A bank teller counts dirham notes. Image Credit: Gulf news archives

Dubai: The introduction of a value-added tax (VAT) system may cushion the impact of low oil prices, but it could reduce the competitiveness of economies in the Gulf Cooperation Council (GCC), especially UAE, an economist has warned.

Tax reforms could also stir public dissent in certain Middle Eastern countries, like Saudi Arabia, Bahrain, Kuwait and Oman, where the public is sensitive to taxation.

Alp Eke, senior economist at the National Bank of Abu Dhabi (NBAD), said there is indeed a need for GCC economies to broaden revenues, but it is wise for governments to focus on reducing expenditures first before introducing tax reforms.

“Unfortunately, VAT in any rate will reduce the competitiveness of GCC economies, especially UAE,” Eke told Gulf News.

The UAE, known the world over for being a tax-friendly nation because of its zero direct tax policy, has been rated highly in international studies, ranking 12th in the world in the recent World Economic Forum’s Global Competitiveness Index, ahead of 22 European Union-member countries.

In the same study, the UAE earned significant scores for its tax environment, as well as for its overall infrastructure, stable macroeconomic environment, effectiveness of government institutions and ease of access to finance.

“One of the main pillars of GCC, especially UAE’s competitiveness and strong appeal for international investors is the business-friendly environment and non-tax,” said Eke.

The introduction of tax reforms has long been discussed in the GCC. In early 1990s, representatives from GCC nations conducted a feasibility study on the proposal to implement corporate taxes and VAT to support local economies. As a result Oman implemented a corporate tax in 1994, although some sectors were later exempted.

The idea was discussed further in various meetings and conferences, but talks fizzled out during the global economic recession in 2008 and Arab Spring in 2011. With the recent drop in oil prices, there is an emerging interest in the proposal.

Analysts have said that since the economies in the region are facing the possibility of incurring budget deficits due to the significant oil price decline and governments are determined to push through with their “ambitious agenda”, the VAT proposal is again gaining strong interest.

Reports from the World Bank and International Monetary Fund have strongly suggested that GCC countries should remove subsidies to cut down on expenditures and implement tax reforms as a way to cope with fluctuating oil prices.

“Recent various committees have already been established regarding the matter, and there were talks by end of February 2015 about VAT introduction. A range of 4 to 6 per cent VAT has been proposed but not confirmed yet. It will not be a general VAT, but it will probably be different rates for different sectors,” said Eke.

Eke said implementing VAT in the UAE may either go unnoticed or create minor dissent, but the reaction in Saudi Arabia, where there is 12 per cent unemployment, as well as in Oman, Bahrain and Kuwait- which are all sensitive to taxation- will be different.

“UAE [and] Qatar are more resilient ... [But the] introduction of VAT soon after the accession [in Saudi] will reduce political support for the new government and might cause public dissent,” Eke said.

“A similar reaction might happen in Oman and Bahrain as well. Kuwait does have a parliamentary system, and VAT will not go well with parliament members.”

Eke said it may be necessary to find ways to reduce expenditures first. “First, subsidies will be gradually reduced, then government spending on non-critical items will be reduced, and later if necessary, the situation will be evaluated.”

“After all the previous measures have been implemented and if necessary, a very nil 2 to 3 per cent VAT might be introduced.”

If a VAT system will be introduced, the economist suggested that various rates will be collected for various sectors. It is important to decide on which items to levy VAT and which items to exempt, and general food items must be exempted, otherwise, the low-income group will suffer.

“Before making such a high impact decision, GCC nations must consult with experts from Europe and gain from their know-how. European nations who have some form of VAT since 1950’s and have a lot of experience. I believe the first VAT was introduced in France in 1948,” said Eke.