What new tax refund regime means

For years, the Kenya Revenue Authority (KRA) has been delaying making tax refunds to business and individuals, citing audit delays of the claims and also inadequate cash.

A tax refunds claim happens because taxpayers have either over-withheld or made prepayments relatively above the level of their tax liability, leading to the taxman owing them.

But starting this year, the KRA will stop paying tax refunds and instead offset the overpaid duties against future tax obligations.

This comes after the passing of the Finance Act 2021.

Previously, the law was designed that the taxpayer had to wait for the Treasury to find money and allocate it for the KRA to make the refund payments.

But the law has now empowered tax agency to handle the refund. Once the commissioner is satisfied that there was an overpayment of tax, the excess shall be deemed to have been offset against the taxpayer’s future tax liabilities.

It is quite astounding that such a simple solution to the perennial problem of tax refunds couldn’t have been passed long ago.

Companies that have accumulated large VAT refunds have suffered negative impact on liquidity and cash flow problems because they have foregone potential investment they would have done with the money and made tax prepayments to avoid penalties and fines.

Individuals also have suffered over-withholding of taxes and interim tax payments just to be on the right side of the taxman.

But despite this position, taxpayers were expected to continue remitting up-to-date taxes as they await refunds to be made at the convenience of Treasury.

Second issue is that the government has been receiving the overpayments and enjoying it as additional revenue then hold out paying the tax refund.

When it pays the refund, sometimes as late as five years, it does without factoring in inflation; so, taxpayers get less of what they prepaid. It is technically similar to the government receiving a loan at zero-interest, which is unfair to the taxpayer.

So, the law took care of this by instructing that the KRA has up to two years to make the tax refund from the date of the application and failure to which the amount due attracts a monthly interest.

Just to mention that there are tax refunds that run back as far as 10 years, so you can imagine government borrowing money interest-free for that long. Therefore, this provision in law is to cure this tax refund problem.

Third, this law will also create a dilemma for the Treasury in the short term.

Due to Covid-19 effects, the government has been experiencing revenue shortfall and it is expected not to meet much of the intended revenue targets as the economy struggles to recover.

At the same time, offsetting tax refunds with a taxpayers’ liability means that government will experience reduced revenue collection.

Before the Covid-19 period, the government owed approximately Sh27 billion in VAT refunds on exports to manufacturers and exporters with another Sh100 billion in withholding VAT.

EXPENSIVE HAIRCUT

So, if the government is to abide by this new law, it means it has to take a haircut of more than 130 billion this year. For a government that is budgeting to collect an ambitious Sh1.7 trillion in taxes, that is an expensive haircut.

Lastly, it has been observed in many jurisdictions that where tax refunds are promptly cleared, there is a positive relationship with tax compliance and increased tax compliance.

Sophisticated taxpayers like multinationals never prefer to overpay their liabilities to avoid giving government interest-free loans at the expense of having that income.

So, with the offsetting of tax liabilities with tax refunds, it will incentivise these sophisticated taxpayers to be fully compliant when filing returns.