The only feasible way to get money to pay for government expenditure on the products and services that most of us need is through taxes. However, establishing an effective and fair tax system is far from easy, especially for developing nations that seek to integrate into the global economy. The ideal tax structure should provide for the necessary revenue-raising without incurring excessive government debt, inhibiting economic growth, and diverging too much from international tax norms.

The recently released Draft National Tax Policy (the “Draft Policy”) comes against the backdrop of a rising cost of living in a post-pandemic environment. Despite the Kenya Revenue Authority (KRA) recording the highest revenue growth in history, most Kenyans and businesses are still reeling from the economic effects of COVID-19. Much of the hue and cry has been occasioned to an extent by the uncertain and unpredictable tax environment. The Draft Policy is, therefore, a laudable step in enhancing the efficiency of the tax system and ensuring consistency and certainty.

The National Treasury, working with other stakeholders, has developed the Draft Policy to offer tax policy guidance, a basis for review of tax laws, the guiding principles for the Kenyan tax system, and a legal framework for granting tax incentives and concessions to various sectors of the economy.

The Draft Policy has identified the challenges of Kenya’s tax system and outlined policy guidelines to address the identified challenges. Some of the challenges and proposed guidelines include:

Challenges of Kenya’s Tax System

Predictable tax rates and tax bases

The Government aims to provide a reasonable degree of predictability on tax rates and tax bases.

Proposed policy guidelines

• Undertake a comprehensive review of tax laws every five years to align with other Government policies.
• Undertake stakeholder engagement before undertaking any amendment of the tax laws. The analysis should consider the impact of the proposed changes on tax revenue, development, investment, employment, and economic growth.

Existence of hard to tax sectors

Subsistence agriculture and the informal sector have been cited as difficult and uneconomical to tax. The Draft Policy notes that the informal sector has expanded, but its contribution to tax revenues remains low. This is because the informal sector is heavily cash-based and characterized by poor record-keeping.

Proposed policy guidelines

• Explore ways of enhancing taxation in the agricultural and informal sectors, including using presumptive tax.
• Roll out education programmes to farmers and informal sector groups on taxation and business, including registering with respective sub-sector associations and co-operative societies.
• Enhance collaborations and exchange of information on taxpayers between the National Government and County Governments.

Tax Incentives

Tax incentives aim to promote investments and provide relief to low-income earners and vulnerable groups in society. They, however, erode the tax base and cause the Government to forego tax revenue which is estimated at 2.96 percent of GDP as of 2020.

Proposed policy guidelines

• Develop criteria for granting tax incentives considering the incentives’ costs and benefits and maintain a public record of all tax expenditures.
• Develop and regularly review guidelines on the administration of tax incentives.
• Regularly review tax incentives to align with the Government’s development agenda.
• Tax incentives provided to specific sectors should have a sunset where possible.
• Develop and implement a centralized monitoring and evaluation framework for tax incentives. 

Low tax compliance

Low levels of tax compliance have mainly been attributed to the technical and complex nature of tax laws and procedures, taxpayer apathy, high compliance cost, inadequate sharing of taxpayer information among National and County Government agencies, lack of physical presence of KRA offices in some places, and inadequate taxpayer education program.

Proposed policy guidelines

Some of the guidelines include:

• Continuously upscale the use of modern information technology in tax administration services and maintain accurate taxpayer data.
• Enhance implementation and monitoring of a structured and tailor-made engagement program for stakeholders.
• Strengthen the mechanism of educating different segments of taxpayers on changes to the tax laws and procedures.
• Enhance taxation awareness in the Kenyan education system;
• Put in place taxpayer risk-based verification programs for detecting and deterring non-compliance.
• Integrate revenue administration systems internally and externally with other third-party systems. 

Complexity in taxing the emerging digital economy

The tax system is not entirely prepared to deal with new technological business models. Due to this, some commercial activities, particularly those conducted online or through other digital platforms, have been excluded from the tax system.

Proposed policy guidelines

• Leverage on technology to deal with emerging business transactions and digital or electronic platforms.
• Put in place mechanisms to optimize revenue collection from the digital economy.
• Invest in continuous training of tax administrators in emerging technologies.
• Continuously review tax laws to align with emerging technologies.
• Develop policies and strategies to facilitate sharing of information with other tax jurisdictions. 

Value Added Tax

Compared to the total VAT collected, VAT tax expense is relatively high. In addition, the 8 percent rate applicable to petroleum products is reported to have created undue advantages over other goods.

Proposed policy guidelines

Some of the guidelines include:

• There shall be a single general rate for VAT, and where a preferential rate is granted, it shall not be lower than 25 percent of the general rate.
• VAT zero-rating shall be limited to exported goods except for transportation of passengers and supply of taxable services by carriers on international voyage or transportation of goods by land for destination terminating outside Kenya.
• There shall be a threshold value of taxable supplies that a person shall supply to qualify for registration for VAT which shall be specified in the VAT Act. The threshold shall be reviewed periodically to align with the international best practice.

Excise Duty

The Draft Policy notes that the rate of excise duty in Kenya is high compared with that of the EAC Partner States, which is considered to be contributing to an increase in illicit trade through smuggling.

Proposed policy guidelines

Some of the guidelines include:

• Specific excise duty rates shall be subject to periodic adjustments to account for inflation.
• Excise duty paid on inputs used in the manufacture of excisable products shall be offset against the excise duty payable on the finished goods.

Dispute Resolution

There is a lack of independence in tax cases settled out of court. The Commissioner appoints the facilitators of the dispute resolution in this instance.

Proposed policy guidelines

• Review the dispute resolution process to reduce the cost and time for dispute resolution.
• Provide for autonomy of the out of court process or out of Tax Appeals Tribunal process of dispute resolution by delinking the process from the KRA.
• Establish a specialized tax court.

The Draft Policy is expected to undergo further stakeholder engagement and validation before finalization. In the meantime, it is critical for stakeholders and the general public to interact and critique the Draft Policy to ensure that the final National Tax Policy is fit for purpose.