5 August 2017

Ethiopia: Better to Tax Directly Than Presumptively


The controversies surrounding tax estimations of small business have uncovered pitfalls within the tax system.

Over the past decade and a half, enormous work has been done to improve the tax system. Various proclamations, regulations and directives have been enacted. Institutional strengthening, trying to bring a large number of businesses into the tax circle, strict tax enforcement and education have been accompanied by ups and downs, partly due to the fault of the tax authorities, and partly because of the poor tax paying culture of businesses.

The tenacity with which the tax authorities have enforced tax compliance has resulted in increased tax receipts. Yet, the tax to gross domestic product (GDP) ratio stands at 13.5pc, which is far lower than many of the sub-Saharan countries. The government is planning to increase it to 17pc by the end of the second growth and transformational plan (GTP) in 2020, which seems unrealistic considering recent figures. Last year's federal tax receipts were disappointing. They were 81pc of the budget.

With unwavering commitment, the federal government needs a big slice of its revenue to come from local sources to cover its expanding expenditures. 2016/17 tax receipts were less than 50pc of the total government spending. Regional governments are flexing their muscles too, to boost their tax revenue as their tax receipts account for less than 20pc of their expenditures.

One area, where the tax authorities paid overwhelming attention to increase tax revenue is category "C" taxpayers, who pay based on estimates. This category of taxpayers are required to have minimal records as they cannot afford the cost of detailed record keeping for taxation. Estimation is employed in determining turnover and profit margin for calculation of tax bills.

The trouble is that estimates are prone to corruption, errors and controversies even though they are substantiated by surveys. When there is mounting pressure to increase tax receipts, the possibility of tax estimation causing uproars is huge. When reward systems of employees of tax authorities are heavily tied to the amount of tax collected, it is a no brainer that aggressive tactics will be employed by employees of tax authorities to calculate and collect taxes.

To make matters worse, the assessments were undertaken after six years, while they should have been done every three years. These have resulted in massive tax bills that are hard to swallow for thousands of small businesses.

Complaints related to taxation are unavoidable even with the most efficient tax system. Yet, what the recent estimates have done is unleash mountains of complaints, which cannot be dealt with easily in a short space of time. Taxpayers can absorb gradual tax increases. Sudden tax hikes, no matter what their justifications, send tremors across a country.

Small business owners are many and are found at the bottom of the business ladder. They are also exposed to all kinds of economic vagaries, employ a large work force, have a low level of tax understanding and a poor tax paying culture. Rigorous measures to include this class of businesses into the tax loop is a comparatively recent phenomenon, so they tend to reduce their tax bills by any means.

Heavy-handed approaches to tax collection from small businesses will not work. Addressing these taxpayers requires sensitivity, caution and a long-term plan.

Despite there not being a legal requirement, small business should be encouraged to keep records and use accountants. Taxation based on documentation is less controversial, reduces complaints and is much easier to administer.

Fairness in taxation fosters compliance. Small businesses operate with volatile revenue in a tough business environment - they require hard work. Lowering the tax rates these businesses are subjected to, or giving considerable relief, would encourage compliance. Reasonable annual adjustments (increase or decrease) on taxes based on sample surveys may be applied for small business, which do not maintain records, as a full assessment of businesses is not practical. This makes market assessment a continuous process that equips tax authorities with the latest market information. No amount of surveys can avoid complaints so there should be a fair, transparent and accountable way of dealing with them.

Moving to boost indirect and other forms of direct taxes should be taken into consideration until the culture of paying taxes flourishes, and tax authorities come up with proper mechanisms less subjective at calculating income. The aim of this policy is to calculate revenues that escape direct tax, and to levy from a large number of taxpayers, without inflicting serious pains on their wallets. Their administration can also be done with ease.

Increasing value added tax (VAT), capital, gains, dividend and interest taxes could be considered. For example, the expanding financial sector could be a target for interest tax. Increasing tax on interest and dividends by 5pc will enable the government to collect more than a billion Birr in taxes annually.

Identifying the channels where other types of indirect taxes can address a large number of taxpayers will help increase revenues that go to government coffers. Improving records of property and rental transactions will tackle the massive deficits in these areas of tax collection.

Note that there are taxpayers, government or private employees, who are stricken by excessive taxes. Reducing their direct tax brings fairness in the tax system and relieves them from huge burdens.

One of the defining characteristics of the government is setting out unrealistic targets. Despite large reductions in last year's tax revenue, the government wants to increase the current year's tax receipts by 15pc of last year's budget. Average tax to be collected by tax authority employees is planned to increase by 40pc. These unrealistic targets coupled with employee reward and coercion systems will stifle taxpayer voices. Having realistic targets will relieve tax authorities from back-breaking shackles. Moreover, admitting that taxpayers have a serious stake in the tax system will enable their voices to be heard in tax policy and administrative matters.


Kenya's Safaricom, KCB Look North As Ethiopia Opens Market

Two of Kenya's largest blue chip companies, regional lender KCB Group and giant telco Safaricom, are on course to… Read more »

See What Everyone is Watching

Copyright © 2017 Addis Fortune. All rights reserved. Distributed by AllAfrica Global Media (allAfrica.com). To contact the copyright holder directly for corrections — or for permission to republish or make other authorized use of this material, click here.

AllAfrica publishes around 800 reports a day from more than 140 news organizations and over 500 other institutions and individuals, representing a diversity of positions on every topic. We publish news and views ranging from vigorous opponents of governments to government publications and spokespersons. Publishers named above each report are responsible for their own content, which AllAfrica does not have the legal right to edit or correct.

Articles and commentaries that identify allAfrica.com as the publisher are produced or commissioned by AllAfrica. To address comments or complaints, please Contact us.