Ripples from the Sales and Services Tax

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The historic change of government on May 9, 2018 saw the removal of one of the previous administration’s most unpopular economic policies: the GST. Introduced to widen the government’s tax base and to cover projected government budget shortfalls amid falling oil prices and reduced petroleum revenue, the GST was however seen as the primary reason for the rise in the cost of living in the country.

In general, GST imposes the same tax rate on all households, and so, high-income households end up having a much higher proportion of income to spend and to save, while middle and low-income households with less disposable income face more financial difficulties with the increasing prices. In this sense, the higher tax burden is actually shouldered by the latter groups, and therefore, GST is deemed as a regressive tax. Low-income households, in particular the Bottom 40 household groups, are significantly and adversely affected by the price increase in food, groceries and other everyday household items.

Pakatan Harapan (PH)’s election promise of abolishing the GST is seen as one of the main reasons for the coalition’s unexpected victory.

In the wake of the demise of the GST in Malaysia came the reinstatement of the Sales and Services Tax (SST), which was a tax system that Malaysia had utilised before the GST came along in April 2015. This makes Malaysia the first country ever to reinstitute SST after the imposition of GST. Even though GST is acknowledged as an efficient and transparent taxation system, SST is regarded as a friendlier and fairer tax system for the people.

GST vs SST

The regressive nature of the GST is reflected in the fact that it is a value-added and multi-layer tax, and a 6% tax was imposed at every stage of the supply chain. Despite the GST having a credit system in place to avoid “double tax” by allowing businesses to offset GST paid on purchases, it still resulted in higher prices for the final consumer.

In contrast, SST is a single-stage tax regime, applied once only to manufacturers, importers and service providers, where tax rates are set at 5% to 10% on the sale of goods, and 6% on services. SST is not levied on wholesalers, trading companies, retailers and final consumers. The compliance costs for medium to small business owners in the middle of the supply chain is reduced, hence easing business operational costs.

The thresholds stipulated for SST registration is RM500,000 in total volume of sales and services for manufacturers, importers and service providers. The food and beverage industry was an exception, being given a higher threshold of RM1.5mil in total turnover.

Finance Minister Lim Guan Eng had stated that the SST will be beneficial to the welfare of the people and will ease the financial burden of the lower income groups, even if it meant collecting less government revenue in addition to pressurising the government’s fiscal position1 . From the business point of view, it is estimated that approximately 100,000 companies are subjected to the SST compared to 472,000 companies under the GST. The switch back to SST therefore reduces the tax burden of small and medium enterprises (SMEs).

Previously, the GST had imposed taxation upon a total of 11,197 goods. The SST, however, levies a 10% tax on 5,612 goods and a 5% tax on another 793 items. This effectively exempts 4,792 goods from taxes, in comparison to the GST. SST also narrows the tax base for services, as only 43.5% of services are subjected to the 6% service tax, while previously the GST imposed tax on 64.8% of services. Where goods in the Consumer Price Index (CPI) basket is concerned, 38% of goods and services are taxed under the SST, in contrast to the 60% under the GST.

In this sense, the government loses an annual revenue of approximately RM23bil as SST will only collect RM21bil, whereas RM44bil would have been generated under the GST. However, this also signifies that RM23bil is now injected into, or left within the economy as disposable income for households, increasing the marginal propensity to consume.

Prices were expected to decrease with the abolishment of the GST. To the extent that that happened, consumer purchasing power and private consumption were increased. As prices underwent slight increases after SST kicked in, however, businesses subjected to it are expected to pass on the tax to end users.

Effects on Consumer Prices and Consumers

With the abolishment of the GST, June saw a 0.8% year-onyear growth in inflation for Malaysia, marking a 40-month low. Prices of clothing and footwear; furnishings; and household equipment underwent a year-on-year decrease of 3.1% and 1.0% respectively. Food and non-alcoholic beverages were among the main groups that observed an annual increase (1.8%), while transportation marked a highest increase of 5.5% due to higher fuel prices in June 2018 compared to June 2017.

At 0.2%, Penang’s June inflation rate was much lower than the national rate, marking a similar trend in price change for all main groups, with the exception of health, where Penang saw a negative change in contrast to Malaysia’s positive change. The rate of increase in the index of food and non-alcoholic beverages, and restaurants and hotels was also lower for Penang.

In looking at the monthly percentage change in CPI, prices saw a significant reduction in the month of June, marking a monthon- month percentage change of -1.2% for Malaysia, and -1.5% for Penang (Figure 1). Figure 2, illustrating the month-on-month percentage change in the CPI of main groups, narrowing on specific months of May, June and September, shows that prices decreased for all main groups for the month of June.

In particular, the main groups of communication (Malaysia: -3.0%, Penang: -3.0%) and recreation services and culture (Malaysia: -2.9%, Penang: -3.6%) saw the biggest negative change in prices. Clothing and footwear (Malaysia: -2.6%, Penang: -3.2%) and the basket in furnishings and household equipment (Malaysia: -2.4%, Penang: -2.2%) also marked significant contractions in prices. In addition to the tax-free holiday, retailers had discounted prices of certain goods in light of Hari Raya Aidilfitri and Hari Gawai Dayak.

With the reinstatement of SST, September’s monthly percentage change in CPI increased in comparison to the previous two months, but not significantly – a 0.2% increase for both Malaysia (0.4% in total) and Penang (0.5% in total). Inflation across most main groups stood between 0.1% and 0.9%. The food and non-alcoholic beverages index registered a 0.2% change for Malaysia and a 0.4% change for Penang. The index for clothing and footwear for Malaysia decreased by -0.1%, but increased by 1% for Penang.

However, communication, and restaurants and hotels – both being service providers – recorded a higher percentage of price increases. The CPI for communication saw a 2.3% and 2.5% monthly increase for Malaysia and Penang respectively, while the percentage increase for the CPI for restaurants and hotels sat at 2.1% for Malaysia, and 3.0% for Penang.

In an interview, Leow Bit Pang, a homemaker who runs her own home-baking business, Honeybee Delights, had hoped for prices to decrease following the abolishment of the GST. However, she said that prices of goods were largely the same in the zero-tax months of June to August; hence her expenses and the costs of her business had remained unchanged.

“I felt that prices of goods have somehow gone up,” Leow says, when asked about the effects of SST, with emphasis on food items. She noted that there were multiplying effects in determining the prices of goods – for example, if one commodity did not decrease in price, other commodities would not be inclined to do so. In contrast, she felt that prices of clothing and footwear had decreased slightly during the taxfree period, as the monthly changes in the corresponding CPI index had shown.

SST’s role in lowering the cost of living is largely dependent on sellers and providers dropping their prices. If those groups are largely unresponsive, then no positive changes can be expected to the cost of living.

Effects of GST and SST on Producer Prices and Producers

From the side of producers and suppliers, the Producer Price Index (PPI) is expected to observe similar trends compared to the CPI. Producer prices are expected to increase following the restoration of SST, resulting in a ripple effect in the cost of production. However, the trend for yearon- year percentage change for the PPI is different from that of the CPI.

The PPI for June saw a year-on-year increase of 0.1% in comparison to the same period last year, with the mining sector and crude materials for further processing observing positive price changes of 33.1% and 12.3% respectively. As mentioned, this may be due to the fact that fuel prices were higher in comparison to the same period last year. The return of SST did not impact prices as expected, as PPI was down by 0.2% for the month of September. The manufacturing sector’s year-on-year decline of 1.7% likely contributed to the contraction, as the sector holds a weightage of 81.6% in the PPI basket.

The effects of GST and SST on producer prices are perhaps better illustrated by the monthly percentage changes (Figure 3). With the elimination of GST, the PPI for local production fell by 0.7% in June, compared to May. Figure 4 shows negative changes in prices across each sector, with agriculture, forestry and fishing, and mining seeing the biggest drop, 2.8%.

In terms of local production by stage of processing, PPI showed lower prices across all three stages for the month of June (Figure 5). The index for crude materials for further processing experienced the largest decrease at -1.7%, where the largest negative change was observed in the sub-sector of non-food materials except fuel (-3.9%).

With the reintroduction of SST, PPI increased as projected for the month of September, experiencing a 1.2% increase in prices. However, not all sectors contributed to the growth in PPI, as prices for agriculture, forestry and fishing as well as electricity and gas supply saw a decline.

Nevertheless, the index for the mining sector surged by 10.3%, which was the highest sectoral percentage increase for the year thus far. The manufacturing sector, having the highest weightage, saw an increase of 0.3% in its price index, with the manufacture of wearing apparel observing the highest percentage in positive price changes among all the sub-sectors (1.4%). Similarly, an upturn was seen in the PPI for all three stages of processing, with the highest percentage of increase being in the index for crude materials for further processing (4.1%), buoyed by a 7.4% increase in the sub-sector of crude fuel.

Looking at the country’s manufacturing sector, the eradication of the GST produced a positive effect, as the Purchasing Manager’s Index (PMI) for June saw a 4.0% monthly increase to record the first positive change in three months (Figure 6). On the other hand, since the reading stood below 50, it did signify that manufacturing activity contracted for the month of June, but at a slower rate comparatively. IHS Markit, in their analysis, noted that the removal of GST had weakened input cost inflation, causing a decrease in input prices.2 Nevertheless, manufacturers chose to maintain output prices amid optimism towards future output and expectations of increasing sales.

However, manufacturing activity increased in September in spite of SST, recording a year high index of 51.5, continuing the expansion from the month of August. Increasing new export orders and the higher rate of job creation contributed to the expansion, withstanding higher input costs and the inflationary impact of the SST. The effects of the tax were more largely felt in the following month, where the manufacturing sector registered a negative -4.5% growth to record an index of 49.2. SST was seen as one of the contributing factors towards rising costs pressures which led to the contraction of the sector. Additionally, rising global prices for raw materials and unfavourable exchange rates for the ringgit also worsened business conditions.

However, manufacturing activity increased in September in spite of SST, recording a year high index of 51.5, continuing the expansion from the month of August. Increasing new export orders and the higher rate of job creation contributed to the expansion, withstanding higher input costs and the inflationary impact of the SST. The effects of the tax were more largely felt in the following month, where the manufacturing sector registered a negative -4.5% growth to record an index of 49.2. SST was seen as one of the contributing factors towards rising costs pressures which led to the contraction of the sector. Additionally, rising global prices for raw materials and unfavourable exchange rates for the ringgit also worsened business conditions.

In an interview, Yeoh Seng Hooi, the national secretary for the Small and Medium Enterprises Association (SAMENTA) Malaysia, reflected that, on the whole, input prices had not dropped for manufacturers, as seen in the individual PPI for crude materials and intermediate materials. “For example, a supplier who imports raw materials and supplies would be subjected to a 5% to 10% sales tax. Although SST will not be levied at manufacturers who purchased the imported materials, the fact is, the tax is reflected onto the selling prices. In this sense, the manufacturers are effectively paying a higher price.” The same principle applies to retailers and trading companies who purchase goods from manufacturers; therefore, prices at the consumers’ end are unlikely to experience huge decreases.

Additionally, Yeoh also pointed out that taxation is just one component in the determination of prices, and therefore, businesses cannot be expected to show an immediate drop in prices in the light of friendlier taxation systems. “Both input and output prices are affected by other factors in the economy. For instance, fuel prices and higher wages due to the implementation of the minimum wage will create a positive push in terms of costs for the SME industry and the manufacturing industry,” says Yeoh.

In an effort to stabilise the general level of prices, the relevant authorities may perform price checks in the effective execution of SST in order to stop certain businesses from profiteering. Nevertheless, Yeoh cautioned that the seeming non-compliance of some SMEs and small manufacturers is not deliberate at times, as they do struggle with issues of pricing certain products and transfer pricing. “Enforcement needs to be a little more accommodative towards smaller businesses, who will face more implementation problems compared to the bigger corporations,” says Yeoh.

In conclusion, it is still too early to make a definitive inference on the effects of SST, and the prices of goods in the SST period as opposed to the GST period have yet to be directly compared. Yeoh is of the opinion that the real impact of the SST on households and industries, and on the cost of living is more likely to be felt in the first and second quarters of 2019.

The government needs to be judicious in monitoring SST implementation to ensure fairer and more stable prices for both consumers and producers. Furthermore, the taxes collected have to be properly invested in ensuring development for the country. The costs and standards of living for the people will undoubtedly be improved with positive economic growth and development.



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