By: Staff Writer
August 26, Colombo (LNW): The International Monetary Fund (IMF) has proposed reforms to enhance the fairness and progressivity of Sri Lanka’s tax system by introducing a nationwide property tax.
The report suggests taxing the imputed rental value of owner-occupied homes as an effective way to generate revenue while adhering to constitutional limits that prevent direct taxation of property at the central government level.
This approach, combined with a progressive tax rate and suitable exemption thresholds, is expected to increase fiscal consolidation by targeting wealthier individuals with minimal economic distortion.
For effective implementation, the IMF emphasizes the need for substantial investments in data infrastructure, including the establishment of a digital registry for property sales and rental values.
Additionally, the report proposes improving subnational assessment rates (local property taxes) and suggests complementary reforms at both the national and subnational levels to ensure a fairer and more productive tax system.
Meeting the goals set under the current IMF program will necessitate new central government taxes. The IMF notes that Sri Lanka has committed to overhauling its property tax system and introducing a wealth transfer tax to support fiscal consolidation.
However, given that the constitution directs property-related tax revenue to subnational governments, which currently contributes around 0.2% of GDP, the IMF recommends taxing imputed rental income from owner-occupied and vacant residential properties.
This strategy would allow the central government to raise revenue without breaching constitutional constraints, as the tax would be levied under the Inland Revenue Act.
Imputed rental income is defined as the hypothetical income homeowners could earn if they rented out their properties. For taxation purposes, this income could be calculated as a fixed percentage of the property’s market value.
While this method avoids the legal challenges of direct property taxation, it shares similar economic implications, such as enhancing the tax system’s progressivity. However, the limited data on market values makes it difficult to predict the revenue generated by such a tax, with the IMF cautioning that it may fall short of expectations.
To address potential shortfalls, the IMF suggests additional tax reforms, including revising the capital gains tax to replace the current exemption for the first home with a value threshold. The report also recommends aligning the VAT treatment of owner-occupied housing with international standards by taxing the first sale of residential property.
Moreover, increasing stamp duties on lease contracts and vehicle registration fees could reduce transfers to local governments. In the medium term, the IMF advises reducing reliance on stamp duties at both central and local levels. If further revenue is needed, an electricity surcharge could be introduced, although it would be less equitable and not as effectively targeted.
