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VAT is coming: a historic change and leap into the unknown
January, 02nd 2017

The coming year will see continued pressure on government spending across most sectors in the Gulf states, and cuts to public-sector payrolls. But accounting and financial consulting firms are expecting to see a business bonanza in 2017 thanks to the introduction of value-added tax (VAT) a year from now.

Such firms are expecting a surge in government business in 2017 as the six member states of the Gulf Cooperation Council (GCC) prepare for the first-ever coordinated introduction of a tax in the region.

Headhunters already report a big recruitment drive in the accounting professions. If you are lucky enough to have citizenship of one of the GCC states and the appropriate qualifications, you can virtually name your salary.

The introduction of VAT is a historic change in public finance in the Gulf, and arguably the most profound innovation in the fiscal infrastructure since oil revenue seriously began to flow in the 1950s.

No tax, no more: It will also have far-reaching effects on the economic and social culture of the region that are as yet only little understood. Once governments give up their "no tax" status with a simple sales tax, it is difficult to say where they will end up. Maybe like the highly-taxed economies of Europe and North America many expatriate workers are escaping when they come to the Gulf?

Most economists seem to be happy with the proposals, because it will advance their argument that Gulf economies need to "normalize." Nearly all countries in the world levy a sales tax. It is almost a symbol of nationhood, like a national airline or currency, to have a tax on domestic consumption.

The economists' clinching arguments came with the recent volatility in the oil price. Gulf governments needed a reliable source of income when energy revenue was subject to such sharp fluctuations, they agreed.

Inflation boost: Although the pro-tax economic arguments seem to have won the day, there is a sizeable body of opinion that points to the negative effects of VAT: The hit it will deliver to domestic consumer patterns, or the boost it will give to inflation, which is already a cause for concern in some states.

These worries vary from country to country. The two biggest economies of the GCC - Saudi Arabia and the UAE - have different concerns.

Saudi Arabia has its eye on keeping basic prices stable in a time of profound economic transition; the UAE is keen to maintain competitiveness in its all-important retail and tourism businesses. Both would be affected by VAT.

Smaller businesses are worried by the extra cost VAT will entail, and by the levels of transparency that may be necessary. A transactional levy has implications all along the supply chain, in theory applicable at every stage where the value of a good or service is altered, and this could result in much higher costs.

The devil, as always, will be in the detail. Maybe the most important detail still to be decided is: What rate? Although 5 percent has come to be seen as the agreed level, this has still not been set in stone. Egypt - not a GCC member - recently introduced VAT at 14 percent.

Expats' perceptions: At the recent GCC summit in Bahrain, the VAT issue was discussed. At least one state wanted a higher level, at 10 or even 12 percent. Once the proposed levy starts to get into double digits, it becomes really problematic.

Not only is the effect on domestic consumption and inflation magnified, but the tax also begins to seriously change the perception of expatriate workers who are essential for the efficient running of the economies of all GCC states.

Foreign workers have been traditionally grateful for the tax break they get upon signing up for employment in GCC countries, most noticeably of course in income tax, which runs at around 30 percent in the West. (There is no suggestion that income tax will be introduced in the GCC in the foreseeable future).

VAT in Europe is around 20 percent, and the absence of this burden in the GCC is a real bonus for expatriates, who are attracted as much by the opportunity to save or send money home as they are by the opportunities to splurge extra cash on an extravagant lifestyle. VAT at any level will eat into that.

But here comes the real crunch. Since the founding of the United States 240 years ago, a principle of political governance in the West has been that there should be "no taxation without representation."

Many citizens, and all expatriate workers, have been content to forego participation in the running of GCC countries, leaving that up to benevolent governments in exchange for the guaranteed freedom to use their income as they wish. Tax, in any form, fundamentally changes the basis on which the GCC is run. It is a leap into the unknown for the region.

 
 
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