Ri Insights

Indirect and Direct Taxation, Accountability, and Stability

Dr. Shareefa Abdullah Al-Adwani

Rai Insights Contributor

Kuwait: A necessary condition for the average country’s foreign policy is that the country maintains internal stability amongst its populace.   Kuwait is no different in this regard (Assiri 1989; Guazzone 2008).  However, Kuwait is different from the average country in that the majority of Kuwait’s domestic populace – 70% – is comprised of non-nationals.  Domestic stability is often a careful balancing act of policies aimed towards nationals and/or non-nationals.

 

Domestic stability can be difficult for countries during times of economic uncertainty (Fearon and Laitin 2003), and the relatively low global oil prices since January 2015 has introduced a measure of economic uncertainty in Kuwait.  The average break-even price of oil in Kuwait since 2014 is around USD 50, and with oil prices around the same average rate since 2015, Kuwait’s budget is extending to its limits.  Over 80% of government income is from the sale of oil, and the government uses a large part of the revenue to support public employment (87% of the Kuwaiti workforce), functions, and services.  The low oil prices coupled with an overburdened government sector has led to more serious considerations of alternate public revenue streams in the last few years.  Indirect and direct taxation of nationals and non-nationals has been and will be the public sector’s solution.

 

Several articles of the Kuwaiti Constitution indicated the foresight for domestic taxation (see Articles 24, 48, 134, and 143).  Currently, the direct taxation policies in Kuwait target non-nationals, such as the flat 15% tax rate for foreign businesses.  Under current discussion, a graduated tax on remittances may be put in place.  Remittance taxes also generally target non-nationals.

 

It might be argued that recently, citizens and non-citizens alike have been indirectly taxed to increase governmental revenue streams via the steep price increases of government services.  To list a few:

  • The increase of first-time issuance and replacement of civil IDs from KD 2 to KD 5 and from KD 10 to KD 20 respectively (2016);
  • Expat healthcare fees, paid by both expats and Kuwaitis who have dependent expats, have increased 100% to 400% (2017);
  • Similar to the payment of healthcare fees, it has been proposed that driver’s licenses and related documentation increase by 50 to 250 times (2015).

 

These indirect taxes are not defendable by inflation, roughly 3% per year since 2013. Instead, the price increases of these government service fees reflect an opportunity for the public sector to increase their revenue.

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There is now discussion of a more direct taxation on the Kuwait populace: The Common VAT Agreement of the States of the Gulf Cooperation Council, signed by all GCC members November 2016, affects both nationals and non-nationals.  In serious discussions since at least 2014, the timing of the Value-Added Tax coincides with the recent decline in oil prices.  The text of the agreement clarifies that each GCC country will introduce a 5% VAT by 1 January 2018.

 

To the consumer, a VAT may seem very similar to a sales tax, as the final product of a good is more expensive than it was before the tax.  Yet a VAT is where tax is added at each stage of production process and at sale, making it easier to track.  In Kuwait, goods that may be taxed include wholesale products, retail products, and food bought in restaurants, among others.  Exempted goods may include other foodstuffs, medical products, and health and educational services, among others.  Thus, this new taxation to ease the government’s financial burden does not discriminate between nationals and non-nationals and involves consumers and producers.  All will be impacted by the VAT, and unlike indirect taxation, the VAT’s direct taxation offers new and different implications.

 

Indirect taxation through increased service fees unsupported by standard economic measures is a mode of surreptitious financial extraction from the populace.  The selection of which services to target and the valuation of price increase seems erratic, disorganized, and difficult to track.  The lack of transparency and accountability of indirect taxes create a communication rift between the populace and the National Assembly, as the populace is not empowered with the information regarding where their increased fees are being spent.  This results in a dissatisfied populace that must bear the burden of higher prices with little justification – a recipe for instability.

 

On the other hand, direct taxation has different domestic implications.  First, direct taxation may introduce new democratic institutions.  With the VAT, citizens have a greater financial stake in the government’s budget and may desire to track the spending of their governmental contributions via the more traceable VAT.  Receipts may have to be shown, as there may be greater demand for increased transparency and accountability.

 

Secondly, the new national taxation also opens the door to the possibility of other kinds of taxes.  For example, the International Monetary Fund believes that income tax is “a necessity” for all GCC states.  The installation of a national taxation system establishes the preliminary organizations and institutions needed for a comprehensive taxation system, on which other taxation policies, such as income tax, may be built.  In an ironic twist, the VAT system and other taxation systems will create a new area of public sector jobs, imposing more pressure on the domestic budget.

 

The two domestic implications for the direct tax discussed previously also impacts Kuwaiti foreign policy.  The direct VAT does not only engender feelings of greater investment in Kuwait’s future by nationals.  The tax could give non-nationals a greater stake in Kuwaiti society.  All residents of Kuwait may become more invested in preserving the stability of the economy and the government.

 

The short term dissatisfaction with direct taxation may be ameliorated by greater exchange between residents and the National Assembly.  Increases in transparency and accountability improve governance and domestic stability (Lederman et al 2005).  A stable domestic populace consolidates the state and allows for the conduct of a united foreign policy.  Thus, while taxation may be unpleasant in the short-term, in the longer term the domestic stake in governance may increase transparency, accountability, and political stability.


**Dr. Shareefa Al-Adwani is an Assistant Professor of Political Science in the Department of International Relations at the American University of Kuwait.  She completed her PhD in Political Science at the University of California, Davis, focusing on the two fields of International Relations and Quantitative Methods.  She teaches courses related to Kuwaiti foreign policy, international law, international organizations, politics and women in the Middle East, and quantitative methods.  Her current research projects involve (1) the investigation of GCC socio-political phenomenon and changes over time using recently available government data and (2) using various new and existing cross-sectional time-series data to investigate the domestic factors for international cooperation, treaties, and agreements.


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