatives, resulting in relatively high tax rates. Sociological institutionalism explains some key features of the Vietnamese bureaucracy. Many bureaucrats from the MoF and GDT appear to have played a role within the reform, and aside from the few identifiable actors who initiated the reform in the mid-1980s, it is impossible to identify or suggest that one or two people were the key players. Often well educated and articulate, these bureaucrats reflected a culture of a well informed and skilled bureaucracy. They also represented a culture of non-disclosure of information; any frank discussion based on exchange of information is done behind closed doors and not shared with anyone outside their particular government department. Interest groups that were not part of the formal party system or the bureaucracy were not in a position to express their concerns or promote their interests. The private sector was too weak and too vulnerable to expect much influence on the proposed reforms. Even though many probably felt that the reforms were inequitable since they

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favoured foreign investment over domestic investment with much higher tax rates applicable to domestic investors. As the reforms did not affect the key constituency (the majority of people living in rural areas) of the regime, the government was not too concerned. The press was in no position to create public debate with no press freedom available. An inclusive definition of tax is crucial to understanding the reforms. Foreign investors, particularly the many newcomers to Vietnam, soon realised that the FIL only provided a part of the tax picture that they encountered in Vietnam. The many additional levies and taxes made the FIL less important in the overall tax burden for these investors. SOEs enjoyed many privileges that could be described as subsidies or tax incentives and these did not suddenly change with the introduction of the new profit tax. Moreover, their connection to the party apparatus, particularly the lower levels, meant that they could expect to continue negotiating their tax burden with their local tax officials. Vietnam’s history explains its hostility towards foreign involvement in its domestic affairs. There was a major foreign influence on the reform, though, and it came from China. The Chinese FIL, in particular, had a major influence on the Vietnamese FIL, although there were no identifiable Chinese advisers involved. The domestic Chinese profit tax also provided some guidance for the Vietnamese equivalent. This means that international factors, as outlined in organisational theory, played a role. Vietnam closely watched its neighbour China during its tax reform; this was partially due to the comfortable example China could provide its socialist colleagues in Hanoi. But it was also related to the competition China would offer in attracting foreign investment. The FIL was internationally competitive and in that sense international factors may have played some role. However, the domestic profit tax does not seem to have been influenced by factors of international competitiveness, but rather by the Swedish income tax system combined with the hostile and cautious views of senior policy-makers regarding private sector development. These views were clearly the reflection of the culture within their institution, a legacy of communism with a cautious step into the market economy. The political response was a change in the level of taxation, changes in the tax system, and to some extent a change in the tax burden with foreign investors paying less tax than their domestic counterparts. Overall taxes as part of GDP increased and the burden shifted away from SOEs to foreign and domestic private enterprises. However, in the light of the discussion on an inclusive definition of tax, a part of the tax reform must be considered largely symbolic as the reality of unofficial taxes continued for taxpayers.

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7. CONCLUSION In this part of the study, I compare the conclusions of the two case studies in the light of the key research questions outlined in the first chapter. Are there clear similarities between the tax reforms in Indonesia and Vietnam, or are they very different and why? What conclusions can we draw from this in the light of the applied modified model discussed in chapter 4? First I shall discuss the key findings of the case studies using the model as a guide. As discussed in chapter 4, the model covers many different aspects of a tax reform. My key findings reflect the different aspects of the model. Figure 3. Proposed Model for Research

Gl

3. Crisis

Geopolitical Fiscal

Economic

7. Political Response (symbolic or non-symbolic)

Change of level of taxation

Change taxation system Change distribution of tax burden

4. State structure Culture of Public Institutions

Role of individuals within state structure or political

representations Tax administration

Political access

Political Representation Political party & electoral

system System of interest

representation Party control

Government Role Foreign advisers

commissioned by the government

6. Balance of Class and Interest Group Pressure

Wide range of interest groups,

including groups that do not have access through political

representation or state structures

1. Definition of Tax

2. International Influences

5. Context

Domestic economic context

Government policies Fiscal policies

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Definition of Tax The overarching theme of the model is a broad definition of tax. Once a broad approach is adopted, the overall findings of both case studies change significantly. In a narrow legal definition, the changes as a result of tax reform could be seen as significant. Companies and individuals are subject to different tax rates, based on a different tax base, and their overall tax burden may change (the overall amount of tax they pay as a percentage of their income). In both Indonesia and Vietnam the tax rates for foreign companies were reduced. Indonesian domestic companies and individuals saw the top tax rates drop to 35%, although the tax base changed and in many cases was widened. Those who were subject to the relevant tax reforms saw changes to their tax position, but certain aspects did not change. Bribery in the form of additional fees payable to tax officials formed, and forms, a major part of the tax burden. Companies and individuals may negotiate tax incentives on an informal basis to change their tax position and this process continues despite legal changes. As with formal incentives, informal incentives are likely to disproportionately benefit large companies, both domestic and foreign. These practices help to explain the reaction or lack thereof of taxpayers to the legal tax reforms. Now that it is clear that tax reforms have only limited influence on the true tax burden of those within the tax net, it is valid to ask how relevant were these tax reforms? If the true burden consists of large payments that are outside the scope of the legislation, what conclusions can be drawn? Or on the other hand, if tax is still negotiated for those who were protected by their rulers, how meaningful is tax reform? The reality in both cases is that tax revenue increased significantly after the introduction of the reforms. So they did achieve their aims of increasing tax revenue. But in terms of providing a realistic picture of the impact it had on tax payers, one has to look a lot further.

International Influences International influences are visible in both case studies. In the Indonesian case, foreign advisers, mainly from the US (or trained in the US) pushed hard for simplicity in tax laws. This approach fitted well with their training in neo-lilberal economics. Moreover, they had witnessed an American tax system so focussed on equity that it resulted in thousands of exceptions, exemptions, deductions, write-offs and special rates designed, among other things, to accommodate taxpayers’ varying ability to pay. This was the opposite of the simplicity and transparency most economists, during that time period, strived for when designing an ideal tax system. And although they could not convince the US Government to see their wisdom, they most certainly took it with them to Indonesia. The HIID advisers did exactly that, designing an ideal tax system. They provided their independent views about ideals and goals based on widely accepted economic theories. In other words, international advisers sought to teach local policy makers the appropriate ways of reforming their tax system. The advisers opposed specific incentives, particularly for foreign investors, and their views were supported by internal surveys amongst the business community. Unfortunately, part of their proposals turned out to be politically unrealistic once the

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bureaucracy and the Indonesian government started to discuss them internally. But they still managed to have a set of simplistic tax laws accepted and ratified by the President of Indonesia. Anything too complex or sensitive was diplomatically left to be dealt with in further implementing regulations, and for some of these the Indonesian taxpayers are still waiting. In contrast, the Vietnamese tax reform was guided by those operating within the government framework, who were all too aware of the political and practical realities of the tax reform proposals. The Chinese influence was significant. It is important to stress that the Chinese adopted the “one-stop shop” approach to foreign investment, rather than just a specific tax reform. Unlike Indonesia, China had very limited foreign investment in the 1970s and early 1980s; it had to adopt a radical approach to lure foreign investment into its communist economy. Its foreign investment laws provided a comprehensive vehicle for foreign investors; rather than having to deal with a myriad of government agencies and regulations, the new legislation introduced in the late 1970s and early 1980s provided an easy entrance into the Chinese market. The Vietnamese copied the model for exactly the same reasons as the Chinese had initiated it. The Vietnamese believed that copying the model would result in copying the Chinese success in attracting foreign investment. It was a great tool to encourage foreign investment flowing into its economy and provided the necessary legal basis for foreigners to operate in Vietnam. The Chinese policy-makers included tax holidays, tax incentives, and reduced corporate tax rates in their FIL. They felt that it was important to provide these incentives to attract foreign investment. The Vietnamese adopted the same view, maybe in light of China being a major competitor for foreign funds. Sweden’s influence was limited; the impact of its cooperation program with Vietnam was yet to be fully realised by the time the profit tax was introduced. While the visit to Sweden by Vietnamese tax policy-makers in 1989 did influence their thinking, it is not possible to identify specific features that could be seen as copied from the Swedish tax system or a specifically Swedish approach to taxation.

The economic context The economic context of the tax reforms is an important trigger for reform rather than the crucial factor during the reform itself. The closed economy in Vietnam explained the need for foreign investment and therefore for an attractive package for foreigners willing to pour their hard currency into the country. Indonesia had already a significant foreign investment flow and did not have to provide such treatment. Both countries wanted to simplify the system as a way to attract investment. In socialist Vietnam, domestic companies were not seen as a serious source of future revenue that needed encouragement using tax incentives (although this changed, as demonstrated by the 2005 tax law changes). The profit tax clearly favour heavy industries compared to services companies, which was in line with the communist emphasis on heavy industry and a virtually non-existent services sector. In Indonesia, private companies were treated equally to their foreign counterparts, reflecting the government’s desire to encourage private sector development. During the reforms themselves, both governments seemed heavily influenced by the need to ensure their support bases would be protected. They aimed to increase revenue and

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therefore targeted those parts of the economy that would secure that. However, they steered away from particular measures if it seemed they would jeopardise the government’s rule. An exception here is the lack of detail in the Vietnamese FIL, with the law simply stating that taxable income was turnover minus deductions, not specifying deductions. That seems more an oversight by the communist policy-makers rather than a deliberate postponement of delicate matters. Their communist economics training would not have given them the tools to understand the complexities surrounding tax deductions.

Crisis In both case studies, a looming shortage of revenue triggered policy-makers into action. It is interesting, though, that in both countries the tax reforms commenced before a crisis was at hand. In other words, policy-makers were well aware of more serious problems arising if the then-current fiscal problems weren’t addressed. It was not the crisis itself that triggered reform but the prospect of a possible crisis that put the reform in motion. A solid revenue basis is the backbone of any government. Declining revenue threatens the stability of those in power. This was the reason why high level political support for reform a relatively easy process. In addition, in both case studies, the ruling governments were providing informal financial incentives to key supporters of their regime and the tax reforms did not change that. In Indonesia, Suharto’s cronies would make attractive tax arrangements, whilst in Vietnam SOEs would obtain favourable loans from state banks.

State structures Vietnam’s bureaucracy, established during many centuries of Chinese occupation, saw many of its bureaucrats well educated and well equipped to fulfil their positions. After a history of foreign rulers, the Vietnamese bureaucracy took great pride in determining its own policies. They may have been inspired by other countries, but no foreign advisers had a determining voice as, for example, HIID had in Indonesia. The Vietnamese bureaucracy determined its own policies, carefully examining advice and examples from other countries. But in the background was always the Party, and no bureaucrat would go against the Party line. It helped that many in high positions were Party members and carefully selected and scrutinised. Protecting the status quo is in the mind of any bureaucrat. Who within the group exercises influence and control was often not clear to outsiders and difficult to guess even for those who followed Vietnamese politics for a long time. The behaviour of Vietnamese bureaucrats was clearly shaped by the institutions they worked in, as outlined in the various forms of institutionalism. The result was that Vietnamese bureaucrats felt strong ownership of their policies and reforms. But once the new tax laws (for foreign companies and domestic companies) were approved and implemented, it became clear that, due to ignorance, they too lacked the details required to provide clarity for taxpayers. Deductions were not specified and taxation by negotiation continued. Moreover, lower levels of government did provide plenty of problems for companies as they often did not accept the overriding powers of central legislation, extorting additional fees from companies.

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Ruled by the Dutch for a long time, Indonesia had remained remarkably open to foreign influences and advice. Indonesia’s bureaucracy was large, with multiple overlapping layers of administration filled with poorly educated bureaucrats, particularly at the time of the reforms in the late 1970s and early 1980s.158 This put Minister Wardhana in a difficult position: with a lack of capacity within the ministry, where could he go? He turned to an organisation that had embedded itself within his ministry since the 1960s: HIID. The team rolled in and overwhelmed their Indonesian counterparts. They made a raft of suggestions to Wardhana, but rarely involved senior Indonesian bureaucrats. Wardhana had room to manoeuvre, but that had its limitations: no reform would be tolerated if it jeopardised the ruling regime. Wardhana, within the limitations of Suharto-era politics, was satisfied with the HIID recommendations. It was no surprise that this view was not shared by the Indonesian bureaucrats. They felt no ownership, and accused the reform team of producing a set of theoretical tax laws that lacked the reality of the Indonesian context.159 Parliament rubberstamped the legislation rather than thoroughly debating it. The implementation was difficult with no implementing guidelines, as they hadn’t been developed, and little ownership in the bureaucracy. Despite these obstacles, the new tax laws achieved their goal: they did raise government revenue significantly.

Balance of Class and Interest Group Pressure Amidst the tax reforms, some interest groups surface. As we saw in chapters 3 and 4, governments are pressured by a range of interest groups, but in non-democratic societies the rules are different from democracies. The key element in both case studies is protecting the status quo of those in power. Interest groups are heard if they assist governments staying in power. The press is not sufficiently independent from their ruling governments to provide an independent voice of and for the public. Civil servants in Indonesia were an important pillar of the regime and Suharto was cautious in introducing measures that would upset them too much. Foreign investors were desperately needed in cash-strapped Vietnam and therefore they received privileged treatment. The same cannot be said for the foreign investors’ domestic counterparts who clearly did not enjoy such status and did not play such an important role in raising government revenue and/or government support. The majority of the Vietnamese population, the farmers, were not included in the tax reform and not subject to profit tax. Domestic private companies were at the heart of the domestic corporate tax reform, but they kept a low profile given the sensitivities surrounding private sector development in a socialist economy. Then there were interest groups that informally received privileged treatments due to their connections to the government. Maybe formally the new tax laws were not granting them any incentives, but in reality they did receive them. This applied to the inner circles of the Suharto regime as well as to the SOEs in Vietnam.

158 Over the last 20 years, the Indonesian Ministry of Finance, including the Director General Tax, has made

much progress in improving the educational levels of its civil servants. These days many have overseas tertiary degrees from reputable international institutions. Unfortunately, most other ministries do not have the same level of higher education amongst their bureaucrats.

159 I am fully aware that the reduction in scope for additional revenue for tax officials was as much if not more of a concern to those implementing the legislation.

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This confirms the limited, though useful, ideas in interest group theories as described by Risse-Kappen (Risse-Kappen 1996). Interest groups in non-democratic countries do have influence, but they are not the independent groups envisaged. So this approach is relevant as long as it is clear that interest groups in countries like Indonesia and Vietnam are very much linked to elites rather than issues.

Political Response (symbolic or non-symbolic) The political response was to introduce new tax legislation. In both countries the response was not about increasing tax rates, but about unifying and simplifying the tax laws. In most cases the result was a lowering of the tax rates, although that may have been accompanied by a broadening of the tax base (for example, in the case of the Indonesian ITL) and restricting deductions (for example, the fringe benefits treatment under the Indonesian ITL). With the Vietnamese profit tax, the lowering only applied to certain industries. In the case of the FIL in Vietnam, it was a comprehensive legal approach to address all the different legal aspects of foreigners investing in Vietnam. But the reality was that certain parts remained unclear, for example, the law simply stated that taxable income was turnover minus deductions, not specifying deductions. So did the FIL really help foreign investors or was it largely symbolic? Many foreign investors ‘burnt their fingers’ as they were unable to comply with unclear legislation. In addition, definitions and penalties for bribery did not change under the new legislation, making it a symbolic gesture to an extent. Having said that, revenue did increase, so the legislation reached part of its goals. The same conclusion can be drawn from Indonesia: the legislation helped fill the government’s coffers but only had limited impact on those facing the day-to-day reality of complying with both official and unofficial taxes. Life changed little for those in the position of negotiating their tax bill. For Suharto and his cronies the tax burden would not have changed at all. The above demonstrates the importance of considering both the instrumental use of tax law (which was effective to some extent with increases in revenue) and the symbolic use. For example, the tax incentives for foreign investors can be seen as largely symbolic given that few would make a profit in the early years of operation. Moreover, the model does not cover the possible ideological use of law. The tax reforms in Vietnam clearly reflect a political ideology involving hostility towards private sector development. I now turn to the key research questions of this study.

Research questions What factors led to the overhaul of the existing tax laws in Vietnam and Indonesia in the 1980s? In both countries, declining revenue or the prospect of declining revenue in the future, were the key reasons to overhaul their tax systems. However, in both cases the word ‘crisis’ as used in the proposed model for research is too strong. There were key concerns, but they were looming in the (near) future rather than that there was an immediate emergency. Other factors such as Who were the key actors involved and which groups or interests did these actors represent? And why and how were particular groups successful in influencing the reform?

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In the case of Indonesia, the key actors were Minister Wardhana together with the HIID team. These actors enjoyed considerable freedom, unless the reforms involved the President, and those close to him, or were in any way a threat to his power base (civil service) and thus threatened the stability of his regime. In Vietnam, the key players cannot be individually identified, but can generally be described as senior bureaucrats in the GDT and the MoF. The team had the freedom to pursue reform, but only within the Party’s boundaries. Since the Vietnamese tax reform team members were from the ranks of the bureaucracy, this was not a major issue. The reforms concerned, to an extent, foreign investors and private industry and neither were part of the government’s support base. To sum things up in a few words, the actors in both cases were not as independent as it may have seemed. The strings were pulled by the regimes’ rulers; they set the rules and no one would challenge them. The groups responsible for the reform were products of their respective governments. Historically, Indonesia had relied on its so-called technocrats to guide the country’s economic policies. This group of Indonesian economists - most of them, including Minister of Finance Wardhana, trained in the US - supported economic policies that promoted free markets, encouraged investment and reduced intervention by government. Their views echoed those of the HIID advisers who had been assisting the Indonesian Ministry of Finance since the 1960s. Because he Indonesian Government had relied on foreign advisers for many years, at the time of the reform there was very limited expertise within the Indonesian bureaucracy to guide these reforms and the use of American HIID advisers was a logical choice. In Vietnam, the government had relied on its senior bureaucrats to design its economic policies and in the case of tax reform this tradition continued. These bureaucrats represented the interests and ideology of the Vietnamese Government and therefore the Communist Party. They knew the machinations of the Party very well and how to work within that system to foster change. This explains why and how they were successful. They were also influenced by the Chinese experience as well as by the fact that China was a competitor when it came to attracting foreign investment. They gave priority to government revenues and ensured that foreign investment would be promoted. They had less interest in domestic private industry development as that was not seen as important by the government. They did not have in-depth understanding of capitalist economic principles of profit and loss trading, resulting in gaps in the FIL regarding tax deductions. What was the influence of the foreign advisers in the tax reforms? In Indonesia, this influence was very significant. Only those matters that affected the government’s interest or power base were not influenced by foreign advice. All other aspects of the reform clearly show the ideas of the HIID team. The laws reflect the ideals of simplicity as favoured by HIID economists. The foreign advisers, often working on a fly-in, fly-out, basis left before the implementation started. It then became clear that the implementing guidelines were painfully lacking, resulting in difficulties for tax administrators and tax payers. The result was that in Indonesia

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senior tax administrators felt no ownership at all, if anything they felt resentment. They were not heard and then left to implement less than adequate tax laws. In Vietnam, there were no particular foreign advisers who influenced the reforms. Although China’s tax system provided guidance, no particular foreign adviser was instrumental in the reform. In Vietnam bureaucrats at central level in particular felt great ownership. During the implementation of the new legislation, it became evident that the lack of detail created many problems. It took the bureaucracy a long time to educate itself in market economics and provide the necessary implementing guidelines. What role did international factors play in shaping the tax reform? In Indonesia, it seems that the key actors were partially moved by international factors in shaping the outcomes of the reform. The HIID team, reflected the neo-liberal thinking that had swept much of the world of economics from the 1970s onwards. It was eager to have a simplified tax system that did not serve multiple purposes in addition to raising revenue, in line with the thinking of many economists. The team had little patience with those who argued that international competitiveness was important and therefore tax incentives should be offered. The team did not believe that such incentives were key factors. The Vietnamese reformers, by contrast, were closely watching developments in neighbouring countries, particular competitor China. In desperate need of foreign funds, they did provide incentives to compete with other countries to lure foreign investors. The reality at the time was that Indonesia had significant foreign investments pouring in. Vietnam was a new comer on the block, eager to attract foreign funds, and trying to set itself apart from its Asian neighbours, and particularly China. The case studies do not support the view that an international political community, such as IMF or the EU, influenced fiscal policy-making. During the time period of the case studies such influence was not visible in either country. This is not to say that such influences did not occur in later times. Globalisation did play a role in the reforms in Vietnam. The Vietnamese followed certain international trends mainly due to the demands of international competitiveness. The country’s need for capital influenced its economic policies, including its tax policy.

Reconsideration of the model Following the findings discussed in the conclusion, I now reconsider the model used for the two case studies. Generally, I conclude that the model applied for the case studies is a useful tool of describing and analysing the various actors and factors influencing the tax reforms. For the case studies, it covered the key actors and factors that influenced the respective tax reforms. When we look at the separate boxes in the model it becomes clear that having the definition of tax at the top of the model is crucial. What is included within this concept affects all parts of the model. An inclusive definition is the most important prerequisite to adequate analysis.160 International factors play a role, as demonstrated in the case 160 This means that the numbering of the other boxes changes.

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of Vietnam. They should remain in the model, but rather than having it in a box at the top as initially proposed in 4.5, it has moved to the right side reflecting the conclusion that it is of influence, but still subject to the constraints of particularly state structures. The cause of fiscal reform should be modified as the word ‘crisis’ seems too strong. I propose to use the word ‘causes’ instead. The box containing the ‘Context’ should move to the box on Causes (previously labelled as ‘Crisis’). As concluded above, the context is more important in the lead-up to the reform rather than influencing the reform itself. When we include the ‘Context’ under Causes, we can delete the original box 5. This allows the model to provide an in-depth context including an historical overview of the tax policies, economic policies and domestic features that all play a role in analysing the causes of reform. In the original proposed model for research the culture of public institutions, political representation and government role are separated under the heading State Structure. I propose to continue with this separation. However when used for the case studies, it start became clear different elements less easily separated. For example, the culture of public institutions, political representation, and the government role are so intertwined in the case of Vietnam with the Party dominating bureaucracy as well as the parliament. This makes it impossible to discuss these different elements separately as may be logical for a case study in a democratic country I have added a new heading under State Structure, ‘legal environment’. What has become evident is that taxpayers’ faith in the tax legal system plays an important role in their inclination to invest in efforts to influence tax reform processes. Thus, for example, Suharto’s business colleagues knew they were protected as the enforcement of tax laws was selective at best. If they expect their compliance costs to remain high due to lack of transparency or corruption, they may be uninterested in new reforms. What has become clear in the Vietnam case study is that state structures and a planned economy do influence one another. Thus, the ‘Context’ helps us understand how the context and the state structures influence one another. For that reason, the box on ‘Causes’ (which includes ‘Context’) is linked to the box on state structures. The box on political response needs to be expanded. The response should include “no change at all”. For example, the tax liability for the Suharto family would not have changed. We also need to expand the types of legislation and include not only instrumental and symbolic but also ideological legislation. The latter one would cover the Vietnamese Government’s response to tax services companies more than heavy industries. The introduction of tax incentives for foreign investors in Vietnam is a good example of largely symbolic legislation. The instrumental response needs to be included too. In both cases, the new tax legislation was successfully introduced and did influence changes in the specific tax revenue generated for those taxes introduced or reformed. When applying the above modifications the model will be as follows:

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Figure 4 Revised Model for research.

1. Causes

Geopolitical Fiscal

Economic Domestic economic

context Government policies

Fiscal policies

4. Political Response (instrumental/symbolic/ ideological)

Change of level of taxation

Change taxation system (types of legislation)

Change in distribution of tax burden No change

2. State Structure

Culture of public institutions Tax administration

Political access Role of individuals within state

structure or political representations

Political representation

Political party and electoral system

System of interest representation Party control

Government role

Foreign advisers commissioned by the government

Legal environment Tax interpretation

Tax rulings Tax objection and appeal

mechanism Tax compliance costs

5. Balance of Class and Interest Group Pressure

Wide range of interest including groups that do not have access

through political representation or state structures

Definition of Tax

3. International influences

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Such a revised model can be used for other tax reform case studies in both developing and developed countries. The model is adjusted to cater for some of the specifics of non-democratic countries, such as a limited role of interest groups, different electoral considerations, no independent press and no independent judicial system. A relatively high percentage of developing countries exhibit such features. It also addresses the issue of tax corruption: the payment of extra-legal fees in order to meet tax obligations (or to lower them). The issue of tax corruption is real in many countries, both developed and developing, but is often more prevalent in developing countries. The model covers the key aspects of the reform and is detailed enough to cater for the specifics of individual cases. Ideally, I would like to see the model tested in a developed country with a well established democratic system. Are the causes of reform the same? Or is it different in democracies with no immediate revenue problems: do they introduce tax reform to impress voters rather than fill the coffers? What would be the role of interest groups in democracies and is it overrated? I am also very interested in conducting a review of existing tax reform studies in both developed and developing countries and examine whether the studies would have had different conclusions if a wider definition of tax was used. We are now left with the most difficult question and that is, what does all the above mean? What value does my research add to the existing studies? I think the key findings that have added value for fiscal sociology are:

• Studying tax reforms without a broad definition of tax is of very limited use. Without a broad conception, a very large part of the picture is missing.

• Longer term economic planning policies rather than crisis trigger reforms. • Discussing reforms without analysing the political reality and its institutions is

inadequate. • The political environment, is crucial in understanding the reforms. It is also

important to pay attention to individual key players in the reforms, champions of change can make a significant impact.

The added value of my findings for actors in tax reform processes are these:

• If possible, and this is not always the case, aim for domestic advisers rather than foreign advisers as they often have much better understanding of the domestic policy formation and its subsequent implementation. .

• Not using foreign advisers also prevents that ideological pushes, such as simplicity, clashes with reality of implementation. It also avoids clash with the political reality as delicate political issues may not be addressed by foreign advisers.

• Foreign aid should aim for key reformists from within the bureaucracy rather than from outside. It provides local solutions to local problems and gives ownership that can be carried through in the implementation. It also gives proposal a dosage of political reality that outsiders can not provide.

• Short term foreign advisers may be useful providing required high level technical advice (like HIID advisers). They are not in a position to make

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lasting changes, provide comprehensive legislation, assist with the implementation of legislation, contribute to institutional changes or build local capacity. They will not assist in the process of ensuring local ownership of tax reform measures.

• If foreign advisers are required, ideally one seeks foreign advisers who have hands on experience involving in a range of aspects of tax policy making and administration reform. Ideally people who have followed through an entire reform process from conception to full implementation. For this reason one would prefer a tax administrator with many years experience in one or two countries (a developing country preferably) rather than consultants who has advised more than 10 developing countries on how to reform their tax system as this would indicate that they have flown in and flown out and not been involved in an entire reform process. Only then may there be a role for foreigners to assist with making lasting tax reforms, assist with the implementation of legislation, contribute to institutional changes or build local capacity. The Swedish cooperation with their Vietnamese counterparts is a good example. However it will only work if sufficient capable (Swedish) tax bureaucrats are available to assist. More often than not, tax administrations struggle with their own limited resources let alone assist other countries.

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NEDERLANDSE SAMENVATTING Onderzoeksvragen en motivatie Gitte Heij, een groot liefhebster van Zuidoost-Azië, heeft de afgelopen 20 jaar veel tijd in dit deel van de wereld doorgebracht, met name in Vietnam en Indonesië. In deze landen heeft zij onder meer onderzoek verricht en advieswerk gedaan op het gebied van internationaal belastingrecht. In de jaren ‘80 van de 20e eeuw kiezen deze twee landen voor drastische hervormingen van hun belastingstelsel. Het valt de onderzoekster op dat beide landen tijdens deze hervormingen heel anders omgaan met buitenlandse adviseurs. Bovendien merkt zij op dat het nog te vaak voorkomt dat buitenlandse adviseurs adviezen geven die niets te maken hebben met de realiteit, maar ingefluisterd worden door de politieke agenda van donorlanden of donorinstellingen. Ook hebben multinationals volgens Gitte Heij invloed op een deel van de adviezen dat wordt gegeven door de buitenlandse adviseurs. Dit terwijl ‘local ownership’ een voorwaarde is om belastinghervormingen te doen slagen. Deze ervaringen roepen bij Gitte Heij veel vragen op omtrent belastingadvisering in Vietnam en Indonesië en zij besluit dit te onderzoeken. Vooral de vraag wie en wat werkelijk de belastinghervormingen in beide landen hebben beïnvloed, heeft haar interesse. Dat is de hoofdvraag van dit onderzoek. Om deze vraag te kunnen beantwoorden vindt een analyse plaats van de belastinghervormingen op het gebied van de vennootschaps -en inkomstenbelasting in Indonesië en Vietnam in de jaren ‘80 van de vorige eeuw. Naast deze hoofdvraag, heeft de auteur vier subvragen geformuleerd:

1. Welke factoren hebben in de jaren ‘80 van deze eeuw geleid tot het initiatief om de bestaande belastingwetten in Vietnam en Indonesië drastisch te hervormen?

2. Hoe en waarom slagen bepaalde groeperingen er in deze hervorming te beïnvloeden? 3. Meer specifiek, wat is de invloed van buitenlandse adviseurs op de hervormingen van de belastingwetten? 4. Welke rol spelen internationale factoren bij het vormgeven van de belastinghervormingen? Om een antwoord te kunnen geven op deze vragen, heeft Gitte Heij gebruik gemaakt van literatuuronderzoek, gevolgd door veldonderzoek in beide landen. Een kanttekening hierbij is dat het veel gemakkelijker is om in Indonesië informatie te verkrijgen over de belastinghervormingen dan in Vietnam. Dit heeft te maken met het gesloten karakter van de Vietnamese bureaucratie en met de leiding van de Communistische Partij in Vietnam, die wil dat de Vietnamese staat zich als eenheid presenteert. Definitie van belasting

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Voor een vergelijking van de belastingstelsels van verschillende landen, is het belangrijk om helder te zijn over de definitie van het woord ‘belasting’. Statistieken over de belastingdruk, over de verdeling van de belastingdruk en over belastinginkomsten die gebruik maken van de beperkte juridische definities, worden vaak gebruikt (onder meer door de Wereldbank en de Aziatische Ontwikkelingsbank) als basis voor belastingadviezen in ontwikkelingslanden. In de meeste juridische definities van belasting, waaronder die van de Organisatie voor Economische Samenwerking en Ontwikkeling (OESO), komen onderstaande elementen terug: Belasting is verplicht; Het is een bijdrage in geld of in een andere vorm; De bijdrage wordt geleverd door individuen, organisaties of andere eenheden; Belasting wordt ontvangen door de overheid; De opbrengsten zijn bedoeld voor publieke doeleinden; Er staat geen beloning tegenover.

Wanneer de juridische definitie van belastingen wordt gebruikt door economen en sociologen om de belastingdruk en de belastinginkomsten te bepalen, ontstaan er problemen. Want wat valt er precies onder belasting en wat niet? Vaak komen de werkelijke belastingdruk en de belastinginkomsten niet overeen met de verzamelde gegevens. Belastingbetalers in Indonesië en Vietnam moeten bijvoorbeeld vaak naast de wettelijke belasting extra geld aan belastingambtenaren betalen. Om de casestudies te kunnen analyseren en vergelijken is het van belang om kritisch te kijken naar de elementen uit de juridische definitie van belastingen. In al die definities van belasting wordt het verplichte karakter van de betaling verondersteld. Toch kan het zo zijn dat betalen niet wettelijk verplicht is, maar dat mensen gedwongen worden belasting te betalen omdat er sprake is van sociale of economische druk. Ook stelt de definitie dat betaling plaatsvindt in geld of in een andere vorm. Verplichte dienstverlening voor de publieke zaak, zoals in Vietnam, is bijvoorbeeld niet terug te vinden in de statistieken van de belastingdruk in dat land. Daarnaast kan het zo zijn dat bepaalde groeperingen in werkelijkheid minder belasting betalen dan gedacht. Dit geldt bijvoorbeeld voor landen waar de overheid een sterke controle heeft over de economie. Staatsbedrijven worden in Vietnam, Indonesië, Singapore en China gesteund door de overheid door middel van prijsbeleid, waardoor het moeilijk vast te stellen is wat de werkelijke belastingdruk is voor deze bedrijven. Verder veronderstelt de definitie van belastingen dat belasting wordt betaald aan de overheid. Toch kan het zo zijn dat er belasting wordt geheven, terwijl er geen directe geldstroom naar de overheid plaatsvindt. Een voorbeeld hiervan is de controle van de huurprijzen, beneden of boven de marktprijs, waarbij de huurbazen gesubsidieerd worden of juist belasting moeten betalen.

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De definitie stelt ook dat belastinginkomsten worden gebruikt voor publieke zaken. Meningen kunnen verschillen over wat een publieke zaak is. Daarnaast komt de betaling van extra geld aan ambtenaren in veel landen voor. Het kan gaan om het onderhandelen over de uiteindelijke belastingaanslag, om het ‘kopen’ van goodwill of bepaalde diensten of om het vermijden van problemen met overheidsambtenaren. Deze inkomsten komen niet voor in de statistieken betreffende de belastinginkomsten van de overheid. Tot slot staat er volgens de juridische definitie van belasting niets tegenover de belasting die wordt betaald. In bijvoorbeeld het geval van sociale zekerheidspremies is er volgens de definitie sprake van belasting. In feite gaat het hier om de betaling van verplichte verzekeringen en staat er dus wel iets tegenover de betaling van deze premies. Hier kan dus worden betwist of er sprake is van het betalen van belastingen. Prest (1985) heeft als een van de weinige sociale wetenschappers geprobeerd een alternatieve definitie van belasting te formuleren. Hij volgt in hoofdlijnen de juridische definitie, maar introduceert het begrip impliciete belasting. Dit wil zeggen dat er niet op gebruikelijke wijze belasting wordt betaald door personen of organisaties aan de overheid, maar dat door acties van de overheid de één armer is geworden en de ander rijker. Een voorbeeld hiervan is huur en andere prijscontroles. Het is echter lastig om impliciete belasting en de effecten ervan te berekenen. De conclusie uit de bespreking van de definities van belasting is dat het onmogelijk is om een bruikbare definitie van belasting te formuleren waarin alle mogelijke invullingen van de term belasting zijn vertegenwoordigd en waarmee de werkelijke belastingdruk berekend kan worden. Voor onderzoek in de sociale wetenschappen is er echter behoefte aan een ruimere definitie, zodat er een juist beeld kan worden gegeven van een belastingstelsel in een bepaald land. Helaas is een ruime definitie van belasting moeilijk te kwantificeren en zijn belastingstatistieken vaak gebaseerd op de juridische (OESO) definitie van belasting. Vanwege deze praktische redenen, wordt in dit onderzoek ook de juridische definitie van belasting gebruikt. Maar waar het relevant is en in ieder geval bij de bespreking van de casestudies, wordt aandacht besteed aan een ruimere opvatting van belasting. Belastingbeleid en belastinghervorming Voor de analyse van de casestudies is het van belang algemene kenmerken van belastingbeleid te onderscheiden van kenmerken die specifiek zijn voor de casestudies. Het formuleren van fiscaal beleid vindt plaats in drie stappen. Eerst wordt het beleid ontwikkeld, dit gebeurt meestal door economen. Vervolgens vindt een technische analyse plaats, meestal zijn hierbij juristen, accountants en personeel van de belastingadministratie betrokken. De laatste stap, het ontwerpen van de wetten, wordt gedaan door wetsontwerpers en juristen. In de meeste landen zijn bij deze drie stappen experts van verschillende ministeries betrokken. Over het algemeen hebben deze experts een achtergrond in economie of financiën. De eerste van de drie stappen is de meest cruciale, want in dit stadium wordt het belastingbeleid vormgegeven.

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In de meeste landen die lid zijn van de OESO zijn bij het hele proces van het ontwerpen van belastingwetten heel veel personen betrokken, zoals lobbyisten, beleidsanalisten, juristen, accountants, economen en zelfs gewone burgers. In de meeste ontwikkelingslanden is dat niet zo. Het proces is veel minder gecompliceerd. Het voornaamste doel van de meeste belastingwetten is het genereren van staatsinkomsten, zodat de uitgaven van de staat gedekt zijn. De meeste economen geven er de voorkeur aan om belastingen alleen te gebruiken om inkomsten te genereren en niet te gebruiken als beleidsinstrument om in te grijpen in de economie. Toch zijn er voorstanders van het gebruik van belastingen om de economische ontwikkeling in een land te sturen. Zij verwijzen daarbij naar succesvolle voorbeelden zoals Zweden. Daarnaast is het niet altijd mogelijk om economisch neutraal belastingbeleid te voeren, omdat politici blootstaan aan druk van allerlei kanten. De laatste 15 tot 20 jaar worden in de meeste OESO-landen belastingen slechts gebruikt als middel om inkomsten te genereren en niet meer als een instrument om de economische ontwikkeling van een land te beïnvloeden. Met name in Zuidoost-Azië wordt belastingbeleid hiervoor wel ingezet. om in te grijpen in de economie. Teneinde internationaal meer concurrerend te kunnen zijn, is het gebruik van belastingvoordelen nog steeds populair onder beleidsmakers en belastingadministrateurs. Daarnaast wordt er veel gebruik gemaakt van informele belastingvoordelen die tot stand komen in onderhandeling met belastingambtenaren. In beide gevallen profiteren vooral de grote buitenlandse en binnenlandse bedrijven van deze belastingvoordelen. Experts zijn van mening dat de effectiviteit van belastingvoordelen om bijvoorbeeld investeerders te trekken gering is. De historische ontwikkelingen in Zuidoost- Azië op het gebied van belastingbeleid verschillen van die in de meeste westerse landen. Laatstgenoemden zijn gericht op het politieke ideaal van rechtvaardigheid, waardoor de belastingsystemen erg gecompliceerd worden. Een goed voorbeeld hiervan zijn de Verenigde Staten. In Zuidoost-Azië zijn de belastinginkomsten traditioneel meer afhankelijk van indirecte belastingen, voornamelijk handelsbelastingen (import -en exportheffingen). Het debat over het politieke ideaal van rechtvaardigheid speelt tot in de vroege jaren ‘80 niet in deze landen, omdat de inkomsten-en de vennootschapsbelasting daar weinig bijdragen aan de totale belastinginkomsten. Verschillende factoren geven aanleiding tot belastinghervormingen en beïnvloeden deze hervormingen: het opbouwen van legers of het voeren van oorlog, de economische voorspoed en een (dreigend )tekort aan staatsinkomsten(fiscale crisis). De praktijk wijst uit dat het belangrijk is om geen hoge verwachtingen te hebben van de resultaten van belastinghervormingen. Daarnaast worden overheden in ontwikkelingslanden geconfronteerd met extra belemmeringen zoals onvoldoende administratieve capaciteit en een tekort aan middelen om nieuwe wetgeving te implementeren. Theoretisch raamwerk Zoals hierboven beschreven zijn belastinghervormingen zeer complex, omdat er zoveel factoren en actoren bij betrokken zijn. De vraag rijst hoe dit in een theoretisch

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model weergegeven kan worden, zodat dit kan worden gebruikt om de casestudies te analyseren. De sociale wetenschappen en in het bijzonder de fiscaal sociologische benadering vormen het uitgangspunt bij de analyse van de twee casestudies. Er is echter weinig sociologisch en fiscaal sociologisch onderzoek bekend dat zich richt op het tot stand komen van wetten en in het bijzonder op wie en wat belastinghervormingen beïnvloeden. Voor de analyse van de casestudies is het van belang dat het model ook beschrijft en/of verklaart wie en wat invloed hebben op de belastinghervormingen in een land. Teneinde het complexe proces van het opstellen van wetten te analyseren is het eveneens van belang om de verschillende functies van wetten te onderscheiden van de theorieën over het tot stand komen ervan. De instrumentele benadering van recht gaat ervan uit dat wetten een geschikt middel vormen om sociale en economische veranderingen tot stand te brengen. De kritiek vanuit de rechtssociologie op deze benadering is dat sociale processen en wetten elkaar beïnvloeden. In de rechtspraktijk is gebleken dat een instrumentele benadering van recht weinig succes heeft. Toch zijn veel belastinghervormingsprogramma’s die gesubsidieerd worden door internationale organisaties als de Wereldbank en de Asian Development Bank gebaseerd op deze benadering. Vaak zijn wetten echter symbolisch of ideologisch in plaats van instrumenteel. De ideologische benadering van recht is duidelijk zichtbaar in Vietnam, waar het de bedoeling is dat wetten de socialistische ideologie van de regering onderschrijven. De belangrijkste functie van symbolische wetgeving is het tevreden stellen van groepen met tegengestelde sociale belangen, in werkelijkheid verandert er niets. Geen van de drie benaderingen is geschikt om te beschrijven en/of te verklaren wie en wat belastinghervormingen beïnvloeden. Zij zijn wel van belang voor het theoretisch model, omdat alledrie de benaderingen de wijze waarop regeringen belastinghervormingen vormgeven, beïnvloeden. De bestaande theorieën op het gebied van beleidsontwikkeling en veranderingen in de wetgeving zijn of verklarend of beschrijvend van aard. De verschillende verklarende theorieën zijn elk gebaseerd op zeer verschillende aannames en dus moeilijk in één onderzoek te gebruiken. De afzonderlijke verklarende theorieën dekken vaak niet geheel de lading. Bovendien besteden de meeste verklarende theorieën weinig aandacht aan specifieke personen die invloed hebben op het beleid. De verklarende theorieën die worden opgenomen in het hier beschreven theoretisch model zijn achtereenvolgens de ‘organisational theorie’, het sociologisch institutionalisme en de theorie over belangengroeperingen. De ‘organisational theorie’ heeft als basisaanname dat de internationale politieke gemeenschap het meeste invloed heeft op het fiscale beleid van een land. Deze benadering verklaart slechts een deel van het belastingshervormingsbeleid en zal in het model opgenomen worden onder de meer algemene term internationale invloeden. Volgens het sociologisch institutionalisme zijn instituties en cultuur met elkaar verweven. Deze theorie gaat ervan uit dat de meeste instituties het resultaat zijn van specifieke culturele praktijken en in culturele termen verklaard moeten worden. Een andere basisaanname van deze theorie is dat instituties een grote invloed hebben op individuele actoren, zelfs zo groot dat zij de meest basale voorkeuren en het gevoel van identiteit van actoren bepalen. Tot slot stelt deze theorie dat het gedrag van individuele actoren niet strategisch is, maar vooral wordt bepaald door hun visie op

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de werkelijkheid. Deze benadering lijkt plausibel, vooral wanneer het gaat om socialistische regeringsinstituties in Vietnam, waar individuen de cultuur van hun organisaties volgen en zelden onafhankelijk lijken te handelen. De derde verklarende theorie tenslotte, die over belangengroeperingen, gaat ervan uit dat het vermogen van belangengroeperingen om politieke elites te beïnvloeden een belangrijke rol speelt bij het bepalen van beleid. Deze pluralistische benadering stelt dat macht gerelateerd is aan onderwerpen en niet aan elitegroepen. Welke belangengroeperingen invloed proberen uit te oefenen, hangt dus af van de onderwerpen die aan de orde zijn. In niet-democratische landen bestaan belangengroeperingen nauwelijks, behalve die groepen die worden gecontroleerd door de staat. Bovendien zijn belangengroeperingen in Indonesië en Vietnam, in de tijd dat de casestudie speelt, nauw verbonden met de elite die aan de macht is en niet met bepaalde onderwerpen. Deze laatste theorie is dus relevant voor het op te stellen theoretisch model, maar dan moet dit gegeven daarin wel worden meegenomen. Naast de verklarende theorieën is er een aantal beschrijvende theorieën dat zich richt op het besluitvormingsproces en alle stappen daarin beschrijft. De meeste beschrijvende theorieën zijn heel algemeen en niet bruikbaar voor het op te stellen theoretisch model. Alleen het werk van de fiscaal socioloog Campbell (1993) is heel goed bruikbaar. Hij ziet fiscale sociologie als de sociologische analyse van belastingstelsels en overheidsfinanciën. Het proces van beleidsvorming op het gebied van belastingen wordt in het theoretisch model van Campbell deels verklaard en deels beschreven. Model voor het bepalen van belastingbeleid en wetgeving (Campbell 1993)

Crisis Geo-politiek

Fiscaal Economisch

Politieke Respons Verandering van belastingtarieven

Verandering van het belastingsysteem

Verandering van de verdeling van de belastingdruk

Staatsstructuur Toegang tot het politieke proces Capaciteit voor belastinginning

Politieke Vertegenwoordiging

Politieke partijen & electorale systeem

Vertegenwoordiging van belangengroepen Het partijstelsel

Balans van verschillende sociale klassen en belangen groepen in

de samenleving

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In dit model is Campbell erin geslaagd verschillende factoren te identificeren die belastinghervormingen beïnvloeden. Toch kent dit model een aantal tekortkomingen. Het gaat uit van democratieën met een open en transparant kiesstelsel. Daarnaast ziet Campbell instituties en niet individuen als de belangrijkste actoren in het proces van belastinghervorming. Tot slot besteedt Campbell in het model weinig aandacht aan de cultuur binnen instituties en aan de relatie tussen deze cultuur en de politieke vertegenwoordiging en de rol van de overheid. Het theoretisch model van Gitte Heij Na de analyse van de verschillende verklarende en beschrijvende theorieën op het gebied van beleidsvorming, komt Gitte Heij tot de conclusie dat het model van Campbell het beste als basis kan dienen voor het theoretisch model dat wordt gebruikt om de casestudies te analyseren. Aanvullingen op het model van Campbell worden gedaan door onderdelen van de ´organisational theorie´ en het sociologisch institutionalisme te integreren in het bestaande model. Verder wordt de theorie over belangengroeperingen aangepast voor een niet-westerse setting. De definitie van het begrip belasting speelt een belangrijke rol in het herziene model, het is het beginpunt van elke analyse van belastinghervormingen.

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Voorgestelde model voor onderzoek

Gl

3. Crisis Geopolitical

Fiscal Economisch

7. Politieke Respons (symbolisch of niet symbolisch) Verandering van belastingtarieven

Verandering van het belastingsysteem Verandering van de verdeling van de

belastingdruk

4. Staatsstructuren

Cultuur binnen instituties Rol van individuen binnen het staatsbestel of in de volksvertegenwoordiging

Belastingadministratie Toegang tot het politieke

proces

Politieke vertegenwoordiging Politieke partijen & electorale systeem

Vertegenwoordiging van belangengroepen

Controle van een partij

Rol van de regering Buitenlandse adviseurs

ingehuurd door de regering

6. Balans Invloed en druk van

verschillende sociale klassen en belangen groepen in de

samenleving Verscheidenheid aan belangen groepen, inclusief die groepen

die geen toegang hebben tot de politieke vertegenwoordiging of

staatsstructuren

1. Definitie van Belastingen

2. Internationale Invloeden

5. Context

Binnenlandse economische context

Regeringsbeleid Belastingbeleid

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De Indonesische hervorming van de inkomstenbelasting in 1983

In de jaren ‘80 van de vorige eeuw kiest de Indonesische regering voor drastische belastinghervormingen, omdat zij minder afhankelijk wil zijn van de opbrengsten van de oliemaatschappijen, die in de jaren ‘70 haar voornaamste bron van inkomsten vormen. Ali Wardhana, de toenmalige minister van Financiën en één van de adviseurs van president Suharto, voorziet dat de grote afhankelijkheid van de Indonesische regering van olie-inkomsten in de toekomst voor problemen kan zorgen. Voordat er daadwerkelijk een economische of fiscale crisis kan ontstaan, nemen de economische adviseurs (de ‘technocraten’) van president Suharto het heft in handen. De hervormingen kunnen echter alleen slagen, omdat Wardhana en de andere adviseurs de impliciete steun van Suharto hebben. Dit houdt in dit geval ook in dat voorstellen die sociale onrust of economische of politieke instabiliteit kunnen creëren en dus niet de goedkeuring van Suharto dragen, niet worden opgenomen in het nieuwe belastingbeleid. Bovendien worden hervormingen die direct de president of zijn machtige achterban raken afgewezen of sterk afgezwakt. De hervormingen worden door een kleine groep mensen geïnitieerd en vormgegeven. Minister Wardhana, zelf gepromoveerd in de Verenigde Staten, ontwikkelt samen met een selecte groep van buitenlandse adviseurs, voornamelijk Amerikanen onder contract bij het Harvard Instituut voor Internationale Ontwikkeling (HIIO), nieuwe belastingwetten. Voor Wardhana is het een logische keuze om het HIIO om hulp te vragen, aangezien dit instituut de Indonesische regering sinds het begin van de jaren ‘60 heeft geadviseerd op economisch gebied. Bijzonder is dat de adviseurs van de HIIO niet alleen beleidsaanbevelingen doen, maar ook betrokken zijn bij het ontwerpen van de wetten. Wardhana heeft de volledige steun van de andere leden van het kabinet. Hij leunt met name op één buitenlandse adviseur, Malcolm Gillis. Het HIIO en vooral Gillis benadrukken dat de uiteindelijke keuzes worden gemaakt door de Indonesische beleidsmakers en niet door het HIIO. De feiten ondersteunen deze bewering niet. Een deel van de hervormingen bestaat uit het terugbrengen van het aantal voorgestelde keuzes en het stellen van prioriteiten. Dit proces wordt gecontroleerd door de ingehuurde buitenlandse adviseurs met steun van Wardhana. Het team dat de hervormingen leidt, besteedt geen serieuze aandacht aan het feit dat hervormingen alleen kunnen slagen wanneer er sprake is van ‘local ownership’. Senior belastingambtenaren spelen een te verwaarlozen rol bij de hervormingen en hebben nauwelijks invloed. Belastingambtenaren voelen zich buiten spel gezet. Hierdoor ontstaat er weerstand in het belasting departement om de nieuwe wetten te implementeren. De cultuur van Indonesische overheidsinstellingen speelt hier duidelijk een rol. Weinig Indonesische ambtenaren zijn hooggeschoold en ze vormen geen partij voor de buitenlandse adviseurs in het debat over de hervormingen. Andere kenmerken van de cultuur van Indonesische overheidsinstellingen die een rol spelen bij het hervormingsproces zijn omkoping, corruptie en de top-down benadering. Omkoping en corruptie zijn inherent aan de bureaucratische cultuur en spelen een belangrijke rol bij veel beslissingen over de hervormingen. Verder is er duidelijke sprake van een top-down benadering tijdens het hervormingsproces. Deze benadering is sinds de Nederlandse koloniale overheersing heel gebruikelijk bij Indonesische overheden. Het raamwerk van de nieuwe wetten aangaande de inkomstenbelasting is gebaseerd op de overheersende opvattingen onder economen in de Verenigde Staten en West Europa over wat een goed en efficiënt belastingsysteem is. Deze opvattingen benadrukken de volgende doelen: eenvoud, geschikte belastingtechnologie, lage belastingtarieven en de afschaffing van belastingprikkels. De doelstelling om het belastingsysteem eenvoudig te houden zorgt ervoor dat er veel onzekerheid heerst rondom de praktische toepassing van de wetten inzake de inkomstenbelasting. Nadere richtlijnen worden pas jaren later of helemaal niet uitgegeven. De nieuwe belastingwetten zijn ontworpen door macro-

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economen, die erg weinig rekening houden met de administratieve en praktische gevolgen van het ontworpen beleid. Daarnaast hangen zij de instrumentalistische benadering van recht aan, waarbij er geen rekening wordt gehouden met de invloed van de Indonesische samenleving op datzelfde recht. De machtsstructuur van Indonesië onder Suharto wordt duidelijk weerspiegeld in de rol die belangengroeperingen spelen bij de hervormingen. Openlijke kritiek is gevaarlijk, maar het regime moet wel degelijk rekening houden met de reactie van het volk. Voor de meeste mensen verandert er niets door de hervormingen, omdat alleen ondernemingen en mensen met hoge inkomens belasting gaan betalen. Maar met de overheidsambtenaren voor wie er wel veranderingen dreigen, wordt extra voorzichtig omgesprongen, omdat het een belangrijke achterban is van het regime. Verder profiteren de ‘cronies’, een groep mensen die bestaat uit familieleden en enkele zeer vermogende ondernemers, van hun hechte connecties met president Suharto. Stichtingen en coöperaties, beide vaak onder controle van Suharto en de kring om hem heen, worden in het nieuwe belastingsysteem gespaard. Verder zijn de bondgenoten van Suharto ervan verzekerd dat de gangbare praktijk, het bepalen van het belastingtarief door middel van onderhandeling, blijft bestaan. De pers is niet in de positie om een openlijk debat op gang te brengen en politieke partijen hebben erg beperkte mogelijkheden tot beïnvloeding wanneer een wet wordt voorgelegd aan het parlement Internationale factoren, zoals beschreven in de organisational theorie hebben indirecte invloed op de hervormingen omdat de Harvard adviseurs het wereld wijde neo-liberale denken van veel economen in die periode toepasten in hun advies. Andere factoren, zoals politieke stabiliteit, de grootte van de markt en productiekosten zijn veel belangrijker voor buitenlandse investeerders dan aantrekkelijke belastingtarieven. Verder is voor de analyse van deze casestudie van groot belang hoe belasting wordt gedefinieerd. Zoals al eerder beschreven, zijn allerlei informele betalingen, zoals het betalen van steekpenningen en extra heffingen, inherent aan de bureaucratische cultuur in Indonesië. Om het hervormingsproces en ook de reactie van bepaalde groepen te begrijpen, is het erg belangrijk dat deze vormen van belasting deel uit maken van de discussie over de belastinghervormingen. Bepaalde ondernemers bijvoorbeeld maken zich niet druk over de formele veranderingen in de belastingwetten, aangezien de informele betalingen die van hen worden verlangd, niet veranderen. De hoeveelheid geld die aan overheidsfunctionarissen moet worden betaald om bepaalde overheidscontracten in de wacht te slepen, is veel groter dan de mogelijke verhoging van de belastingen door de invoering van de nieuwe belastingwetten. Tot slot is het van belang om het resultaat van het hervormingsproces in ogenschouw te nemen. Het politieke antwoord op de dreiging van een fiscale crisis is een grondige revisie van het belastingsysteem, waarbij ook de hoogte van de belastingen verandert. Het is de vraag of dan de verdeling van de belastingdruk is veranderd. Wel zijn door de hervormingen de belastinginkomsten, die niet voortkomen uit de opbrengsten van de oliemaatschappijen, significant gestegen. Een deel van de hervormingen kan echter als voornamelijk symbolisch worden gezien. De belastingwetten zijn namelijk algemeen, gedetailleerde voorschriften met betrekking tot de implementatie ontbreken. Dit is vooral het geval wanneer het gaat om gevoelige onderwerpen, zoals bovengenoemde stichtingen. Daarnaast verandert de hoogte van de informele belastingen niet door de invoering van de nieuwe belastingwetten. De hervormingen van de Vietnamese vennootschapsbelasting De socialistische planeconomie van Vietnam begint in de begin jaren ‘80 van de vorige eeuw barsten te vertonen. De communistische leiders verliezen de controle over belangrijke onderdelen van de planeconomie en de informele economie bloeit.

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In feite worden beleidsmakers gedwongen te handelen, omdat individuele gemeenschappen en fabrieken vragen om meer op de markt gerichte oplossingen als antwoord op de problemen van de planeconomie. Dit leidt ertoe dat de Vietnamese regering eind jaren ‘80 begint te experimenteren met het liberaliseren van de markt. Hierdoor daalt de bijdrage van de staatsbedrijven aan de staatskas aanzienlijk. Voor die tijd zorgen de zij voor het grootste deel van de inkomsten. Een andere bron van financiële zorg is het opdrogen van de subsidies van de voormalige Sovjet Unie, wanneer dit land begin jaren ‘90 uit elkaar valt. Deze subsidies maken tot 1989 20 procent uit van de staatinkomsten. De Vietnamese regering introduceert, gedwongen door de dringende noodzaak om andere inkomstenbronnen aan te boren, tussen 1987 en 1993 drastische belastinghervormingen op het gebied van de vennootschapsbelasting. De aanleiding tot de hervormingen is echter het disfunctioneren van de planeconomie. De sleutel tot verandering is in handen van Truong Chinh, een senior functionaris van de Partij. Hij luistert in 1984 serieus naar de klachten en frustraties van lokale functionarissen. Chinh heeft een bondgenoot in partijsecretaris Nguyen van Linh, die ook een voorstander is van economische hervormingen. In 1985 promoveert Linh naar het politieke bureau en Chinh wordt Secretaris Generaal van de Partij. Samen kunnen ze de conservatieve leden die tegen economische verandering zijn beïnvloeden. Maar ook deze twee hervormers zijn producten van het partijsysteem en hebben beperkte bewegingsruimte. In 1986 introduceert de Communistische Partij de ‘doi moi’ (vernieuwing) strategie. Deze resulteert in de introductie van de Buitenlandse Investerings Wet (BIW) om buitenlandse investeringen aan te trekken. De regering is zich er echter ook van bewust dat de binnenlandse vennootschapsbelasting aan hervormingen toe is en begint hier aan het einde van de jaren ‘80 mee. De doi moi hervormingen bepalen het raamwerk voor het belastinghervormingsbeleid. Senior functionarissen van het belastingdepartement ontwerpen vervolgens de wetten. Deze ambtenaren zijn getraind in de ideologie van de Partij en zullen geen voorstellen doen die tegen de lijn van de Partij ingaan. De binnenlandse winstbelasting weerspiegelt deze ideologie wat betreft initiatieven in de particuliere sector. De belastingtarieven in deze sector zijn namelijk relatief hoog. Sociologisch institutionalisme verklaart een aantal belangrijke kenmerken van de Vietnamese bureaucratie. Veel ambtenaren van het ministerie van Financiën en het departement van Belastingen hebben een rol gespeeld in de hervormingen en naast Chinh en Linh die het initiatief nemen tot de hervormingen, is het onmogelijk individuen aan te wijzen die een hoofdrol vervullen. Deze bureaucraten zijn vaak goed opgeleid en onderdeel van een bureaucratie die goed geïnformeerd en bekwaam is. Daarnaast vertegenwoordigen zij ook een cultuur waarin uitwisseling van informatie achter gesloten deuren plaatsvindt en met niemand gedeeld wordt buiten het betreffende departement van de overheid. De aanwezigheid van hooggeschoolde bureaucraten maakt het voor de Vietnamese overheid minder noodzakelijk om buitenlandse adviseurs in te huren. Daarnaast is de Vietnamese staat erg voorzichtig met het inhuren van dergelijke adviseurs, vanwege de geschiedenis van het land die wordt gekenmerkt door buitenlandse overheersing. Het beleid is dat het advies uit een brede en diverse selectie van landen dient te komen. Het Internationaal Monetair Fonds (IMF) stuurt sinds 1975 regelmatig personeel naar Vietnam, maar heeft geen directe invloed op het beleid omdat de Verenigde Staten het IMF verhindert geld te lenen aan Vietnam. De Vietnamezen identificeren zich daarnaast ook meer met hun Chinese buren en andere Aziatische landen als het gaat om het beleid op de lange termijn dan met de Angelsaksische modellen die worden gepromoot door het IMF. Bovendien wordt het advies van de hulporganisaties al meegenomen in het beleid. Het is de Vietnamese beleidsmakers namelijk ook bekend dat de aanbevelingen die deze organisaties doen toegang geven tot internationaal kapitaal en internationale investeringen.

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China heeft grote invloed op de belastinghervormingen in Vietnam. De Chinese BIW in het bijzonder heeft grote invloed op het ontstaan en de inhoud van de Vietnamese BIW, ook al zijn er geen Chinese adviseurs bij betrokken. Daarnaast geeft de binnenlandse Chinese winstbelasting richting aan de Vietnamese equivalent hiervan. Vietnamese beleidsmakers richten zich op hun Chinese buren, omdat zij zich kunnen identificeren met het socialistische China en omdat China een concurrent is bij het aantrekken van buitenlandse investeerders. Deze Chinese invloed geeft aan dat internationale factoren een rol spelen bij de belastinghervormingen in Vietnam. Verder is de BIW internationaal concurrerend en in die zin spelen internationale factoren ook een rol. Dit laatste gaat niet op voor de binnenlandse winstbelasting. Deze nieuwe vorm van belasting is beïnvloed door het Zweedse stelsel van inkomstenbelasting en de vijandige houding van senior beleidsmakers tegenover de ontwikkeling van de particuliere sector. De Zweedse hulporganisatie SIDA (Swedish International Development Cooperation Agency) speelt al heel lang een rol in de belastinghervormingen van Vietnam. De samenwerking tussen Vietnam en SIDA is in de jaren ‘60 en ‘70 van de vorige eeuw ontstaan. Zweden is één van de weinige westerse landen die Vietnam van hulp blijven voorzien gedurende de oorlog in Vietnam. In 1969 is het het eerste westerse land dat een ambassade opent in Hanoi. Bovendien ziet de Vietnamese regering het sociaal-democratische model dat al tientallen jaren gangbaar is in Zweden als een nuttig voorbeeld voor Vietnam. De samenwerking tussen Zweden en Vietnam op het gebied van belasting begint in 1989, dus na het invoeren van de BIW. Delegaties uit Zweden en Vietnam leggen onderlinge bezoeken af, waarbij de Vietnamezen vooral geïnteresseerd zijn in het systeem van de Zweedse vennootschapsbelasting en het specifieke beleid inzake belastingprikkels. Maar het grootste deel van de samenwerking tussen Zweden en Vietnam vindt plaats na de hervormingen op het gebied van de vennootschapsbelastingen in 1990. Dus is de rol van het Zweedse advies als het gaat om deze hervormingen minimaal. In 1991 start het Zweeds-Vietnamese belastingproject. Het project is gebaseerd op de uitwisseling van informatie en het overbrengen van kennis op het gebied van belastingbeleid en -administratie. De Vietnamezen zijn verantwoordelijk voor het toepassen van nieuwe ideeën die voortkomen uit de samenwerking. De Zweedse adviseurs schrijven geen adviesrapporten zoals de adviseurs van het HIIO in Indonesië. De Vietnamezen kiezen ervoor om over hun eigen beleid te beslissen en dat leidt ertoe dat de Vietnamese belastingambtenaren zich eigenaar voelen van het beleid. Het is echter wel zo dat een gedetailleerde uitwerking van de nieuwe wetten ontbreekt, omdat de Vietnamezen geen kennis bezitten over de werking van de markteconomie. Het kost veel tijd totdat zij in staat zijn de noodzakelijke richtlijnen uit te werken om de wetten te implementeren. Belangengroeperingen die geen onderdeel vormen van het formele partijsysteem of van de bureaucratie, zijn niet in de positie om hun stem te laten horen. De particuliere sector is te zwak en te kwetsbaar om veel invloed op de hervormingen uit te kunnen oefenen. Dit terwijl velen de hervormingen waarschijnlijk onrechtvaardig vinden, omdat voor buitenlandse investeringen veel lagere belastingtarieven gelden dan voor binnenlandse. Daarnaast is er geen reden tot zorg voor de Vietnamese regering, want de hervormingen hebben geen gevolgen voor de plattelandsbevolking en dit is de belangrijkste achterban van het regime. Verder is de pers wegens gebrek aan persvrijheid niet in de positie om het publieke debat aan te zwengelen. Om de hervormingen te kunnen begrijpen is het belangrijk om een ruime definitie van belastingen te hanteren. Buitenlandse investeerders en met name de nieuwkomers in Vietnam realiseren zich al snel dat de BIW slechts een deel van de belastingen is die zij moeten betalen. De vele extra heffingen maken de BIW minder belangrijk als het gaat om de totale belastingdruk voor deze investeerders. De staatsbedrijven behouden hun vele subsidies als de nieuwe wet inzake de winstbelasting wordt geïntroduceerd. Bovendien zijn deze bedrijven door hun connecties met het

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partijapparaat verzekerd van het recht te mogen onderhandelen over hun belastingen met de plaatselijke belastingambtenaren. De politieke reactie op het falen van het socialistische systeem en het financieringstekort is een verandering in de belastingtarieven en tot op zekere hoogte een verandering in de belastingdruk, waarbij buitenlandse investeerders minder belastingen betalen dan hun binnenlandse collega’s. De belastinginkomsten nemen toe en worden vooral gegenereerd door buitenlandse en binnenlandse particuliere ondernemingen in plaats van door staatsbedrijven. Maar omdat belastingen in Vietnam meer omvatten dan de officiële belastingen, kan een deel van de belastinghervormingen als symbolisch worden beschouwd. Conclusies Eerst vindt een vergelijking van de twee case studies plaats aan de hand van het theoretisch model van Gitte Heij. Vervolgens worden de onderzoeksvragen beantwoord en tot slot vindt aan de hand van de resultaten van het onderzoek herziening van het model plaats. De ruime definitie van belastingen vormt een belangrijk onderdeel van het model. Wanneer dit het uitgangspunt is, verandert het grootste deel van de bevindingen van de beide casestudies aanzienlijk. In het licht van de beperkte, juridische definitie van belastingen daalt de belastingdruk voor bedrijven en individuen namelijk, behalve voor particuliere ondernemingen in Vietnam. Wanneer echter een ruime definitie wordt gehanteerd, geldt bijvoorbeeld omkoping in de vorm van extra beloning voor belastingambtenaren ook als belasting. Dit verhoogt de werkelijke belastingdruk aanzienlijk in vergelijking tot de belastingdruk onder de beperkte definitie. Voor een deel verandert er dus weinig voor de belastingbetalers als het gaat om de belastingdruk. Naar aanleiding hiervan rijst de vraag hoe betekenisvol belastinghervormingen zijn. In beide casestudies is het echter zo dat de belastinginkomsten aanzienlijk zijn gestegen na de introductie van de hervormingen. Het doel om de belastinginkomsten te doen stijgen, is dus geslaagd. De hervormingen op zich geven alleen geen realistisch beeld van de impact die deze hebben op de belastingbetalers. Internationale invloeden spelen een rol in beide casestudies, maar op een andere manier dan de organisational theorie suggereert. Deze theorie veronderstelt een dominante rol voor de internationale politieke gemeenschap, maar deze speelt nauwelijks een rol in de belastinghervormingen in beide landen. In Indonesië spelen buitenlandse adviseurs, die voornamelijk afkomstig zijn uit de Verenigde Staten of daar getraind zijn, een belangrijke rol bij de hervormingen. De adviseurs van het HIIO sturen aan op een eenvoudig systeem van belastingwetten. Dit is gebaseerd op hun training als neo-liberale economen en op hun ervaringen met het Amerikaanse belastingsysteem, dat zo gericht is op rechtvaardigheid, dat het heel complex is. De HIIO adviseurs proberen een ideaal belastingsysteem te ontwerpen. Helaas blijkt een deel van hun voorstellen politiek gezien onrealistisch op het moment dat belastingfunctionarissen en de Indonesische regering deze intern bespreken. Toch lukt het de adviseurs een aantal eenvoudige belastingwetten geaccepteerd te krijgen door de president van Indonesië. Alles wat te gevoelig ligt of te complex is wordt vooruitgeschoven opdat dit wordt uitgewerkt in nadere richtlijnen. Veel van die richtlijnen zijn er nooit gekomen. In tegenstelling tot Indonesië wordt in Vietnam de belastinghervorming geleid door ambtenaren die werkzaam zijn bij de Vietnamese overheid. Deze zijn zich allemaal bewust van de politieke en praktische realiteit waarin de belastingvoorstellen worden gedaan. De invloed van het buurland China op de Vietnamese belastinghervormingen is groot. De Vietnamezen kopiëren de Chinese BIW om buitenlandse investeringen aan te trekken. De invloed van de Zweedse SIDA adviseurs is beperkt. Het samenwerkingsprogramma begint pas wanneer de winstbelasting wordt geïntroduceerd. In beide landen vinden de belastinghervormingen plaats, omdat er in de toekomst een crisis te verwachten is. Er is op het moment zelf echter geen sprake van een

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fiscale crisis. De economische context vormt een belangrijke aanleiding voor de hervormingen in beide landen, maar is geen cruciale factor. De Vietnamese bureaucratie kent veel hoogopgeleide ambtenaren. Dat vermindert de noodzaak om buitenlandse adviseurs aan te trekken. Daarnaast zijn de Vietnamezen na een geschiedenis van verschillende buitenlandse overheersers er trots op om hun eigen beleid te bepalen. Ze worden wel geïnspireerd door andere landen, maar buitenlandse adviseurs hebben geen beslissende stem, zoals in Indonesië. Op de achtergrond is er altijd de Partij en geen enkele bureaucraat durft tegen de lijn van de Partij in te gaan. Vaak is voor buitenstaanders niet duidelijk wie invloed en controle uitoefent binnen de groep. Het gedrag van de Vietnamese ambtenaren is duidelijk beïnvloed door de instituties waarbij ze werken. Het resultaat van de keuze om over hun eigen beleid te beslissen is dat de Vietnamese bureaucraten zich eigenaar voelen van hun beleid en hervormingen. Dit geldt niet voor hun Indonesische collega’s. Indonesië is lange tijd overheerst door de Nederlanders, maar is toch opvallend open blijven staan voor buitenlands advies. De Indonesische bureaucratie is omvangrijk en de bureaucraten zijn vooral in de tijd van de hervormingen, laag opgeleid. Minister van Financiën Wardhana ervaart een gebrek aan deskundigheid binnen zijn eigen departement en vraagt het HIIO om hulp. Deze organisatie heeft het ministerie van Financiën al sinds de jaren ‘60 geadviseerd. Het HIIO team geeft veel adviezen aan Wardhana, maar betrekt de senior Indonesische belastingambtenaren hier nauwelijks bij. Zij voelen zich hierdoor geen eigenaar van de nieuwe wetten. Zij beschuldigen het team dat de hervormingen leidt ervan dat ze theoretische belastingwetten hebben geproduceerd die geen rekening houden met de Indonesische context. Wanneer het gaat om belangengroeperingen geldt in beide casestudies dat naar hen wordt geluisterd wanneer zij helpen de regering in het zadel te houden. Het gaat hier dus niet om onafhankelijke belangengroeperingen, het gaat om bepaalde elitegroepen. De politieke reactie op een dreigende fiscale crisis is in beide landen de introductie van nieuwe belastingwetgeving. Het gaat er beide landen om de belastingwetten te vereenvoudigen en samen te voegen. In beide landen stijgen de belastinginkomsten, maar de hervormingen hebben een beperkte invloed op diegenen die met de dagelijkse realiteit van officiële en onofficiële belastingen te maken hebben. Hier is dus zowel sprake van instrumentele wetgeving als symbolische wetgeving. In het geval van Vietnam is daarnaast sprake van wetgeving met ideologische doeleinden. De belastinghervormingen in Vietnam weerspiegelen duidelijk een politieke ideologie die vijandig tegenover de ontwikkeling van de private sector staat.Na deze vergelijking tussen de twee casestudies, vindt de bespreking van de onderzoeksvragen plaats. Welke factoren leiden tot de revisie van de bestaande belastingwetten in Indonesië en Vietnam? In beide landen zijn dalende belastinginkomsten of het vooruitzicht daarvan, de hoofdredenen om het belastingsysteem grondig te herzien. Wie zijn de belangrijkste actoren die betrokken zijn bij de hervormingen en welke belangengroepen representeren zij? In Indonesië zijn de sleutelfiguren minister Wardhana samen met het team van het HIIO. Zij worden geacht te zorgen dat de hervormingen de president en de kring om hem heen niet raken en mogen geen voorstellen doen die zijn machtsbasis en dus de stabiliteit van het regime bedreigen. In Vietnam kunnen de hoofdrolspelers bij de hervormingen niet individueel worden, maar in algemene zin gaat het om senior bureaucraten van het Departement van Belastingen en het Ministerie van Financiën. Zij worden geacht zich te houden aan de lijn van de Partij. In beide landen zijn de

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hoofdrolspelers dus niet zo onafhankelijk als het lijkt. De leiders van het regime bepalen de spelregels en niemand durft hier aan te tornen. Wat is de invloed van de buitenlandse adviseurs op de belastinghervormingen? In Indonesië is de invloed van buitenlandse adviseurs erg groot. Alleen zaken die de machtsbasis van de regering betreffen, worden niet beïnvloed door buitenlandse adviseurs. Het gevolg is dat de Indonesische senior belastingambtenaren niet het gevoel hebben dat het hun wetten zijn. Zij zijn niet gehoord en moeten belastingwetten invoeren die niet zijn toegesneden op de Indonesische realiteit. In Vietnam zijn er geen specifieke buitenlandse adviseurs die de hervormingen beïnvloeden. Welke rol spelen internationale factoren bij de hervormingen? Er is geen sprake van invloed van de internationale politieke gemeenschap op de belastinghervormingen in beide landen. Globalisatie speelt echter een rol bij de hervormingen in Vietnam. De Vietnamezen willen internationaal concurrerend zijn ten opzichte van hun Aziatische buren en dit beïnvloedt hun economisch beleid. Welke betekenis hebben deze bevindingen? Onder meer is het van belang dat het bestuderen van belastinghervormingen zonder het gebruik van de ruime definitie van belastingen weinig zinvol is. Verder is het belangrijk om bij de bespreking van belastinghervormingen de politieke werkelijkheid en de instituties die daarbij horen te analyseren. Ook is een belangrijke conclusie dat het beter is om gebruik te maken van binnenlandse in plaats van buitenlandse adviseurs. Buitenlandse adviseurs kunnen wel kortdurend ingehuurd worden om hoogstaand technisch advies te geven. Maar het is van belang dat de hervormingen van binnen uit vorm worden gegeven, zodat de ambtenaren die eraan mee werken het gevoel hebben dat het hun wetten zijn. Tot slot vindt een bespreking van het model plaats in het licht van de twee casestudies. In algemene zin is de conclusie dat het model een bruikbaar instrument is om de verschillende actoren en factoren die de hervormingen beïnvloeden te beschrijven en te analyseren. De positie van de definitie van belasting bovenin het model is cruciaal. De manier waarop belasting wordt gedefinieerd beïnvloedt alle onderdelen van het model. Internationale factoren kunnen een rol spelen, zoals aangetoond in de case studie over Vietnam. Dit onderdeel blijft gehandhaafd in het model. Inzake de oorzaak van belastinghervormingen wordt het woord crisis veranderd in het woord oorzaken, omdat het woord crisis te zwaar is. In het theoretisch model worden de cultuur van publieke instituties, politieke representatie en de rol van de regering gescheiden onder het kopje staatsstructuur. Het voorstel is om dit in stand te houden. Dit ondanks het feit dat bij de analyse van de casestudies blijkt dat het moeilijk is de verschillende elementen te scheiden. De context, weergegeven als apart element in het model, past beter onder het kopje oorzaken, want de context is belangrijker in de aanloop naar de hervormingen, dan tijdens de hervormingen. Bij de analyse van de case studie over Vietnam is duidelijk geworden dat staatsstructuren en de planeconomie elkaar beïnvloeden. Daarom komt er in het herziene model een verbinding van oorzaken naar staatsstructuren en vice versa. De politieke reactie zoals beschreven in het model moet uitgebreid worden met ’geen enkele verandering’. Ook dienen de soorten wetgeving uitgebreid te worden met instrumentele en ideologische wetgeving. Wanneer bovenstaande wijzigingen worden doorgevoerd, kan het model gebruikt worden bij de analyse en beschrijving van andere casestudies aangaande belastinghervormingen in welk land dan ook.

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Herziene model voor onderzoek.

1. Crisis Geopolitical Fiscal Economisch Binnenlandse economische context Regeringsbeleid Belastingbeleid

4. Politieke Respons (instrumentalistisch/symbolisch/ideologisch)

Verandering van belastingtarieven Verandering van het belastingsysteem

Verandering van de verdeling van de belastingdruk Geen verandering

2. Staats structuren

Cultuur binnen instituties Rol van individuen binnen het

staatsbestel of in de volksvertegenwoordiging

Belastingadministratie Toegang tot het politieke proces

Politieke vertegenwoordiging Politieke partijen & electorale

systeem Vertegenwoordiging van

belangengroepen Controle van een partij

Rol van de regering

Buitenlandse adviseurs ingehuurd door de regering

Rechtsbestel

Interpretaties belastingrecht Belastingbepalingen

Belastingbezwaar en beroeps procedures

Kosten voor het naleving van belastingwetgeving

5. Balans

Invloed en druk van verschillende sociale klassen en

belangen groepen in de samenleving

Verscheidenheid aan belangen groepen, inclusief die groepen

die geen toegang hebben tot de politieke vertegenwoordiging of

staats structuren

Definitie van Belastingen

3. Internationale invloeden

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