## _wp12220

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### I. Introduction — scope and motivation
- Renewed interest in taxation and development from policymakers, donors, civil society, and academics; G-20 leaders at their November 2010 summit stressed strengthening revenue mobilization in developing countries and asked involved organizations to report on how best they could help.
- Many developing countries need substantial additional revenue; “an additional 4 percent of GDP or so is needed in many low-income countries if they are to have a good chance of meeting the U.N. Millennium Development Goals.”
- Pressing needs include infrastructure and adaptation to climate change; the Copenhagen Accords commit advanced economies to finding US$100 billion per year for climate adaptation (source text notes “though where this is to be found remains unclear”).
- Purpose of the essay: reflect on wider issues in practical tax advice to developing countries rather than provide a sweeping technical review or identify research areas.

### II. Developing-country differences — empirical findings and policy principles
Findings and empirical observations:
- Natural resource wealth is a primary tax-relevant cross-country difference; between the early 1980s and 2005, resource-rich countries in sub-Saharan Africa increased their tax–GDP ratios by about 7 percentage points while non-resource related tax revenue was essentially stagnant.
- For resource-rich countries, key tax design issues focus on securing an acceptable share of resource rents while ensuring proper exploitation; in extreme cases (e.g., Timor-Leste) the question may be whether to have a domestic tax system at all.
- Geography matters: smaller, often island, countries can impose border taxes more easily and tend to have more efficient VATs; customs duties can be relatively more important where border taxation is easy.
- Political factors matter: political instability lowers incentives to invest in administrative capacity; political control over territory constrains practical tax policy (e.g., customs-based VAT transition less useful if government lacks territorial control).
- Colonial history and legal tradition can leave persistent tax-design differences (examples: constitutional allocation of goods/services taxation from the 1935 Government of India Act; differences between Francophone and Anglophone sub-Saharan African countries in complementary income taxes, VAT-withholding, territorial approaches).

Empirical result (Table 1, sub-Saharan Africa tax performance):
- Dependent variable: non-resource-related tax revenue relative to GDP.
- lnYPC coefficient: -0.015*** (standard error 0.005)
- OPEN coefficient: 0.078*** (standard error 0.025) or 0.080*** (0.025) in Column 2
- VAT coefficient: -0.071*** (0.023) or -0.080*** (0.023)
- VAT*lnYPC: 0.014*** (0.004)
- VAT*OPEN: -0.078** (0.032) or -0.093*** (0.031)
- ANGLO (Column 2): 0.268*** (0.168)
- VAT*ANGLO (Column 2): 0.020*** (0.004)
- Number of countries: 39; Observations: 1008; R-squared: 0.824 and 0.827
- Note: 17 of the 39 countries are classified as Anglophone.

Interpretation and policy implications:
- Anglophone countries exhibit higher non-resource revenue, and VAT appears to perform better in Anglophone countries, but causation and mechanisms are unresolved.
- Some guiding tax-design principles apply broadly: effective withholding (wages and capital income), recognition that differences in statutory rates invite evasion/avoidance, import tariffs protect inefficient producers, and turnover taxes create distortions compared to a well-functioning VAT.
- Need for better, practicable guiding principles tailored to developing country contexts while recognizing heterogeneity.

### III. History of major reform ideas — performance and lessons
Direct taxation (personal income tax):
- Early emphasis on comprehensive income taxation.
- Personal income tax commonly accounts for less than 10 percent of all tax revenue in low-income countries (compared to >25 percent average in OECD countries).
- Personal income taxation has generally failed to be a sustained or broadly fair source of revenue in many lower-income countries due to political and administrative constraints.
- Current advice often favors moving from schedular systems toward a dual income tax (progressive on labor income; flat or simple on capital income).

Value Added Tax (VAT):
- Adopted widely from late 1970s onward; about 80 percent adoption in sub-Saharan Africa; typically raises about one-quarter of all tax revenue where implemented.
- Empirical evidence: countries with a VAT raise more revenue (Keen and Lockwood, 2010), though gains are sometimes modest and less apparent in sub-Saharan Africa.
- Distributional evidence: VAT often distributionally neutral and may be less regressive than trade and excise taxes it replaces; in some cases VAT with proceeds allocated to education and health can have strongly progressive net impact (Muñoz and Cho, 2004 for Ethiopia).
- Conclusion: VAT is not a failure; focus should be on improving it rather than removing it.

Revenue authorities and Large Taxpayer Offices (LTOs):
- Creation of quasi-independent revenue authorities seen as remedy to corruption and political interference; experience mixed with no firm consensus of success.
- LTOs: the largest 1 percent of companies commonly account for 75 percent or more of tax payments in some countries; LTOs are widely adopted and relatively uncontroversial but have potential downsides (avoidance of inclusion; shifting of taxable base; risk of production inefficiencies).

Lessons:
- Need for more effective evaluation of tax reforms; data weaknesses and scarce controlled experiments hamper assessment.
- No quick fixes; implementation work (registration, audit, administration) is as critical as adoption of innovations.
- Current “big ideas” include medium taxpayer offices/small taxpayer offices, tackling evasion via tax havens and profit-shifting, and linking taxation to accountable and transparent government building.

### IV. Informatility, compliance, and the “hard-to-tax”
Reframing the policy problem:
- “Informality” is conceptually weak and unhelpful; the real focus should be on compliance and the “hard-to-tax,” recognizing heterogeneity among small enterprises and professionals.

Key distinctions and administrative priorities:
- Ghosts vs. Icebergs:
  - “Ghosts”: operators who should register but do not—identification and registration are priorities.
  - “Icebergs”: registered but under-paying taxpayers—audit and enforcement are priorities.
- Evidence: in some studies (Cameroon, Uganda) around 50 percent of firms failed to pay something for at least one legally liable tax; non-filers in the U.S. may be 7 percent of potential taxpayers.
- Targeting administrative resources involves trade-offs: taxing small businesses vs. improving VAT refunding for exporters or tackling multinationals’ aggressive tax planning.
- Low-skilled staff often assigned to small-business taxation may function as workfare rather than efficient tax administration.

Policy instruments and sectoral notes:
- Withholding taxes and advanced collection schemes can improve compliance by shifting incentives and ensuring crediting works effectively; however, they can also create pressure on withholders and form ‘bad’ chains under VAT.
- Withholding and advanced collection schemes are often “home-grown” innovations and can contradict external advice—requiring careful analysis.
- Agriculture: often labeled “hard-to-tax” but historical and modern evidence shows agriculture can be taxed effectively (example: agriculture accounted for about 40 percent of total tax revenue in Argentina while being 15 percent of GDP historically). Most small farmers may be appropriately left outside direct taxation; large/plantation agriculture is generally straightforward to tax. Political clout of agriculture often explains under-taxation (example: failure of agricultural income tax in Pakistan). Presumptive taxes differentiated by crop or land quality are important tools.

### V. Taxation and state building — perspectives and implications
Two strands in the literature:
- Strand 1: Tax capacity reflects prior investment decisions shaped by political stability, external threats, and political institutions (Acemoglu; Besley and Persson).
- Strand 2: “New fiscal sociology” emphasizes taxation as central to building responsive, accountable, competent state institutions; taxation fosters bargaining between state and citizens and promotes institution-building (Bräutigam; Moore).

Practical overlap with standard advice:
- Many standard tax reforms (reducing exemptions, publishing tax expenditure budgets, eliminating discretionary powers, self-assessment, separating assessment/collection, taxpayer services, consultation, building tax policy units) support state-building objectives.
- Fiscal decentralization’s effects on accountability and aid effectiveness remain debated.

Areas where state-building perspective shifts priorities:
1. Earmarking and perceived use of revenue:
   - State-building argues taxpayers need to see money used for worthwhile public goods; earmarking (e.g., Ghana dedicating VAT increase to education and health) can facilitate reforms.
   - Risks of earmarking: corruption, proliferation of small taxes, inflexibility, or misleading taxpayers if not genuine constraints.
   - Improving public financial management and transparency is essential to link taxation and public spending credibly.
2. Taxation of small and micro enterprises:
   - State-building perspective may favor purposive inclusion of many taxpayers to foster the tax bargain, accountability, and formalization beyond immediate revenue capture.
   - Debate: Is it worthwhile to tax many low-revenue taxpayers for state-building benefits, or should focus remain on larger taxpayers and broader formalization policies?
   - Theoretical insights: potential “big push” needed to overcome low-compliance traps; transactions and informational costs may deter formalization more than tax burdens.
   - Policy options include emphasizing taxpayer education, designing low-cost compliance mechanisms, and recognizing external benefits of regularization (access to credit, formal records).

Other implications:
- Foreign aid can have similar deleterious effects on tax development as resource rents; exploring aid conditionality or matching to domestic effort may mitigate adverse effects, though commitment problems (Samaritan’s dilemma) complicate implementation.
- Visibility and remittance mechanics of taxes, perceived fairness, and distortionary costs matter for constructive bargaining between state and society.

### VI. Conclusions — synthesis, priorities, and practice
Main findings:
- Renewed interest in resource mobilization by developing countries is cause for optimism.
- Potentially the most fundamental and lasting consequence may be the increased use of micro data—with several notable examples in this volume—to take understanding beyond the professional hunches of practitioners.
- As more and better data become available (not least from tax administrations themselves), microdata work has tremendous potential for developing countries.
- There remains a wide range of critical technical issues on which substantial progress hinges and on which firm evidence, and careful reasoning, remains in short supply; IMF (2011) is noted as taking up several of these issues.

Practical guidance and policy stance:
- Policy advice should:
  - be ambitious for near-term gain but distrustful of fads;
  - recognize that progress is both contingent on, and can be a key factor in, long-term state development;
  - be aware that fundamental strengthening of revenue collection will be largely a matter of persistent and unspectacular effort.
- The state-building literature has widened perspectives and skills in the debate and emphasizes the sustained, long-term nature of developing effective tax systems.
- The literature offers no quick fixes; historical experience suggests there are no quick fixes.

Research and data priorities:
- Increased use of micro data has fundamentally improved tax analysis in advanced economies and promises similar gains for developing countries.
- Priority areas where firm evidence is still in short supply are highlighted; several critical technical issues are only briefly touched in the chapter but are addressed in IMF (2011).

Final implication:
- Unfair and inefficient taxes are particularly likely to prompt citizens to call governments to account and limit any tendency toward inefficiently rapid growth; progress in revenue mobilization is fundamentally long-term and incremental rather than immediate or spectacular.

*Source: _wp12220 (PDF chapter/section).*

### References .............................................................................................................

### _wp12220 - References

### I. INTRODUCTION
- Renewed interest in taxation and development from policymakers, donors, civil society, and academics; G-20 leaders at their November 2010 summit stressed strengthening revenue mobilization in developing countries and asked involved organizations to report on how best they could help.
- Many developing countries need substantial additional revenue; “an additional 4 percent of GDP or so is needed in many low-income countries if they are to have a good chance of meeting the U.N. Millennium Development Goals.”
- Pressing needs include infrastructure and adaptation to climate change; the Copenhagen Accords commit advanced economies to finding US$100 billion per year for climate adaptation (source text notes “though where this is to be found remains unclear”).
- Purpose of the essay: reflect on wider issues in practical tax advice to developing countries rather than provide a sweeping technical review or identify research areas.

### II. DEVELOPING COUNTRIES DIFFER—YES, AND...?
Findings and empirical observations:
- Natural resource wealth is a primary tax-relevant cross-country difference; between the early 1980s and 2005, resource-rich countries in sub-Saharan Africa increased their tax–GDP ratios by about 7 percentage points while non-resource related tax revenue was essentially stagnant.
- For resource-rich countries, key tax design issues focus on securing an acceptable share of resource rents while ensuring proper exploitation; in extreme cases (e.g., Timor-Leste) the question may be whether to have a domestic tax system at all.
- Geography matters: smaller, often island, countries can impose border taxes more easily and tend to have more efficient VATs; customs duties can be relatively more important where border taxation is easy.
- Political factors matter: political instability lowers incentives to invest in administrative capacity; political control over territory constrains practical tax policy (e.g., customs-based VAT transition less useful if government lacks territorial control).
- Colonial history and legal tradition can leave persistent tax-design differences (examples: constitutional allocation of goods/services taxation from the 1935 Government of India Act; differences between Francophone and Anglophone sub-Saharan African countries in complementary income taxes, VAT-withholding, territorial approaches).
- Empirical result (Table 1, sub-Saharan Africa tax performance):
  - lnYPC coefficient: -0.015*** (standard error 0.005)
  - OPEN coefficient: 0.078*** (standard error 0.025) or 0.080*** (0.025) in Column 2
  - VAT coefficient: -0.071*** (0.023) or -0.080*** (0.023)
  - VAT*lnYPC: 0.014*** (0.004)
  - VAT*OPEN: -0.078** (0.032) or -0.093*** (0.031)
  - ANGLO (Column 2): 0.268*** (0.168)
  - VAT*ANGLO (Column 2): 0.020*** (0.004)
  - Number of countries: 39; Observations: 1008; R-squared: 0.824 and 0.827
  - Note: Dependent variable is non-resource-related tax revenue relative to GDP; 17 of the 39 countries are classified as Anglophone.
- Interpretation: Anglophone countries exhibit higher non-resource revenue, and VAT appears to perform better in Anglophone countries, but causation and mechanisms are unresolved.

Policy implications and principles:
- Some guiding tax-design principles apply broadly: effective withholding (wages and capital income), recognition that differences in statutory rates invite evasion/avoidance, import tariffs protect inefficient producers, and turnover taxes create distortions compared to a well-functioning VAT.
- Need for better, practicable guiding principles tailored to developing country contexts while recognizing heterogeneity.

### III. THE CHECKERED HISTORY OF BIG IDEAS
Summary of historical “big ideas” and their mixed records:
- Direct taxation (personal income tax):
  - Early emphasis (post-Shoup mission era) on comprehensive income taxation.
  - Personal income tax commonly accounts for less than 10 percent of all tax revenue in low-income countries (compared to >25 percent average in OECD countries).
  - Personal income taxation has generally failed to be a sustained or broadly fair source of revenue in many lower-income countries due to political and administrative constraints.
  - Current advice often favors moving from schedular systems toward a dual income tax (progressive on labor income; flat or simple on capital income).
- Value Added Tax (VAT):
  - Adopted widely from late 1970s onward; about 80 percent adoption in sub-Saharan Africa; typically raises about one-quarter of all tax revenue where implemented.
  - Empirical evidence: countries with a VAT raise more revenue (Keen and Lockwood, 2010), though gains are sometimes modest and less apparent in sub-Saharan Africa.
  - Distributional evidence: VAT often distributionally neutral and may be less regressive than trade and excise taxes it replaces; in some cases VAT with proceeds allocated to education and health can have strongly progressive net impact (Muñoz and Cho, 2004 for Ethiopia).
  - Conclusion: VAT is not a failure; focus should be on improving it rather than removing it.
- Revenue Authorities:
  - Creation of quasi-independent revenue authorities seen as remedy to corruption and political interference; experience mixed with no firm consensus of success.
  - Practical difficulties include limited effect of salary increases on corruption incentives and painful implementation processes (reapplying for positions).
- Large Taxpayer Offices (LTOs):
  - Largest 1 percent of companies commonly account for 75 percent or more of tax payments in some countries.
  - LTOs are widely adopted (e.g., most Anglophone Africa countries) and relatively uncontroversial; focus on largest payers is efficient given administrative cost trade-offs.
  - Potential downsides: firms may avoid LTO inclusion; governments may shift taxable base into easier-to-tax firms; risk of production inefficiencies.
- Lessons:
  - Need for more effective evaluation of tax reforms; data weaknesses and scarce controlled experiments hamper assessment.
  - No quick fixes; implementation work (registration, audit, administration) is as critical as adoption of innovations.
  - Current “big ideas” include medium taxpayer offices/small taxpayer offices, tackling evasion via tax havens and profit-shifting, and linking taxation to accountable and transparent government building.

### IV. INFORMATILITY IS NOT THE ISSUE
Reframing the problem:
- “Informality” is conceptually weak and unhelpful; term combines policy importance with minimal analytical clarity.
- The real focus should be on compliance and the “hard-to-tax,” recognizing heterogeneity among small enterprises and professionals.

Key distinctions and implications:
- Ghosts vs. Icebergs:
  - “Ghosts”: operators who should register but do not—identification and registration are priorities.
  - “Icebergs”: registered but under-paying taxpayers—audit and enforcement are priorities.
  - Evidence: in some studies (Cameroon, Uganda) around 50 percent of firms failed to pay something for at least one legally liable tax; non-filers in the U.S. may be 7 percent of potential taxpayers.
- Targeting administrative resources:
  - Trade-offs exist: taxing small businesses vs. improving VAT refunding for exporters or tackling multinationals’ aggressive tax planning.
  - Low-skilled staff often assigned to small-business taxation may function as workfare rather than efficient tax administration.
- Policy instruments influencing compliance:
  - Withholding taxes and advanced collection schemes can improve compliance by shifting incentives and ensuring crediting works effectively; however, they can also create pressure on withholders and form ‘bad’ chains under VAT.
  - Withholding and advanced collection schemes are often “home-grown” innovations and can contradict external advice—requiring careful analysis.
- Agriculture:
  - Agriculture often labeled “hard-to-tax” but historical and modern evidence shows agriculture can be taxed effectively; agricultural sector accounted for about 40 percent of total tax revenue in Argentina while being 15 percent of GDP historically (Skinner, 1991).
  - Most small farmers may be appropriately left outside direct taxation; large/plantation agriculture is generally straightforward to tax.
  - Political clout of agriculture often explains under-taxation (example: failure of agricultural income tax in Pakistan).
  - Important to consider presumptive taxes differentiated by crop or land quality and to ensure core tax base for large agricultural enterprises is properly taxed.

### V. STATE BUILDING AND TAXATION—WHAT’S NEW?
Two strands in literature linking taxation and state building:
- Strand 1: Tax capacity reflects prior investment decisions shaped by political stability, external threats, and political institutions (Acemoglu; Besley and Persson).
- Strand 2: “New fiscal sociology” emphasizes taxation as central to building responsive, accountable, competent state institutions; taxation fosters bargaining between state and citizens and promotes institution-building (Bräutigam; Moore).

Practical overlap with existing advice:
- Many standard tax reforms (reducing exemptions, publishing tax expenditure budgets, eliminating discretionary powers, self-assessment, separating assessment/collection, taxpayer services, consultation, building tax policy units) support state-building objectives.
- Fiscal decentralization’s effects on accountability and aid effectiveness remain debated.

Two areas where state-building perspective may shift priorities:
1. Earmarking and perceived use of revenue:
   - State-building argues taxpayers need to see money used for worthwhile public goods; earmarking (e.g., Ghana dedicating VAT increase to education and health) can facilitate reforms.
   - Risks of earmarking: corruption, proliferation of small taxes, inflexibility, or misleading taxpayers if not genuine constraints.
   - Improving public financial management and transparency is essential to link taxation and public spending credibly.
2. Taxation of small and micro enterprises:
   - State-building perspective may favor purposive inclusion of many taxpayers to foster the tax bargain, accountability, and formalization beyond immediate revenue capture.
   - Debate: Is it worthwhile to tax many low-revenue taxpayers for state-building benefits, or should focus remain on larger taxpayers and broader formalization policies?
   - Theoretical insights: potential “big push” needed to overcome low-compliance traps; transactions and informational costs may deter formalization more than tax burdens.
   - Policy options include emphasizing taxpayer education, designing low-cost compliance mechanisms, and recognizing external benefits of regularization (access to credit, formal records).

Other implications:
- Foreign aid can have similar deleterious effects on tax development as resource rents; exploring aid conditionality or matching to domestic effort may mitigate adverse effects, though commitment problems (Samaritan’s dilemma) complicate implementation.
- Visibility and remittance mechanics of taxes, perceived fairness, and distortionary costs matter for constructive bargaining between state and society.

*Italicized source attribution line included as required.*

### conclusion that it is unfair and inefficient taxes that are particularly likely to prompt citizens to

### _wp12220 - conclusion that it is unfair and inefficient taxes that are particularly likely to prompt citizens to

### VI. CONCLUSIONS — main findings
- Renewed interest in resource mobilization by developing countries is cause for optimism.
- Potentially the most fundamental and lasting consequence may be the increased use of micro data—with several notable examples in this volume—to take understanding beyond the professional hunches of practitioners.
- As more and better data become available (not least from tax administrations themselves), microdata work has tremendous potential for developing countries.
- There remains a wide range of critical technical issues on which substantial progress hinges and on which firm evidence, and careful reasoning, remains in short supply; IMF (2011) is noted as taking up several of these issues.
- The practical advice that emerges from analysis and practical experience needs to:
  - be ambitious for near-term gain but distrustful of fads;
  - recognize that progress is both contingent on, and can be a key factor in, long-term state development;
  - be aware that fundamental strengthening of revenue collection will be largely a matter of persistent and unspectacular effort.
- The state-building literature (including the emergence of the “new fiscal sociology”) has widened perspectives and skills in the debate and emphasizes the sustained, long-term nature of developing effective tax systems.
- The literature offers no quick fixes; historical experience suggests there are no quick fixes.

### Implications for tax policy and state building
- Unfair and inefficient taxes are particularly likely to prompt citizens to call governments to account and limit any tendency toward inefficiently rapid growth.
- State-building research underlines that while nothing substitutes for effective institutions, the literature should not be read as implying that nothing can be done until effective institutions have somehow been developed.
- Progress in revenue mobilization is fundamentally long-term and incremental rather than immediate or spectacular.

### Research and data priorities
- Increased use of micro data has fundamentally improved tax analysis in advanced economies and promises similar gains for developing countries.
- Priority areas where firm evidence is still in short supply are highlighted; several critical technical issues are only briefly touched in the chapter but are addressed in IMF (2011).

### Practice-oriented guidance
- Policy advice should balance ambition for near-term revenue gains with caution about fads and unproven reforms.
- Strengthening revenue collection should focus on persistent implementation effort, recognizing the contingent relationship between revenue reform and broader state development.

*Source: _wp12220 - conclusion that it is unfair and inefficient taxes that are particularly likely to prompt citizens to (PDF chapter/section).*

---


_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2012/_wp12220.pdf_