Understanding the tax man

My recent visit to Colombo – one of many dozens over the past 40 years – had been rather rushed. I had been absorbed in a conference on tax and development organised by the Institute of Policy Studies.

On my last day, I caught up with a few friends on the phone. Anjali wanted to know what had been discussed in the conference, and what it all meant to her as a citizen of this country. I explained to her what was foremost on my mind.

The Government of Sri Lanka was gradually ceasing to tax. The proportion of Gross Domestic Product collected by the tax man had been in steady decline for the last 20 years, down from about 20% to around 13%.

That was, I explained, something of a record for a country that had been engaged in expensive internal conflict, had seen no end to the growth of the numbers of people employed by government, and was enjoying growing prosperity. We would expect a growth of revenue as a proportion of Gross Domestic Product, not a decline.

I pointed out that this loosening of the grip of the tax man was far from costless. The Government is funding itself from interest-bearing loans that will have to be repaid one day. Public spending on health and education has shrivelled.

Poor quality workforce

As the World Bank pointed out recently, the Government of Sri Lanka spends less on education than any comparable Asian country. You can see the consequences of that in the poor quality of the workforce.

Sri Lanka does not have the reservoir of well-trained and trainable young people that one would expect of a middle income country – and which will be needed if it really is to become a second Singapore.

True, there are plenty of teachers on the public payroll, but they are poorly trained, equipped and motivated. As elsewhere in the public sector, the Government employs people but gives them no tools to do their jobs. ‘The bottom line,’ I said to Anjali, ‘is that the Government does not seem very interested in raising revenue’.

I could sense her irritation. ‘Why then is the Inland Revenue harassing me so much since I bought my little flat and a small car? I am getting endless forms and requests for information? If they are not really interested in revenue, why are they putting so much effort into chasing me?’

I tried to explain to her that it is precisely because the Government is not much interested in revenue-raising that the Inland Revenue mercilessly pursues people like her who have only modest salaries and assets.

Raising revenue

If the Government of Sri Lanka were really motivated to raise more revenue, here are some of the things it might do.

First, it would stop fiddling endlessly with the tax regime – changing rates, adding new taxes and charges, and generally making the tax man’s job far more complex than it need be.

Second, it would ensure that the Inland Revenue Department, the Customs Department and the Excise Department catch up with the computer age, and begin to use digital systems routinely to store information on taxpayers, assess liabilities, control payments, reconcile and collate information from different sources to bring complete evaders into the tax net, allow taxpayers to file returns online, and target their audits on those categories of taxpayers most likely actually to be evading on a significant scale.

Third, it would find ways of ensuring that these three taxing Departments actually work together, share information, and become more effective collectively than they are separately.

Fourth, it would give the heads of those Departments enough managerial autonomy so that they could tailor their activities to the needs of modern revenue raising, not old-fashioned control-oriented administration.

Fifth, it would encourage the development of effective human resource management practices, providing real incentives for staff to provide a good service to taxpayers, and not simply to meet collection targets.

Alongside that would go an effective disciplinary system to weed out the bad apples and a reformed appeals system so that most disputes between tax collectors and taxpayers would be resolved quickly by an independent body, rather than ending up in long-drawn out court cases. It is true that all these reforms pose challenges.

Done badly, they will quickly founder on the opposition of the staff of the tax departments. Done slowly and effectively, they might generate real enthusiasm from those same people. These are ‘job-enriching’ reforms: they make the working life of the average tax man and woman more rewarding, both professionally and financially.

Standard reforms

This is not pie in the sky. As various experts explained at the conference that brought me to Colombo in the first place, these reforms are now standard across much of Africa. Not to put too fine a point on it, Lanka’s revenue collection systems are looking increasingly backward from the perspective even of many countries with much lower incomes.

The President’s strategy for the development of the country is to steer a middle way between State and market, and to ensure that the State plays an active role. If that is to be done effectively, here is one part of the Government apparatus that needs beefing up.

Inland Revenue targets

But, back in today’s reality, why exactly has Anjali been harassed by the Inland Revenue after she bought a flat and a car on her modest salary? Let us start from the fact that the key Inland Revenue operational staff all have targets to meet.

And those targets are set entirely in terms of money collected.

There is nothing about collecting more information on existing taxpayers to enable more accurate assessments next year, ferreting out and registering people who should be taxpayers, ensuring that more people get into the habit of filing returns, making the tax payment process easier for taxpayers, or avoiding conflict with them.

All that matters is meeting the collection target. Meet it and you receive a 75% addition to your basic salary.

 Fall far below it and you will get only your basic salary. Add to the mix the fact that the Government of Sri Lanka has made it quite hard for the tax collectors to meet those targets. It has not given them the capacity to collect and process the information they need to do a good job. And it has taken from them the authority to tax large areas of the economy.

There are virtually no capital taxes now. Wealthy people pay nothing on their property or assets, either when they are alive or when they pass on. Taxes on income are low. Tax exemptions for companies have expanded enormously.

When the Board of Investment was established, tax holidays were given to foreign investors. But the authority of the Board, and thus eligibility for tax holidays, has now been extended to many domestic investors.

There appear to be several Government agencies that have the authority to grant tax holidays.

Put these things together and we have the answer to Anjali’s question: the Inland Revenue harasses her because they have information about her. She has a formal job, and bought her flat and car legally and openly.

Lanka’s missing public revenue

In the scramble to meet their revenue targets, the tax collectors have every incentive to harass the people they have on record to squeeze out a bit more – and to turn a blind eye to all those people who should be paying tax but have been able to get away without registering or declaring. It is not hard to find out who these people are. My friends in Colombo know plenty of them.

Imagine giving a bunch of computer literate young people some good IT hardware and access to records on property and vehicle ownership, foreign travel, credit card purchases, share trading, banks accounts and company registrations.

It would not take them many months to generate a long list of people who should be filing tax returns.

Here is Lanka’s missing public revenue. To get it into the Treasury, you don’t need to harass anyone. A polite request to file returns from now on, with forgiveness for past omissions, would be enough – provided of course that there were serious commitment from the Government side.

It would be a mistake to blame the tax man and the tax woman for the ways in which they treat Anjali. It really is ‘the system.’ And, by the way, her real name is not Anjali. Although she pays all her dues to the tax man, she does not trust him.

(The writer is a political economist, and is currently the Chair/CEO of the International Centre for Tax and Development and Professorial Fellow of the Institute of Development Studies, University of Sussex, UK. He has done extensive field research in Asia and Africa, especially Sri Lanka, Taiwan and India. He has taught at the Massachusetts Institute of Technology. He focuses specifically on taxation and governance. His thematic expertise covers governance, public policy, state capacity, politics and power, taxation.)