On 27 August 2024 the OECD published its latest Economic Survey of Malaysia. The survey notes that Malaysia’s economy has grown significantly since the 1960s, with a higher per capita income than other countries in the region. Malaysia is projected to achieve the World Bank’s threshold for high-income countries by 2028. The strong growth has also resulted in a decline in poverty rates and an increase in labour force participation.

More government spending will be required in the future. Pension coverage is inadequate, as more than 60% of the population are not covered by an old-age pension scheme. This problem could become worse as the population ages. Non-contributory social assistance pensions could improve the situation, but their current coverage and levels are low.

The survey notes that Malaysia spent 3.5% of GDP on fossil fuel subsidies in 2023, but these subsidies are ineffective as a social policy tool. Fossil fuel subsidies send the wrong price signal in relation to reduction of greenhouse gas emissions. Spending needs to be moved from subsidies to pensions and social assistance benefits, to promote social inclusion.

The survey indicates that total government revenues as a percentage of GDP have been falling in recent years, to 15.1% in 2021. Of this amount, around 3.9% of GDP is collected from non-tax revenues, mainly petroleum-related revenues. Tax revenue as a percentage of GDP was therefore only 11.2% in 2021.

The 2024 budget showed a smaller contribution from oil-related earnings reflecting a diminishing reliance on petroleum-driven income streams. This is to be expected as it is in line with the global shift away from fossil fuels. This means that Malaysia will need to mobilise additional tax revenues, to finance future spending needs.

In 2024 the Malaysian government introduced new tax measures, including a luxury goods tax and a capital gains tax, but these are projected to collect additional tax revenues of only 0.2% of GDP. The government also plans to implement the global minimum tax.

The report notes that Malaysia could collect up to 3 percentage points of GDP in additional tax revenues in the short term, and more in the long term. Taxes on goods and services would be the most important for increasing collection. Consumption taxes provide a stable revenue source and are often less harmful to economic growth, with fewer distortions for the economy. They are relatively simple to enforce and difficult to avoid. Increasing taxes on goods and services could be accomplished by re-introducing the GST, which was removed in 2018, keeping the rate low. Any potential regressive distributional effects could be offset through social transfers to vulnerable households, rather than exemptions and reduced rates which would disproportionately benefit higher income households.

Malaysia could also raise further revenue through environmental taxes and health taxes such as those on tobacco, alcohol and sugar-sweetened beverages. By imposing a direct cost on the polluter, environmental taxes provide incentives for pollution abatement and encourage consumers to switch to new products and processes that can reduce the polluters’ tax burden. Environmental tax revenues could be used to finance targeted transfers to low-income households.

Personal income taxes are paid by only 15% of Malaysia’s labour force. In 2021, they accounted for 15.6% of tax revenues, mainly due to a high basic allowance below which no personal income taxes are due. Personal income tax revenues amount to only 1.75% of GDP. The tax base is narrow with around 63% of personal income taxes, social contributions and indirect taxes collected from the 10% highest income earners in 2019. There is scope for reducing the taxable income thresholds at which top personal income tax rates are levied, and for reducing the number and extent of tax expenditures in personal income taxes.

The OECD survey indicates that corporate income tax accounts for around 40% of Malaysia’s tax revenue. Malaysia’s 24% statutory corporate income tax rate is above that of neighbouring economies, but tax expenditures like investment incentives reduce the revenues from corporate taxes. There may be scope for reducing tax incentives after an evaluation of their usefulness.