A commentary / opinion piece by S. Saravana Kumar, Tax Lawyer Expert,
Partner at RDS Partnerships
Head for SST & Customs at RDS Advocates & Solicitors
The recent debates surrounding tax hikes in industries like alcohol and tobacco have underscored a critical challenge: how to balance the need for government revenue with the risk of driving consumers toward illicit markets. As taxes increase significantly after years of no change, these industries face multifaceted challenges that have far-reaching implications for their long-term financial stability.
The Ripple Effect of Tax Increases
When the government implements substantial excise tax hikes on alcohol and tobacco products, companies are compelled to raise their prices accordingly. However, this leads to a shift in consumer behaviour, with some opting to reduce consumption or switch to cheaper, lower-quality products, counterfeit, including illicit or contraband goods. This shift is not just a minor inconvenience – it poses a significant threat to the legal sales volumes of these industries and results in substantial tax revenue losses for the government, estimated at around RM5 billion annually due to cigarette smuggling alone.
In response, companies might adjust their pricing strategies by absorbing some of the tax increases to maintain their competitive edge and customer base. However, this tactic puts pressure on profit margins, complicating long-term financial planning. As a result, businesses may resort to cost-cutting measures, such as reducing their workforce or marketing budgets, further impacting their growth and stability.
The Unpredictable Terrain of Consumer Behavior
The unpredictability of consumer responses to price increases and the potential rise in illicit trade make accurate revenue projections increasingly challenging. This uncertainty hampers companies' ability to plan for the future, invest in new products, or expand into new markets. To mitigate these risks, businesses may need to diversify their product lines or focus on lower-taxed alternatives, such as heated tobacco products or e-cigarettes.
The Case for a Multiyear Tax Calendar
One potential solution to these challenges is the implementation of a multiyear tax calendar which has been implemented by countries like Germany and Romania. By providing businesses with a clearer understanding of future tax liabilities, a multiyear tax calendar allows for better financial planning and reduces the likelihood of sudden price shocks to consumers. This approach not only benefits businesses by offering stability but also helps consumers by providing predictability in product pricing.
A multiyear tax calendar can also mitigate the incidence of illicit trade by reducing the temptation for consumers to turn to illegal markets due to abrupt price increases. However, from an economic standpoint, the government would need to address potential revenue shortfalls while continuing to fund public welfare initiatives, including managing rising healthcare costs.
Striking a Balance: Government Strategies
To strike a balance between tax revenue needs and the risk of driving consumers towards illicit markets, the government could adopt several strategies. First, stricter law enforcement and criminal prosecution, coupled with more severe penalties for illicit trade, could deter illegal activities. Additionally, digital tax codes could replace traditional tax stamps, which are often counterfeited, contributing to the high prevalence of illicit cigarettes in the market.
Another approach could involve "revenue recycling," where the tax collected is reinvested in evidence-based tobacco or vape control practices. This could help create positive change and reduce the negative effects of tobacco or vape use. Furthermore, public awareness campaigns about the risks associated with illicit products and the safety and quality of regulated products could play a crucial role in curbing illicit trade.
A Collaborative Effort
In conclusion, the challenges faced by the alcohol and tobacco industries in the wake of significant tax increases are complex and multifaceted. However, by adopting a multiyear tax calendar and implementing strategic government policies, it is possible to strike a balance that ensures business stability, protects consumer interests and mitigates the risks of illicit trade. It is only through a collaborative effort between the government and the industry that these challenges can be effectively addressed, paving the way for a more sustainable future for all stakeholders involved.
