This article first appeared in The Edge Malaysia Weekly on October 10, 2022 - October 16, 2022

A surprise reduction in individual income tax rates for the middle-income group, or better known as M40, and a slew of generous handouts for the bottom 40% of the population drew mixed views and left consultants perplexed as to how the government would fund Budget 2023.

They generally feel that there are no major tax reforms in the budget but noted several initiatives to improve collection — a move they describe as timely.

Budget 2023 saw a two percentage point tax reduction for those with a chargeable income of between RM50,000 and RM100,000 annually. Those with chargeable tax income of between RM50,001 and RM70,000 will see their tax rate reduced from 13% to 11%, and those in the RM70,001 to RM100,000 bracket will have their tax rate reduced from 21% to 19%.

The reduction in tax rates is expected to benefit some one million tax payers, who would save between RM200 to RM1,000 each.

At the tabling of the budget last week, Finance Minister Tengku Datuk Seri Zafrul Abdul Aziz said the initiative is expected to increase the people’s income by RM800 million.

KPMG Malaysia head of tax Soh Lian Seng welcomes the tax cuts as the middle-income group had been left out from the previous budget, which focused more on the B40 group.

“With the additional cash to spare, it would help to spur consumer spending and the economy. The middle-income group has been affected by inflationary pressure; this is one of the tools to help them,” he tells the Edge.

Soh notes that while there are no new tax reforms to increase collection, the budget has the largest development expenditure.

“There were more subsidies and handouts than the previous budget. But I don’t have the information yet as to how the government is going to fund the budget,” he says when contacted.

Ernst & Young Tax Consultants Sdn Bhd managing partner Farah Rosley reckons that the government, in not introducing any new taxes, is responding to an increasingly challenging economic environment and uncertainties on the global front.

“The government, however, has introduced e-invoicing to digitalise the tax structure and increase Customs enforcement which could increase its revenue. Perhaps income from oil would help to provide the revenue that the government needs.

“The economy is expected to see higher growth that, in turn, would see better indirect revenue for the government,” she says.

PwC Malaysia Tax Leader Jagdev Singh points out that while the reduction of personal tax rates is estimated to cost the government about RM800 million, it has projected an increase in tax collections across various avenues, from corporate income tax to personal income tax and sales and services tax.

“This could be a reflection of the government’s confidence that the economy will continue to recover to pre-pandemic levels, resulting in higher tax collection contributed by individuals returning to the workforce at higher wage levels, profits from recovering businesses and increased audit activities by the tax authorities,” he says.

In 2021, the government collected RM36.40 billion in revenue from individual income tax, lower than the RM38.95 billion collected in 2020, and estimates it will collect about RM37.51 billion this year.

Dr Yeah Kim Leng, professor of economics at Sunway University Business School, points out that about 56% of total government revenue in 2021 came from direct taxes on companies, individuals and others.

The remainder of federal government revenue includes indirect taxes such as sales and service tax, excise duties, non-tax revenue and non-revenue receipts.

“Lower income tax collection therefore has a sizeable impact on government revenue,” he says, in reference to the proposed individual income tax reduction for the M40 group.

He expects that the government’s revenue collection will undershoot the projected amount if economic growth falls below expectations and commodity prices — particularly for crude oil, natural gas and palm oil — decline.

“The government will have to depend on non-tax revenue such as profits from Petronas and other government-owned corporations. It could also raise revenue through divestment of assets and privatisation,” Yeah says.

Bank Islam Malaysia Bhd chief economist Firdaos Rosli says lower direct tax collection could pave the way for the reintroduction of the goods and services tax (GST) in the future.

“I appreciate the government’s move to reduce the income tax rate by two percentage points, yielding a higher disposable income to M40 salary earners. Having said that, I am doubtful it will lead to higher indirect tax revenue as the present system is not broad enough,” he says.

“Perhaps the idea here is to pave the way for the reintroduction of GST in the future. In contrast, policies encouraging savings, such as a higher EPF voluntary contribution and ASB thresholds, may drive households to save rather than spend,” he says.

Responding to a question on how the government would fund Budget 2023, Firdaos says debt-led growth was likely as the projected revenues and operating expenditures are at par.

“It can be challenging as the government’s debt service charges have already breached the 15% administrative level,” he adds.

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