Presumptive tax can enhance compliance

In the last three years, the National Treasury and the Kenya Revenue Authority (KRA), have implemented both new legislative and tax administrative measures with a view to enhance tax compliance, in addition to widening the tax base.

A key legislative change was the replacement of the turnover tax (TOT) of three percent on gross receipts with a presumptive tax of 15 percent of the amount payable for a business permit or trade licence.

This new presumptive tax is aimed at widening the tax base by looping in the informal sector and the small businesses into the tax bracket. This new tax will come into force in January 2019. The question that comes to mind is how is presumptive tax any better than the TOT?

TOT was introduced through the Finance Act 2007 to rope in the rapidly growing informal sector to the national tax base.

At the time, TOT seemed promising to collect more for the national treasury kitty by simplifying tax affairs in compliance, tax computation, filing returns and record keeping for businesses with low turnovers.

However its regime has been plagued with poor administrative structures, enforcement failures and rampant tax evasion characterised by lack of taxpayer registration and poor record keeping coupled with dishonest sales declaration which made the KRA to issue public notices relating to ETR fraud and on incidencts of claiming input VAT using fictitious invoices.

With such factors the KRA could not achieve the revenue target for this sector.

The introduction of the presumptive tax comes at a time when the KRA in recent financial years failed to achieve revenue targets particularly on indirect taxes.

According to the Quarterly Economic and Budgetary Review for the first quarter of the financial year 2018/2019 published by the National Treasury the KRA failed to achieve revenue targets by 13.34 per cent, 17.21per cent and 20.22 per cent for VAT of local supplies, Excise Duty and VAT on imports respectively.

However, PAYE was the best performer collecting Sh89.804 billion in the first quarter of the 2018/2019 financial year between July and September. This illustrates the strain on the formal sector to fund the government’s operations.

To this end, it is imperative that the KRA enhances collection and widen the tax base by roping in the informal sector to meet revenue targets and informs the introduction of the presumptive tax.

Previous attempts by the government to widen the tax base have proven troublesome. Therefore a need arose to rethink and redesign a tax system tailored for the erratic informal sector to tie tax compliance to trade requirements such as trade permits.

Presumptive tax targets select small and medium enterprises with an annual turnover of less than Sh5 million. Its blueprint addresses the administrative and compliance hiccups of its predecessor, TOT, by leveraging on the capacity and efficiency of county governments in business permit governance. The new presumptive tax if well implemented may enhance tax compliance through the simplification of tax procedures by eliminating mandatory exercises of filing quarter returns, maintaining monthly sales records and taxpayer registration with the KRA as was expected under the TOT rules.

Its implementation is set to yield an estimated tax of Sh625.5 million, according to the Analysis of the Finance Bill, 2018 report submitted in August by the Parliamentary Budget Office.

Presumptive tax if well implemented will assist in generating required tax revenue from a traditionally difficult sector from a compliance perspective. However, similar to the TOT, the implementation of the Sh5 million turnover thresholds for presumptive tax is likely to be subject to abuse.

Unscrupulous businesses generating over Sh 5 million in gross receipts may align themselves to presumptive tax to avoid the thirty percent corporation taxes. In contrast, the government should nurture and support the growth of the informal sector given the crucial role it roles in driving economy and solving unemployment.

However it is fundamental that the informal sector also settles what rightfully belongs to Caesar to ease the tax pressure already burdened on the formal sector.

It will also be challenging for the KRA to account for taxes paid by businesses not registered on iTax platform. Most small businesses hardly have pins and this might proof to be an onerous task for the revenue authority.

Most important is that the KRA should undertake proper education and awareness to the informal sector regarding the impending taxes to be enforced come January 1, 2019. It is prudent for small businesses to enlighten themselves on the new presumptive tax legislation lest they fail renewing or obtaining business permits.

Probably in future there will be a need for the Nation Treasury and the KRA to sit and innovate schemes for taxpayers who operate businesses without trade permit falling out of the ambit of the tax net. In conclusion, presumptive tax is a welcome move as measure to rope in the informal sector and taxpayers should prepare themselves for enhanced compliance. This will mean more for the national coffers as the government strives to amass revenue for development programs for its Big Four Agenda.

George Maina, tax consultant and Head of Tax at Rödl & Partner Limited.