The Extended Fund Facility (EFF) of the International Monetary Fund (IMF) forces Sri Lanka to look into tax revenue collection, in the backdrop of the first review of the programme being delayed due to Sri Lanka falling short of the revenue targets.
The IMF wanted the Sri Lankan Government to commit to increasing revenues, improving governance and tax administration, and actively eliminating evasion while removing all tax holidays as the main three revenue collection agencies – the Inland Revenue Department (IRD), the Customs Department, and the Excise Department – failed to reach their targets due to corruption and weaknesses in their internal settings.
The revenue targets of the IRD and Customs have already been revised to Rs. 1.6 trillion and Rs. 980 billion respectively, while the Excise Department’s target of Rs. 217 billion remains questionable, with sales of liquor dropping with the hike in Excise Duty and cancellation of licences of five manufacturers over defaulted taxes.
However, are the revenue targets set out by the IMF practical in an economy which is yet to stabilise?
Tax targets possible with adjustments
Speaking to The Sunday Morning, Capital Alliance Ltd. (CAL) Chief Strategist Udeeshan Jonas said that the IMF revenue targets could be achieved if some adjustments were made by the Government.
For example, he said that Customs depended on vehicle imports being allowed, which comprised a large component of its revenue collection, easily adding Rs. 200-300 billion to its revenue.
He added that if the IRD were to open the exact number of tax files, it would be a possible target to achieve. “It is not impossible just because our incomes have fallen. If they had improved the tax base, they could have resolved a lot of these issues,” he noted.
However, he added that such changes could not happen overnight, as 1,500 employees at the IRD could not look into the income in 1.5 million tax files unless the process was digitised and moved from a cash economy to a digital economy.
Jonas said that the IMF had to have factored into account the economic and social challenges in achieving the revenue target as the IMF’s GDP forecast for 2023 was a negative 3%.
“The Government is giving excuses in terms of the economy being slow; yes, it was slightly slower than expected, but we haven’t done too much in terms of improving collection and opening files, so administratively we haven’t progressed,” he added.
Commenting on whether Sri Lanka had passed the tax rate breakeven with the recently proposed 3% Value Added Tax (VAT) hike from January 2024, Jonas said that since VAT was more elastic it would not cause consumption to fall and would add about Rs. 110-120 billion in revenue to the Government.
However, he said that taxes as Excise Duty was different, where a further increase in the current rates would result in revenue collection dropping.
He also said that the Pay-As-You-Earn (PAYE) Tax had surpassed the targeted Rs. 100 billion and reached Rs. 178 billion because rates were very high and a large part of the burden had been borne by the average workforce.
Address fundamentals to collect more taxes
Speaking to The Sunday Morning, Advocata Institute Chief Executive Officer Dhananath Fernando said that although there were many reasons for low tax collection, the main reason was due to incorrect fundamentals.
He said that when considering Customs, it had a highly deviated tariff which allowed space for corruption. “When you have such a deviated tariff structure, it is an incentive for them [Customs officers] to be corrupt, so, of course, the Government is losing revenue,” he added.
Citing an example, he said that although there was a ban on vehicle imports, some 6,000 vehicles had been imported during the entire period despite the ban. This is only the declared figure and he noted that the real number could be higher.
“That’s why we recommend keeping a flat tariff structure, which will not encourage corruption and tax evasion,” he added.
Commenting on the IRD, he said this involved a genuine problem relating to tax administration, where the Revenue Administration Management Information System (RAMIS) had not been upgraded due to unpaid bills and IRD officers not adhering to tax principles as the officers did part-time tax consultancy for micro and medium enterprises on tax evasion.
Fernando said that in the Excise Department, there was a licence for corruption with the licensing system for liquor manufacturers. “Once these issues are eliminated, Government revenue collection agencies can improve their tax collection,” he added.
Further, Fernando said that there were technical issues which needed to be addressed, where the technical skills of the revenue collection officers should be developed.
Changing taxes in a short period bad for market
Fernando said that the Government did not have the capacity to increase the tax administration and the easiest way to collect taxes was through PAYE and VAT as they were easy to administer.
He added that the proposed VAT increase could be mainly because the Government had indicated that there would be an increase in State sector salaries and because the IMF had said Sri Lanka was behind the revenue targets, due to which it may be considering revising the PAYE Tax through the Budget.
“I would say that all are poor options, because it is bad to change taxes in such a short period; uncertainty is the worst thing you can offer a market,” Fernando said.
Govt. to depend on RAMIS to address IRD woes
Speaking to the media on Thursday (2), State Minister of Finance Ranjith Siyambalapitiya said that the RAMIS project had dragged on for 10 years due to various amendments to the IRD Act as each amendment had added more data that needed to be fed into the system.
However, the Minister said that the RAMIS 2.0 project would be ready by December, after the Government had paid $ 10 million in past dues.
He said that the new RAMIS upgrade would allow for data related to profits and income of a taxpayer to be collected digitally, which would be easy for taxation. He said that it would also limit interaction between IRD officers and taxpayers as much as possible, avoiding any opportunity for corruption.
“I believe that through this system upgrade, we can largely increase our tax revenue,” he added.
IMF structural changes to enhance revenue likely after Budget
Speaking to The Sunday Morning, IRD Acting Commissioner General Upul Jayawardhana said that the Government had settled the past dues to the RAMIS contractor and the new upgrade would allow them to trace any irregularities caused by any of the officers through the system.
Further, he said that the proposed tax administration reforms by the IMF to strengthen tax collection had addressed the matter of structural changes to the IRD, with discussions ongoing on how to make changes and what changes to make.
Jayawardhana said that the structural changes were likely to be initiated by the Finance Ministry after the Budget.
He also said that the World Bank was working together with the IRD in providing third-party information to be used in tax administration.
Customs adopts four solutions to enhance revenue
Meanwhile, Sri Lanka Customs Media Spokesman Seevali Arukgoda told The Sunday Morning that the Customs had adopted four solutions to enhance revenue collection, led by the top leadership in the department.
He said that the Director General of Customs had instructed the heads of each directorate to prepare a comprehensive action plan for the year with objectives that could be achieved with quantifiable measurements.
He noted that the action plan was based on the main objectives of the Customs – revenue collection, social protection, and trade facilitation.
Secondly, he said that there was a change in the internal promotion and transfer policy, which was earlier based on seniority and had now been changed to a skill- and expertise-based internal promotion and transfer policy.
Thirdly, he said that changes had been introduced to internal procedures and processes, which had been simplified to make them more transparent and easy to follow.
Finally, he said the Customs had decided to ensure maximum usage of IT-based solutions, with such solutions introduced to several directorates, minimising the interaction between Customs officers and the general public.
“Most of the things that were initially done manually, such as assigning officers for cargo examination, are now done automatically using IT, reducing the opportunity for corruption as the officers and importers will not know in advance who will be carrying out the examination,” he added.
He noted that these steps had contributed to an increase in revenue collection by over 250% at some directorates, such as the Central Valuation Directorate and Preventive Directorate.
Earlier last week, Sri Lanka Customs said that it had earned its highest-ever monthly revenue in October, amounting to Rs. 109 billion and bringing total revenue in the first 10 months of 2023 to Rs. 760 billion. It is hopeful of earning Rs. 925 billion in revenue by the end of the year.
Recommendations given by the IMF to the Customs to address corruption after the release of the Governance Diagnostic Report include: instituting short-term anti-corruption measures within the department, launching high-profile anti-corruption programmes advocated by revenue department heads that emphasise zero-tolerance, updating and operationalising the staff Code of Conduct (ethics) with regular training and annual written confirmation of understanding/compliance by every staff member, establishing an internal affairs unit in the department to investigate staff corruption allegations transmitted via secure and confidential reporting channels with links to CIABOC, and launching internal/external outreach programmes with anti-corruption messaging.
According to Arukgoda, the internal affairs unit should be fully functional by December, as per the IMF recommendation.
Further, he said that the Customs was short of 500 officers and was operating with two-thirds of the required staff. “We have taken action to recruit 150 assistant superintendents, which is the entrance level staff grade officers, through an open examination,” he added.
The Excise Department did not respond to the questions by The Sunday Morning on measures being taken to improve revenue collection.