Covid-19 crisis puts tax collection efforts into danger

Monday April 6 2020

Budget. The Minister of Finance, Mr Matia

Budget. The Minister of Finance, Mr Matia Kasaija, arrives for the budget reading in June 2018. Photo by Rachel Mabala 

By Frederic Musisi

Barely a week ago, government terminated the contract of Uganda Revenue Authority (URA) Commissioner General, Doris Akol, and replaced her with Johnson Musinguzi Rujoki.

As he commences his work, the economy is in distress over the outbreak of coronavirus that leaves a trail of destruction. Mr Rujoki will therefore, need to navigate the rough seas to come to reach the shores.

He must plug loopholes in the system and engage a holistic approach in collecting taxes, as he will be confronted by monumental challenges.

For instance, according to the 2019 Auditor General’s (AG) report submitted to Parliament this January, government through the Finance ministry owes the tax body Shs863 billion, as of last June from 2005, which was granted to some 67 companies as tax exemptions for, among others, Value Added Tax (VAT), Pay As You Earn (PAYE), Income Tax, and Withholding Tax.

Since committing to settle the taxes, Mr John Muwanga, the AG, said the arrears are reflected in URA’s revenue statements as collectable yet government has not shown any commitment to settle the obligations.

“Although a waiver has since been granted to taxes owed by government, URA considers these to be arrears for private companies,” Mr Muwanga revealed.

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While Finance officials, the report indicates, defended that according to the Tax Procedures Code (Amendment) Act, 2019, tax arrears were written off; the Shs863 billion is enough to finance the Tourism, ICT, Trade and Industry, Science and Technology, Lands and Housing sectors, respectively, in the current 2019/2020 Financial Year.

Like a chronic ailment, government has always doled out billions of shillings in tax incentives. Civil society actors and development partners like World Bank have been pushing government against granting excessive tax exemptions but this has been in vain.

For example, investments above $200m (Shs747b) established in the economic free-zones in and outside Kampala are granted a 10-year income tax break and those less than $30m (Shs112b) by foreign investors and $10m (Shs37b) by local investors are granted a five-year break.

The Public Finance Management Act, 2015, conferred to the Finance minister powers to grant tax exemptions and justify to Parliament afterwards, which is a retrospective oversight. This has raised concerns of propelling impunity while costing government substantial tax revenues.

Highly placed sources revealed to Daily Monitor that some companies (names withheld for legal reasons) are granted exemptions not on account of economic benefits, as argued in policy documents, but for being connected to some highly-placed individuals in government, who are said to be shareholders.

While Finance technocrats have continuously argued that tax exemptions are a form of incentive to lure Foreign Direct Investment (FDI) to the country, no cost-benefit analysis has been undertaken yet to validate this postulation.

FDI inflows, according to Uganda Investment Authority’s last published figures, reached a historic high in 2018 registering a 67 per cent increase from $803m (Shs3 trillion) in 2017 to $1.3b (Shs4.9 trillion) mainly on account of investments in oil and gas, and marginally in manufacturing and in the hospitality industry.

A 2019 study titled: “Attracting Investments Using Tax Incentives in Uganda: The Effective Tax Rates” by Makerere University’s Economic Policy Research Centre (EPRC), detailed that to the contrary, tax incentives are very costly to the economy—estimated at 1 per cent of the Gross Gomestic Product (GDP) in foregone revenue.

“....overall economic characteristics of a country are more important for the business environment than any tax incentive scheme,” the study noted, while acknowledging the fact that Uganda retains tax incentives to remain competitive in attracting private and foreign investments relative to other East Africa Community and the Common Market for Eastern and Southern Africa (Comesa) region members.

“The need to remain competitive is, most often, interpreted in the narrow sense of the length of a tax holiday, rather than low effective tax rates, to encourage investment and attract firm-specific, internationally mobile capital. The same consideration makes it difficult to reform the incentives regime, despite the recognition in Uganda that tax holidays and exemptions may come at a significant revenue,” part of the report reads.

The study, like a chorus of other voices has called for reforms in the tax system with a view of disposing or reducing tax holidays and the large number of preferential corporate tax rates.

According to Mr Joseph Olweny, the finance for development programme coordinator at Oxfam-Uganda, between 2013 and 2017, the country lost Shs8 trillion in tax exemptions and opaque incentive packages, and in the Financial Year 2017/2018, another Shs800b, enough to finance the Agriculture Budget, was lost.

“That the awarding of these exemptions is not clear to anyone else apart from those who award them and the beneficiaries is what concerns everyone else,” Mr Olweny opined. “Enough to show you that these companies getting these exemptions are doing us bad,” he added.

According to a 2019 case study on tax revenue mobilisation in low-income countries by International Monetary Fund: “Removing or curbing exemptions would enhance the tax base and increase tax revenues, while reducing the tax system’s complexity (to enable more efficient tax administration)” incurs a sizable loss of revenue through ill-designed exemptions, such as costly tax holidays and other incentives to attract investment.”

However, tax incentives are merely part of the problems plaguing the country’s domestic revenue mobilisation efforts to finance the economy’s needs.

Taxing times
Tax is a compulsory levy on the citizen and private sector, and one of the major sources of income for governments.

Whilst Uganda’s total tax revenue has been growing steadily over the past financial years, the share of tax revenue to the size of the economy (GDP) has for the most part not been growing correspondingly.

In the East African Community region, Uganda’s tax-to-GDP ratio officials say, was nearing 14 per cent. But after rebasing the economy last year, it reduced to 11 per cent but regardless, remains the lowest behind Kenya, Tanzania and Rwanda.

Some stakeholders say URA, which is mandated to collect taxes is not doing enough to collect more taxes to raise the country’s tax to GDP ratio, and that the targets set by the Finance ministry are low.

The outgoing URA Commissioner General, Ms Doris Akol, speaking at the release of financial year’s half year results which saw a nearly Shs700 trillion shortfall against targeted collections of Shs9.7 trillion described Finance’s targets “as unrealistic.”

The targets, she said, increased by approximately 1.4 per cent tax to GDP ratio, which “is higher than the usually projected annual increase of 0.5 per cent tax to GDP ratio”.

In the last five financial years, URA surpassed its targets only once, in 2018 when it collected Shs16.6 trillion against a target of Shs16.3 trillion. During the same period government amended the Income Tax Act introducing tax exemptions for selected investments which will cost the country at least Shs500 billion in the current financial year.

The acting director of economic affairs in the Finance ministry, Mr Moses Kaggwa, acknowledged that while tax incentives are part of the problem, the main stumbling block to effective revenue mobilisation is the structure of the economy—with 51 per cent of informality, which makes it difficult to tax.

“You find that construction is one of the fastest growing sectors but you don’t see the companies to tax. Then there is agriculture which contributes about 25 per cent of GDP but its contribution to tax is about 3 per cent,” Mr Kaggwa said, adding: “There are many contradictions, but we are confident that with the Domestic Revenue Mobilisation (DRM) we launched in February, it will go a long way in addressing these gaps.”
“Exemptions cost us between 1 and 1.5 per cent of revenues and they distort the market, especially if one group gets exempted and others are; for example local investors usually say that our tax system favours foreigners, so we need to look into all of this,” Mr Kaggwa further opined.

The five-year DRM is a move away from the ad hoc-annual tax policy; piecemeal adjustments with little alignment to an over-arching strategy, which according to Mr Kasaija, “created a high degree of unpredictability and uncertainty in our tax policy direction.”

The strategy, which reinforces, among other action points, fiscal-social contract; how Ugandans perceive a closer link between taxes paid and public services obtained, widening the tax net to the informal sector, and addressing weaknesses in major tax heads such as VAT and Corporate Income Tax, seeks to improve revenue collection and lift Uganda’s tax-to-GDP ratio to between 16 and 18 per cent within the next five financial years.

“The strategy, in summary, is wholesome initiative to look at how tax policy (under Finance) and tax administration [under URA] can be better improved seeing that our economy has a lot of potential,” Mr Kaggwa added.

Currently the size of Uganda’s economy in real terms after last year’s rebasing by Uganda Bureau of Statistics, is approximately Shs128 trillion ($34billion) up from Shs115 trillion in the financial year 2017/18, after considering economic activities like oil and gas and manufacturing which were previously unaccounted.

Allocating the burden
But according to the World Bank, despite expansion of the economy, about 700,000 young people reach the working age every year yet only 75,000 jobs are created annually, which leaves more than 70 per cent of Ugandans employed in agriculture, mainly on a subsistence basis; overall the contribution of the sector grew from 22 per cent to 24 per cent.

“An average of one million young people are expected to reach the working age between 2030 and 2040,” the World Bank noted in its country economic update released early this month.

“Agriculture contributes about 25 per cent of GDP but its contribution to tax is about three per cent,” Mr Kaggwa admitted. “However, taxing the sector is something we continue to study, because we also understand that it employs a majority of Ugandans.”

With a lot of informality on the account of agriculture and services sectors, it means that the tax burden has to fall disproportionately on a small circle in the formal sector, comprising the small working class and the few multinationals present in the country.

While multinationals top URA’s tax payers’ list, the Ministry of Finance for the year 2014 estimates showed that they repatriate about $400 million (about Shs1.05 trillion) annually in capital outflows in form of dividend payments to the shareholders, as result of the lax regulatory environment.

Dr Ezra Munyambonera, a senior research fellow at Economic Policy Research Centre (EPRC), told Daily Monitor that taxing the sector is one of the ways government can widen the tax-base but any efforts have to make a distinction between commercial and peasant farmers.

“In Uganda, we lack a database detailing who falls in either category; without it, then you cannot think of taxing them, either by commodity such as coffee, bananas, animals, name it, or seasonality,” he said. “If people are sensitised well, most farmers will come on board,” he argued.

“Sincerely, if there is a register; any person who has 1,000 cows and they are asked to pay an annual tax equivalent to the price of one cow, then that should not be hard. If one farmer produces one lorry of matooke (bananas) in a month and they are asked to pay a tax the price of five bunches, that should also not be hard. Overall, this tax has to be simple,” he added.

Dr Munyambonera also noted that such efforts have to be matched with strengthening local governments as the managers of the database and principal collectors of such a tax.

However, it is no secret that local governments are beset by numerous challenges such as understaffing, maladministration and corrosive corruption as detailed by the annual Auditor General’s reports.

URA manages tax collection at the national level while local government administrations are mandated by the Local Government Act to charge, levy and collect fees and taxes, including rates, rents, royalties, stamp duties, personal graduated tax, registration, and licensing fees at the local level.

2018 survey on taxpayer-labourforce ratio, investment
A 2018 fair tax monitor study by a coalition of non-governmental organisations led by SEATINI and Oxfam, showed that Uganda has one of the lowest taxpayer to labour force ratio for income tax of 0.09 per cent, compared to Kenya at 37.30 per cent and Tanzania at 5.88 per cent.
The study noted: “The percentage of the active population (those engaged in productive work) that are registered for taxes is still very low at only 6.8 per cent, though the share has been increasing during the last five years, and despite some increment over the past five years, the percentage of established and operational business entities registered with URA for taxes is still very low at only 7.1 per cent.”
The intricacy of the informal sector is an issue both Mr Kaggwa and Mr Olweny concurred with. It has a high concentration of high net-worth individuals—including the politically connected and ‘sacred cows’ who are deliberately avoiding and evading taxes through dubious schemes like blackmailing, colluding or corrupting URA officials.
According to URA, 50 per cent of high net-worth individuals are in the wholesale and retail sector but those with the highest revenue potential appear to be concreted in financial and insurance services, real estate, and professional and technical services.
Between the financial years 2015/2016 and 2016/2017, the tax body managed to collect only Shs40 billion from such individuals identified.
These, URA notes, invest heavily in real estate; many are traders but most of their proceeds are channelled to the real estate sector, invest in land and buildings; easily acquire and register property using third parties—all of which has seen a steady rise in property values over the last 30 years, but overall they hide illicit wealth to avoid taxes.
URA acknowledges that several of the high net-worth individuals in the country “are policy makers or can influence policy, have political capital, and tax proposals directly that affect them are rejected by policy makers.” Several high net worth individuals are also hiding their loot in agriculture, URA said.

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