## 1. Taxation Mandates of the Federal and Regional Governments

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### A. Motivation and background
- Ethiopia has sustained one of the highest growth rates in Sub-Saharan Africa (SSA) while its tax-to-GDP ratio remains among the lowest in the region.
- Over the past two decades, Ethiopia’s real GDP growth has consistently outperformed regional peers, driven by large-scale public investment, rapid urbanization, and structural economic shifts.
- Domestic revenue generation has lagged, constraining financing for infrastructure, social programs, and development priorities.
- The chapter benchmarks Ethiopia’s tax performance against regional and structural peers, explores constraints to tax revenue collection, estimates tax potential, analyzes revenue elasticities to the business cycle, and assesses tax efficiency across major tax categories.

### B. Key findings on revenue levels and distribution
- Ethiopia’s tax-to-GDP ratio is among the lowest in SSA, ranking below the 10th percentile of the regional distribution.
- General government tax revenues remain below the SSA median and have diverged downward in recent years, reflecting lower contributions across all major tax categories.
- Tax revenue sources (2021–2023):
  - Direct taxes on income, profits, and capital gains: approximately 3.5 percent of GDP.
  - Taxes on international trade and transactions: around 2.2 percent of GDP.
  - Taxes on goods and services (primarily VAT and excise duties): approximately 2.0 percent of GDP.
- Federal vs. regional mandates:
  - Federal government has exclusive authority over import and export duties, income taxes on civil servants, taxes on publicly owned enterprises, and national transport services.
  - Regional states levy taxes on private sector employees, agricultural income, property rents, and small traders within their jurisdictions.
  - Some taxes (profits, sales, excise duties of jointly established enterprises; revenues from large-scale mining and petroleum) are concurrently administered by both levels.
  - The federal government accounts for more than 70 percent of total tax revenues.
- Large Taxpayers Office (LTO) and Medium Taxpayers Office (MTO) contributions:
  - LTOs have accounted for around 70 percent of federal tax revenues over the past five years.
  - MTOs and small taxpayer offices have contributed approximately 15 percent each.
  - State-owned enterprises (SOEs) have accounted for approximately 45 percent of total LTO tax collections on average.

### C. Tax structure and recent trends
- Revenue distribution across categories (averages):
  - Business profit taxes: 1.7 percent of GDP.
  - Personal income taxes (PIT): 1.4 percent of GDP.
  - Customs duties: 0.8 percent of GDP.
  - VAT on imports: 0.8 percent of GDP.
  - Surtax on imports: 0.3 percent of GDP.
  - Domestic VAT: 1.2 percent of GDP.
  - Excise duties: 0.4 percent of GDP.
- Urbanization and tax performance:
  - Ethiopia has been urbanizing faster than the SSA average but remains well below the regional median.
  - Income tax revenue fell to 2.9 percent of GDP in 2024, diverging from the SSA median (which increased to 5 percent of GDP).
  - Revenue from goods and services hovered around the 25th percentile between 2000–19 before falling below the 10th percentile in 2024.
- Trade-related taxes:
  - Trade-related tax revenues peaked at 6 percent of GDP in 2005 and declined to 1.5 percent of GDP in 2024.
  - Ethiopia’s import-to-GDP ratio fell from above the 75th percentile in SSA (2005–07) to below the 10th percentile by 2024.
  - Trade tax revenues have declined less proportionally than trade openness, suggesting relatively strong collection performance on a shrinking trade base.

### D. Tax policy and revenue performance — major tax categories
- Overview:
  - The three major revenue sources are personal income tax (PIT), corporate income tax (CIT), and value-added tax (VAT).
  - Despite statutory tax rates comparable to regional peers, revenue mobilization from these taxes remains among the lowest in SSA.

- Personal Income Tax (PIT)
  - Statutory design:
    - Progressive rate structure with rates ranging from 10 to 35 percent (excluding exemptions).
    - Average PIT rates are near the regional median.
  - Revenue outcomes:
    - PIT revenue as a share of GDP falls in the 25th percentile among low-income SSA countries.
  - Distributional and compliance issues:
    - The threshold for the zero rate is low and the top marginal rate applies at relatively modest income levels.
    - A large share of formal wages is taxed at the highest rate, which may weaken incentives for compliance and encourage informality.

- Corporate Income Tax (CIT)
  - Statutory rate:
    - Top statutory CIT rate: 30 percent.
    - This rate is higher than the median for low-income SSA economies and on par with closest geographic neighbors.
  - Revenue outcomes:
    - Actual CIT revenue collection places Ethiopia between the 10th and 25th percentile in the region, indicating a substantial gap between statutory rates and realized revenues.

- Value-Added Tax (VAT)
  - Statutory rate:
    - Standard VAT rate: 15 percent, placing Ethiopia near the lower end of SSA low-income economies.
  - Revenue and efficiency:
    - VAT revenue as a share of GDP is substantially below peers that apply similar VAT rates.
    - VAT C-efficiency (VAT revenue / (VAT rate × private consumption)) has historically been low:
      - Fluctuated around the 25th percentile from 2010–2015.
      - Declined to near the 10th percentile in recent years.
    - Persistent weakness in C-efficiency suggests revenue leakage driven by policy gaps (exemptions), compliance challenges, informality, and weak enforcement.

### E. Tax revenue elasticities and the business cycle
- Output gap:
  - Ethiopia’s output gap turned positive in 2023 after years of economic disruptions (including COVID-19 and internal conflicts).
  - Output gap measured as deviation from short-term trend using the Hodrick-Prescott (HP) filter.
- Elasticities and responsiveness:
  - Personal and corporate income tax revenues:
    - Exhibit weak responsiveness to economic fluctuations.
    - Elasticity of tax revenues from income, profits, and capital gains is negative, although not statistically significantly different from zero.
    - This contrasts with benchmark groups where income tax elasticity is generally positive.
    - Implies missed fiscal dividends from recent economic growth.
  - Consumption taxes (VAT and excise):
    - Exhibit a positive correlation with the business cycle and elasticities broadly in line with other country averages.
    - Despite this, VAT and excise collections remain structurally low due to exemptions, compliance challenges, and informality.

### Responsiveness of trade-related tax revenues and tax potential (chapter 21)
- Responsiveness of tax revenues to economic activity
  - Tax revenues from international trade and transactions exhibit the highest elasticity to both the output gap and import fluctuations, exceeding that of other country groups.
  - Trade taxes have historically been an important and efficient revenue source for Ethiopia.
  - Ethiopia continues to generate above-median trade tax revenues despite having one of the lowest levels of trade openness among SSA countries.
  - Trade and consumption taxes display high cyclicality, while income taxes remain structurally constrained.

- Revenue potential and the tax gap
  - Comparing Ethiopia’s tax-to-GDP ratio with peer countries allows estimation of a tax frontier; the gap between actual collections and the frontier defines the tax gap.
  - Structural constraints limiting tax potential:
    - Large agricultural sector with high informality and many small producers reduces taxable base.
    - Low trade openness limits customs duties, VAT on imports, and excise revenue despite relatively efficient collection of trade taxes.
    - Institutional quality and governance: Ethiopia ranks above the LIC average in government effectiveness and corruption control indicators but remains below emerging and advanced economies.
  - SFA estimates and implications:
    - Ethiopia could achieve a tax-to -GDP ratio of about 17 percent (SFA result).
    - Ethiopia’s average tax-to -GDP ratio is about 8 percent, implying a tax gap of around 9 percentage points of GDP.
    - A 15 percent tax-to -GDP benchmark is identified as a critical threshold for accelerating growth and development; Ethiopia remains below this threshold.
    - Ethiopia’s tax effort is estimated at 51 percent.

- Stochastic Frontier Analysis (method and key estimation output)
  - Method summary:
    - SFA models tax-to-GDP as a function of structural determinants (GDP per capita, GDP per capita squared, share of agriculture in GDP, trade openness, corruption control, government effectiveness), allowing one-sided inefficiency (푢푢) and random shocks (푣푣).
    - Efficiency score approximates tax effort and tax potential is computed as 푦푦 / exp(−푢푢).
    - Data cover the period 1990–2022 for 191 countries, drawn from WEO, WoRLD, VDEM, and WDI databases.
  - Selected SFA estimation results (TRE with Half-Normal Inefficiency; standard errors in parentheses):
    - GDP per capita 2.060 ***
      - (0.368)
    - GDP per capita sq. -0.103 ***
      - (0.021)
    - Agriculture share in GDP -0.087 ***
      - (0.032)
    - Trade share in GDP 0.102 ***
      - (0.031)
    - Public Sector Corruption -0.032 ***
      - (0.011)
    - Constant -16.885 ***
      - (1.476)
    - Usigma -0.776 **
      - (0.330)
    - Vsigma -4.838 ***
      - (0.715)
    - Theta 1.102 ***
      - (0.033)
    - Obs. 3025.000
    - Log-Likelihood 943.828
    - AIC -1881.657
    - BIC -1863.613

### Policy actions, reforms, and recommendations
- Authorities’ reform framework:
  - Homegrown Economic Reform Agenda (HGER) supported by the IMF Extended Credit Facility (ECF) program approved in July 2024.
  - National Medium-Term Revenue Strategy (NMTRS) is a key pillar for improving tax policy and administration.
- Recent tax policy measures aimed at broadening the base and improving compliance:
  - NMTRS priorities: reforms in VAT, excise, corporate income tax, presumptive income taxes, and property taxation.
  - New VAT Proclamation approved in July 2024: reducing exemptions, limiting zero-rating to exports, expanding voluntary registration, clarifying federal and regional tax mandates.
  - Revised excise duties on alcohol and tobacco and stricter enforcement of the excise stamp regime.
  - Adjustments to align customs declarations with daily exchange rate fluctuations have strengthened import duty collections.
- Tax administration progress:
  - 2024 TADAT assessment shows marked improvement over 2016; Ethiopia has narrowed gaps across various tax administration performance areas and is more aligned with peer countries.
  - Notable advancements in dispute resolution, taxpayer registration, and voluntary compliance; shortcomings remain in accurate reporting and risk management.
- Projections and limits:
  - Projections indicate gradual recovery in tax revenues across major categories but total tax revenue is expected to remain below the 15 percent tax-to-GDP benchmark.
- Recommended focus areas:
  - Continue implementing NMTRS-driven reforms and the National Tax Reform Taskforce to boost revenue, fairness, transparency, and efficiency.
  - Strengthen tax policy refinements and administration: broaden the tax base, formalize the economy, improve compliance, and enhance governance to align revenue performance with economic potential.

*Source: IMF Selected Issues Paper — "Ethiopia’s Tax System: Structure, Performance, and Benchmarking" and chapter "21. International trade-related tax revenues are the most responsive to economic activity" (content unit: sipea2025108a).*

### 1. Taxation Mandates of the Federal and Regional Governments _________________________ 5

### 1. Taxation Mandates of the Federal and Regional Governments

### A. Motivation and Background
- Ethiopia has sustained one of the highest growth rates in Sub-Saharan Africa (SSA) while its tax-to-GDP ratio remains among the lowest in the region.
- Over the past two decades, Ethiopia’s real GDP growth has consistently outperformed regional peers, driven by large-scale public investment, rapid urbanization, and structural economic shifts.
- Despite robust expansion, domestic revenue generation has lagged, constraining financing for infrastructure, social programs, and development priorities.
- The paper benchmarks Ethiopia’s tax performance against regional and structural peers, explores key constraints to tax revenue collection, estimates Ethiopia’s tax potential, analyzes revenue elasticities to the business cycle, and assesses tax efficiency across major tax categories.

### B. Key Findings on Revenue Levels and Distribution
- Ethiopia’s tax-to-GDP ratio is among the lowest in SSA, ranking below the 10th percentile of the regional distribution.
- General government tax revenues remain below the SSA median and have diverged downward in recent years, reflecting lower contributions across all major tax categories.
- Tax revenue sources (2021–2023):
  - Direct taxes on income, profits, and capital gains: approximately 3.5 percent of GDP.
  - Taxes on international trade and transactions: around 2.2 percent of GDP.
  - Taxes on goods and services (primarily VAT and excise duties): approximately 2.0 percent of GDP.
- Federal vs. regional mandates:
  - Federal government has exclusive authority over import and export duties, income taxes on civil servants, taxes on publicly owned enterprises, and national transport services.
  - Regional states levy taxes on private sector employees, agricultural income, property rents, and small traders within their jurisdictions.
  - Some taxes (profits, sales, excise duties of jointly established enterprises; revenues from large-scale mining and petroleum) are concurrently administered by both levels.
  - The federal government accounts for more than 70 percent of total tax revenues.
- Large Taxpayers Office (LTO) and Medium Taxpayers Office (MTO) contributions:
  - LTOs have accounted for around 70 percent of federal tax revenues over the past five years.
  - MTOs and small taxpayer offices have contributed approximately 15 percent each.
  - State-owned enterprises (SOEs) have accounted for approximately 45 percent of total LTO tax collections on average.

### C. Tax Structure and Recent Trends
- Revenue distribution across categories (averages):
  - Business profit taxes: 1.7 percent of GDP.
  - Personal income taxes (PIT): 1.4 percent of GDP.
  - Customs duties: 0.8 percent of GDP.
  - VAT on imports: 0.8 percent of GDP.
  - Surtax on imports: 0.3 percent of GDP.
  - Domestic VAT: 1.2 percent of GDP.
  - Excise duties: 0.4 percent of GDP.
- Urbanization and tax performance:
  - Ethiopia has been urbanizing faster than the SSA average but remains well below the regional median.
  - Income tax revenue fell to 2.9 percent of GDP in 2024, diverging from the SSA median (which increased to 5 percent of GDP).
  - Revenue from goods and services hovered around the 25th percentile between 2000–19 before falling below the 10th percentile in 2024.
- Trade-related taxes:
  - Trade-related tax revenues peaked at 6 percent of GDP in 2005 and declined to 1.5 percent of GDP in 2024.
  - Ethiopia’s import-to-GDP ratio fell from above the 75th percentile in SSA (2005–07) to below the 10th percentile by 2024.
  - Trade tax revenues have declined less proportionally than trade openness, suggesting relatively strong collection performance on a shrinking trade base.

### D. Tax Policy and Revenue Performance — Major Tax Categories
- Overview:
  - The three major revenue sources are personal income tax (PIT), corporate income tax (CIT), and value-added tax (VAT).
  - Despite statutory tax rates comparable to regional peers, revenue mobilization from these taxes remains among the lowest in SSA.

- Personal Income Tax (PIT)
  - Statutory design:
    - Progressive rate structure with rates ranging from 10 to 35 percent (excluding exemptions).
    - Average PIT rates are near the regional median.
  - Revenue outcomes:
    - PIT revenue as a share of GDP falls in the 25th percentile among low-income SSA countries.
  - Distributional and compliance issues:
    - The threshold for the zero rate is low and the top marginal rate applies at relatively modest income levels.
    - A large share of formal wages is taxed at the highest rate, which may weaken incentives for compliance and encourage informality.

- Corporate Income Tax (CIT)
  - Statutory rate:
    - Top statutory CIT rate: 30 percent.
    - This rate is higher than the median for low-income SSA economies and on par with closest geographic neighbors.
  - Revenue outcomes:
    - Actual CIT revenue collection places Ethiopia between the 10th and 25th percentile in the region, indicating a substantial gap between statutory rates and realized revenues.

- Value-Added Tax (VAT)
  - Statutory rate:
    - Standard VAT rate: 15 percent, placing Ethiopia near the lower end of SSA low-income economies.
  - Revenue and efficiency:
    - VAT revenue as a share of GDP is substantially below peers that apply similar VAT rates.
    - VAT C-efficiency (VAT revenue / (VAT rate × private consumption)) has historically been low:
      - Fluctuated around the 25th percentile from 2010–2015.
      - Declined to near the 10th percentile in recent years.
    - Persistent weakness in C-efficiency suggests revenue leakage driven by policy gaps (exemptions), compliance challenges, informality, and weak enforcement.

### E. Tax Revenue Elasticities and the Business Cycle
- Output gap:
  - Ethiopia’s output gap turned positive in 2023 after years of economic disruptions (including COVID-19 and internal conflicts).
  - Output gap measured as deviation from short-term trend using the Hodrick-Prescott (HP) filter.
- Elasticities and responsiveness:
  - Personal and corporate income tax revenues:
    - Exhibit weak responsiveness to economic fluctuations.
    - Elasticity of tax revenues from income, profits, and capital gains is negative, although not statistically significantly different from zero.
    - This contrasts with benchmark groups where income tax elasticity is generally positive.
    - Implies missed fiscal dividends from recent economic growth.
  - Consumption taxes (VAT and excise):
    - Exhibit a positive correlation with the business cycle and elasticities broadly in line with other country averages.
    - Despite this, VAT and excise collections remain structurally low due to exemptions, compliance challenges, and informality.

*Source: IMF Selected Issues Paper — "Ethiopia’s Tax System: Structure, Performance, and Benchmarking" (content unit: 1. Taxation Mandates of the Federal and Regional Governments).*

### 21.      International trade-related tax revenues are the most responsive to economic activity

### 21.      International trade-related tax revenues are the most responsive to economic activity

### Responsiveness of tax revenues to economic activity
- Tax revenues from international trade and transactions exhibit the highest elasticity to both the output gap and import fluctuations, exceeding that of other country groups (Figure 10, bottom).
- This strong correlation confirms that trade taxes have historically been an important and efficient revenue source for Ethiopia.
- Ethiopia continues to generate above-median trade tax revenues despite having one of the lowest levels of trade openness among SSA countries.
- Trade and consumption taxes display high cyclicality, while income taxes remain structurally constrained (paragraph 22).

### Revenue potential and the tax gap
- Comparing Ethiopia’s tax-to-GDP ratio with peer countries allows estimation of a tax frontier; the gap between actual collections and the frontier defines the tax gap (paragraphs 23–24).
- Structural constraints limiting tax potential:
  - Large agricultural sector with high informality and many small producers reduces taxable base (paragraph 24).
  - Low trade openness limits customs duties, VAT on imports, and excise revenue despite relatively efficient collection of trade taxes (paragraph 24).
  - Institutional quality and governance: Ethiopia ranks above the LIC average in government effectiveness and corruption control indicators but remains below emerging and advanced economies (paragraph 25).
- Stochastic Frontier Analysis (SFA) estimates and implications:
  - Ethiopia could achieve a tax-to -GDP ratio of about 17 percent (SFA result) (paragraph 26).
  - Ethiopia’s average tax-to -GDP ratio is about 8 percent, implying a tax gap of around 9 percentage points of GDP (paragraph 26).
  - A 15 percent tax-to -GDP benchmark is identified as a critical threshold for accelerating growth and development; Ethiopia remains below this threshold (paragraph 27).
  - Ethiopia’s tax effort is estimated at 51 percent (paragraph 28).

### Stochastic Frontier Analysis (method and key estimation output)
- Method summary:
  - SFA models tax-to-GDP as a function of structural determinants (GDP per capita, GDP per capita squared, share of agriculture in GDP, trade openness, corruption control, government effectiveness), allowing one-sided inefficiency (푢푢) and random shocks (푣푣) (Box 1).
  - Efficiency score approximates tax effort and tax potential is computed as 푦푦 / exp(−푢푢) (Box 1).
  - Data cover the period 1990–2022 for 191 countries, drawn from WEO, WoRLD, VDEM, and WDI databases (Box 1).
- Selected SFA estimation results (TRE with Half-Normal Inefficiency; standard errors in parentheses):
  - GDP per capita 2.060 ***
    - (0.368)
  - GDP per capita sq. -0.103 ***
    - (0.021)
  - Agriculture share in GDP -0.087 ***
    - (0.032)
  - Trade share in GDP 0.102 ***
    - (0.031)
  - Public Sector Corruption -0.032 ***
    - (0.011)
  - Constant -16.885 ***
    - (1.476)
  - Usigma -0.776 **
    - (0.330)
  - Vsigma -4.838 ***
    - (0.715)
  - Theta 1.102 ***
    - (0.033)
  - Obs. 3025.000
  - Log-Likelihood 943.828
  - AIC -1881.657
  - BIC -1863.613

### Policy actions and recent reforms under the ECF-supported program
- Authorities’ reform framework:
  - Homegrown Economic Reform Agenda (HGER) supported by the IMF Extended Credit Facility (ECF) program approved in July 2024 (paragraph 29).
  - National Medium-Term Revenue Strategy (NMTRS) is a key pillar for improving tax policy and administration (paragraph 29).
- Recent tax policy measures aimed at broadening the base and improving compliance (paragraph 30):
  - NMTRS priorities: reforms in VAT, excise, corporate income tax, presumptive income taxes, and property taxation.
  - New VAT Proclamation approved in July 2024: reducing exemptions, limiting zero-rating to exports, expanding voluntary registration, clarifying federal and regional tax mandates.
  - Revised excise duties on alcohol and tobacco and stricter enforcement of the excise stamp regime.
  - Adjustments to align customs declarations with daily exchange rate fluctuations have strengthened import duty collections.
- Tax administration progress:
  - 2024 TADAT assessment shows marked improvement over 2016; Ethiopia has narrowed gaps across various tax administration performance areas and is more aligned with peer countries (paragraph 31).
  - Notable advancements in dispute resolution, taxpayer registration, and voluntary compliance; shortcomings remain in accurate reporting and risk management (paragraph 31).
- Projections and limits:
  - Projections indicate gradual recovery in tax revenues across major categories but total tax revenue is expected to remain below the 15 percent tax-to-GDP benchmark (paragraph 32).

### Key conclusions and recommended focus areas
- Current performance and constraints:
  - Ethiopia’s tax-to-GDP ratio is among the lowest in Sub-Saharan Africa and averages about 8 percent (paragraphs 26, 33).
  - Statutory tax rates are broadly aligned with regional peers, but collections are constrained by narrow tax base, high informality, and administrative challenges including intergovernmental tax system features (paragraph 33).
  - VAT revenues are significantly lower than in peer economies; trade taxes have declined as trade openness has contracted (paragraphs 34).
- Policy directions emphasized:
  - Continue implementing NMTRS-driven reforms and the National Tax Reform Taskforce to boost revenue, fairness, transparency, and efficiency (paragraph 35).
  - Strengthen tax policy refinements and administration: broaden the tax base, formalize the economy, improve compliance, and enhance governance to align revenue performance with economic potential (paragraph 36).

*Source: IMF Selected Issues Paper chapter "21. International trade-related tax revenues are the most responsive to economic activity" (sipea2025108a).*

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_Source: https://www.imf.org/-/media/files/publications/selected-issues-papers/2025/english/sipea2025108a.pdf_