Weighing the Electoral Pledge to Hike Tax Ratio

By Andrean Rifaldo, the Directorate General of Taxes officer

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Disclaimer: In order to keep public servant neutrality in general election, this article is not intended to support/discredit any candidate. The article cannot be quoted, partly nor entirely, to be utilized for any general election campaign material.

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The presidential election is just around the corner. Each candidate has outlined their visions. One crucial aspect deserving attention is taxation.

Undoubtedly, changes in tax policies directly impacts people’s livelihoods. Each amendment affects income and the prices of commodities within the economy.

Taxes remain a compelling topic, particularly in this year's political contest. As the upcoming presidential election approaches, all candidates still share a common fiscal agenda: the tax ratio must be increased.

Pair number 1, Anies–Muhaimin, aims for a tax ratio of 13-16 percent by 2029. Pair number 2, Prabowo–Gibran, sets a higher target at 23 percent. As for pair number 3, Ganjar–Mahfud, on several occasions, their campaign team has stated a target of 14-16 percent.

Hence, what is the precise significance of an increase in the tax ratio?

2022 study by the Indonesian Survey Institute revealed that only 50% of the population grasps tax literacy. Therefore, it is crucial for the public to understand the meaning and implications of a rise in the tax ratio.

The tax ratio is a crucial indicator in assessing the government's success in tax collection, calculated as a percentage of tax income relative to the economic scale measured by the gross domestic product (GDP).

In simpler terms, the tax ratio reflects how much of the national income flows into the tax revenue. For each one percent increase in the tax ratio, one percent of citizens’ total income is directed to the national treasury.

With last year's tax revenue reaching Rp2,155 trillion ($137 billion), the tax ratio stands at 10.21 percent. This figure is notably below the World Bank’s recommended threshold of 15 percent and falls considerably short of the Asia-Pacific average, which is nearly 20 percent.

To increase the ratio, tax revenue must not only increase annually but also outpace economic growth. This year, the tax target in the state budget is slated to grow by 6.4 percent, surpassing the projected economic growth of 5.2 percent.

To significantly increase the tax ratio, tax revenue for this year must reach the target of Rp2.309 trillion. This appears feasible given the consistent surpassing of tax revenue targets over the past three years. However, a dilemma persists.

Meeting tax targets doesn't guarantee an increase in the tax ratio. Last year, despite achieving 108.8 percent of the target, the tax ratio decreased by 0.18 percent compared to 2022.

The tax ratio may decline if economic growth exceeds projections, which is actually a positive outcome. The problem is if the actual tax revenue falls short of the established target.

Since 2000, Indonesia’s tax ratio has consistently fluctuated around 10 percent, reaching its peak at 12.5 percent in 2008. After that, it has never exceeded that figure and tends to decrease, reaching 8.3 percent in 2020.

This indeed poses a significant challenge. In 2023, with the estimated national gross domestic product (GDP) reaching Rp22 trillion, achieving a one percent tax ratio would require targeting tax revenue at Rp220 trillion. This figure does not account for the 5, 10, and 20 percent increments.

Therefore, setting tax ratio targets cannot be done arbitrarily. Their achievability must be carefully considered, particularly as this decision directly impacts the citizens’ welfare.

Generally, an increase in the tax ratio can be achieved through two main methods. First, by tapping into the potential of existing revenue sources, such as improving compliance and cracking down on tax evasion.

However, this method requires sustained efforts and cannot cause the tax ratio to skyrocket quickly. Moreover, Indonesia is one of the countries with the highest annual tax revenue losses, as I have discussed in the previous article “Why Should Assets be Disclosed for Tax Purposes?”

The second method, with a clearer correlation, involves directly raising tax rates and introducing new types of taxes. While this can be a shortcut to increasing tax revenue, the resulting price hikes and income deductions will be felt directly by the public

Moreover, such decisions often spark controversy, potentially decreasing tax compliance and encouraging tax avoidance behaviors, as seen in the recent increase in specific entertainment taxes.

Tightening tax regulations is an inevitable aspect when aiming for an increase in the tax ratio. Promising tax reliefs will be challenging to align with committing to an increase in the tax ratio.

In 2025, the VAT rate will increase to 12 percent, and a novel carbon tax will be implemented. These steps represent concrete efforts to increase the tax ratio.

This decision will impose inflationary pressures on the prices of commodities borne by the public. However, its impact has been carefully considered since the Law of Tax Regulations Harmonization was proposed back in 2021.

Furthermore, a high tax ratio does not always translate to positive outcomes for the economy. Tax incentive policies are counterproductive to the tax ratio, yet they are crucial for supporting economic smoothness.

This year, the tax incentive budget is the highest in the last 5 years, reaching Rp374.5 trillion ($23.9 billion). While this policy has the possibility to reduce tax revenue, it provides Rp75.9 trillion ($4.8 billion) in benefits for small and medium-sized industries, as well as encourages homeownership with VAT exemptions.

Promising an increase in the tax ratio is legitimate, but it is crucial to carefully consider its impact on people's lives. The process cannot be instant and requires sustained efforts.

Therefore, it is essential not to let the ambition of achieving a higher tax ratio sacrifice citizens’ livelihoods, which is the true goal of tax funds utilization.

*) This article represents the author's personal views and does not represent the stance of the institution. The Indonesian version of this article has been published in Kompas.com on February 5th, 2024.

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