Taxes and Strengthening Social Protection
Source details
- Canonical URL
- Taxes and Strengthening Social Protection
Other formats
Bibliographic details
- Authors: DAVID COADY
- Published: December 1, 2018
Key challenge and context
- Enhancing domestic tax capacity and boosting tax revenue are essential for strengthening social protection and developing human capital.
- A key challenge for developing economies is raising necessary revenue in the context of a large informal sector characterized by high levels of self-employment, low skill levels, and often multiple and volatile sources of income, which limits the potential to raise revenue by taxing income and increases reliance on general government revenue for social insurance.
- Recent research finds that countries move to a higher growth path once tax revenue reaches about 15 percent of GDP (Gaspar, Jaramillo, and Wingender 2016); about half of low-income countries—and a third of emerging market economies—have tax ratios below this 15 percent threshold.
Evidence on tax-raising achievements (examples)
- Georgia: increased tax revenue by 12.9 percent of GDP during 2004–08.
- Maldives: raised revenue by 11 percent of GDP during 2011–15.
- Dominica: 7.5 percent of GDP increase during 2002–06.
- Ghana: 7.3 percent of GDP increase during 2000–04.
- Mauritania: 6.1 percent of GDP increase during 2010–14.
- Mozambique: 6.1 percent of GDP increase during 2007–11.
- Guinea: 5.8 percent of GDP increase during 2008–12.
- Malawi: 5.7 percent of GDP increase during 2003–07.
- Cambodia: 5.0 percent of GDP increase during 2012–16.
Main tax instruments and their roles
- Broad-based consumption taxes:
- Increased revenue from consumption taxes, especially value-added tax (VAT), has been the main driver for most countries that significantly increased tax ratios.
- The concept of C-efficiency—defined as the ratio of actual revenue to potential revenue when all consumption is taxed at the standard rate in a country—measures how close a government comes to collecting tax on all consumption; recent VAT revenue rises have been driven primarily by improvements in C-efficiency rather than by increasing tax rates (Keen 2013).
- Selective excise taxes:
- "Corrective" taxes on energy, alcohol, tobacco, and sugar-sweetened beverages—levied on top of the normal VAT—can be an efficient short-term revenue source and help reduce negative health impacts.
- Progressive personal income taxes:
- Important source of revenue for advanced economies and key for redistribution, but short-term potential in emerging market and developing economies is limited by high levels of tax exemption or tax evasion; nonetheless, stronger personal income tax systems can still raise sizable additional revenue.
- Additional measures:
- Reforms to address corporate income tax avoidance and reduce mutually destructive international tax competition can expand revenue but may require stronger international cooperation.
- Recent estimates put the long-term costs from profit shifting to lower-tax countries at about 1 to 1.5 percent of GDP for developing economies (Crivelli, de Mooij, and Keen 2016).
- Removing tax incentives (tax-free zones, exemptions, tax holidays) can lead to sizable revenue gains.
- There is room to expand property taxes (modest potential) and to better tap natural resource revenue.
Administrative, institutional, and sequencing considerations
- Policy and institutional reforms must accompany tax reforms:
- As administrative capacity is strengthened, VAT and income tax thresholds can be lowered.
- Risk-based tax audit systems can help enhance compliance and tax fairness.
- A gradual reform process that phases in and sequences tax increases across products allows some revenue gains to be allocated to strengthening safety nets over the short term, protecting poor and vulnerable households during medium-term reforms.
- Strategies should be framed within a broader whole-of-government process with citizen participation and good governance, embedded in national development plans and national strategies for attaining the United Nations Sustainable Development Goals.
- Effective consultation and communication on comprehensive spending and tax plans can strengthen the social contract and may lead to consensus-based medium-term revenue strategies (Platform for Collaboration on Tax).
Protecting the poor and managing incidence
- While broad-based consumption and selective excise taxes are efficient revenue sources, it is important to ensure access to strong safety nets to protect the poor from associated price increases.
- Mitigating options:
- Higher VAT registration threshold (determines when a firm must charge VAT).
- Reducing the VAT rate for goods consumed disproportionately by the poor.
- Excise tax increases can first target goods consumed disproportionately by higher-income households (e.g., gasoline, high-end alcohol, possibly tobacco).
Spending efficiency and public financial management
- There is large variation in social outcomes across countries with similar spending levels, indicating substantial room to improve spending efficiency.
- Estimates of spending inefficiencies in the health care sector suggest that as much as 40 percent of spending may be wasted across all country income groups.
- Many countries spend significant amounts on inefficient and inequitable energy subsidies; a key barrier to reforming these subsidies is the absence of a strong safety net to protect the poor from rising energy prices.
- Transparent and effective public financial management systems are essential to ensure and demonstrate that tax revenues are spent efficiently and not wasted or fraudulently used.
Policy recommendations (summary)
- Expand broad-based consumption taxes, notably VAT, and improve C-efficiency before relying on rate increases.
- Use selective excises as administratively feasible short-term revenue sources and to address negative health externalities.
- Strengthen progressive personal income tax systems where feasible, recognizing short-term constraints from exemptions and evasion.
- Reform corporate tax bases to limit profit shifting; pursue international cooperation to address cross-border tax avoidance.
- Remove costly tax incentives (tax-free zones, exemptions, tax holidays) to realize sizable revenue gains.
- Explore modest expansion of property taxes and better capture of natural resource revenue.
- Sequence and phase reforms to protect poor and vulnerable households, using higher VAT registration thresholds, reduced VAT rates for goods consumed by the poor, and targeted excise tax choices.
- Strengthen administrative capacity, risk-based audits, and public financial management; embed tax reform within national development plans with citizen participation and good governance.
Source: Taxes and Strengthening Social Protection — IMF Finance & Development Magazine | December 2018
Content in this bundle
- خلق الحيز المالي
- Coady
- Fiscalite Et Protection Sociale Coady
- Налоги и укрепление социальной защиты – журнал МВФ «Финансы и развитие» | Декабрь 2018
- Taxes and Strengthening Social Protection – IMF Finance & Development Magazine | December 2018
- 创造财政空间 - 金融与发展 - 国际货币基金组织季刊