Incoherent taxation policy is an indictment of budget-making process

Treasury Secretary Ukur Yatani when he arrived at parliament buildings on June 11, 2020 to table Sh3.2 trillion Budget. PHOTO | RAPHAEL NJOROGE | NATION MEDIA GROUP

What you need to know:

  • The principal secretary in the Treasury rarely makes inaccurate public statements.
  • However, on the budget day, he responded to a media query about the justification for these taxes through the assertion that “the demand for alcohol is inelastic”, meaning that any tax increments don’t change consumption by a large amount.
  • The increasing complexity and size of the tax code that I estimate at going over hundreds of pages, means that these distortions are here for a while.

The budget speech this year was underwhelming. Looking at the Finance Bill, which contains the tax code, it is so complex and imposes a great burden on firms, households and working people.

The Finance Bill for 2020 will become law but is a signal to the fact that the country has reached the limits of tinkering with taxes here and there.

Looking at the divergence between the estimates of revenue to be collected and the spending totals reveals that the latter will exceed revenue collection by a daily average of Sh2 billion for the next financial year.

The most profound issues that arise from this year’s budget statement are on the revenue raising side and its implications for Kenya’s tax code. Four things stand out.

First, it is clear that with a huge and growing burden of the public debt, the government also faces an acute shortage of revenues. The total debt redemption and interest payments account for more than half of the collections from the revenues mobilised through taxes. That debt and interest repayment of Sh904 billion for this year is equivalent to 10 per cent of the Gross Domestic Product for 2019. In essence, the revenues are chasing expenditure and despite the best efforts of the Kenya Revenue Authority (KRA), the race is being lost. That gap between revenues and total public spending will get worse if the Covid-19 emergency creates a permanent damage to economic activity.

The second fact is that in the quest to close this gap between expenditure and public revenues, the executive and the legislative branches of government are placing the revenue collection service under pressure. The effect of this is that the Kenyan tax code is getting increasingly complex, loaded with clause after clause and subject to regular and abrupt revisions. The year’s Finance Bill is a 46-page document that contains several revisions of the tax laws and procedures related to tax management. Within it are close to three dozen clauses that are being revised, expunged or qualified for clarity, in addition to other new ones. When laws related to commercial activity are changed this often, then it is clear Kenya lacks a coherent policy and the only aim of tax law is to collect as much revenue as is possible, with the structural shocks to the economy to be borne by whichever firm stands in the way.

Third, despite Article 210 (1) of the constitution, which says taxes may be imposed, varied or waived only through legislative action, the complexity and incoherence of the overall tax system has led Parliament to cede these to the Cabinet secretary for Finance and the director-general of the revenue collection agency. This situation of incoherent taxation policy has been lethally mixed with an economic shock and is likely to lead to the most aggressive interpretation of the tax code based on the “ceded powers”.

An instance of the arbitrary application of this power is in the way the Treasury Cabinet secretary has used residual powers in the regulations on excise tax remission of keg beer and effectively doubled the tax burden for selected brands of alcoholic beverages produced from local grains. The complexity of the tax code is exploited to effectively raise a tax without debate within Parliament. And this has occurred despite flowery messages about promoting domestic manufacturing capability.

The pressure to close that gap between domestic revenues and approved spending is so high that it leads State officers to justify all raises. For instance, the principal secretary in the Treasury rarely makes inaccurate public statements. However, on the budget day, he responded to a media query about the justification for these taxes through the assertion that “the demand for alcohol is inelastic”, meaning that any tax increments don’t change consumption by a large amount. This idea has been tested severally in Kenya and it doesn’t hold. Keg beer is popular in Kenya because it is affordable. Its introduction was explicitly encouraged by government as a substitute for unsafe products among low-income citizens.

About six years ago, the excise tax remission for this product was removed and the available data shows the demand crashed by nearly 90 per cent, leading to loss of revenue. This evidence illustrates that for low-income earners who will be most affected by the effects of Covid-19, the doubling of tax from Sh24 to Sh44 per litre will crash demand for the legal product and create the demand in the informal alcohol market. This also illustrates how incoherent taxation policy can generate unintended consequences.

The solution is for Parliament to reassert itself, take back the taxation policy role that is granted exclusively to it by the Constitution. This will free up resources and time for the revenue collection service to invest in collecting taxes as set by the laws and not have to be creative to meet arbitrary revenue targets. The increasing complexity and size of the tax code that I estimate at going over hundreds of pages, means that these distortions are here for a while.

The writer is CEO, Institute of Economic Affairs