INSIGHT: Why Tax Collection Remains a Challenge in Sub-Saharan Africa

There’s been extraordinary political progress and steady economic growth in sub-Saharan Africa in the past 30 years, yet there still remains a need to improve tax collection.

Even though governments have allocated more resources to the process, revenue from taxation is shrinking instead of growing, both in real and absolute terms. There are 49 countries worldwide that collect less than 13% of their GDP—and 20 of them are to be found in sub-Saharan Africa.

“The International Monetary Fund suggests that’s the magic number countries need to collect to fund basic state functions, as well as additional investment in physical infrastructure, education, health and other development initiatives,” says Jeff Saviano, EY Global Tax Innovation Leader and founder of the EY Advanced Technology Tax Lab.

The opportunity is huge: improved governance and efficiency could deliver as much as US$110 billion in new tax revenue over the course of 2020-2025, according to a study conducted by the UN Economic Commission for Africa (UNECA). That’s more than double the US$51.8 billion it received in official development assistance as of 2018, according to the Organization for Economic Cooperation and Development (OECD).

Bridging the gap

Tax authorities have responded with various strategies to reverse the trend, including deepening their use of digitalization, as well as expanding their informal economies to find eligible taxpayers. They also cooperate with each other—in regional information exchanges—and with peers worldwide. Twenty-two African economies have signed up to implement the OECD’s Base Erosion and Profit Shifting (BEPS) Action Plan initiative, the biggest global rewrite of taxation laws and regulations in history.

“The policy direction is clear both globally and in Africa,” says Ekow Eghan, EY South Africa Tax Leader. “Tax authorities are looking to tax where the value is created.” Still, revenue has been declining for about 15 years in the region. In 2018, weighted tax revenues stood at 14.6% of GDP, down from a peak of 19.9% in 2005.

That peak came as governments began reforming their tax functions. Establishing separate tax authorities became a trend in the early 2000s—part of a governance reform process that began after the Cold War in many sub-Saharan countries. It started with the transition to democratic politics, and then led to reforms of public financial management. These reforms included the shifting of tax and customs authorities from finance ministries to newly formed, quasi-independent and self-financing agencies.

Digitizing tax administration

“Digitizing old analog processes was the next step,” says Joe Cosma, EY Africa Government and Infrastructure, Advisory Sector Leader. “Most tax authorities now have good systems, and they know how to use them.”

These systems also allow tax authorities to keep data private and secure, and that makes them one of the most trusted branches of government in many countries. Progress is being made in bringing additional taxpayers onto the tax base.

Digital systems for identification would speed up the pace, Cosma says, but they are progressing slowly. With 86% of Africans working jobs in the informal economy, according to the International Labor Organization, such systems could help to broaden tax bases by identifying more potential taxpayers. This segment of the economy includes millions of traders and small businesses perceived by some citizens as keen to avoid taxes, yet tax authorities view them as candidates to join the tax base, while politicians see them as potential voters.

One solution is to further enhance digital security, says Sandile Hlophe, EY Africa Industry Leader for Government and the Public Sector. “Many of the tools authorities could use to boost revenue are hosted in the cloud. Few tax authorities would store data outside the country, so they should be leaders in investing in domestic data centers.”

Another enhancement to digital security that helps tax authorities is a mobile-phone registration process. In some countries, including South Africa, Nigeria, and Kenya, consumers cannot buy a mobile-phone SIM card without first presenting identification. With a know-your-customer (KYC) check in place, tax authorities can then send taxpayers facilitated compliance prompts to their phones. Taxpayers, meanwhile, can download pre-populated returns and other forms to their phones, making it faster to pay and reducing the need for auditing.

Policies that work

Policy changes shouldn’t be abrupt or inconsistent, says Cosma. That principle applies to both indirect and direct taxes. In Nigeria in 2015, the government aimed to use tax policy as a tool to boost domestic automotive production by hiking tariffs on imported used vehicles, but the result was a surge in used vehicles smuggled into the country. Those policies are tied to goals other than boosting tax revenue, including import replacement and job creation.

But if the goal is simply to collect more revenue, the focus should be on value-added taxes (VAT). Nigeria boosted its rate from 5% to 7.5% in February 2020. The change happened without protest and still leaves Nigeria well below the 20% threshold at which fraud tends to rise.

VAT gaps are significant: a 2018 study by UNECA analyzed VAT data from 24 African sovereigns and found a gap of 50% or more in 12 instances. Gaps were caused by compliance issues and a lack of enforcement ability, and from policy challenges such as large volumes of exemptions. The report found that if Nigeria were to address compliance issues, and had it raised its rate to 10% instead of 7.5%, it would have doubled VAT revenues from 0.8% of GDP to 1.6%.

The national experience

The e@asyFile system from the South African Revenue Service (SARS) is a model for the continent, says Hlophe. The system features real-time submissions from a company’s enterprise resource planning software to the SARS system, with monthly reconciliations to process refunds within 48 hours of the month’s close. Participation is voluntary but popular, with about 90% of eligible businesses opting in. “Speed is the incentive, especially for small businesses,” says Hlophe. “The alternative is a painful process that takes longer to produce your refund.”

For the Kenya Revenue Authority (KRA), an emerging focus is on speeding up dispute resolution. Rather than rely solely on its Tax Appeals Tribunal and courts, it offers taxpayers mediation as an option after the 60 to 90 days it takes the KRA to evaluate an assessment that the taxpayer wants to contest. Mediation offers an outcome within a further 90 days, as well as the option to revert to the conventional methods at any point.

Two companies tried it in its first fiscal year of availability, in 2015-2016. In the following two periods, the figure rose to 139 and 155, and in 2018-2019 it jumped to 502. Though the system resolved almost as many cases as the tribunal and courts, the revenue total was about a third less.

The digital opportunity ahead

As tax authorities explore their options with the current tools, the Prosperity Collaborative—a partnership between the World Bank, the Massachusetts Institute of Technology, New America, and EY, among others—aims to give them new ones. The Collaborative is pursuing applications of blockchain, machine learning and other technologies to increase transparency, reduce friction and boost social trust in the taxing system—often referred to as ‘tax morale.’

If sub-Saharan Africa is to thrive during and beyond Covid-19, it must continue to invest in digital tax administration, leveraging the successful experience of model economies on the continent.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Author Information

Larry Eyinla is the EY Africa Tax Leader

The views reflected in this article are the views of the author and do not necessarily reflect the views of the global EY organization or its member firms.