Module 5VAT, the key for tax transition

Jean-François Brun Gérard Chambas CERDI

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Tax transition in a context of trade liberalisation

• Objectives

• To mobilise economically neutral revenue, alternative to plummeting tariff revenues.

• Avoid a drop in tax revenue (Keen, 2005)

• VAT, tax burden transferred to consumption

• Consumption large macroeconomic aggregate

Securing revenue and reducing distortion

• The case of the Democratic Republic of Congo

• Post-conflict situations: the case of Burundi and Côte d’Ivoire.

• However, specific support necessary and reform requires administrative capacities

 VAT in developing countries

• Since 1959, pioneer countries (Ivory Coast) then Senegal; 1985 and 1987, Morocco and Tunisia

• VAT with conventional legislation and administrations: disappointing results

• Innovation of single-rate VAT, high VAT threshold: Benin (1991) then Pacific zone model

• Extension of modern single-rate VAT

• Current risks: resistance leading to multiple rates and broad exemptions

VAT, vector for a modern tax administration

•Organization around LTU, MSU and CSF

•Principle of segmentation of taxpayers

•Selection of VAT collectors: VAT threshold

•Integrated information system, introduction of on-line procedures.

Outline

• 1 Why is VAT the key for the tax transition?

• 2 Assessment of the budgetary efficiency of VAT

• 3 Assessment of the economic efficiency of VAT

• 4 Economic neutrality and VAT legislation

• 5 Objective of economic neutrality and VAT administration

• 6 Excise taxes: crucial additional instrument

1 Why is VAT the key for tax transition?

• Lack of alternative (income tax, business earnings-corporate tax, property tax)

• Focus on property tax in Africa

Historical importance (Bird, 1992)

Disappointment (mass taxes, major collection costs)

Cadastre: above all an instrument for urban development

Risks of ignoring major taxes to ensure fiscal transition

Need to involve local authorities

Sensitivity of the property problem

1 Why is VAT the keystone of tax transition?

• Reasons related to revenue

• VAT, tax with a high revenue potential (Ebrill et al, 2001)

• Potential VAT base = major macroeconomic aggregate

• VAT, effective tax revenue mobilisation in countries with large unregistered sector (Emran, Stiglitz, 2006 vs Cameroon, Senegal, etc.)

1 Why is VAT the keystone of tax transition?

• Reasons related to the economic neutrality of VAT

• Homothetic increase of prices for consumption only

• Costs unaffected

• Equal treatment of imports and local production

• Exports not affected

• Low collection costs

1 Why is VAT the keystone of tax transition?

• Reasons related to equity

• Comment: relative inability of VAT to promote equity

• Central role of public spending to promote equity

• VAT, tax on consumption not more unfair than direct taxation on a partial base or tariffs

• Exempted consumption often consumed by the privileged (Cnossen) (fuel, health products, high food consumption)

• VAT exemption : negative effective protection of local production

2 Assessment of the revenue efficiency of VAT

• Ambivalent accounting of VAT revenue

• VAT on foreign consumers (Nigeria-Benin)

• VAT credit refunds (expenditure or reduction of VAT revenue)

• Taxation of foreign financed project

• Revenue efficiency coefficient; ratio to GDP (international comparison ?)

2 Revenue efficiency coefficient

• Definition: ratio of VAT revenue as a percentage of GDP (or of consumption) increased by one point of VAT

• Difficulty : undervaluation of GDP or consumption (and therefore limits in international comparisons); however, useful comparisons

3 VAT economic neutrality: an assessment

• Fluidity of VAT credit refunds

• Amount of non-refundable VAT credits

• VAT collection costs borne by companies and administration

• Importance of distortion-causing exemptions

• Importance of VAT fraud

• Need to monitor neutrality indicators

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4 VAT economic neutrality: What VAT legislation?

• Very broad VAT base

• Drastic elimination of exemptions

• Elimination of VAT suspension on equipment commodities

• A VAT refund mechanism for beneficiaries of the Vienna Convention

• VAT systematically applied to the entire field, including operations financed from abroad

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4 VAT economic neutrality and VAT legislation (cont’d)

• Single moderate VAT rate

• High rate: incentive for fraud, therefore fiscal distortion

• Single high rate: incentive for exemption or the introduction of a reduced rate

• The single moderate VAT rate stage is yet to be reached, but it is a condition for an economically neutral VAT

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4 VAT economic neutrality and VAT legislation (cont’d)

• End to withholding of VAT

• Tax threshold

• Strict framework of VAT credit refund restrictions

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5 Economic neutrality and VAT administration

• A) Service administration

• B) Reduction of collection costs

• C) Reduction of fraud

• D) VAT credit refunds as per best practices

6 Excise duties: essential complements to VAT

• Traditionally, end consumer goods with relatively inelastic demand (tobacco, alcohol, soda, etc.), petroleum products

• Recently, motorcars, telecommunications (mobile in particular)

• Mobilisation of additional revenue without exempting single rate VAT, but excise duties not attributable (intermediate consumption to be avoided)

6 Excise duties: essential complements to VAT

• Excise duties mean a further reduction in the consumer’s actual revenue

• Risk of raising costs (petroleum products, telecommunications, etc.)

• Significant social effects (price of petroleum products and price of public transport, cigarettes, increasingly consumption by citizens with low incomes).

Thank you for your attention.