Why Incoming Govt Should Not Raise Tax Rates – Analysts

Economic analysts have cautioned the incoming administration of General Muhammadu Buhari against increasing the tax rate as a way of generating additional revenue to cover declines in crude oil revenue.

Speaking in the Bi-monthly Economic Bulletin of the Financial Derivatives Company Limited, they said that efforts to show up government revenue through tax increase could backfire by encouraging tax evasion and avoidance.

Analysing the challenges before the new government, they said, “A top priority of the new federal government administration will be how to cover the huge fiscal gap created by the plunge in oil revenues and massive election spending in the 2015 general elections.

“This must be addressed in order to finance development programs and facilitate the day-to-day running of government and economic activities. To shore up government revenues, options available to the government include: raising the tax rate, blocking existing leakages and borrowing. While many have agreed that there is need for borrowing, there are differing views when it comes to blocking leakages and increasing taxes.

“With an estimated population of 170 million and gross domestic product (GDP) of $568.5 billion, Nigeria’s tax to GDP ratio was 5.23 percent in 2014. This is quite low compared to tax-to-GDP ratio of over 20 percent in most countries. In fact, the tax revenues collected in Nigeria in 2014 was lower than in 2013 despite an 11.3 percent in- crease in GDP.

“A high level of tax leakage, the difference between tax potential and tax collections, accentuated by the non-transparency of the current tax structure, has often been cited as one of the reasons for low tax revenues in Nigeria. The Minister of Finance noted that blocking leakages is expected to add several millions to Nigeria’s revenues while the new federal administration expects over N1 trillion to be recovered.

“In addition to leakages, Nigeria also has one of the lowest VAT rates (5%) in the world. The IMF recently advised, in its Article IV report, that there is an urgent need for Nigeria to increase its VAT. It is believed that increasing the VAT rate will boost revenues, which will help to create the fiscal space necessary to implement developmental projects in spite of declining oil revenue.

“While increasing tax rates will go a long way in boosting government revenues, we believe it should be done with caution to prevent a backfire. Higher taxes have often been found to encourage tax avoidance and evasion. This is all the more likely in an environment where a lack of transparency with the tax structure discourages people to trust the taxation system or voluntary comply with payment.

“Hence, it seems more reasonable that the government block leak ages as an immediate step to recovering revenues rather than increasing the existing tax rate. In the medium to long term, we believe as the government undertakes more developmental projects and put a better tax structure in place that encourages transparency, it can convince the people to accept a higher tax rate.”