The impacts of the implementation of the VAT in Kuwait

As for Kuwaiti business projects and Kuwaiti traders, they are not submitted to taxation concerning the income tax resulting from operating of their projects, and they only have to pay the national labor support tax at a rate of 2.5%, Zakat at a rate of 1%, and the Kuwait Foundation for the Advancement of Sciences tax at a rate of 1%.

This light tax burden helps to raise the standard of living of the Kuwaiti citizen, and allows the Kuwaiti merchant to compete favorably over the foreign businesses that are established in the country.

In any case, the policy of exempting citizens from income tax does not appear to be in line with the principles of the World Bank, which always seeks to eliminate any preferential treatment that differentiates between a local and a foreign investor.

This bank usually considers that it is not permissible to give preference to the national investor or the one who establishes a national company over the foreign investor, or even to the companies that open branches in the country; because this preferential treatment creates a kind of inequality in competition.

Some GCC countries follow this path, where we noticed that the Saudi foreign direct investment system has sought to achieve equality between local and foreign investors.

Despite this global and Gulf orientation, the tax policy in Kuwait is still conservative about opening Kuwait’s markets to foreign direct investment in the absence of a Kuwaiti industrial and agricultural sector capable of competing with foreign direct investment, which the Kuwaiti trader or project cannot face in light of Experience and financial capabilities if the tax treatment is fully equal.

However, we find that Kuwait did not tweet outside the Gulf flock regarding value-added tax, but rather participated in the issuance of the Gulf agreement, and signed it, although the law regulating this tax has not yet been issued, and a debate may arise in the National Assembly before its approval, regarding the fundamental Kuwaiti vision which is totally different from the mechanism of imposing value-added tax on the citizen’s consumer directly, while exempting the merchant from it, who may be a foreigner.

A-The effect of the tax on the economy:

First: The impact of any tax on the economy can be determined through the following points:

  • The targeted segment of the taxation; which is of course the consumer when it comes to paying the value-added tax. It is necessary to point out the direct effects that will affect the target group of consumers from the tax, especially the following segments:
  • The unemployed, as they will suffer in the first place, and their suffering will increase directly, regardless of the state’s aid provided to them; Because this aid will not be considered enough comparing to the high prices, and this segment may not be able to bear until the positive effects of the tax starts to appear, otherwise the society will have a segment that is getting poorer and is in constant need of social aid.
  • Low income earners, who are employees of the public sector in particular, as well as the private sector. They receive a fixed salary that does not change in a flexible and immediate manner which also does not match with the high prices. Even if wages are raised, this process will be difficult and slow and will not cover the high cost of living caused by the Value added Tax.
  • Legal Entrants, and they are a segment that works in the country based on a work residence permit, and they receive a fixed salary without even the support of labor from the state, and they do not have – for the most part – a fixed residence, so imposing a value-added tax on their income will mean the difficulty of continuing to work and the lack of economic feasibility of alienation, which will push large numbers of workers, competencies, experts and consultants to leave their jobs, which will cause a large scale of job vacancies in the public and the private sectors.
  • National industrial projects; As the value-added tax will raise the prices of raw materials, and factories will find difficulty in marketing and distributing their products (especially luxurious commodities) due to the low purchasing power of consumers.
  • Contractors who signed contracts to implement projects with the state or its business partners for a long-term partnership; as these may lose the entire profit margin they planned for, regardless of the methods of contract modification or partnership, and the reason is that giving the contractor a higher margin of profit will be difficult to deal with the contracting routine of the state or governmental agencies, and amending any contract can compensate the contractor for the cost of some materials, but it will not be able to compensate the contractor for the decrease in purchasing rate of some partnership projects in which dealings are direct with the consumer segment, for example.
  • Small and medium-sized enterprises that receive support from the governmental fund for these projects, as they have arisen mainly through business incubators and stand on a weak financial ground. This means that if the economic conditions change and the income of consumers decreases, these projects would be negatively affected in a profound way that no one would have been expecting. The best example for such an incidence happened to the small projects that failed due to the Corona crisis.

Second: the beneficiary of the tax; State public treasury.

  • The segment for which the tax burden may be reduced; It is the one that pays taxes equivalent to the value added tax, such as the net income tax paid by foreign institutions in Kuwait. This segment may be the first beneficiary of the value-added tax, because if the state obtains the value-added tax, it can reduce the tax burden on these projects or grant them tax privileges, especially in light of major strategic projects; Such as real estate projects that establish completely new cities.
  • All this margin of change is taking place in the interest of foreign institutions; because the tax revenue that the state was taking will come through the added value, and the state will be able to grant tax concessions to foreign direct investment.
  • Therefore, the state that imposes the value-added tax receives the satisfaction of foreign investors in the first place, and becomes amenable to direct investment, and this increases the flow of foreign funds for investment, so the state’s stock of foreign exchange reserves increases and the growth rate rises in all its sectors, which will be reflected in the form of time As an increase in income, wages and welfare.

Third: The economic sector that is targeted by the tax;

  • There is no specific economic sector targeted by this consumption tax, but the value added affects all economic sectors without any exception, except for those that the state excludes with a special text or a reason.
  • This means that every person on the state’s land is targeted by this tax, regardless of the nature of his job, needs or circumstances.
  • Therefore, the state cannot control the effects or trace down the tax, no matter how organized the tax is imposed and no matter how many exceptions there are, and the reason is that the added value will be obtained from all commodities, no matter how simple they are.
  • In this context, some countries are trying to mitigate the impact of the tax by granting some taxpayers the right to recover the excess amount they paid on the good or service as a tax, but even in this case, the consumer will have to pay first and then go through the refund procedures.

B -What are the positive effects of value added tax?

First: The direct positive effects; the most important ones:

  • An increase in tax revenue; thus, the state will enjoy a new stock of liquidity that does not stop as long as consumption continues.
  • Reducing the burden of tax collection and the salaries of its cadres, given that the temporary taxpayers will play the role of the tax collector until the supply cycle reaches the consumer.
  • Economic projects obtaining liquidity from their role as a tax collector; These projects, whose budget the tax proceeds pour into, can benefit from taxes before transferring them to the public treasury.

Second: The indirect positive effects; they are many and profound, such as:

  • The growth and development of government projects that are financed from tax revenues.
  • Upgrading the government services.
  • Strengthening and linking production and consumption projects directly without the presence of intermediaries to reduce the burden of tax, and this will lead to the emergence of new markets and innovative investment opportunities, especially with regard to electronic consumption.
  • The increase rates of foreign direct investment, if the tax is accompanied by reducing the burden on foreign projects.

C-How do the negative effects of value added tax seem like?

First: The direct negative effects

  • Spiking prices with the same regular quality.
  • Inflation & raising the cost of living regarding the constant level of wages.
  • Increasing the burden of aid and subsidies on the state after the high prices spread and knowing that the regular amount of aid will not be sufficient any longer.
  • The high risks of opening small and emerging projects in the period of instability that will follow the imposition of the tax, given the caution of consumers from the high prices that will be imposed.

Second: Indirect negative effects

  • The possibility of spreading exploitation practices towards the consumer.
  • The possibility of merchants forging commercial documents and business records in order to withdraw the tax from consumers without paying it to the public treasury; For example, by reducing the market values of goods and services.
  • The departure of foreign experts who have fixed incomes, and the difficulty to replace them.
  • The widening gap between the segment of workers and the segment of traders and owners of industrial projects.

International Department Team

Dr. Bader S. Al-Otaibi

Law Firm & Intl. Arbitration

Contributing Advisors