September 25, 2020

Curbing toxic tax incentives and improving tax administration , invest in education

Curbing toxic tax incentives and improving tax administration may reduce budget deficit and donor dependency in education in Malawi

Curbing toxic tax incentives and improving tax administration may reduce budget deficit and donor dependency in education in Malawi

Writes  Limbani Nsapato.

The cost of financing the new ten -year (2020-2030) Malawi Ministry of Education National Education Investment Plan (NESIP) is estimated at K9. 88 trillion (US$12.4 billion). However, there is an estimated funding gap of MK5.1 trillion (US$6.3 billion) as resources from government are projected at MK4.5 trillion (US$5.6 billion) while donors are expected to contribute about MK333.7 billion (US$417 million), giving a resource envelope of MK4.8 trillion (US$6 billion). The NESIP observes that over the past eleven years (2008-2019) donors have provided approximately MK602 billion (US$753 Million) to the sector averaging at least MK54 billion (US$68 million) per year. This entails that donor contribution to the sector is expected to decline by 44%, and so cannot be relied upon.

How can government raise additional income to meet the deficit? I hereby suggest that reforms in tax administration could help reduce the deficit and ensure that the goals of education are achieved in the coming 10 years.  Malawi’s domestic resource mobilisation largely depends on performance of taxes and a higher performance in tax collection is a big potential for increase in domestic resource mobilisation to support sectors such as education. For instance, based on government budget documents published by Ministry of Finance, in 2018/19 financial year total revenue and grants amounted to K1.121 trillion (US$1494 million) (representing 19.9% of the GDP) out of which K1.052 trillion (US$1402milloon) (90%) was from domestic revenue.  In 2019/20 financial year total revenue and grants amounted to K1.279 trillion (US$1705 million) (20.4% of GDP) out of which K1.104 trillion (US$1472 million) (86%) was from domestic revenue.

However, the country has had a bad history of failure to collect tax to match with international benchmarks or national targets, whereby tax revenue as percent of the GDP has not been consistent with and often below Malawi Growth and Development Strategy (MGDS) projection of 24% and international benchmark of 20%. For instance, in 2013/14 the collected tax was 20.18% of the GDP, followed by 18.26% in 2014/14, 17.57% in 2015/16, 19.80% in 2016/17, 18.62% in 2017/18 and 18.80% in 2018/19 and 18.3% in 2019/2020. Except for 2013/14 government failed to achieve the international/MGDS targets with a seven-year (2013-2020) average of 18.79%.

Interestingly, tax performance had positive variance only in two out of the seven years in which the tax to GDP ratio was surpassed or was close to 20% (2014/15 and 2016/17). In concrete figures, in 2017/18 taxes amounted to K861.9 billion (US$1149 million) against an end-year revised target of K870.9 billion (US$1161 million) reflecting an under performance of K8.9 billion (US$11.8 million). In 2018/2019 taxes collected were K968.9 billion (US$1290 million) against a year-end target of K978.7 billion (US$1304 million) thereby underperforming by K9.7 billion (US$12.9 million. In 2019/20 likely tax outturn was K1,104 billion (US$1472 million) against approved estimates of K1,425 billion (US$1900 million) thereby underperforming by K247.5 billion (US$329.3 million). For the five years whereby tax collection target was not achieved (2014/15; 2015/16; 2017/18, 2018/19 and 2019/20 the cumulative underperformance amounted to K303. 7 billion (US$404,980 million).

Compared to other countries in SADC Malawi’s average tax to GDP ratio is lower than most countries. For instance, for the period 2010-2016 where comparable data was available, Malawi’s average tax to GPD ratio (15.0%) was lower than at least 9 SADC countries including Zambia (15.8), Mauritius (16.9%), Mozambique (20.8%), Eswatini (21.3%), Botswana (24.3%), South Africa (26.1%), Zimbabwe (27.8%), Namibia (30.7%) and Lesotho (40.8%) meaning lower capacity than other countries, as noted by UNICEF report of 2019.

Construction works at Natiswe Primary School by a well wishers

Gaps in revenue mobilization have led to increase in budget deficits and higher dependence on donors for grants. Therefore, it is critical for government to manage tax administration in order to increase tax collection and minimise dependence on donors. Increased tax collection, however, needs to be done strategically to avoid increasing the tax burden on the poor. In 2012, Chiumia & Simwaka in their study on the subject noted that Malawians were heavily burdened and that a rise in tax burden was associated with a decline in economic growth in Malawi with an overall elasticity of 0.88.

If government improved tax administration capacity and were to achieve at least Tax to GDP ratio of 24% over the period 2013/14 to 2019/2020 government could have raised K515.2 billion (US$686.9 million) in additional revenue. The additional revenue would be enough to offset K290.4 billion (US$387.2 million) accumulated donor grants for the period and leave a surplus of K224.8 billion (US$299.7 million). This surplus is K51.5 billion (US$68.6 million) more than the K173 billion (US$230.7 million) allocated to the education budget in 2019/2020. It is also 58% of the K384.5 billion (US$512.7 million) estimated 2019/2020 revised mid-year expenditure for MGDS priority activities within education and skills development.

To reduce the tax burden on poor Malawians, the country should embrace the “tax justice model” recommended by many economic justice campaigners such as Malawi Economic Justice Network and Tax Justice Network of Africa as one way of getting the better out of taxation. In light of the tax justice model, one area that needs to be tackled is addressing harmful tax incentives and illicit financial flows.

ActionAid report published in 2015 revealed that Malawi lost K19.4 billion (US$43 million) from 2009 to 2014 through harmful tax breaks that were granted to Paladin Africa Limited, an Australian mining company. This was a case where Malawi Government agreed with Paladin on a Royalty Rate reduction of 1.5% instead of the recommended 5%, Resource Rent Tax exemption was set at 0% compared to the recommended 10%, import value added tax (VAT) exemption was agreed at 0% instead of the recommended 17.5% and Corporate Income Tax was agreed at 27% instead of the recommended 30%. Another study by Action Aid published in 2017 noted that Malawi lost MK20 billion (US$26.7 million) a year on average during 2008-12 from tax incentives given to corporations, which could have increased the education budget by 27% or paid off the average annual budget deficit of K19.8 billion (US$ 26.4  million) over the period 2015/16 to 2018/2019 for the education sector.

Furthermore, government is losing up to 10% of the GDP on illicit financial flows (IFFs) to other countries through such malpractices as corruption, theft, fraud, tax evasion, trade mispricing, cannabis production, smuggling of goods and human trafficking. For the 2019/20 financial year in which GDP was estimated at K6.041 trillion (US$8055 million) this translates to about K600 billion ($800 million) in lost revenue through IFFS, which is nearly half (47%) of total revenue and grants for the financial year amounting to K1.279 trillion (US$1705 million). This lost revenue is equivalent to US$753 Million (MK602 billion) donors have provided to the education sector for the past eleven years (2008-2019).

In conclusion better tax administration and enhanced tax justice coupled with increased transparency and accountability could reduce budget deficits and donor dependence in the education sector and adequately finance the new 10-year education strategy.