So much has been said about the salary adjustment. While many people are opposed to it over the perception that it imposes higher taxes, public sector employees and teachers think that an adjustment is long overdue. For one, their salaries have been adjusted only twice — in 2008 and 2012 — since 1997, and these salaries have failed to maintain their purchasing power. That is, the rise in prices of more than 120 percent over 20 years has eaten up part of their income in real terms, and reduced their standard of living.

Public debate has simmered for five years over how to finance the salary adjustment bill. Twenty-two taxes were signed into law on August 21, but are currently under review by the Constitutional Council. They include an increase in VAT, stamp duty tax, an air transport exit fee, as well as capital gains on the disposal of fixed assets, corporate income tax, and taxes on interest, among others, to cover additional spending.

As many can get caught up in choosing sides, it is important to reflect on how the issue was framed over the last few years, how the debate took place, and how and why it was settled now. It is through this that we can better understand the intentions and priorities of the political elite.

Let us start with the issue at hand, namely, why was the salary adjustment bill presented as a separate expense that requires additional financing? The fact that state revenues have increased over the last 20 years, partly as a result of the rise in prices, suggests that salary adjustment ought to be financed from revenues. In other words, the increase in public sector salaries should be treated like any other expense in the budget, and revenues should not be viewed as being earmarked to finance a particular expense. Hence, what is required from the government and Parliament is a study of revenues and spending in the budget together — often referred to as unity of the budget — to figure out ways to address the fiscal situation in the country. The government should have examined public salaries, current spending, and capital spending to reduce expenditures in addition to its revenue stream, including public property management and taxes, some of which are under-collected.

In other words, the salary adjustment bill should be framed as part of total spending and revenues in the budget, rather than isolating additional salary expenses. The latter has resulted in muddying the debate over salary adjustment and made the beneficiaries a target for a general public that pays taxes to finance public workers’ salaries, among other state expenses. In reality, the public is shouldering more of the tax burden to make up for public finance mismanagement on the part of the government and Parliament, both of which have failed to prepare, debate, and approve a budget for the last 12 years to ensure fiscal discipline, and effective, efficient spending. The absence of such a credible process hardly fosters requisite trust between the political class and voters.

Another common argument in the public sphere centers on the assertion that a salary adjustment is undeserved because Lebanon’s bureaucracy is overstaffed, unproductive, and it is fiscally draining on the treasury. This does not hold water for two reasons: One, while some state agencies are overstaffed, many are understaffed, casting doubt on the policies that subsequent governments are pursuing in terms of wanting to build a professional bureaucracy. Public sector reform that addresses tasks, salaries, and merit criteria is sorely needed. Lest we forget, the government has tasked the Office of the Minister of State for Administrative Reform with reforming the public sector administration, which remains as elusive as ever, since the problems lay first and foremost with the same people who are asking to reform it: political parties who are using government agencies to deliver services to and hire people who are politically loyal, and serve their political and electoral ends.

Any serious reform to the bureaucracy cannot be carried out through denying a salary adjustment to public sector employees that is not based on merit, but rather, on salaries’ purchasing power. Furthermore, asserting that all public staff do not deserve a salary adjustment on equal terms fails to distinguish between those who are productive from those who are not, and fails to recognize that they are entitled to the adjustment under Lebanese law.

One thing that is clear is that the political elite — both in government and Parliament — are unwilling or incapable of raising revenues and curbing spending by tackling waste, mismanagement, and corruption in the public sector. There are many public allegations about unnecessary spending or state properties being stolen or underinvested. What is worse is that many parliamentarians are content making speeches about corruption in parliamentary oversight sessions, but rarely follow it up with action. Others manage to unearth corruption deals after a bill has passed, and not before. The fact that the government is not increasing revenues or lowering spending by tackling mismanagement and corruption indicates clearly that they are unwilling or incapable of threatening the interests of cronies, either due to collusion or fear.

The easiest route to shore up public revenue is to increase taxes. While their instinct is to impose indirect taxes that fall disproportionately on middle and lower income groups, they have opted to actually distribute the burden between consumers and capital. In fact, the increase in VAT from 10 percent to 11 percent will make up about 18 percent of the total of new revenues. The increase in interest tax from 5 percent to 7 percent will make up 25 percent of new revenues.

Despite the fear mongering rhetoric of the private sector about the implications of new taxes on the economy, such new taxes include a capital gains tax, corporate income tax, property sales, and interest tax, which in total cover half of new spending from the salary increase. As modest as it is, some of these taxes can rectify the burden that usually falls on consumers, rather than on capital, businesses, and other types of rents that are left untaxed. The government’s tax policy since the end of the civil war has favored indirect rather than direct and progressive taxes, in the process, favoring the rich over the poor.

It may very well be of no coincidence that tax legislation was passed after the electoral law, and with the election season just around the corner, as it is becoming the norm that salary bills like the one in 2008 and 2012 are made before scheduled elections. Over the last five years, no government or Parliament established a proper process to deal with how to finance a salary adjustment. As contentious as the issue is, the political elite could have studied it as part of the budget, figured out how to cut waste and tackle corruption to finance it, and then studied its impacts on various sectors and the public. This is what any decent government or Parliament should have done if they care about the public. In fact, this is how one would go about gaining back the people’s trust.

The package of tax measures recently signed into law and published in the Official Gazette was characterized by a lack of any fiscal and economic vision. It does not proceed from a well-designed tax policy addressing the various gaps and imbalances that characterize our fragmented and complicated set of taxes. As we all know, our tax system relies heavily on indirect taxes. Many sources of income are untapped, and there is no single overall income tax rate for individuals, as we are still living under the old-fashioned French “cedular” system of income tax, whereby each source of revenue is assessed and taxed separately with different rates. In fact, one of the most urgent tax reforms should have been to replace this old fragmented income tax system with a unified single rate applying by tranches to the total of all combined revenues for each individual. This is a system that could yield substantial amounts to the treasury, while making the life of taxpayers much easier, as just one tax return would have to be filed by them. It will also make life much easier for the Tax Administration Directorate.

As for the increase in VAT by 1 percent, this does not make much sense. It would have been more efficient to leave all essential goods at the rate of 10 percent, while creating a new rate for luxury goods at the level of 14 percent or 15 percent. The yield to the treasury would have been much higher, while for the poorer part of the population there would have been no increase in the price of essential goods. There is no doubt that the trade sector will take advantage of the 1 percent increase in VAT to raise prices by several percentage points, especially for goods imported from Europe, as the euro is on an ascending trend vis à vis the US dollar.

This increase in the VAT rate will also be amplified by the numerous increases in stamp duties, as well as in public notary fees. It should be noted here that most countries canceled stamp duties when they introduced a VAT system, but Lebanon did not, keeping old dating duties and excises taxes.

Missed opportunities

The increase in the tax rate for revenues of companies from 15 percent to 17 percent is not a bad measure, but it could have been raised up to 18 percent or even 20 percent, given the needs of the treasury to reduce the ever-increasing gaps in public finance, and to avoid future changes in the level of companies’ rate of taxation.

On the other hand, the increase in the tax on interests paid on deposits, or on state treasury bills in Lebanese lira from 5 percent to 7 percent, could have been advantageously replaced by a decline in interests paid by the treasury on its borrowings in Lebanese lira and US dollars, or by the decline in the central bank payment of high interests on the certificates of deposits it issues for subscription by local banks. In this regard, it is important to note that a 1 percentage point decline in interest rates paid by the state on its total debt of $75 billion, represents a decline in its annual debt service of $750 million, a huge amount indeed. It is also worth mentioning here that interest payments by the state on its public debt is the second largest item in budget expenditures, and therefore, there is a need to reduce the cost of servicing the debt. It would be preferable to reduce the present level of interest paid on Lebanon’s public debt, instead of increasing taxation on all deposits, either belonging to residents or to non-residents. After all, our national debt is being refinanced through an increase in deposits in the banking system accruing from the annual flow of emigrant remittances. Therefore, taxing interest revenues is not a very healthy measure. In any case, it would have been adequate to exempt small deposits from paying this tax. 

As for the fines that the new law has imposed on those that have infringed the law on exploiting the state maritime domain, I do not believe that the treasury will collect large amounts of unpaid rents and fines. This is because the basis of the rents to be paid are still determined according to a 1992 decree by the then-government, which states the square meter value of rented land along the coast by region at prices that are no longer relevant, given how much real estate prices have been going up during the last few decades.

One should not be surprised by the heteroclite nature of all these tax measures, considering that for years successive Lebanese governments have had no vision or plan on how to reform Lebanese public finances, except for the short period of the Hoss Government in 1999-2000 which produced a detailed fiscal consolidation plan for 1999-2004. It might be time for Lebanon to seriously plan an escape from the vicious economic and financial circles the country has trapped itself in. Until such a plan emerges, we remain enclosed, increasing anxiety in public opinion about our economic and financial stability.

After deliberating for much of 2017, Parliament met in late July to ratify new taxes. The legislation then sat on the desk of President of the Republic Michel Aoun for nearly a month, while he contemplated whether or not to sign the taxes into law. In late August, he finally inked his name, briefly ending a period of public uncertainty and frustration around lawmakers waffling on the issue. But, adding a fresh layer of confusion, as Executive went to print the Constitutional Council issued a freeze on the tax hike pending further review.

The measures had, when first announced in the opening months of this year, led to street protests against a hike. Throughout the year, there was much confusion over which new taxes would be introduced or increased, how much more people and businesses would have to pay, when the new measures would enter into force, and what the revenues would actually be used for. It did not help that conflicting narratives from both  sides of the aisle skewed the public conversation, confusing — intentionally or not — the details of the taxes and necessity of the measures. In an effort to make sense of the discourse at the time, Executive reported in April that opaque decision making made for confused tax policy.

Public perception then was that the new taxes would pay for a salary increase for public sector workers, but that is not accurate, as Director General of the Ministry of Finance Alain Bifani pointed out more than once and reiterated in an interview with Executive (see page 44). The legislation does not allocate the added revenue that the new taxes would generate. Instead, that money will head to the treasury toward covering the deficit. Deficit spending is set to increase because of the salary increase estimated at $1.2 billion — a figure that could grow or not depending on public sector recruitment — and that  new spending needed to be covered by revenue that did not exist, hence taxes. So yes, it is true that the new spending is correlated to the new taxes, but the new revenue is not specifically allocated to pay for the wage increase.

According to the Ministry of Finance all taxation money is fungible and not tied to a specific purpose. That is the principle. This principle is practically invisible to the public, and has not been properly explained by MP’s and ministers. It also seems that some members of the Lebanese Parliament might not know the term fungible, or have little understanding of taxation, so even they have linked the new taxes to the salary scale. But the reality is that these taxes are not designed for paying the wage scale increase, but for filling a hole (the deficit), which is being made bigger by the wage increase.

For much of the year, the government did little to correct this narrative with the general public. Since  the new taxes were announced, Executive has sought to understand their mechanics, and though the topic had come up in a March interview with the Ministry of Finance, the answer then was that the ministry was not yet in a position to detail the proposed taxes.

All but two of the new taxes (see box list of taxes) entered into effect immediately upon publication of the legislation in the Official Gazette on August 21, 2017 — though are now frozen.

An increase of the Value Added Tax (VAT) to 11 percent will not take effect until the start of the fourth fiscal quarter of the year, October 1, the law reads. The rate at which corporations will be taxed was increased to 17 percent to be applied at the start of next year, January 1, 2018. 

The Ministry of Finance estimates the new taxes together will generate additional revenue of LL410 billion ($272 million) for the remaining months of this year, and in 2018 estimates collection of LL 1.6 trillion (more than $1 billion), excluding the new alcohol tax revenue as the Ministry of Finance expects that measure to be revisited.