Countries Can Tap Tax Potential to Finance Development Goals
IMF Blog, September 19, 2023
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- Authors: Vitor Gaspar, Mario Mansour, Charles Vellutini
- Published: September 19, 2023
Key findings and context
- Emerging market and low-income economies have a significant untapped tax potential of 8 percent to 9 percent of GDP.
- Emerging markets and developing economies need $3 trillion annually through 2030 to finance their development goals and the climate transition, equal to about 7 percent of these countries’ combined 2022 gross domestic product.
- The average tax-to-GDP ratio in emerging market and developing economies has increased by about 3.5 percentage points to 5 percentage points since the early 1990s, driven primarily by taxes on consumption such as value-added and excise taxes.
- Some countries mobilized more than 5 percentage points of GDP (examples cited: Albania, Argentina, Armenia, Brazil, Colombia, and Georgia), with much of the increase occurring before the 2008 global financial crisis.
- Half of emerging market economies and two-thirds of low-income countries had a tax-to-GDP ratio in 2020 that was lower than 15 percent—a tipping point above which growth has been found to accelerate.
- Resource-rich countries have typically generated less tax revenue, as some governments reduced taxes due to higher revenue from natural resources.
- The direct revenue impact of the ongoing international collaboration on taxing profits of large multinational corporations is likely to represent only a tiny fraction of the overall revenue needs, as shown in a February policy paper.
Tax revenue potential by country group
- Low-income countries:
- Could raise their tax-to-GDP ratio by as much as 6.7 percentage points on average based on tax potential.
- Improving public institutions, including reducing corruption, to the level of those in emerging market economies would result in an additional 2.3-point increase.
- The total revenue-raising potential for low-income countries is 9 percentage points of GDP—a two-thirds increase relative to their tax-to-GDP ratio in 2020.
- Emerging market economies:
- Can raise their tax-to-GDP ratio by 5 percentage points on average based on tax potential.
- Improving institutions to the average of advanced economies could raise an additional 2 to 3 points.
Essential reforms and policy recommendations
- Adopt a holistic and institution-based approach focused on leveraging core domestic tax policies.
- Improve the design and administration of core domestic taxes:
- Value-added taxes (VAT), excises, personal income taxes, and corporate income taxes should be strengthened.
- VAT revenue in low-income countries, for instance, could be doubled by limiting preferential treatments and improving compliance without increasing standard tax rates.
- Widespread adoption of digital technologies would result in higher revenue collection and narrow compliance gaps.
- Implement bold reform plans with emphasis on tax base broadening:
- Rationalize tax expenditures.
- Pursue more neutral taxation of capital income.
- Make better use of property taxes.
- Headline tax rates are generally not the main concern.
- Use excise taxes—particularly fuel excises and forms of carbon pricing—to mitigate domestic health and climate-related costs.
- This multi-pronged approach can balance equity and efficiency considerations and address the political economy challenges of tax reforms.
- Improve institutions that govern the tax system and manage tax reform:
- Provide evidence to convince the public of the gains and show progress in policy implementation over time.
- Ensure adequate staffing to forecast and analyze the impact of tax policies on the economy.
- Increase professionalization of public officials working on tax design and implementation.
- Use digital technologies to strengthen compliance.
- Enhance transparency and certainty in how policy and administration are translated into legislation.
- Carefully prioritize and coordinate reforms across government agencies:
- Recognize that the broader institutional context matters.
- Strengthened institutions create a virtuous circle: improved state capacity enhances tax design quality and its acceptance by citizens.
- This institution-centered approach encapsulates the IMF’s approach to supporting countries in tax system reform and raising domestic revenue.
Source: Countries Can Tap Tax Potential to Finance Development Goals — Vitor Gaspar, Mario Mansour, Charles Vellutini; September 19, 2023.