Just one day after the Kingdom’s microlenders mutinied and said they would not implement a government directive requiring all financial institutions to implement a 10 percent value-added tax (VAT) on fees for financial services, the Tax Department announced it would back down and temporarily suspend the controversial decree until it could conduct a study and address private sector concerns.

The General Department of Taxation (GDT) said in a release yesterday that the implementation of a May 25 prakas that more clearly defines the government’s laws for nontaxable supplies concerning primary financial services would not be implemented “until further notice”.

“[The] GDT will cooperate with the private sector to examine and clearly study the definition of the phrase ‘primary financial services’ and the implementation of [the] VAT,” the announcement said, adding that the government was doing this to provide more consistency in regards to the law.

Bun Mony, an adviser to the Cambodia Microfinance Association, which on Wednesday announced that its entire membership of over 60 microfinance institutions had flatly rejected to implement the VAT, said yesterday that he welcomed the GDT’s decision to suspend its implementation, adding that operators can now take the time to properly prepare themselves for any future changes.

“This is truly great for financial operators and consumers because it reduces the extra workload that we were worried about,” he said.

Stephen Higgins, managing partner of investment and advisory firm Mekong Strategic Partners, said the GDT appeared to be taking a sensible move, adding that the measure was a bad idea to begin with.

“The imposition of VAT on financial services is generally avoided around the world as it is an inefficient way of raising revenue,” he said.

Higgins said the VAT on financial service fees would only add approximately $25 million to government coffers based on the sector’s performance last year.

“That is probably not much higher than the VAT that banks are currently paying on their expenses, but [they] can’t offset [that] as an input credit against VAT,” he said.

He added that customers could be hit by higher banking costs as banks and MFIs pass on the large investment costs in IT required to properly process the VAT on fees.

“I’m sure the National Bank of Cambodia, and indeed the broader community, would rather see this investment going into things like digital financial services, which would help financial inclusion, improve customer service and deliver a more efficient financial sector,” he said.

Clint O’Connell, head of tax practice for foreign investment advisory and tax firm DFDL Cambodia, said suspending the implementation of the May 25 prakas on VAT “is a common sense and practical move by the GDT given the potential economic ramifications to the banking sector and its customers”.

“It could be argued that the consultative process between the tax officials and the banking community should have occurred prior to the issuance of [the decree],” he said. “However, in this instance, it seems to be a case of better late than never.”