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Business

KRG seeks alternative revenue source through taxation reform

26/5/2016
Photo of the Erbil currency exchange market. By Farzin Hassan
Photo of the Erbil currency exchange market. By Farzin Hassan
 
By Glenn Field

Since the Iraqi Central government passed Article 117 in their constitution in 2005, recognizing Kurdistan as a federal region, the Kurdistan Regional Government (KRG) has maintained a policy of taxing home, income and business at flat rate of 15% in order to encourage regional investment from the international community. Although this did in fact prove successful for some time, since the establishment of the Islamic State of Iraq and Syria (ISIS) in 2014, investment has halted largely due to the security threat, and the KRG is now desperate to reform their historic as well as present tax policy in order to generate alternative areas of revenue. 

 

Currently, most of the KRG’s funding comes from loans provided by the international community. Such areas of reform include increasing taxes and fees but also ending its economic culture as a cash economy and reestablishing the community’s trust in the Kurdish banking system.

From 2005 to 2014, the Kurdistan Region saw unprecedented foreign investment and did as much as possible to incentivize its continuation which included tax cuts and a 15% flat tax to companies that invested in infrastructure, housing and tourism. Essentially, the KRG wanted to use their lenient tax policy to enable the private sector in building the Kurdistan Region’s infrastructure. Ahmad Safar, who has a PhD in Economics and Taxation Policy from the University of Kurdistan-Hawler, claims that the KRG’s tax policies are too outdated and have been even since before the current economic downturn. “The [tax policies] are too old and were never adjusted to changing situations,” Dr. Safar stated. The KRG does not even have official rules on transfer pricing however, the tax authority reserves the right to adjust transactions for particular tax purposes.

Since the influx of foreign investment ceased, the KRG has been looking to compensate for the deficit, such as increasing tax based on profit rather than maintaining the current flat rate of 15%. Most likely, this sort of policy will lead to taxing companies in the oil and gas industry or companies such as Korek, Kurdistan’s largest cell phone company--if the policy is properly enforced. Other collection methods by the KRG could include enforcing tolls at checkpoints

More importantly, the KRG needs to limit public services it has provided to the people up until now. One example is how the KRG currently pays for 80% of the electricity used in the region whereas the local population only has to pay for only 20%. In this case, electricity will either become part of the private sector or the prices will be reversed to at least a certain extent. Such examples are just small areas where reform is needed and many of what has been proposed, has not yet been decided upon.

Dr. Safar acknowledges that reinstituting an effective banking system is much needed as well. However, he believes that local corruption is too entrenched in order for the reforms to be imminently effective. He also believes that increasing taxes on those beyond the most prosperous is not feasible because most people simply do not have the money to pay for them.

According to the KRG’s Acting Minister of Finance Raber Sidiq, instituting taxes will be particularly difficult because the KRG has very few effective monitoring and enforcing methods. Sidiq claims that one method proposed “is to issue mandatory business licenses that must be renewed annually.” When business owners come to renew their license, they will have to prove that all tax requirements have been paid. If payments are delinquent, punishments such as fines will be instituted as well as government services will be withheld. An example mentioned in a report by ‘Invest In Group’, would be the penalty for late filing for 10% of the tax due, which would be capped at IQD 75,000 per year. This would be one way of addressing delinquent payments in corporate tax. Such regulation tactics are only minor examples of what will be required to be implemented in managing a much greater problem.

Perhaps the most challenging area of reform will be changing the culture of a cash economy into a functional and most importantly, a trusted banking system. The majority of the local businesses in Iraqi Kurdistan are cash based with most of the local population keeping their income stored away in their homes or somewhere safe. The point is though, funds by and large, are not stored in banks and not in somewhere that can generate growth for their savings. When ISIS established itself along Iraqi Kurdistan’s borders and the foreign investors withdrew, what little was there of banking essentially collapsed. Around the same time, the Central Government in Baghdad stopped paying KRG’s 17% budget share as mandated by the Iraqi Constitution. On top of which, the price in oil more than halved in value to $48 per barrel in the last two years.

Currently, government workers have gone unpaid due to the financial crisis since August of 2015. Until salaries are fully reinstated, employees working in the Kurdistan Region are subject to personal income tax at a rate of 5% on their income in excess of IQD 1,000,000 per month.

With the new reforms, the KRG hopes to once again instill the local population's trust in the banking system. Campaigns are currently underway to educate locals through the media as well as by distributing pamphlets to businesses in order to explain the benefits of a banking system such as financial security and compound interest, or growth. In fact, compound interest is one of the primary ways in which the KRG plans to incentivize the local population to restore their faith in the banks. Reinstituting a banking system will further encourage the return of foreign investment because recording investment will be more secure with an internationally backed financial infrastructure. All of the above are minor steps to be taken in order to thwart the Kurdistan Region's crippling and growing debt problem. 

* Glenn Field is a writer and teacher working in Erbil, Iraqi-Kurdistan. Glenn has a Bachelors in Psychology and a Masters in Conflict Resolution and Mediation which he received from Tel-Aviv 


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J | 26/5/2016
KRG should establish a tax on cigarettes and alcohol. Smoking and excessive drinking are unhealthy and while taxes on these items will not stop people from using them, it may reduce their intake as well as being a good source of revenue for the government
osman | 26/5/2016
@J thanks to the KRG many people in Kurdistan are drinking excessively and becoming chain smokers, I don't think you have a clue what people of Kurdistan is currently going thru. We are becoming cash cows and are being taxed to death soon.
Guest | 26/5/2016
A strong financial system is one that people have confidence in and is fluid.
Zara | 26/5/2016
Some good suggestions by the interviewees but let's not cripple people even more with a massive rise in electricity bills while they are barely getting wages. Yes make the big businesses who can afford it pay full bills but for the struggling average family, leave higher electricity bills to the right time. There needs to be more discussion of strengthening non-oil sectors even if that takes subsidies and import quotas. That's how Korea and Japan protected their domestic industries when they were developing. We've allowed Kurdistan to be flooded with imports and made little effort to develop our own sectors. The traders did well out of it. By the way IMF is anti-protectionist and against subsidies which is highly hypocritical as the IMF's biggest donors and controllers - the US and many EU countries - protected their companies when they were developing and still do. Look at their massive farming subsidies, tariffs on Chinese steel and much more. We have to nurture our own companies at the cost of some inefficiencies and higher prices, but it would serve us well in the long run.
Ibrahim Abdullatif | 26/5/2016
As a business owner in Duhok, I pay both business income tax and property tax (I might add that it is just a randomly accounted guest number). The government makes me pay an accountant 750,000 for my company to produce yearly "reports" that that are obsolete and irrelevant. I have to have to have a lawyer and an engineer on salary whether I do any work or not. I also pay a yearly fee to the health deportment, to tourism directorate, to three different Olympic Committees for billiard hall, fitness hall and swimming pool. Ow yea, I also pay a monthly employee social security tax (Zeman EsgtimaعI) that is supposed to compensate employees upon injury/retirement, but which does not. I am not sure how else we could be taxed...
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