Taxes, debt and de­vel­op­ment: A one-per­cent rule to raise rev­enues in Africa

Since build­ing the ca­pac­ity to col­lect more from per­sonal in­come taxes takes time, in the next few years VAT and ex­cise taxes are likely to of­fer the big­gest po­ten­tial for ad­di­tional rev­enue.

Financial Nigeria Magazine - - Contents - Vi­tor Gas­par, a Por­tuguese na­tional, is Di­rec­tor of the IMF's Fis­cal Af­fairs De­part­ment. Abebe Aemro Se­lassie is the Di­rec­tor of the IMF's African De­part­ment. Source: IMFBlog.org

Tax rev­enues play a crit­i­cal role for coun­tries to cre­ate room in their bud­gets to in­crease spend­ing on so­cial services like health and ed­u­ca­tion, and pub­lic in­vest­ment. At a time when pub­lic debt lev­els in sub-Sa­ha­ran Africa have in­creased sharply, rais­ing tax rev­enues is the most growth-friendly way to sta­bi­lize debt. More broadly, build­ing a coun­try's tax ca­pac­ity is at the cen­tre of any vi­able de­vel­op­ment strat­egy to meet the on­go­ing needs for ex­pand­ing ed­u­ca­tion and health care, and fill­ing sig­nif­i­cant in­fra­struc­ture gaps.

While our ad­vice will al­ways be coun­try and con­text spe­cific, we see po­ten­tial in many coun­tries of sub-Sa­ha­ran Africa to raise tax rev­enues by about one per­cent of GDP per year over the next five or so years. While this is am­bi­tious, ex­pe­ri­ence in the re­gion and else­where shows this is achiev­able in a sus­tain­able and busi­ness­friendly way. Im­prov­ing do­mes­tic ca­pac­ity for tax and other rev­enue col­lec­tion is a tar­get that coun­tries have agreed un­der the United Na­tion's Sus­tain­able De­vel­op­ment Goals (Goal 17).

Tax struc­tures in sub-Sa­ha­ran Africa

On av­er­age non-re­source re­lated tax rev­enues in the re­gion have in­creased over the last few years, but they re­main low by in­ter­na­tional stan­dards and rel­a­tive to the re­gion's sig­nif­i­cant de­vel­op­men­tal spend­ing needs. The tax struc­ture also mat­ters. Cur­rently, un­like ad­vanced economies, the share of per­sonal in­come taxes in the re­gion is rel­a­tively low, while the share of con­sump­tion taxes is higher. Over time, with the growth of in­comes, and as more eco­nomic ac­tiv­ity moves into the for­mal sec­tor, a coun­try can ex­pect the role of in­come taxes in rev­enue col­lec­tion to in­crease.

This has been the long-term trend in ad­vanced economies, where the share of mod­ern taxes, which in­clude in­come taxes and VAT, in­creased, while the share of tra­di­tional taxes (in­clud­ing in­her­i­tance taxes, ex­cise and sales taxes, cus­toms du­ties) de­clined.

We see sim­i­lar trends in sub-Sa­ha­ran Africa. For ex­am­ple, in Ghana the rel­a­tive im­por­tance of rev­enues from tra­di­tional taxes de­clined over the last 25 years from about 75 to less than 40 per­cent of to­tal tax rev­enue. The key dis­tinc­tion be­tween these two types of taxes is that mod­ern taxes rely on in­for­ma­tion from third-par­ties, such as em­ploy­ers, banks, in­vest­ment and pen­sion funds while tra­di­tional taxes, which are based on self-re­port­ing, re­quire less in­for­ma­tion and are eas­ier to ad­min­is­ter.

The fu­ture is now

Since build­ing the ca­pac­ity to col­lect more from per­sonal in­come taxes takes time, in the next few years VAT and ex­cise taxes are likely to of­fer the big­gest po­ten­tial for ad­di­tional rev­enue. For ex­am­ple, re­cent stud­ies by the IMF in­di­cate a rev­enue po­ten­tial of about 3 per­cent of GDP from VAT in Cape Verde, Sene­gal, and Uganda, and ½ per­cent of GDP from ex­cises for all coun­tries in sub-Sa­ha­ran Africa. Re­forms of the de­sign of fis­cal regimes for ex­trac­tive in­dus­tries such as oil and gas could help coun­tries se­cure a fairer share of rev­enue for the gov­ern­ment with­out com­pro­mis­ing in­vest­ment.

The im­pact of fis­cal pol­icy on in­come distri­bu­tion comes from both ex­pen­di­tures and tax. In coun­tries where fis­cal pol­icy has a sig­nif­i­cant im­pact in re­duc­ing in­equal­ity most of the ef­fect comes from spend­ing. This is par­tic­u­larly im­por­tant when as­sess­ing the VAT. While VAT can be re­gres­sive, the over­all im­pact on in­equal­ity is likely favourable if the rev­enues are used to fi­nance so­cial ex­pen­di­tures and pro­grammes tar­geted to peo­ple with lower in­comes.

It is also im­por­tant to con­sider newer sources of rev­enue, such as prop­erty taxes. At present the con­tri­bu­tion from prop­erty taxes is very low – at most half a per­cent of GDP. In ad­di­tion to its con­sid­er­able rev­enue po­ten­tial, coun­tries can use prop­erty taxes as an in­stru­ment of re­dis­tri­bu­tion. Prop­erty taxes are eq­ui­table and ef­fi­cient, but their ef­fec­tive de­sign and im­ple­men­ta­tion de­pends on ad­min­is­tra­tive ca­pac­ity. Where a typ­i­cal prop­erty tax is not vi­able, there may be sim­pli­fied schemes, such as area-based sys­tems that gov­ern­ments can use in­stead. Also, the use of new tech­nolo­gies for map­ping and col­lect­ing taxes pro­vides am­ple op­por­tu­ni­ties for leap-frog­ging to bet­ter tax sys­tems.

Be­yond the need to re­cal­i­brate cur­rent taxes and con­sider new ones, there are sev­eral ad­di­tional fac­tors hold­ing back coun­tries in sub-Sa­ha­ran Africa from achiev­ing their tax po­ten­tial:

· There are vis­i­ble weak­nesses in the ar­eas of pol­icy de­sign, le­gal and reg­u­la­tory frame­works and ad­min­is­tra­tion. Ex­am­ples in­clude the ex­ces­sive use of tax ex­emp­tions and in­cen­tives, as well as base ero­sion and profit shift­ing away from the re­gion.

· Poor le­gal draft­ing re­sults in ar­bi­trary in­ter­pre­ta­tion of pre­vail­ing rules and in­creases the cost of com­pli­ance.

· The lack of risk-based au­dits, weak co­or­di­na­tion be­tween tax and cus­toms ad­min­is­tra­tions, low lev­els of tax re­turn fil­ing, lim­ited use of mod­ern tech­nolo­gies, and in­ef­fec­tive tax­payer services point to sig­nif­i­cant weak­nesses in tax ad­min­is­tra­tion.

To help ad­dress these short­com­ings, the IMF, in­clud­ing through its re­gional tech­ni­cal as­sis­tance cen­tres, is work­ing with coun­tries to de­velop Medium-Term Rev­enue Strate­gies. The con­cept was de­vel­oped and pro­posed by the Plat­form for Col­lab­o­ra­tion on Tax, and is a high-level roadmap coun­tries can use for tax sys­tem re­form with a four-to-six-year time hori­zon.

The ap­proach treats tax­a­tion as a sys­tem cov­er­ing tax pol­icy, law, and ad­min­is­tra­tion. Medium-term rev­enue strate­gies rely on a broad so­cial and po­lit­i­cal com­mit­ment to tax sys­tem re­form. These strate­gies, which are de­signed in close part­ner­ship with coun­tries, set clear quan­ti­ta­tive medi­umterm tax rev­enue ob­jec­tives. A few coun­tries, in­clud­ing Uganda and In­done­sia, have al­ready be­gun de­vel­op­ing their strate­gies.

Rais­ing rev­enues is of­ten a po­lit­i­cally dif­fi­cult task. But the cur­rent eco­nomic junc­tion in sub-Sa­ha­ran Africa to­gether with sus­tained de­vel­op­ment needs cre­ates an im­per­a­tive for ac­tion now.

Abebe Aemro Se­lassie

Vi­tor Gas­par

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