Davis Tax Committee opens the door for higher VAT rate to be considered
27 July 2015
Posted by: Author: Ferdie Schneider
Author: Ferdie Schneider (BDO South Africa)
South Africans can be justifiably proud of the fact that our country is deemed to have one of the most efficient VAT systems in the world. This accolade emerged from the Davis Tax Committee's first interim report on Value Added Tax (VAT) which was released for comment recently, with the source of the favourable rating coming from none other than the International Monetary Fund.
But perhaps the most important take-away from the interim report is that it definitely opens the way for a potential "moderate" increase in the VAT rate, especially as this is seen by the committee as having a less distortionary effect on macro-economic activity than an increase in direct taxes would have – both personal taxes and corporate taxes.
From my point of view, moderately increasing the VAT rate by say 2-3% would definitely be less distorting for the economy than raising personal or corporate taxation levels, but there is a caveat. Should reliance be placed on socio-economic redistribution of the additional revenue that will be generated to curb the VAT system's regressivity, government would need to be mindful that the current instruments and infrastructure at their disposal may not be adequately equipped to do this justice.
According to the Davis Tax Committee and the IMF, South Africa has a low VAT compliance gap, representing the difference between the potential net VAT and actual collections. While our gap was estimated at between 5% and 10% from 2007-2012, the gap in European Union member states was estimated at 16% in 2012, while in Latin American countries it was estimated at 27% from 2006 to 2010.
n addition, South Africa's policy gap was also found to be comparatively low – this is the difference between theoretical revenue and potential revenue. It was estimated at 27% to 33% between 2007 and 2012 against an average of 41% in the EU.
Two contributing factors in the comparative efficiency of our VAT system are the fact that we have a limited number of exemptions and zero-ratings, assisting the smooth administration of the system.
However it is my belief that more attention needs to be given by SARS and the National Treasury to the analysis of revenue collections against a theoretical broad base, taking into account non-compliance and policy objectives.
To this end, I agree with the IMF's observations and recommendations on the following actions that could be considered by South African tax authorities:
- Continued monitoring of the VAT compliance gap to evaluate its performance and inform strategic decisions
- Updating the estimated VAT gap and sectoral composition
- Broadening the tax gap analysis to include other major taxes
- Increasing the integration of revenue and national compliance analyses to support systemic compliance risk management
- Carrying out more detailed analysis of revenues from individual industry sectors and taxpayer segments to support strategic risk research
On the subject of zero-rating of VAT, it is my opinion that a detailed economic analysis should be done on the constitution of the basket of zero-rated goods. Although it can score some political points, zero-rating is not the ideal instrument to benefit the poor and I do not believe that further zero-rated items should be considered. Rather, consideration should be given to reducing or eliminating the basket of foodstuffs that qualify for zero-rating.
As far as dual or multiple VAT rates are concerned, I agree with the recommendation that these should not be considered as such introduction could lead to manipulation, complexity and increased cost of compliance. For a number of sound reasons, exemptions in a VAT system should be kept to a minimum and ideally only be used for difficult-to-tax goods or services or solid economic reasons.
Before any new concepts are considered for introduction into the VAT system, it is vital that the complexity and compliance costs of these concepts receives detailed examination. This includes the possible introduction of concepts such as: self-supply taxing mechanisms; applying zero-ratings to the supply of financial services; reduced input tax credit models; options afforded to financial institutions to tax financial services to taxable persons who may claim VAT as input tax; VAT grouping; and reinstatement of intermediary services supplied to financial institutions.
When it comes to place of supply rules, these should be considered for the VAT system, but any recommendations need to be underpinned by international literature and experience. It would be extremely important for these recommendations and analyses to compare worldwide versus territorial systems as they relate to differences in treating "place of supply."
In the case of telecommunications and e-commerce, there is definitely a need for more clarification and for consideration to be given to the distinction between business-to-business and business-to-consumer.
This article first appeared on bdo.co.za.