Why professionals hiding in shadow economy evade taxes

Lawyers, accountants and engineers are among the long list of professionals who are earning taxable income that never gets taxed because of their assumed informal nature of operation which the tax collector is struggling to cope up with. 

According to a report assessing drivers of the shadow economy and tax implications in Uganda, professionals running private businesses in the country are among the biggest tax evaders, a routine that is set to remain a fixture for as long as the shadow economy also known as informal sector remains in the shadows of the tax prefect who are the enforcing arm of the policy making body.

Tax experts and policy analysts say this development introduces a double challenge for the policy makers who have to deal with the more sophisticated professionals that enjoy widespread political patronage systems. They operate informally in addition to the huge segment of the population stuck in the shadow economy. In a bid to counter this practice, President Museveni set up an Anti-Corruption Unit - at State House Uganda to work in collaboration  with Inspector General of government (IGG).The Anti-Corruption unit at state house is headed by Lieutenant Colonel Edith Nakalema, who in recent report cites the case of one Aida Misanvu and one Penelope Akankwatsa  of allegedly conniving with Uganda revenue Authority Customs officials   to aid evasion of taxes in clearance of imported goods by professionals linked to government opposition establishments.

The Ugandan economy is dominated by agriculture and services, with a high proportion of small, informal firms in both rural and urban areas. The informal sector is about 51 percent of total Gross Domestic Product (GDP), according to government statistics. Other independent estimates put it at 60 percent. However, what is not in dispute is that the shadow economy (informal sector) accounts for substantial amounts of untaxed economic activities. 

Presenting the research titled: Assessment of the Drivers of the Shadow Economy and Tax Implications in Uganda, at Makerere University College of Business and Management Science last week, Dr Ismail Kintu, the report principle investigator, uncovered significant levels of under declaration especially by professionals. 

This in many ways contributes to the country’s narrow tax base currently standing at 13 per cent which is way below the continental target of between 16-20 per cent while the informal sector continues widening as more professionals find safe spaces in the shadow economy rather than formalising their operations.

Shadow economy

Researcher Kintu defines shadow economy as the one that comprises all market-based, lawful production or trade of goods and services deliberately concealed from public authorities to evade either payment of income, value added or other taxes.

He further explains that shadow economy goes beyond tax evasion to non-remittance of social security contributions and non-compliance with certain labour market standards. 

For starters, informal sector also referred to as hidden, underground, gray, clandestine, illegal, unreported and parallel, considering its fluid nature, is characterised by lack of formal registration with local or national authorities. High levels of self-employment and mobility of the business is the other characteristics of informal operation, let alone irregular record keeping or no record at all of any transaction carried out. 

As a result of the informal sector uncertainty, tax bodies such as Uganda Revenue Authority (URA) find it difficult to deal with players earning taxable income in the shadow economy .  

Despite being an elusive economic segment, the sector’s relevance is something to reckon with. The sector provides employment to majority of Ugandans.

Recent estimates found that 49.8 per cent of Uganda’s youth were employed, with 91 per cent of those employed in the informal sector, mostly in agriculture, without regular pay or a written agreement.

Entrepreneurs from ordinary trading activities, various professionals and manufacturers interviewed in Kampala,  Masaka, Wakiso, Mbarara, Gulu, Lira, Fort Portal, Mbale and Jinja exhibit one tendency in common—irregular record keeping or nothing at all. 

“I don’t keep any records and I make sure I supply those retailers who will not record me anywhere,” a poultry product supplier is quoted in the report as having said.  

According to the report’s principle investigator, most entrepreneurs lack proper financial records.  

“We dealers in general merchandise, even if we register with local governments, we sell on cash basis, and we payout cash. So it is difficult to track our items at the end of the day. We do not keep any records,” the report principle investigator said while quoting a local entrepreneur.

As for lawyers, it emerged in the report that the nature of business they do is difficult to track if they decide not to document. For instance, a lawyer who carries out a transaction with a client can decide not to document it and there is nothing to base on for tax purposes. Mostly business is conducted outside office and not recorded. Lawyers don’t produce statistics of the cases they have attended to say in a year to any industry authority.

Drivers of shadow economy

Interestingly, most professionals would have no problem paying their fair share of taxable income if it were not for what they describe as an unfair taxation regime, high tax rates, fear to pay taxes, compounded by several tax heads to oblige to.

On government’s part, the report uncovered weaknesses such as poor service delivery and corruption in government, partly explaining why many professionals choose to be non-tax compliant, thus seeking refuge in the shadow economy.

For business, challenges of poor book keeping by entrepreneurs (single entry or omissions) and reliance on word of mouth alone while transacting remains an issue of concern.

Agriculture, real estate, transport and tax administration weaknesses are the most infested with informality.  This is further complicated by the complex online filing system and failure to conduct tax education in all sectors.

The report also shone light on policy gaps fueling the shadow economy, key amongst which include: presumptive tax system which does not allow small traders to pay in installment. The Tax Appeal Tribunal was also faulted for being slow in disposing tax and related cases. 

The acting manager research and planning division at URA, Mr Nicholas Musoke, noted that they do take the revelation of the research seriously, considering that they were part of it and they will use it to widen the narrow tax base. 

Irregular record keeping

No records

‘I don’t keep any records. I make sure I supply those retailers who will not record me anywhere, a poultry product supplier quoted in the report said.