Fiscal predictability vital for sustainable economic growthTuesday September 27 2022
As our new Government seeks to address the high cost of living, it will need to be very mindful of how taxation policy influences our economic ecosystem.
Excise taxes, specifically, account for an important part of government revenue. But, if applied arbitrarily, they have far-reaching unintended consequences.
For example, significant excise tax hikes can result in price disparities between neighbouring countries, spurring illicit trade and resultant loss of government revenues. This is already a reality in Kenya for sectors such as alcohol, cigarettes and bottled water.
This issue is acknowledged in the draft National Tax Policy, due to be considered by the Cabinet. It states in part: “The rate of excise duty in Kenya is high compared with that of EAC Partner States which is considered to be contributing to increases in illicit trade through smuggling.”
The policy admits that illicit trade is a significant challenge that needs addressing to improve tax collection.
The report says the total revenue collected by the Treasury for 2020/21 represents just 13.8percent of GDP, far below the 25 percent target in the East African Community. Other challenges cited in the policy include low tax compliance and unpredictability of tax policies.
Unpredictable and steep tax increases have a significant impact on Kenya’s manufacturing competitiveness and can trigger a chain reaction throughout the economy.
The excise increases across a range of goods introduced in the 2022-2023 Budget, on the back of a struggling economy and resultant strain on consumers’ purchasing power, threaten to boost illicit manufacturers and traders.
Consequently, this will drain revenue sources for government and legitimate businesses, damaging Kenya’s regional competitiveness. This would see a decrease in foreign direct investment and receipts from exports.
For example, BAT Kenya exports approximately 65 percent of its output from its Nairobi factory, this being value-added products. BAT Kenya is also one of the biggest dollar generators in Kenya, raising over $100 million annually from exports.
Unfortunately, sustained unpredictable tax hikes and resulting impacts such as illicit trade risk damaging our domestic business, consequently rendering our factory inefficient. This will have a boomerang effect on Kenya’s competitiveness in the regional export market and a knock-on effect on the country’s forex earnings.
As we are a source-to-market manufacturer, this negative impact is felt at every level of our value chain, including tobacco farmers.
Therefore, when government imposes taxes – whether from a behaviour management perspective or raising revenue – it needs to consider how they might adversely affect a sector it is otherwise seeking to promote, such as agriculture.
Looking at the structure of Kenya’s Excise Duty Act, 2015, and particularly the provision for an annual inflation adjustment, one might assume this would be the only lever for increases in excise tax. However, this is not the case.
Using the tobacco industry as an example again, over the last three years the excise tax rate for cigarettes has increased by 40percent. Additionally, a proposed inflationary adjustment of 6.3percent is set for October 1, which will bring the total excise tax increase on cigarettes to over 21.3percent within one year. This is unsustainable.
Any astute businessperson will tell you that when their biggest cost line changes significantly multiple times over a short period, planning is almost impossible and business viability is at risk.
My view is that our National Tax Policy should facilitate a stable and predictable tax environment, which includes gradual and manageable tax increments that consider economic realities and the impact to taxpayers.
This way, governments are less likely to inadvertently fuel illicit trade and threaten livelihoods, while government revenues will become more predictable, leading to a thriving economy for all.
Writer is the Managing Director, BAT Kenya & General Manager, BAT East African Markets