Tax reform: Need for flat tax regime

John Legat

(Continued from last week)

FOR a country like Zimbabwe, which is starting on a clean slate, rising global taxation provides a great opportunity to attract skills back to the country. In very simple terms, if Zimbabweans living in London are paying 40 percent or more in income tax, an income tax rate of 15 percent, say, becomes extremely attractive by comparison.
Likewise if income tax rates in South Africa are 40 percent for high income earners, 15 percent provides an equally attractive incentive to relocate back to Zimbabwe. (It is for this reason that South Africa and the South African Revenue Service may fight such a proposal from Zimbabwe, but Zimbabwe should resist at all costs citing Mauritius and Botswana who have set a precedent within SADC).
In recent years, taxation methods have been geared to hyperinflation. Paying taxes in advance of earning revenue is one such way, as is the “presumptive” withholding tax on capital gains, which are far less likely with US dollar deflation! Such taxes should be abolished now that hyperinflation is a thing of the past.
For Zimbabweans today already living in the country, high rates of income tax plus levies can total over 50 percent. This provides a great incentive to attempt to evade tax wherever possible, perhaps by becoming self-employed to enjoy corporate tax rates.
A low tax rate will, as we have seen in Russia and many other developing economies, encourage people to legalise themselves and to pay the necessary tax.
Furthermore, the informal sector will slowly be encouraged to join the formal sector, especially where good policing can discourage underhand or illegal dealings. A lower tax rate results in higher after-tax income and, hence, higher disposable income. That in itself encourages greater consumption that will imply higher VAT receipts. It will also result in greater demand for companies which will see revenues and profits rising and, hence, corporate tax receipts rise. The multiplier effect of a lower income tax rate on other taxes in the economy can be significant.
The Zimbabwe Revenue Authority (ZIMRA) needs to be as cost-effective and as efficient as possible. By keeping the tax system simple, less civil servants will be required to manage that system, and hence, less cost to government. As we have seen in the developed world, tax authorities have grown exponentially as allowances, tax rebates and means-tested payments have been introduced to offset high tax rates imposed on the hardest hit in the economy. Low, flat tax systems do away with such allowances as those for single parents, housing, disability, etc, which require a large civil service to administer and are prone to fraud.
Low, flat taxes will avoid unnecessary distortions in the economy by doing away with preferences or allowances to specific sectors. A case in point is the recent proposed tax reductions on capital equipment and vehicles for the tourism sector. There is no doubt that many smart entrepreneurs will enter the tourism sector in order to primarily take advantage of those tax incentives rather than to boost Zimbabwe’s tourism sector!
It will also require many civil servants to analyse the “tourism” projects and to provide the approval for the tax incentive to be given. Apart from increasing civil service overheads it can also encourage corruption, which this government is keen to stamp out!
Zimbabwe is a landlocked country far from the coast. This makes importing and exporting goods and minerals that much more expensive than for coastal nations such as South Africa.
It is hard to reduce these costs and, therefore, Zimbabwe will need to ensure that its other costs are that much cheaper. That may mean the cost of utilities such as power, and the cost of raw materials.
While currently import duties make up a high component of overall tax revenues, this will change as the economy gains momentum allowing personal and corporation taxes to become the main revenue earners.
It should, therefore, be stated government policy to reduce import duties to as close to zero as possible on all goods with deadlines given on differing bands e.g. 20 percent by end 2009, 10 percent by end 2010 and zero percent by end 2011.
In that way foreign and local investors can plan ahead, confident of the taxation roadmap given by government.
Reducing import tariffs will also make it unnecessary to introduce sector specific allowances that inevitably will cause distortions as discussed in the preceding paragraph with respect to the tourism sector.
Currently, consumer go-ods are substantially more expensive than they are in neighbouring South Africa, Botswana and even Zambia. This is entirely due to the import tariffs in place currently. As a result, Zimbabwe is currently the most expensive country to live in the region and it has high taxes to boot. There is therefore little incentive to relocate to the country at present.
Removing import tariffs will also remove at a stroke, the huge civil service that has to administer these taxes. The border posts would be slimmed down substantially thereby reducing the time spent for people and trucks at our border posts. It would also cut out much corruption, which currently reduces the import duties actually collected at the border.
Smuggling would become unnecessary.
Conclusion and proposal
Zimbabwe should take advantage of its clean slate economic environment. The country can start from scratch.
Zimbabwe should introduce, as soon as possible, a flat tax regime. Income tax, corporate tax and value added tax (VAT) should all be set at 15 percent. Capital gains taxes should be abolished as they are inefficient and unproductive. All allowances should end and only a tax exempt level be set.
Every income earner should pay tax with no exceptions or exemptions for government officials, ministers or the civil service. Import duties should be reduced to zero by a stated deadline with set time frames for progressive reductions.
As a result, ZIMRA should be dramatically slimmed down, computerised and made efficient thereby reducing substantial costs to the fiscus, but with an improving tax take.
The economy will grow as investors and businesses relocate to Zimbabwe to take advantage of its low costs, its tax base and importantly, its skilled workforce which remains the best in the region. Those already living in the country will likely join the tax net preferring to be legal than unwilling tax evaders.
They will also have greater disposable incomes to spend, thereby boosting VAT receipts. Tax receipts will rise as the working population increases, disposable incomes rise and corporate profits grow. In short, Zimbabwe’s overall tax base will expand dramatically, tax revenues will soar but the costs of collecting those taxes will plummet.
A “win-win” solution for all honest Zimbabweans.

– John Legat is the chief executive officer of Imara Asset Management.