Conundrum over SVAT

The anticipated removal of the Simplified Value Added Tax (SVAT) from 1 April 2025, as per the recommendations of the IMF, has caused a sense of unease among the business community, particularly exporters. The SVAT system was originally expected to end by 1 January 2024; however, the move was deferred by the Government to next year in response to the appeals of the chambers and business associations.

SVAT was introduced in 2011 with the objective of allowing businessmen to avoid paying VAT upfront during B2B transactions and then spending a considerable amount of effort and time to obtain refunds from the Inland Revenue Department (IRD), which is known for its lethargy and inefficiency. The aforementioned postponement of the abolition of SVAT was necessitated by the absence of an effective and credible mechanism for VAT refunds. The National Chamber of Exporters (NCE) last week issued a statement, expressing its strong objection towards the removal of the SVAT system as it provides a range of benefits such as less paperwork, minimal administrative complexities as well as avoidance of VAT-related cashflow hitches compared to the previous VAT refunds-based scheme.

Prior to the implementation of SVAT, the exporters were claiming refunds as per the Suspended VAT framework which was functioning within the purview of the TQB and EDB. Nevertheless, when SVAT was launched in 2011, apart from exporters, even eligible local businesses were brought under the then newly launched scheme. It is speculated that any revenue seepage which is said to be associated with SVAT arises from the local segment and not from export-related businesses. 

Meanwhile, JAAFSL – the premier apparel industry association in Sri Lanka – had warned the abolition of the SVAT scheme in the absence of an arrangement which provides VAT refunds within a short period of time would cause serious repercussions for the SME sector. The industry chamber had also noted that exporters have legitimate VAT refunds due as far back as 2010, indicating the gravity of inconveniences that could be experienced by the exporter community if SVAT is withdrawn without a credible and satisfactory replacement mechanism.

The IMF has insisted on removing SVAT on the belief that it results in revenue erosion. However, neither the IRD nor IMF has quantified the extent of revenue leakage from SVAT. In the event of moving towards the previous VAT refund system, it would increase the paperwork of businesses while creating space for fraud. Bribery and corruption is quite entrenched among State revenue collection agencies like Customs and the IRD and the reintroduction of the standard VAT refund regime brings back memories of the infamous VAT refund scam which took place two decades ago when it was revealed that VAT branch of the IRD made unlawful refunds to non-existent companies amounting to Rs. 3.5 billion. 

The scam was then considered as the biggest VAT fraud in South Asia and senior officials of the IRD were sentenced to jail by the courts after they had pleaded guilty of having been involved in the shameful malpractice which took place during the 2002 to 2004 period. Some of the businessmen who were involved in the fraudulent exercise escaped to foreign shores and even now they are enjoying comfortable lifestyles in those countries from their ill-gotten wealth. As corruption is part and parcel of the country’s bureaucracy, a repetition of such an occurrence cannot be ruled out in a situation where SVAT is repealed without addressing the valid concerns of the stakeholders. Some of the suggestions by the IMF have been made without taking into account the country-specific circumstances and the proposal to remove SVAT is representative of that approach. The officials in the Treasury have an obligation to educate the IMF delegation about the drawbacks of such suggestions and why the intended results cannot be achieved due to the inherent limitations of the island’s structure of governance.