Getting to Know the Tax Ratio, A Term Everyone is Talking about

By: Revanza Almaas, the Directorate General of Taxes officer

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 general election campaign material in any form.

Did you hear the news?
"One of our presidential candidates said he promised that the tax ratio would increase to 16 percent."
"The Finance Minister has targeted the tax ratio to increase by 2 percent."
"An increase in tax bouyancy will encourage the performance of the tax ratio."

People are having a fun conversation responding the news. People seem to get very excited discussing a passionate topic. But, what is this topic? Tax ratio? What is tax ratio?

Imagine a scale, with one side representing a nation's total economic output (Gross Domestic Product or GDP), and the other representing its tax revenue. The tax ratio or tax-to-GDP ratio is like the weight on that scale, indicating how much of the nation's economic activity directly contributes to the state revenue. The tax ratio serves as a key metric for assessing a country's tax revenue in proportion to the overall size of its economy, as indicated by the GDP (or Produk Domestik Bruto or PDB in Bahasa Indonesian). This ratio is a valuable indicator that shows potential taxation capacity in relation to the economic output of a nation. Beyond its quantitative assessment, the ratio facilitates a comprehensive understanding of a country's tax policy trajectory, providing insights into the broader direction and priorities of its fiscal strategy. Moreover, this metric is instrumental for making international comparisons between the tax revenues of various countries, allowing for benchmarking and analysis of global fiscal trends.

A Good Tax Ratio

A low tax to GDP ratio indicates a lesser developed economy or a serious gap in the tax collection within an economy. Increasing the tax revenue would escalate tax ratio. Here is the formula.

Tax ratio = tax revenue of the nation / gross domestic product of the nation

According to the World Bank, maintaining tax revenues above 15% of a nation's gross domestic product (GDP) is important for fostering economic growth and reducing poverty. This threshold is instrumental in providing countries with the financial means to make essential investments for the future, thereby achieving sustainable economic development.¹ In comparison, developed nations typically have significantly higher tax ratios. For instance, the average ratio among members of the Organization for Economic Cooperation and Development (OECD) stood at 34.1% in 2021. As economies get more developed and incomes raise, there is a tendency for people to demand more services from the government, such as healthcare, public transportation, and education. This phenomenon could explain why, for instance, the tax ratio in the European Union averaged 25.9% in 2021, higher than most Asia-Pacific nations.

Tax ratio or tax-to-GDP ratio is preferred by policymakers when assessing year-to-year changes in tax receipts, as it provides a more nuanced measure of fluctuations in tax revenue compared to raw amounts. Tax revenues are highly related to economic activity, rising during periods of faster economic growth and declining during recessions. While tax revenues as a percentage tend to fluctuate more than GDP, the tax ratio remains relatively consistent, avoiding extreme tilt in growth.

Tax Ratio in Indonesia

In 2017 Indonesia's tax ratio was at 9.89% of GDP. The figure then increased to 10.24% in 2018, then fell to 9.77% in 2019, and fell further to 8.33% in 2020. In 2021 to 2022, the tax ratio then rose again to 9.11% in 2021 and 10.41% in 2022. This percentage, which ranges from 8 to 11 percent, is one of the lowest ratio figures in the ASEAN region. How could it be that low? Apparently, the medium and large enterprise sector contribute more than 95 percent of total tax revenue, while tax revenue from activities in the micro, small, and medium enterprise (MSME, or UMKM in Indonesian) contributes less than 5 percent of that portion.² 

The composition of Indonesia's GDP presents a challenge for tax collection. While the MSME sector dominates economic activity, contributing more than 60%, its contribution to tax revenue is disproportionately small. This imbalance between the numerator (tax revenue) and denominator (GDP) naturally pulls the tax ratio down. A confluence of factors contributes to the low tax revenue from MSMEs. The first one is the tax facilities regulating MSMEs. MSMEs are subject to a single income tax rate of 0.5% which is final. Furthermore, businesses with gross income under IDR 500 million is not subject to tax at all. The second factor is inadequate tax education, which has resulted in a lack of understanding of the importance of taxes for sustainable development. The government has certainly made efforts to provide tax education to the public, but high Indonesian population numbers remain a challenge. This is why the last factor contributing to low tax revenue is the number of business actors of MSMEs. There are so many of them and spread out, making it a challenge in the effectiveness of tax collection.

Low tax ratio would mean that the tax collection currently achieved is still not optimal. Examination of internal data from the Directorate General of Taxes (DJP) and external data from various reports indicates that numerous corporate and individual taxpayers are likely not fulfilling their tax obligations accurately. We can see the existing gap between gross income and the actual amount of taxes paid. Apart from that, tax tends to be collected from the same set of taxpayer year after year. Ongoing efforts to intensify and broaden the tax base are crucial for achieving optimal tax revenues and ensuring equitable tax collection. 
Effective collaboration with all stakeholders is necessary to enhance the efficiency of tax collection. The Directorate General of Taxes must continue making efforts, from providing tax education, service, supervision, inspection, and law enforcement quickly, precisely, and fairly. In parallel, taxpayers are expected to fulfill their tax obligations accurately and on time.

*)This article is the author's personal opinion and does not reflect the attitude of the agency where the author works.

The content on this page may be copied and reused for non-commercial purposes. However, we kindly request users to give credit to the source by providing a link back to the original page. Hopefully it would help.