Introduction of VAT by 2019 means GCC salaries are 'poised to rise'

Author: Criselda Diala-McBride | Date: 15 Mar 2016

Tax and HR experts weigh up the impact of proposed tax scheme on labour market

In February this year, Gulf finance ministers reportedly agreed to introduce on a region-wide five per cent value-added tax (VAT) by 1 January 2019.
 
That decision is not expected to have a “transformative effect” on the labour market – but it could have an impact on employees’ salary demands, according to Justin Whitehouse, indirect tax leader at Deloitte Middle East.
 
“VAT is often considered by economists as being the least harmful form of tax. My speculation is that the impact on the labour market will be relatively modest, if any,” says Whitehouse. “The medium-term effect would be on the prices of goods, and employees are expected to consider this when negotiating pay rises.”
 
Martin McGuigan, head of rewards consulting at Aon Hewitt Middle East, agrees, adding that the new tax system could lead to a long-term adjustment on compensation levels.
 
“Everybody has choices to make on where they work and how they are paid for their involvement,” he explains. “Typically when people change roles, they tend to get paid more. If organisations see a pattern emerging and they are losing key contributors because they are behind the market, then they will adjust their pay to catch up with their competition – salaries will rise.”
 
But McGuigan cautions that such trends are usually a lagging indicator and the budgeting process would take several cycles to catch up.
 
As early as 2006, governments across the Gulf region have proposed the introduction of VAT –but it was only in 2015 when discussions progressed, as shrinking hydrocarbon revenues forced authorities to seek alternative sources of income. According to the UAE’s Ministry of Finance, VAT could add around AED12 billion (US$3.3 billion) per year to the nation’s coffers.
 
While governments have discounted the possibility of imposing income tax on the region’s predominantly expatriate workforce, studies are being conducted to determine the feasibility of introducing corporate tax and levy on remittances.
 
Unlike Whitehouse, McGuigan believes that the shift from zero- to low-tax environment could discourage thousands of expatriates from working in the UAE, and neighbouring GCC countries.
 
“One of the region’s main attraction has, for the longest time, been the [zero-tax climate], therefore tax implementations would not only have a negative effect on discretionary spending, but also the ability for people to work, move or save money,” he says.
 
And with a large proportion of expatriates making up the GCC workforce, McGuigan points out, “those who feel strongly about the [tax] implementations might choose to return to their home countries”.
 
Employers will be hit as well if governments decide to implement corporate tax, because salaries are a large part of the operating expense for most organisations in the region.
 
“The proposed corporation tax would be more complex to introduce and would involve a long-term plan,” says McGuigan. “Any costs and requirements associated with VAT will also have to be carefully budgeted [for] in the business models to offset any financial [shocks].”
 
Meanwhile, Whitehouse asserts that VAT itself will have a minimal effect on expatriates’ decision to work and live in the GCC.
 
“What you’ve got to remember is that most countries around the world [already] have a VAT or sales-tax system in place. In my opinion, the core [factors that encourage] people to come here are lifestyle and availability of work,” he says. “The question then is ‘will organisations still come to the GCC despite the VAT’ – and the answer is yes.”
 
Whitehouse says that, in his experience, VAT often appears at the bottom of investors’ list of priorities – with most of them not even considering it – when deciding to locate in a particular market.
 
“[For organisations,] the decision to set up in a particular location is influenced by the availability of labour force and the ease of doing business,” he concludes.