World Bank casts doubt on KRA’s quest for Sh1.8trn

Kenya is unlikely to realise an ambitious Sh1.8 trillion revenue collection target, the World Bank has warned, citing an expanding informal sector and declining traditional tax-rich economic segments such as manufacturing.

As such the Bretton Woods institution is urging the Treasury to adjust its collection targets to conform with the prevailing economic realities or risk sinking the country further into a debt trap.

It argued that the Kenya Revenue Authority (KRA) has consistently fallen short of collection targets — forcing the government to either cut back on expenditure or borrow more to finance its projects.

“The structure of the economy has changed in favour of non-tax revenue rich sectors such as agriculture — which has expanded as a share of GDP (gross domestic product) from 27.5 per cent in 2014 to 34.2 per cent in 2018 — and public sector investments,” the World Bank says in an economic update on Kenya.

But while agriculture accounts for about 34.2 per cent of nominal, its contribution to tax revenue is just about 2.6 per cent. This contrasts with manufacturing that accounted for 7.7 per cent of nominal GDP but about 18.2 per cent of tax revenue.

Kenya has witnessed a structural decline in tax revenues as a share of GDP, falling to 15 per cent in financial year 2018/19 from 16.8 per cent in financial year 2013/14 — further complicating a situation recently described by International Monetary Fund (IMF) as ‘trilemma’ for developing countries: the citizens want more development but feel they are already overtaxed and State has borrowed too much.

The World Bank now wants the elasticities and tax bases used to project revenues to be reviewed and updated to better reflect the changed economic structure.

“Such updates would introduce much-needed realism in revenue projections which are needed to better anchor spending decisions over the medium term” World Bank advises.

Revenues have declined consistently over the last five years in major tax heads. Income tax has shrunk from 8.9 per cent of GDP five years ago to 7.4 per cent while the value-added tax has narrowed to 4.4 per cent from 4.6 per cent.

TAX DEFICIT

The result is that the Treasury is struggling to contain the gaping tax deficit, which has seen it soak in more debt. The room to cut on recurrent spending such as salaries and allowances has been very small.

The decline in income tax accounts for most of the revenue shortfall. In FY2018/19, revenue from income tax was below target by about 16.3 per cent.

“This reflects lower revenue yields from both corporate income tax, withholding tax and personal income tax (PIT),” World Bank says.

The situation has been worsened by falling profits and job cuts in the corporate world. Contribution from corporations and withholding taxes depend on the profitability of firms.

Central Bank of Kenya Governor Patrick Njoroge last week faulted the structure of Kenya’s economy for delivering growth in GDP amid rising cash crunch and job losses among Kenyans.

“It is true you have GDP numbers but you can’t eat GDP. At the end of the day, what is needed is specific income. That is what anybody else wants plus jobs,” said Dr Njoroge.

Betting firms SportPesa and Betin last month fired all their staff in Kenya as they announced an exit from Kenyan market over what they termed as hostile tax environment.

Four firms — East African Portland Cement Company, Telkom Kenya, Stanbic Bank of Kenya and East African Breweries Limited had in a space of three weeks to mid- August notified employees of job cuts totalling nearly 1,700.

Other firms, which have cut staff size this year, include Ola Energy, Sanlam and Securex Agencies while Finlays will send home more than 1,000 workers in December.

This continues last year’s trend. Eight Nairobi Securities Exchange (NSE)-listed firms spent Sh2.7 billion to lay off nearly 1,600 workers last year as others cut their employee numbers through natural attrition.

Barclays Bank of Kenya, National Bank of Kenya, Standard Chartered Bank of Kenya, KCB Group and Housing Finance all spent money on layoffs as did Britam and British American Tobacco. Deacons East Africa and ARM Cement, which fell into administration, also laid-off employees.

World Bank says State’s discretionary changes to the corporate and personal income tax code has eroded the tax base, leading to the reduced collection.

This is through generous depreciation allowances, investment deductions and tax holidays, particularly for export processing zones and special economic zones.

Both World Bank and IMF have called for the scrapping of some of the tax incentives saying it is part of the reason revenue targets have been set and missed,

IMF Director of African Department Abebe Aemro Selassie said this would make sure GDP to tax collection reverts to about 20 per cent it used to be rather than the current 15 per cent.

“Going forward, what will be important is to rely more on revenue-based consolidation. Action is needed to revisit some of the tax exemptions,” said Mr Selassie in Nairobi last week.

Kenya is also grappling with an informal sector, which has proved problematic to measure and tax.

About 70 per cent of Kenya’s economy is defined as informal but World Bank warns this status could be preferred and abused by firms that want to stay out of the KRA radar. Many countries grapple with this challenge too.

The IMF is holding a statistical forum mid-November to review the definition of “informal economy” and explore new technologies that can capture the true size of this economy.

“In most low income and emerging economies, more than half of the jobs and close to 40 per cent of the output results from the informal economy. However, it’s exact size and characteristics are extremely difficult to measure,” IMF says in the build-up to the event.

Taxing the bulging digital economy is also fast becoming a headache for Kenya just as is with Organisation for Economic Co-operation and Development countries.

World Bank observes that the digitalisation of the economy could have shifted economic activity to agents whose incentive to comply with taxation is traditionally low.

The Treasury admitted in 2019/20 budget statement that the digital economy is fast evolving, posing challenges to taxation.

The unparalleled reliance on intangibles, massive use of data, widespread adoption of multi-sided business models and the difficulty of determining the jurisdiction in which value creation occurs are some of the many hurdles in taxing this economy.

Kenya ranks seventh in Africa in e-commerce uptake and 85th globally, according to the United Nations Conference on Trade and Development business-to-consumer e-commerce Index, 2018.

Casey Turgusson, a Senior Digital Development Specialist at the World Bank, said it would be very difficult to rely on the digital economy to expand the tax base.

“We don’t see the mechanism in place to tax the digital economy. Every country in the world has been struggling with this,” said Mr Turgusson.