26 October 2016

Uganda: Agriculture Grows but Tax Contribution Remains Low

While the agricultural and services sectors have grown over the years, their contribution of tax revenue to the national treasury has remained dismally low, a study has found.

Researchers Joseph Mawejje and Ezra Munyambonera at the Economic Policy Research Centre (EPRC) found in a 2016 study that there were mismatches in contributions of economic sectors to overall tax revenue performance.

The study, titled Improving tax revenue performance in Uganda, found that the dominance of agriculture was the biggest impediment to tax revenue performance in Uganda.

A one percentage increment in the growth of agriculture is associated with a 2.3 percent decrease in the tax-to-GDP ratio.

"One possible explanation is that Uganda's agriculture sector is largely smallholder and informal and, therefore, potentially difficult to tax," the report says, adding that the sector has also been a major beneficiary of tax exemptions.

According to Bank of Uganda, the services sector is estimated to have grown by 6.6 per cent in 2015/16 from 4.5 per cent in the financial year 2014/2015. Agriculture expanded by 3.2 per cent in 2015/2016 from 2.3 per cent in financial year 2014/2015.

The main drivers of growth for the services sector are information and communication services, while fishing and cash crops are the main drivers of the agriculture sector performance.

In the 2014/15 financial year, then finance minister, Maria Kiwanuka, announced an 18 per cent Value Added Tax on agricultural inputs. This policy created a public outcry, especially from some members of Parliament and the civil society, who thought government had attacked a livelihood that many poor Ugandans depend on.

In September 2014, parliamentarians adopted a report calling government to scrap the tax. More than 68 per cent of Uganda's population is engaged in agriculture, but researchers say this is mainly low-productivity subsistence farming, which has a negligible impact on tax contribution.

Another sector whose growth does not seem to influence the tax-to-gross ratio domestic product ration is the services sector, the study noted.

"This should be of major concern because it has been a major driver of growth in Uganda," the study says, revealing that a one percentage point growth in services is associated with a 0.06 reduction in tax contribution.

The researchers say while it may look statistically-insignificant, it is a major setback to efforts to increase tax revenue. They attribute this performance of the sector to "non-response to tax evasion, the high informality in the sector and revenue losses from tax exemptions."

Researchers add that the sector is laden with high illicit financial flows arising through the importation of services from companies located in tax havens or from countries that Uganda has a double taxation treaty with. In many cases, these services are overpriced, and not even delivered, as companies look to belly up their costs in order to pay low tax.

Uganda's services sector, which includes banks, telecoms, hotels and hospitality, is one of the fastest-growing in the country. However, enormous growth has been registered in the services sector such as boda boda transport, who don't pay income tax.

Expectedly, the informal sector was also found to have a striking negative effect on revenue performance. A one percentage point expansion in the informal sector was associated with a one per cent decline in tax contribution. "A large informal sector makes tax collection difficult," the report notes.

At least 60 per cent of trade in Uganda is done informally, meaning less tax is collected. Meanwhile, the industrial sector, which takes up manufacturing, was found to have a positive impact on taxes. A one percentage increase in industry resulted in 0.3 per cent increase in tax.

This, the study says, is because the sector can support value addition in agriculture through agro-processing. However, its expansion has been the most dismal.

Bank of Uganda says manufacturing activity slowed down in the last financial year, growing at 0.4 percent, down from a growth of 11 per cent in 2014/15. The depreciation of the exchange rate was one of the challenges that the manufacturing sector grappled with.

Trade openness and government's expenditure on developmental projects such as infrastructure were also found to have positive contribution to taxes collected.

The report, however, recommended the prudent use of funds allocated for development expenditure so that the money is absorbed in the right areas for a positive impact.

Uganda has had a hard time boosting its tax-to-GDP ratio, which has stagnated at 13 per cent. The regional average is at 18 per cent.

"The tax revenue increase will be achieved by improving efficiency in tax administration, increasing the tax base by reducing the size of the informal sector, and increasing investment in tax collection infrastructure," says BOU in the June 2016 state-of-economy report.


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