Nigeria in 2016 Special Edition
Otunba Oluwasemilore Oyebode, enumerates the need to harmonize tax as this will address so many issues of taxation in the country. In his paper, he argues that Tax harmonization erodes the latent power of tax as a dynamic tool for economic competition.
Defining tax harmonisation
Tax harmonisation refers to “the process of adjusting national fiscal system to conform to a set of common economic aim”, Musgrave, 1967.
This can be viewed from two dimensions: Equalisation Approach and Differential Approach.
Equalisation approach to tax harmonisation brings each state to converge with the others until its end in the same fiscal regime. On the other hand, differential approach allows each state to use its tax system as a policy tool to achieving major economic aims.
In furtherance to this understanding, tax harmonisation refers to the process of removing the fiscal barriers and discrepancies between the tax systems of various countries comprising the economic regions e.g. Economic Community for West African States, ECOWAS, Southern African Development Community, SADC, Common Market for Eastern and Southern Africa, COMESA, etc. This is viewed as an approximation of the tax system in order to achieve the objective of the economic union. However, the challenge of under-developed taxation system for the West Africa region with bias for Nigeria has been a reflection of over-dependence on tax revenue from natural resources which in turn disconnect most of the citizens from the government.
It is in the light of the above, that the theory of fiscal policy harmonisation takes into account the existence of diverse public policy objectives in the member states and evaluates the significance of differences in jurisdictional principles, types and rates of taxation within the context of member country objectives.
Economic Rationale for Tax Harmonisation
Studies on tax harmonisation have revealed and advanced the following arguments in favour of countries that have adopted and those on the journey to the adoption of tax harmonisation.
Research has shown that if different taxes were levied on a different basis or at differ¬ent rates across the economic market, this would create deterrents to the free movement of goods and services, therefore frustrating the ultimate goal of achieving a genuine sub-regional and internal market. This argument is one of the economic rationales for tax harmonisation from comparative reviews of developed and transiting economies. Besides, there is a valid case of reduction in production costs due to optimal allocation of resources that accrues from the espousal of tax harmonisation with re-organisa¬tion of industry along regional economic bloc. Also, studies show that fiscal disagreement dispossesses industries of these advantages such that they stand a lesser chance of proving competitive in the world market. This has been the case for the West African economic sub-region, ECOWAS.
In the end, tax harmonisation will lead to the promotion of free trade and the common market. It will also have the economic and political effect of creating a closer union among the peoples of the sub-region. This is on the premise that the tax system does not favour a particular group of nations and punish another from the same region which has been the greatest threat to harmonisation in the region.
Minimization of tax avoidance
It is interesting to note that one of the dominant arguments in favour of tax harmonisation between and among countries in the Economic Community of West African States, ECOWAS is to minimize tax avoidance if not totally eliminate this scheme that has been a continuum to revenue loss in most tax jurisdictions. It is pertinent to mention that where there are marked differences between tax regimes on mobile goods and services in neighbouring countries, there is a clear case to trade across the borders in a way that reduces tax payments. This is a catalyst to engage in cross-border arbitrage when the taxes on goods and services vary substantially. To harmonise taxes across borders would go a long way to eliminating this incentives. There are costs associated with enforcement and collection when tax regimes differ between integrated regional economies. This imposes constraint to tax economic transaction across borders and the difference in tax policies across states make enforcement of compliance somewhat cumbersome.
In summary, the tax efficiency argument is primarily one of the rationales for tax harmonisation for economic union that have adopted these strategies for managing their fiscal regimes in the wake of globalization on the ground that there are efficiency losses when taxpayers undertake effort at avoidance.
The evil in tax competition is arguably one of the strongest points advanced as rationale for tax harmonisation on the premise that it discourages government from raising sufficient tax revenues. As strategy, countries that adopt tax competition as a way of attracting high valued human resources and poach investment from neighbouring sovereign states do this by offering lower tax rates. This in the long run has revenue loss consequence and creates instability in the macroeconomic variables like unemployment, deficit budgeting from the government angle to mention but a few.
Competition in tax regimes does not exonerate erosion of public service; tax harmonisation is the vehicle to prevent government tax revenue from being eroded. Hence, the proposal for the formation of coordinated tax structure within the economic region of West Africa and the need exist for the creation of a tax harmonisation framework.
Benefits of tax harmonisation
The investment in tax harmonisation has the propensity to produce the highlighted dividends in the short and long run periods through the following three steps.
One: Elimination of Variation in Tax Levels
This benefit comes when the highest degree of tax harmonisation is attained. This elimination encourages a single market. The single market case relates to the movement of financial capitals, excise and custom duties and Value-Added Tax, VAT. The European Union, EU is a very good example and the SADC region in the area of custom. This is one of the objectives of promoting the ECOWAS economic growth; to enhance its competitiveness in the global market and development for which Nigeria has substantially subscribed.
In addition, the elimination of variation in the tax level has the propensity that could diminish the incidence of tax arbitrage among countries in terms of production and consumption. This might contribute to lowering the tax burden and if not eliminating all the rent seeking transactions across border.
Two: Government Focuses on Improving the Tax System Efficiency
In the absence of variation in the tax levels, efficient economic decision based on sound economic fundamentals which result in higher competition and welfare are achieved. Tax harmonisation is important to correct distortion and enhance efficiency in exchange. The allocative efficiency rests on tax neutrality. This leaves economic decisions unaffected, as if there were no inter-country tax rate differential which is a precondition for tax system efficiency. This involves the removal of tax distortion affecting commodity and factor movements in order to bring more efficient allocation of resources within the integrated markets. This in turn increases transparency for economic decision making which improves efficiency in resource allocation.
Three Simplifies Tax Laws and Administration
The unification of tax codes, procedures and policies that follow the adoption of tax harmonisation regime make room for ease of tax laws and its administration. This is in consonance with the properties of a good tax system.
Costs Implications of Tax Harmonisation
There is no smoke without fire. This explains that the investment in tax harmonisation is not devoid of challenges discussed in the sub-headings. This accounted for the slow pace of tax harmonisation in the economic sub-region for over two decades.
The following sub-heading throws more light on this
- Undermining Competition
Tax harmonisation erodes the latent power of tax as a dynamic tool for economic competition. This occurs in countries that do not have alternative policy instruments but rely mainly on differential commodity taxation to pursue their equity objectives; the fiscal system is likely to become less progressive as a result of tax harmonisation. This argument has been a major impediment to tax harmonisation in ECOWAS sub-region in spite of all efforts geared towards a common fiscal regime.
- Loss of Revenue by Lowering Tax Rates
Tax harmonisation would increasingly constrain countries in selecting the tax structure that best meet their national social preferences. For example a policy to lowering sin tax rate, depending on social welfare functions, may raise marginal social costs above private benefits of consuming the goods. This has a revenue loss consequence.
- Loss of Sovereignty
The sovereignty case is one of the costs of tax harmonisation. With tax harmonisation, countries tend to give up the ability to structure their tax system to their own individual preferences. Tax policies are structured in accordance with policies agreed on at the regional level. Therefore, there is a concern of delegating fiscal policy regime or management by national government to member countries. This is on the backdrop that taxation is a fiscal tool for which countries regulate the level of economic activities depending on their development and economic plan. This subordination of fiscal responsibilities has continued to raise doubts on the effective implementation of a harmonised tax system in the sub-region. However, delegation is a vehicle through which tax harmonisation is achieved and ECOWAS need to accept this fact for a true harmonisation.
- Lack of Political Will and Commitment
One of the greatest charges to tax harmonisation in the ECOWAS sub-region for which Nigeria has a massive investment is the lack of political will and commitment. The practical observation in this direction is the high level of commitment to other sub-regional groups and international organisations that compete with ECOWAS. One of the principal reasons adduced to this action are the varying level of economic development among member countries. This again is attested to by exemplifying Nigeria’s position in the journey towards tax harmonisation. Nigeria has committed to bilateral agreements from outside the West African economic bloc. For instance, Nigeria has Double Taxation Agreements, DTAs with some countries in other African regional economic blocs and other developed and transiting economies e.g. South Africa, Canada, UK, Australia, Pakistan, Poland, etc.
Implications for Tax Administration
Harmonisation of tax structure is a laudable goal by member countries. However, the consequence for tax administration is stated as follows:
The implementation of specific measures may prove to be a challenge for revenue authority as a result of cost constraints in the form of revenue loss or reluctance to change some prevailing laws and practices.
Tax design as one of the variables of tax harmonisation has serious effects on tax revenue administration agencies. The question of defining normal and penal tax rates, tax base, tax concession, taxable entities, non-compliance penalties and the timing of payments within the regional economic bloc pose a serious concern. However, the creation of legal instrument to assist member countries to capture certain tax base would be in order. So, institutions like West Africa Union of Tax Institutes, WAUTI and Africa Tax Administration Forum, ATAF are best suited for this role.
It comes with wider scope of responsibilities of the ECOWAS comingled with international tax transparency and the demand to be in conformance with international best practices on tax administration.
It has huge investment consequence in information sharing. Exchange of information, administrative cooperation and mutual assistance among member countries are prominent.
The demand to establish enforcement mechanism in the sub-region is sacrosanct to revenue administration.
In summary, closer cooperation and enhanced policy dialogue are critical in the implementation of harmonized tax regime. Strong financial institution is a major pre-requisite and ECOWAS has invested much to create the enabling environment for the fiscal administration. Fiscal harmonisation will strive faster in the face of common currency which will address the issues of convertibility and improve “doing business indicators” in the sub-region in response to tax incentives. However, study should be undertaken on the pyramid of fiscal harmonisation to enable the regional economic bloc promote its fiscal harmonisation to the highest-level standardisation from the lowest level-Convergence of the pyramid.
Published in the Business Eye’s print version, Jan 2016 edition.