STABILITY IN TAX POLICY IS KEY TO INVESTOR CONFIDENCE.

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By CPA Faustin Mwinzi

Every Second Thursday in the Month of June is a special day in Kenya’s fiscal calendar. This is the day everyone waits for anxiously. It is a day for surprises and reliefs, for hits and misses, for the goodies and losses- all contained in that treasured briefcase from the treasury. First we get the allocations, then comes the dreaded part – the spelling out of new tax measures.

Change in tax policy is inevitable, of course the government and its subjects must keep adapting to the economic dynamics. However, the changes must be well thought out, fair to the masses and most importantly predictable. It is not uncommon to see a new policy being implemented in one fiscal year only to be withdrawn in the successive period. The injudicious change in fiscal laws offend the second maxim in taxation which is certainty. Stability is a close relative to certainty. Certainty deals with a current situation while stability deals with how that situation will be in future. Stability implies that changes in tax policies should be in force for a specified period that is a fixed term from when they come into force until they are withdrawn. That idea sounds utopian but needs to be explored.

Stability and investors decisions

Stable tax policy allows taxpayers and investors to make far reaching decisions knowing future tax implications. Our current tax system doesn’t make any commitment or give any guarantee of what would be in force in any period, not even in the immediate future. As a developing economy we need investors and of course very generous tax incentives have been extended. However, the fact that the incentives can be introduced and withdrawn at will doesn’t go down well. Bear in mind investments are long term decisions.

No case better illustrates the effects of instability in tax policy than Excise Duty on Sorghum beer. In 2004, East Africa breweries Ltd (EABL) launched a special brand of beer by the name Senator KEG made of Garam Sorghum and Cassava. This brand was highly favored by the government for two reasons; one, It was a cheap alternative to the dangerous illicit brews. Secondly, it was made of materials farmed locally from arid regions. As a result, preferential tax treatment was awarded, granting the brew 100% duty remission in 2006. The brewer contracted over 100,000 farmers in the remote regions of Kitui, Mbeere, Tharaka, Homabay Kisumu and other far flung areas.

Then came the expected. In 2013, the government quite oblivious of the Ramsey rule in taxation withdrew the duty remission by 50% KEG beer expecting 6.2 billion in tax revenue. The result was far much less than the expected due to sudden fall in demand of this good that economists would define as an inferior good. The net effect was far much worse than missed tax revenue targets, Tege meo institute report 2014 indicates that Senator KEG farmer’s transporters and retailers lost a whopping Sh. 6.4 billion. The brewer, the sole buyer of sorghum was now threatening to cancel contracts with about 20,000 Farmers.

Following intense lobbying, the remission in duty was raised from 50% to 90% in 2015, a great reprieve to the sector almost restoring the 100% rate of 2006. Before that rate would settle, in 2017 the rate of remission was revised downwards to 80% and was further proposed to be reduced 60% in 2020. In protest to the proposed reduction of remission rate, EABL indicated that the end result will be an annual loss of Sh. 16.5 Billion in keg value chain coupled with over 150,000 direct job cuts.

This is a classic example of how taxes kill innovation, the keg idea was godsend, savior to alcoholics wallowing in illicit brews, a cash cow to farmers in semiarid regions, thousands of jobs to the distributers and great returns to the investors. The momentum that the sector had gained between 2006 and 2013 is now gone. The cycle of government proposals followed by intense protests, duty remissions in one year, withdrawal the year after, unpredictable tax regime is sickening to the sector and a wrong signal to investors in other sectors.

In yet another recent case of swift change of tune by tax policy makers, In November 2019 a lower rate of tax at 15 per cent was extended to plastic waste recycling operators. Barely six months later was this sweet incentive taken away by the Tax Laws Amendment Act 2020. Where did this leave an investor gearing up for this incentive, probably with his equipment in the high seas. Keep in mind that this happens in a country ever looking far beyond its borders for investors.

If tax incentives can be introduced and withdrawn at any time, then I dare say we have no incentives. Tax measures with long term implications need to have a fixed period over which they will be in force. Thus the introduction of a new law need not to take immediate effect; investors need time to mobilize. Again when the new measures come in to force, there must be a term limit before they can be withdrawn. The law should be a little bit more stringent on awarding concessions but very consistent.

 

Stable tax policy allows taxpayers and investors to make far reaching decisions knowing future tax implications. Our current tax system doesn’t make any commitment or give any guarantee of what would be in force in any period, not even in the immediate future. As a developing economy we need investors and of course very generous tax incentives have been extended. However, the fact that the incentives can be introduced and withdrawn at will doesn’t go down well. Bear in mind investments are long term decisions.

Stability in tax laws drafting

Stability is also necessary in the way new tax proposals are allowed to settle and gain acceptance by the stakeholders. Just like any in any other law drafting process, public participation is required, buy in from the taxpayers is necessary. This cannot be rushed, once it takes effect, individuals life, community welfare and public revenue will be affected. We can take years crafting tax laws but do so for posterity, come up with laws that cannot be challenged. To explain this, I use minimum tax as an example. This tax was introduced in January 2021 amidst a lot of protests, in April 2021 it was suspended by the courts and later inSeptember 2021 thrown out on grounds that they were unconstitutional. I suggest that such controversial taxes should be allowed enough time before they become effective. In that intervening time whoever wanted to go to court would go and appeal before creating an expectation by the exchequer.

It is also necessary to allow some period for polishing finer details of the proposal instead of successive changes after changes. Consider taxation of income of the Digital economy. It was first mentioned in 2018, then the law came in to force in 2019 by amending the income tax act. By this time the enabling regulations were not in place, so they came in 2020, later in 2021 the scope of digital taxpayers would be defined to exclude resident persons. Probably in 2023 there will be an overhaul of the entire tax. In as much as some of these taxes are still evolving, the government needs to move with precision, introduce laws together with their regulations and framework for administration.

Stability and compliance

Every new tax makes a demand on the tax payers and the assessors to learn it, sometimes making adjustments on the accounting system. A lot goes to capacity building, having to train staff on how to comply with a new tax. Imagine the pain of building capacity every other year. Besides the capacity, new taxes may have implications on the cash flow cycle of a business, for instance if a business was falling under an annual tax regime and a monthly tax regime is introduced. When the system gets complicated and unpredictable the evil forces of tax evasion start nudging.

We are living in what has been described as a global village where investors are ever scouting for the best destinations. Tax is the charm that every country is using to woo investors, we can’t afford to present ourselves for the contest with wavering, tottering and patched-up strategies

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