The centre for tax analysis in developing countries

Overseas Development Institue Institue for Fiscal Studies

In 2020, TaxDev has been supporting the Tax Policy Department (TPD) of the Ministry of Finance Planning and Economic Development (MoFPED), and the Uganda Revenue Authority (URA), to produce a comprehensive tax expenditure report for Uganda – the first of its kind for the country.

Uganda’s Domestic Revenue Mobilisation Strategy calls for the establishment of a tax expenditure governance framework, and the publication of a tax expenditure report is a key milestone in this regard. Going forward, it is envisaged that the report will be produced on an annual basis, with the results feeding into the enhanced monitoring of tax expenditures.

In collaboration with a World Bank technical assistance project on tax expenditure governance, TaxDev has supported partners in the TPD and URA to identify, estimate and report on the costs of tax expenditures within the tax legislation in Uganda. The data, tools and methods used in this exercise will form a basis for training of local analysts to repeat and develop the costing and reporting of tax expenditures in future.

Why countries need to measure tax expenditures

Tax expenditures are a form of government spending, through the tax code. They constitute deviations from a ‘benchmark’ tax code that infers a separate treatment on a specific group of taxpayers and can take the form of rate reliefs, exemptions, zero-ratings, credits or deferrals. Like direct provision or public spending, tax expenditure can be used to provide a form of subsidy to influence and incentivise desired behaviour, such as private investment. In low income countries and/or contexts with a less well-developed social spending system, tax expenditures can also be useful tools to support the goals of equity and redistribution. For example, many tax codes exempt essentials such as basic foodstuffs from VAT. Exemptions may also be common where tax administrations have difficulty monitoring and enforcing all aspects of the tax regime, or where the cost of collection is high. At the same time, tax expenditures – especially income tax holidays – can often end up being ineffective as an incentive.  If viewed as a ‘giveaway’ to large (often foreign) investors, they can increase perceptions of unfairness, especially where local firms do not receive the same treatment as foreign investors, which can undermine tax compliance overall.

Unlike government spending, which is documented in the national budget, tax expenditures are often not transparent. Yet, in order to ensure that tax expenditures are well-governed and achieve their intended objectives, it is vital that both the costs and benefits of tax expenditures are monitored on an ongoing basis.

An important first step toward monitoring the cost of tax expenditures is to define the ‘benchmark’ - or standard - tax system. Once this is established, the analysis turns to identifying and costing deviations from the benchmark; in short, calculating revenue foregone. It is the sum of revenue foregone that typically constitutes the estimated cost of tax expenditures in a given country.

TaxDev has supported this type of analysis in our other country partnerships and so our further work in this area will aims to assess the state of tax expenditure reporting in the four TaxDev countries – Ethiopia, Ghana, Rwanda and Uganda – and draw together experiences from the process that may provide useful lessons for other countries that may be attempting this exercise.

Building capabilities to establish a more sustainable process

Tax expenditure analysis in developing countries is often carried out by external technical assistance providers, supported by development partners. However, our aim is to help our government partners to make the regular reporting of tax expenditures more sustainable. TaxDev helped gather and apply relevant data, develop estimation tools and establish the report structure that can be used in future years.

Whilst the World Bank – supported by TaxDev – has been leading this particular exercise, staff from the MoFPED and URA have been involved at every stage and will receive further on-the-job support from TaxDev over the next two years via hands-on support with data, modelling and estimation and development of training manuals. Officials from both institutions will therefore be well-equipped to monitor not only the revenue foregone from current tax expenditures, but also to assess the impact of changes to tax expenditures in future. Uganda will join a growing number of African countries that report annually on the revenue foregone from tax expenditures.

There are several useful papers (such as this one from the IMF) providing conceptual guidance for policymakers taking their first steps to evaluate tax expenditures. Nonetheless, analysts in developing countries are often faced with many challenges, surrounding the kinds of data they should use, how to access it, or the models and calculations required for computing revenue foregone. TaxDev is working to document the practical steps and processes followed in Uganda, along with local staff, to ensure that the exercise can be repeated annually in the future. By documenting our experience from Uganda and other TaxDev countries we aim to identify lessons that other countries may find useful when undertaking similar exercises.

The Uganda tax expenditure report is in development with the Government of Uganda and the World Bank and is expected to be published later in 2020.

Published on: 15th September 2020

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