Taxing remittances is not a good idea

Photo: istockphoto.com

Remittances sent by migrants have become a massive financial resource flow for developing countries with over $300 billion received annually. While most governments have encouraged efforts to increase these hard-currency flows through formal channels, some are considering taxing remittances as an additional source of revenue.     

A few receiving countries already tax remittances, often through indirect means. For example, remittances sent from the US to Cuba can only be paid to recipients in Cuban Convertible pesos (CUC) or Chavitos with a tax of 20 percent for conversion of US$ to CUCs. The US government and a US senator called upon Cuba to repeal this tax when the US lifted restrictions on sending remittances to Cuba. Other countries that have a parallel market premium with an overvalued official exchange rate, e.g., Ethiopia, Pakistan, and Venezuela to name a few, also implicitly tax remittances when they require recipients to convert remittances to local currency at uncompetitive official exchange rates. Philippines used to impose a small Documentary Stamp Tax (DST) of 0.3 pesos for every 200 pesos, but this was scrapped in November (see article).

Some destination countries also tax remittances but for different reasons. Oklahoma state in the US taxes remittances sent through money transfer companies – a fixed tax of $5 for amounts sent up to $500 and 1 percent above that (see article). Legal residents and citizens can apply for refunds when filing state taxes, so this tax appears to target undocumented migrants who are perceived to be putting a burden on public services. (Remittances sent through banks or credit unions are exempted.) Kansas is reportedly considering imposing a similar tax.

There are several reasons why taxing remittances is a bad idea:

• A tax on remittances is additional to income and sales taxes already paid by migrants. Imagine New York taxing the remittances of an employee who came from Washington! Or New York taxing this worker’s Christmas gifts sent to family members in Washington!

• A remittance tax would immediately reduce the incentive to send remittances and the amounts received by the beneficiaries, and ultimately the development impact of remittances. 

• A remittance tax would also drive these money flows underground. A shift of flows to informal channels can hurt efforts to leverage remittances for increasing access of recipients to formal financial services (financial inclusion) and to raise financing for infrastructure and other development projects (e.g., the recent US BRIDGE initiative).

• Such a tax is difficult to administer as remitters can resort to using informal channels. Also such a tax is highly regressive. And they produce huge deadweight losses as remittances are highly cost-elastic.

The action of the Philippines to eliminate the DST is commendable. Even though it will lose some revenues in the short run, the gains from increased remittances could easily outweigh the losses. Other countries that require recipients to exchange the remittances at overvalued official exchange rates should consider relaxing these restrictions.

Measures to appropriate some fraction of resource flows that have recognized development and poverty reduction impacts could prove counterproductive. Instead, facilitating remittances by reducing transaction costs and increasing transparency and competition, and leveraging these flows to increase access to finance of households and the capital market access of countries, can benefit both the migrants and their countries of origin.