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Policy Notes No. 2014-1

ISSN 2350-7152
February 2014

How did the Philippines level its tax treatment of

imported and local distilled spirits?
R. Clarete1

On February 22, 2012, the Dispute Settlement Body (DSB) of the World Trade Organization (WTO) found the
Philippines to have violated its national treatment obligation on distilled spirits, urging the government to undertake the
required correction to the relevant tax laws. The body ruled in favor of the European Union, which filed the complaint
on July 29, 2009, alleging that the Philippines had discriminated against imported distilled spirits by taxing these
products at higher rates than distilled spirits derived from sugar and other designated materials. Under the national
treatment principle, a contracting member state is committed to apply its internal taxes equally on both imported and
locally produced products covered.

On January 28, 2013, the Philippines notified the WTO that it had complied with the decision of the DSB by enacting
the Sin Tax Reform Law of 2012.

It turns out that the Sin Tax Law had taxed local spirits at a higher rate compared to imported ones. This is
documented in this note, along with a discussion on the implications of the distortion on the local markets of
distilled spirits.

Equivalent ad valorem tax rates

The Sin Tax Law (STL) corrected the non-compliant features of the country’s excise tax law on
distilled spirits over a period of two years. The 2012 law replaced the old with the combination
of ad valorem and specific excise taxes. In particular, from January 1, 2013, the start of the
implementation period, the taxes are: (a) the ad valorem tax rate of 15 percent of the net price
per proof volume of the spirit, and (b) the specific tax rate equal to PhP 20 per proof volume that
was levied up to December 31, 2014. From January 1, 2015 onward, the former goes up to 20

1 The author is Dean and Professor at the University of the Philippines School of Economics. The views expressed are those of the author and do
not necessarily represent the views of PCED.
2 The particular provisions cited in the complaint included GATT 1994: Art. III: 1, III: 2.
3 This complaint is DS403. See http://www.wto.org/english/tratop_e/dispu_e/cases_e/ds396_e.htm for more information.
4 Most of locally produced spirits are made out of sugar.
5 This is Republic Act 10351, which Congress enacted on December 11, 2012.
 Policy Notes
No. 2014-01 February 2014
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percent from 15 percent. Then starting January 1, 2016, the specific

Box 1.
rate will be increased at the rate of four percent each year to account
Equivalent ad valorem rates
for inflation.
t1
= 100% +t2 To compare how the STL tax rates on spirits compare with the old,
p/PL
equivalent ad valorem excise tax rates, which reflect both the ad
where T is the equivalent ad valorem tax valorem and the specific tax rates, were computed using the formula
rate: t1 is the specifc excise tax rate; PL shown in Box 1.
(proof liter) is the volume in liters multiplied
Before January 1, 2013, there were four tiers of specific excise taxes
by the proof of the spirit and t2 is the ad
on distilled spirits. Those made from local raw materials were assessed
valorem tax rate in percent; and p is the
an excise tax of PhP 13.59 per proof liter (ppl). The rest were subject to
net retail price per liter. before the Sin Tax
varying specific excise tax rates, depending on the net retail price of a
Law, t2 was zero.
750 ml bottle of distilled spirit.

Distilled spirits of this category, whose net retail price per 750 ml. bottle were less than PhP 250,
were assessed the specific tax rate of PhP 146.97per proof liter (ppl); those at least PhP 250 but
less than PhP 675, PhP 317.44; and finally those whose prices were at least PhP 675, the tax
rate was PhP 634.90.

The data used in computing the equivalent tax rates came from a survey done by the Distilled
Association of the Philippines (DSAP). DSAP did two price surveys of spirits sold in Metro Manila
nine of which were
in April and September 2010. The April survey comprised 23 brands, none
imported, and the rest were locally produced. There were five categories of spirits included,
namely brandy, gin, rum, vodka and whisky.

The second price survey included more categories of spirits (tequila and others were added)
and covered a total of 339 distilled spirits. Fifty eight percent (58%) of the sample were
imported spirits.

The price data were validated. Those products whose prices could not be validated as accurate
were excluded. The remaining data, which this study used in computing the equivalent ad
valorem tax rates, included only those spirits whose prices were validated to be accurate. Out
of about 339 spirits covered by the DSAP survey, only about 283 products, of which 153 or 54
percent were imported spirits, had accurate prices.

Figures 1a and 1b illustrate the equivalent ad valorem tax rates before and after STL. Before the
STL, the ad valorem equivalent tax rates (ETR) on imported spirits were generally higher than
those on locally made spirits. The minimum ETR was 0.56 percent, and the rate goes up to 283
percent. The simple average ETR for imported spirits was 27.47 percent. In contrast, locally
made spirits had the minimum ETR of 0.27 percent and the maximum rate of 130 percent. Their
average ETR was only 10.07 percent.
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No. 2014-01 February 2014
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Figure 1a.
Ad Valorem Equivalent Rates of Pre-Sin Tax Law Specific Excise Taxes on
153 Imported and 130 Local Distilled Spirits Sold in Metro Manila

100
Percentage

local

Imported

80

60

40

20

0
20 40 60 80 100 120 140 160

Figure 1b.
Ad Valorem Equivalent Rates of Post-Sin Tax Law Specific Excise Taxes
on 153 Imported and 130 Local Distilled Spirits Sold in Metro Manila

local
Percentage

50
Imported

45

40

35

30

25

20

15

10
20 40 60 80 100 120 140 160
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The Sin Tax Law (STL) generally reduced the ETRs of imported spirits and increased those of locally
produced brands. This is in compliance with the ruling of the WTO that the Philippines corrects its
discriminatory excise tax treatment against imported spirits and in favor of locally made ones.

Accordingly, the average ETR of imported spirits declined to 22.25 percent, while that of local spirits
increased to 29.81 percent. The maximum ETR of imported spirits fell to 33.16 percent, while the
lowest ETR was 20.10 percent.

Local spirits, on the other hand, have a higher average ETR of 29.81 percent, up from only 10.07
percent, and representing an increase of 196 percent. Their ETRs range from the lowest of 20.4
percent to the highest of 53.8 percent.

Another change is the now more uniform ETRs of distilled spirits compared to before STL. These
ETRs are responsive to price changes. In this study, the variability of prices of distilled spirits were
controlled by using the prices prevailing in 2010.

Table 1 shows the breakdown of these changes by categories of distilled spirits. Imported
whisky brands fetched the highest average ETR (36.86 %) before STL, while imported rums had
the lowest average ETR (2.95 %). Imported brandies followed with the ETR of 31.82 percent,
and imported vodkas, which had the most number of product lines in the survey, had the
average ETR of 27.54 percent.

Table 1.
Average Ad Valorem Equivalent Tax Rates of Excise Taxes on Distilled Spirits (in percent)

No. of products Pre-Sin Tax Law Post-Sin Tax Law

Imported Local Imported Local Imported Local
Brandy 38 22 31.82 7.36 23.58 30.83
Gin 3 26 24.81 5.67 21.69 28.35
Rum 8 18 2.95 6.51 21.60 29.58
Tequila 5 6 26.78 3.12 22.14 24.59
Vodka 54 18 27.54 4.87 21.97 27.17
Whisky 29 6 36.86 4.52 22.04 26.65
Others 16 34 12.84 22.03 20.93 33.26
All Brands 153 130 27.47 10.07 22.25 29.81
Source: Author’s computation
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With STL, imported whisky products had the largest decline, from 36.86 percent to 22.04
percent. The average ETRs for imported brandy and vodka are respectively 23.58 percent and
21.97 percent.

While all imported spirits experienced a cut in ETR, this was not the case for imported rums.
The average ETR for rums, which used to be at 2.95 percent before the Sin Tax Law, rose to
21.60 percent.

The figures illustrate the statutory intent of the previous law. It had nothing to do with
discriminating between imported and locally made spirits. The distinction was done at the level of
what materials distilled spirits were made of. Rums are derived from sugar, and sugar is among
the designated raw materials that the law entitled the finished spirit to the lowest tier of excise tax
rate, regardless of whether it is imported or locally made.

In practice however, most imported spirits were made out of non-designated materials. Thus,
these products had higher excise tax rates than locally processed ones, which are mostly made
out of sugar.

The average ETRs of all locally processed spirits went up under STL. The new ETRs were at least 1.5
times higher than their pre-STL levels. Tequilas had the highest increase by the multiple of 7.89.

In summary, the average ETRs by types of distilled spirits show that STL overcorrected the
discriminatory tax treatment against imported distilled spirits. All of the pre-STL ETRs of local spirits
used to be significantly below those of imported ones. After STL, the pattern is reversed in all types.

The accurate alignment ought to have been that these rates starting on January 1, 2015 are equal
regardless of types or origin of distilled spirits, or even the type of materials they are derived from.
A simple way of doing this would have been to set these rates at uniform ad valorem tax rates.

In complying with the WTO directive, the government chose to increase the average ETRs of local
products and decrease those of imported ones. There could have been several permutations of
this including holding the ETRs of local products the same, and decreasing those of imported
ones significantly. However, this would not meet the other objectives, which are to raise tax
revenues and to discourage the use of alcohol, considered as a sin product.

Overshooting the target of uniform ad valorem equivalent tax rates regardless of the origin of
distilled spirits is the result of introducing specific excise tax rates into the formula. The net retail
prices of distilled spirits vary. A uniform excise tax rate (e.g. PhP 20 ppl and rising across all
brands at the rate of 4 % per year) would not produce a uniform ad valorem tax equivalent rate,
and because of their lower prices, local spirits would have higher ETRs.
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What Can Be Done?

It is unlikely that the Philippine government will go back to Congress just to correct the
discrepancy in ETRs between local and imported distilled spirits given the relatively difficult
process it went through in getting these rates adjusted. This distortion will have to stay for now.
Besides the Philippines would not receive a complaint about this from the EU or other principal
suppliers of distilled spirits.

The results have implications on the local market and governance. Raising the ETRs would not
automatically mean that tax collections would increase. There are two reasons why revenues
are unlikely to respond. One is that the market of distilled spirits in the Philippines is segmented.
Local processors of spirits had produced their brands to suit the local incomes of the majority of
consumers. By raising the average prices of local spirits, local processors would have to lower
the quality of their products to make prices of local spirits affordable to lower income consumers.

Reducing the ETRs of presently imported spirits will not reduce their prices to levels that the
majority of Filipino users of distilled spirits can afford. Importers would have to bring in a new set
of spirits, likely of lower quality and thus less expensive. They will also have to develop a new
distribution system to cater to the masses. Would this be worth the effort? Is there a significant
potential for scale economies from adopting this marketing strategy? Would foreign producers find
the Philippines a big enough market that they will develop new lines of inexpensive spirits, which
would cost them to produce and still allow them to pay for the marketing effort that stretches all
the way to the countryside?

Local processors have work to do as well because they are not used to paying excise taxes in
both ad valorem and specific forms. One immediate challenge they face is that their product is
now priced higher because of the higher ETR, and as mentioned above they may have to redesign
their products to reduce the adverse impact of higher prices on their respective market shares.

They have the other challenge of pricing and designing their products to defend their respective
shares of the market. One local producer already raised the problem of “going around in circles”.
This typically happens if one is producing differentiated products. The product specification
depends upon the price, but the price also influences the specification. This interdependence is
made more complicated by the fact that there is a 25 percent ad valorem tax rate on top of the
specific rate of PhP 20 ppl.

Uniform ad valorem rates would have made the work of local producers and importers simpler. One
decides on their product specification, determines the cost of producing it, adds on the tax cost to
it, and validates if the final price is competitive in the market. But the government has problems with
ad valorem rates because of a lack of an effective mechanism in finding out if production costs are
accurately declared or there is transfer pricing between related parties to a transaction.
 Policy Notes
No. 2014-01 February 2014
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In the meantime that these adjustments are being made, there is the opportunity of going around
the rules and evade the excise taxes. This concern needs to be addressed by not only the
Bureau of Internal Revenue but also the Bureau of Customs.

Design and layout by Janina Guerrero

PCED Policy Notes are based on the PCED-supported research of faculty and graduate students of the University of the Philippines School of
Economics that address specific questions on Philippine economic development. They aim to provide information that would be especially useful
to policymakers for decision-making as well as to scholars, journalists, and others.

The Notes are available online at http://www.pced.gov.ph/pcedpolicynotes.

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