By Shebo Nalishebo
The tribal wisdom of the Dakota tribe in the United States of America, passed on from one generation to the next, says that “when you discover that you are riding a dead horse, the best strategy is to dismount”.
In Zambia’s haste to pronounce VAT dead, the country has veered dangerously close to resurrecting a truly dead horse – one that died 25 years ago – in the form of Sales Tax.
While acknowledging the Government’s efforts to correct some of the original drawbacks of the Sales Tax, we argue for abandoning any plans for Zambia to introduce the tax due to the adverse economic risks to inflation, jobs and tax revenue. We show how the Government can instead achieve its twin objectives, to address the VAT refunds problem and to raise higher revenues, through VAT reforms around which consensus can be built.
Undeniably, the VAT system, like all other tax regimes in Zambia, has been dogged by low yields which have been due to, among other things, numerous exemptions, challenging tax administration, and high and unsustainable refunds. The proposed Sales Tax eliminates the refunds problem. But it does not necessarily fix the low yield problem which may be as a result of weak tax administration and poor compliance.
Moreover, the proposed design of the Sales Tax will lead to several adverse economic effects, including cascading effect risks to businesses, workers and consumers. The resulting cascading effect will lead to higher production costs across all sectors of the economy which will be passed on to the consumer. To mitigate the effect of cascading, producers, being rational economic players, are likely to consolidate their supply value chains to the extent possible. Overall, we estimate that the cascading effect of Sales Tax will lead to the loss of 47,000 direct jobs, or up to 56,000 indirect jobs across key sectors in Zambia.
Instead of proceeding with the proposed implementation of the Sales Tax in 2020, we argue that the best option that eliminates the risks to businesses, workers and consumers, addresses the refund problem, and simultaneously supports a reasonable tax revenue inflow, is to reform VAT.
A viable route to addressing the refund problem in the VAT system exists. The vast bulk of VAT refunds are paid to the mining companies and a large proportion of these refunds are for VAT paid on the capital goods they import. Therefore, exempting these goods from VAT at the point of entry into Zambia would help eliminate the refund problem in the future.
To clear the existing arrears, the Government needs to explore the possibility of allowing firms to offset their VAT refunds against other non-VAT tax liabilities. This poses an administrative challenge but if the practice was limited to large mining companies, thereby minimising the administrative burden, it would be feasible to implement.
The Government should take further measures to ease the administration of refunds. Firstly, the Government needs to prevent the build-up of arrears by improving its refunds forecasting by dedicating a matching amount of VAT revenues into a special account from which refunds are made. Secondly, during the period of VAT refund assessment, say 45 days or 90 days, the Government can lend the money to the banking sector to expand private sector credit, thereby improving revenue and supporting access to affordable credit.
On the question of raising revenue, it should be noted that the Government has an impressive record of improving revenue through VAT. Reforms in 2017 to introduce the use of electronic fiscal devices for VAT-registered suppliers to monitor transactions in real-time, withholding agents and external forensic audits before the disbursement of refunds increased revenues from 3.7 percent of GDP in 2016 to 6.2 percent of GDP two years later. Government should further invest in administrative improvements to automate the tax collection and audit processes as well as focusing resources on high-risk taxpayers rather than redirecting resources to the new and risky Sales Tax.
At the heart of the revenue challenge of VAT is the disproportionately high number of exempted goods and services. This creates leakages and increases administrative complexity. In 2015, the IMF estimated that Zambia’s VAT revenues in 2015 were just 28 percent of the potential maximum, compared to a SADC average of 45 percent. We therefore call on the Government to engage in a comprehensive review of exemptions with the intention of minimising leakages and increasing revenue.
We urge the Government to carefully consider our proposals to reform and fix VAT instead of introducing a Sales Tax. We recognise the pressure that high refunds and low yields have put on the Government recently. However, rather than proposing a new and riskier tax regime that will have a negative impact on inflation, jobs and revenue, an alternative, easier and more reliable path would be the proposed reforms to the VAT system. ZIPAR stands ready to support the Government in developing concrete actionable technical solutions around these broad proposals.
The author is a researcher at the Zambia Institute for Policy Analysis and Research (ZIPAR).