Governments and Activities in the Public Interest

Chapter 11 discusses the EU legacy of taxing public bodies, illustrated by the African experience. The EU’s out-of-scope approach is bedevilled by distortions arising from the self-supply bias, the investment disincentive, and, somewhat more remotely, unfair competition vis-à-vis the private sector. Outside Africa, countries with VAT have addressed these issues differently. Various EU countries and Canada, for example, have designed input tax refund mechanisms to eliminate the self-supply bias and the investment disincentive. Still other countries, such as New Zealand, tax governments and activities in the public interest in full and have thus come to terms with the unfair competition issue, too. A concluding section summarizes the characteristics and effects of the various approaches and attempts to formulate a recommendation for African countries.

Economic Integration and Tax Coordination in Regional Economic Communities

Chapter 8 reviews the various stages of economic integration that can be distinguished and discusses VAT (and excise tax) coordination in the presence and absence of border controls. All African countries belong to a regional economic community (REC), and often to more than one. The countries are closely monitoring the remarkable combination of free politics and free economics achieved by the common market (now the single market) of the member states of the EU. Free trade and free competition raise the standards of living in participating member countries. In this setting, tax coordination should ensure that equal conditions for competitors are not distorted by discriminatory tax systems—a criterion that is referred to as tax neutrality. At the same time, however, the participating countries should retain as much tax autonomy as possible in order to be able to pursue their own social and economic policy goals.

Agenda for VAT Modernization

Chapter 18 sums up the arguments for the widely shared belief that VAT’s role in the tax system primarily is to raise revenue, predictably and efficiently. Accordingly, African VATs would benefit from a thorough review of the standard and non-standard exemptions, exclusions and zero rates, which depress tax collections, distort consumer and producer choices, discriminate against exports, favour imports, greatly increase administrative complexity, and promote tax avoidance. The case for VAT base-broadening is greatly strengthened by the findings of incidence studies that show that the net result of fiscal systems can be equalizing if the revenue from broad-based VATs is used to finance in-kind transfers, such as healthcare and education. Importantly, the emphasis on VAT policy should not detract from the centrality of VAT administration in shaping desirable outcomes. But better VAT design should lay the groundwork for better VAT administration. Last but not least, modernizing VAT systems requires a change in mindsets.

Lotteries and Gambling

Chapter 15 argues that transactions involved in games of chance should be included in the VAT base, regardless of whether or not lotteries and gambling are subject to externality-correcting excises. The charge should extend to all forms of gaming, except if feasibility considerations (e.g. village cockfights) preclude the effective application of the VAT. The chapter also shows that the reverse-charge approach and the margin method lead to identical outcomes in calculating the VAT liability. To prevent double taxation and diversion of transactions, the VAT paid for the acquisition of non-monetary prizes and awards should be creditable against the VAT on sales of tickets, tokens, and chips. If a casino is part of a larger establishment operated by a registered business, the VAT on a non-monetary prize (say, a night’s stay or meal at a hotel) should be denied to the casino in order to ensure that the prize’s value is taxed once.

Immovable Property

Chapter 12 examines the VAT treatment of immovable property in Africa. In most African countries, housing services—in the form of rents and rental values of owner-occupied property—comprise a sizable part of consumption expenditures. Clearly, housing is too large a sector to ignore in the design and operation of a broad-based, properly functioning VAT. Since residential housing is often an income-elastic item of consumption, exemption of this sector would be regressive with respect to income; in other words, the rich would benefit more than the poor. The chapter starts by setting out how immovable property should be taxed under a pure and a best-practice VAT. This is followed by a review of the actual treatment of immovable property in Africa, including the VAT’s interaction with transfer taxes and stamp duties. Possible directions for reform are considered, before a recapitulation of policy proposals concludes.

Exemptions and Exclusions

Chapter 9 draws up a taxonomy of standard and non-standard exclusions, exemptions, and zero rates, highlights the distortions caused by them and the administrative complexities to which they give rise. Broadly, it compares the treatment of various exemptions in the EU, which have also been adopted by most African countries, with their treatment under New Zealand’s GST and South Africa’s VAT. For political or administrative reasons, all VATs exempt or exclude specified goods, services, activities, entities, or sectors, but most African VATs go much further down this road than accords with VAT’s functionality and logic. Exemptions and exclusions are truly the Achilles heel of the VAT.

Countries without VAT

Chapter 5 surveys the sales taxes of African countries that do not (yet) have a VAT and analyses the distortions, valuation problems, and definitional issues caused by these taxes. Although VAT is not without problems either—in design but particularly in administration—it appears to emerge as a superior consumption tax to the regimes currently in force in the non-VAT countries, such as Angola, Liberia, and Nigeria. But while a VAT can be potentially well designed and administered, by definition production taxes will always be plagued by distortions, valuation problems, and definitional complexities. In short, a VAT can, but other sales taxes cannot, be improved.

Other Broad-Based Consumption Taxes

Chapter 3 reviews broad-based consumption taxes with which the VAT can be compared, especially the retail sales tax (RST). The Profit & Loss (P&L) Account forms the basis for explaining how the tax liabilities under the various variants are computed. The accounting matrix is also used to note the similarities to and differences from a conventional business income tax whose profits are ascertained on the basis of the matching principle. Subsequently, the practical differences between the taxes are discussed, as well as their prevalence around the world. A brief section on the major lessons from worldwide experience with VAT concludes.

Financial Services

As shown in Chapter 13, the appropriate treatment of financial services is the single most important design issue that remains to be solved under the VAT. Conventional wisdom holds that margin-based financial services, as opposed to fee-based services, cannot be included in the VAT base calculated on the tax credit method. For this reason, most countries with a VAT exempt financial services entirely, whether margin-based or fee-based. To limit the effects of the rather broad EU type of exemption, two kinds of modifications have been adopted. First, the reach of the full exemption has been narrowed down by taxing fee-based financial services. Second, the cascading effects of the exemption have been mitigated by zero-rating the provision of financial services to registered businesses, providing for partial input VAT recovery. The chapter concludes by drawing some lessons from the analysis which may be useful for African countries.

Non-Standard Exemptions and Zero Rates

Chapter 10 provides a detailed review and analysis of the manifold non-standard exemptions and zero rates found around the African continent, which are most costly in terms of revenue forgone. One table lists the non-standard exemptions of unprocessed foodstuffs, agricultural inputs, medical supplies, utilities, print, fuel, and some other goods and services on a country-by-country basis. For each item, some indication is provided about the reach of each exemption or zero/lower rate. A second table does the same for the zero or positive but reduced rates on the same items. The chapter concludes with an overview of the VAT reforms in four countries—Benin, Kenya, Senegal, and Tanzania—that have eliminated most, if not all, non-standard exemptions and zero rates, a move that other African countries may wish to consider too.