Averaging 5% per year over the past decade, according to the most recent figures from the IMF, Kenya’s economic growth has been impressive. Revenue growth, however, has followed a more volatile trajectory and has often failed to meet government projections. The Kenya Revenue Authority (KRA) collected some KSh656.9bn ($6.4bn) in tax revenue in the second half of 2017, a figure which was nearly 7% under target, according to the National Treasury’s economic and fiscal report.
In terms of tax revenue as a share of GDP, Kenya performs poorly compared to a number of middle-income peers: after hitting a recent high of 16.8% in FY 2013/14, revenue performance has stalled well short of the level of South Africa (27.3%), Botswana (25.6%) and Mozambique (23.1%).
In a sign of the government’s impatience with taxation shortfalls, Cabinet secretary for the National Treasury, Henry Rotich, placed the KRA on notice in early 2018, stating that he would personally visit tax collection points to ensure that they were running efficiently and without leakages.
That is why, as well as looking to boost collection efficiency and curb evasion, the government has turned its attention to enacting several systemic changes in a bid to boost the national tax take. The budget policy statement published by the National Treasury in February 2018 cited a goal to double income tax revenue from KSh525bn ($3bn) in 2016/17 to KSh1.26trn ($7.1bn) in 2021/22, and identified the revision of Kenya’s income tax code as the principal means by which this is to be achieved. Kenyans were allowed a first look at the proposed changes in May 2018, when the National Treasury released the Income Tax Bill 2018 for stakeholder comments. The new law proposes a radical overhaul of the existing Income Tax Act, and aims to bring the Kenyan taxation framework for individuals in line with global trends. Among its most notable proposals are the introduction of a 35% tax band for employees earning over KSh9m ($50,600), replacing the 30% rate; increasing the capital gains tax from 5% to 20%; and implementing a presumptive tax for persons earning less than KSh5m ($28,100). Comments on the draft law were taken throughout May, and the government is expected to put the law before Parliament before the close of the year. While the final version of the legislation remains to be seen, the attention of most observers will be focused on its effect on the investment appetite of companies with high-net-worth employees, should the new top rate increase the assignment costs of firms.
Kenya is also working to boost tax income by addressing some of the inefficiencies which arise from its devolved system of governance. While the national government is empowered by the constitution to collect income tax, value-added tax (VAT), Custom duties and excise duty, Kenya’s 47 counties have the power to generate revenue via a range of channels, including property rates, parking fees, licences, rents, water and sewerage fees, entertainment taxes and an array of service charges.
However, these channels have not been exploited as effectively as the government would wish: in FY 2016/17 the controller of budget recorded KSh32.2bn ($181.2m) in taxation revenue collected by counties, against the annual target of KSh57.7bn ($324.6m). Consequently, the counties continue to rely on central government funding to meet their spending obligations. According to the National Treasury’s February 2018 budget policy statement, allocations from the national government formed 80% of counties’ overall revenue.
The KRA has therefore been signing deals with counties in a bid to combat a number of inefficiencies in the local revenue collection system. Starting with memoranda of understanding with Laikipia and Kiambu counties, the authority is working with regional authorities to seal loopholes in tax collection, as well as eliminate double taxation between the national government and devolved units. “Through the partnership we will be able to tell those counties that file nil, but ought to file a payment returns… By the end of the day the counties will be able to get enough funding without necessarily burdening the taxpayer,” James Ojee, KRA’s deputy commissioner in charge of the Policy Technical Unit, told local press in September 2017. The effort to boost collection efficiency and reduce the dependence of counties on central government funds builds on an existing drive to encourage counties to integrate the national iTax System with their revenue-collection systems, and a separate initiative to harmonise revenue-collection methods and legislation across all counties – a key concern for the private sector.
In March 2018 the government’s initiative received a useful fillip when the Institute of Certified Public Accountants of Kenya showed its support by announcing its intention to work with county governments to implement the government’s proposals and realise their revenue potential.
Room for Manoeuvre
There is good reason to think that more taxation changes are on the way. Kenya’s process of fiscal consolidation can be made much easier if the government is able to boost its tax income, and the concomitant lower fiscal deficits would be met with approval by the markets, resulting in lower domestic and external borrowing costs. The World Bank has recently published findings of its study on corporate income tax (CIT) and VAT in Kenya, which together accounted for around half of total tax revenue in 2015. Corporate tax on domestic companies is levied at the same rate as the higher band of personal income tax – 30% – while non-resident companies are subject to a 37.5% rate. However, the tax schedule contains more than 30 tax-exempt categories, which undermines revenue streams from the CIT channel. These are particularly concentrated in the areas of financial services, ICT, health and manufacturing. According to the World Bank, Kenya could increase its CIT revenue by 24% – or around KSh33.3bn ($187.3m) – by removing these exemptions, without making any change to the tax rate. Even when allowing for the retention of exemptions in socially important areas such as health and education, the analysis suggests that CIT revenue could be boosted by 19%, or approximately KSh26.2bn ($147.4m). As well as by removing exemptions, the tax base could be further widened through other measures, such as expanding the definition of business income, proscribing certain deductible expenses and increasing compliance by encouraging the use of the KRA’s electronic filing system.
Looking to Kenya’s system of VAT, the World Bank analysis notes that revenue derived from the tax ranged between 4.1% and 4.6% of GDP between FY 2010/11 and 2016/17 – a relatively low figure compared to peers in sub-Saharan Africa. However, as with corporate tax, exemptions in the existing VAT system mean that the government has plenty of scope to make potentially profitable adjustments. While some VAT exemptions are regarded as a useful social measure, as they reduce the cost of basic items for low-income households, the World Bank argues that the exemption policy results in a subsidy for middle- and high-income brackets that is often much greater than that to low-income groups.
It suggests that excise taxes are considerably more efficient in targeting equity objectives. Taking into account VAT exemptions on domestic supplies, zero-rated supplies and exempted imports, there is a leakage of up to 3.1% in VAT revenue, which the government could plug with relatively straightforward alterations to the tax schedule.
It is clear that the government’s revenue take could benefit from the reform of its two most important sources of tax income. Kenya has the potential to increase its tax-to-GDP ratio to somewhere in the region of 20-22%, which is broadly in line with that of other middle-income countries. In the longer term, Kenya may benefit from an even more innovative reform of the taxation framework. The global debate regarding tax policy has heated up over recent years, as governments around the world attempt to bridge fiscal deficits while meeting their commitments to social justice.
New taxation concepts which are gaining momentum include the possibility of taxing companies at lower rates if they improve their profits year by year; shifting away from economically costly taxes like stamp duties to modes which are more supportive of growth, such as VAT; more effectively taxing the growing digital economy; and calibrating tax frameworks to take account of the increasingly blurred distinctions between employees, the self-employed and unincorporated businesses. As Kenya’s economy continues to evolve and grow, some of these options may be of increasing interest to the tax authorities.
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