About systematic indexation for individual tax brackets

In fiscal policy, systematic indexation of individual tax brackets is crucial for equity and economic stability. As nations grapple with complex taxation systems, regular adjustments to tax brackets in response to inflation and economic shifts are increasingly necessary. 

The primary goal of indexation is to preserve the purchasing power of money over time, ensuring that income, savings, and investments do not lose value in real terms due to inflation. The last indexation of tax bands in Uganda was in July 2012. Since then, there has been no consideration for inflationary adjustments, eroding the purchasing power of salaried employees.

Individual income tax rates in Uganda are structured progressively, like many other African countries. The tax rates increase with higher income brackets, meaning that individuals with higher incomes pay a higher rate of tax on their income.

The current tax rates for individuals are:10 percent for monthly income between Shs235,000 and Shs335,000, 20 percent for monthly income between Shs335,000 and Shs 410,000, 30 percent for monthly income above Shs410,000 and 40 percent for monthly income above Shs10 million. 

There is also a tax-free threshold for lower-income earners, meaning that individuals earning below Shs235,000 are exempt from paying income tax.

A closer look at the numbers reveals the pressing issue at hand. With a monthly tax-free income of Shs235,000, amounting to a mere Shs7,833 per day, the strain on low-income earners is palpable. When juxtaposed with the international poverty line of $2.15 per person per day, the disparity becomes even more glaring.

The workforce, especially the youth and university/college graduates entering the job market, are among the hardest hit by the low tax bands. With a high unemployment rate and competitive job market, the lower tax bands, which automatically put their meagre salaries into the net, do not reflect economic realities.

In most organisations, graduates join as interns with a typical starting salary ranging between Shs400,000 and Shs500,000. This is quickly diminished by a tax of approximately Shs175,000, leaving a paltry sum for essential living expenses such as rent, transport, food, and nothing for savings or investment.

In East Africa, Kenya adjusts its tax bands every year, serving as a regional example. However, Mauritius is often cited as having one of the most effective systems for the indexation of tax bands in Africa. The Mauritian government consistently reviews and adjusts tax bands annually to account for inflation, maintaining the purchasing power of taxpayers and ensuring a fair and equitable tax system. 

This proactive approach has received international recognition from organizations such as the World Bank and the International Monetary Fund (IMF).For Uganda, the path to a more equitable tax system lies in the adoption of systematic indexation of tax brackets regularly, perhaps every 3-5 years, considering that tax amendments are enacted annually. This would not only prevent bracket creep but also ensure that the tax system remains responsive to economic changes impacted by inflation and the general cost of living. 

Moreover, the government must consider broader tax reforms, such as raising the tax-free income threshold for persons in gainful employment from the current monthly threshold of Shs235,000 to Shs 350,000.Indexing individual tax bands plays a vital role in shaping a country's tax system and promoting fairness and equity. As Uganda strives to achieve middle-class income status, the decisions made today will shape the economic landscape for years to come, with the potential to drive growth, reduce inequality, and foster a more inclusive economy.

Ms Bwanika Mastula, is a tax advisor, Ernst & Young