2019 National Budget: Explaining the resistance of migration from VAT to Sales Tax

By Isaac Mwanza

The presentation of the 2019 National Budget on Friday, October 28, 2018 brought with it anxieties in some quarters where apparently, there are worries about the government’s decision to replace the Value Added Tax (VAT) with the Sales tax and during this period, we expect a lot of arm-twisting from the mining companies. While I may not be an expert on economic matters, I sufficiently take time to understand the dynamics of our country’s governance and the gymnastics associated with VAT. I now offer my position on this matter.

Resistance to change

Before I could say much, Nick Nolte once said, “Nobody like to change. There will always be resistance to change, and there will always will be change. And the quicker you get to that, the easier it is. It is not such a difficult thing. If you entrench yourself and go, ‘By God, I will not change. I will not have this,’ then you ‘re a dead man. We are great at adaptability. It’s our strongest suit.”

The question that begs our answer is, why is there so much resistance to the proposed tax regime to the extent that mining companies and those speaking for them will go to any lengths to try and arm-twist government on this policy shift to Sales Tax as opposed to VAT??

The answer lies in how much we understand how the VAT system works, its failures because of the unique structure of our country’s economy, how the VAT system is prone to abuse by ‘sophisticated’ local and foreign business investors to obtain maximum benefits for themselves while denying our people of a fair-share in the profits, for example from our mineral resources, as one of the biggest asset God has endowed us with.

The current anxiety, in particular, by the mines cannot be divorced from the question of VAT refunds, and their quest to get more out of our mines and give little to Zambia plus the possible effects of Sales tax on their businesses

What we know as citizens about the workings of VAT

First and foremost, every Zambian ought to first understand that Value Added tax is not chargeable on goods exported out of a country largely due to a globally recognised rule called “the Destination Principle”. This principle, paraphrased, states that taxes are payable in country of destination of goods and not a country of origin. By this rule, VAT is not payable on all exports. Also to be understood is that the VAT system is designed to work like a credit mechanism which allow businesses to claim their ‘VAT input’ against their ‘VAT output.’

Let’s make it easier for everyone to understand the operations of “VAT input” and “VAT output” before we could proceed to talk of some of the reasons why Government may have decided to replace VAT with Sales Tax.

To illustrate. A company involved in production a beer named Mtenguleni Lager will need to procure goods such as Bottles and Bottle tops, Water, Barley Malt, Maize Extracts and Hops. In all these procurements, the company pays VAT which is called “VAT Input.” The finished product, Mtenguleni Lager, when being sold will be sold with another VAT called Output VAT.

With that example in mind, I will limit the implication of VAT input and VAT output to the two tax regime of Standard Rated Tax and Zero Rated Tax. When filing returns with Zambia Revenue Authority (ZRA) under the Standard rated tax, the brewer of Mtenguleni Lager will not only account for output tax collected on behalf of government but also claim their VAT Input made on bottles, bottle tops, water, barley malt, Maize and Hops.

If for example, in the production of 1 Mtenguleni Lager, the company paid K2 on VAT input but collected K7 on VAT output, this means the company will, under the Standard Rated tax, pay ZRA K5 in VAT, which is, VAT output K7 less VAT Input K2. The opposite of this, where the company paid K5 in VAT input but only collected K2 in VAT output, ZRA would refund the company a total amount of K3.

On the other hand, if Mtenguleni Lager is deemed to be tax zero-rated and for export to another foreign country called Chandamale, it means the brewer is entitled to claim the whole refund of VAT input spent on supplied ingredients.

VAT refunds are payable on the basis that suppliers of goods in the production chain also charged and accounted for VAT output. For purposes of honouring claims for VAT refunds, our Revenue Authority should ordinarily and perfectly implement a system of ‘matching receipts’, that is, VAT input which is claimable by a company on an invoice must be matched with VAT output on the invoices of suppliers.

In our earlier example, the K3 VAT input being claimed by the company must match with the K3 VAT output charged by suppliers on their invoices. In refunding VAT input, it is thus safely presumed companies that supplied the inputs and charged VAT will remit an equivalent total of K3 which the manufacturer claimed. By so doing government would not make any loss but also businesses remain viable.

The reader is, at this point, asked to replace our example of Mtenguleni Lager with our mineral resources such as Copper, which ordinarily should be a bigger source of our country’s revenue.

Where is the problem with the current VAT system?

The first problem with our VAT system which government proposes to replace hinges on its efficiency or lack of it in its implementation whereas the structure of Zambia’s economy has witnessed the rise of the informal which is not easier to capture, take away the political rhetoric of how it is easier in theory. It is possible for an informal business, some of whom may register for taxation, for purposes of getting a one-off big business deal to charge VAT output but end up closing shop or venture into another business. What does this mean?

It means the claim for VAT input cannot be matched with the VAT output which should have been remitted to ZRA from a company that closes shop. Even in this scenario, government is, by law, obligated to pay the claimant for VAT input for taxes that never went into government coffers.

The second problem has to do with the task of distinguishing between genuine and forged receipts at a time when these claims are made. Much as VAT has an audit trail, to get that trail require a lot of policing and verification, ensuring the VAT input and output is matched before government can make a refund for VAT input. Here is the problem, the law requires that ZRA makes a refund for VAT input within a period of 60 days upon a claim being made.

Can this matching of VAT input and output be sufficiently done for the bulk of claims made to ZRA? ZRA may not have that human resource and capacity to sufficiently undertake this process before time for VAT refunds elapses. So ZRA ends up paying the VAT refunds on the presumption of ‘good faith’, that is, a business keeping its VAT output it collected will remit to ZRA.

What many Zambians may not be aware of is that delays in VAT refunds are not because government has no money to pay VAT refunds but the rigorous matching process of ensuring that genuine claims are made payable, in my view, is a contributing factor to these delays. Under this VAT regime, ZRA has therefore paid, in refunds, colossal sums of money for VAT input, especially to the mines. In my view, it is highly likely that government may be realising that these payments are made without corresponding VAT output being remitted.

The last problem with the current VAT regimes especially, with regards to the mines, is the issue of transfer pricing which businesses use to make profits at the expense of giving a true picture of the business transaction. Our citizens need to know that every piece of machinery imported into our country for purposes of mining is categorised as input, thus having claimable VAT input. This is not the problem but the problem comes in as regards the question of ascertaining the actual value of this machinery which can be exaggerated if the importer has the intent of making more money from VAT refunds.

The mining companies, like any other business, are not here for charity but are here to make the maximum profits. The possibility is very high that transfer pricing gimmicks emerge where they can collude with suppliers in the country of origin for imported machinery to over-value the invoices on this machinery.

In that instance, the VAT audit trail would require ZRA to follow up each and every single item with tax authorities in the country of origin for goods brought in but everybody knows that would require a lot of human resource, investigators, forensics auditors, working with international inspectors and investigators to ascertain the true value for which tax was paid in the country of origin.

What will be effects of the introduction of Sales tax?

Government has not fully unveiled how the Sales tax will work, especially in the mining sector which require to be motivated to compete on the international level where prices for our commodities like copper are determined by the international market. It is quite possible that government can design the Sales tax system to allow companies such as mining companies to have tax exemptions on certain goods. That would work out fairly well rather than a system that allows them to claim VAT input refunds from net taxpayers, at a time when it is cumbersome to determine whether the VAT input has a corresponding VAT output from suppliers.

Conclusion

In conclusion, let it be known that the current VAT regime, much as it is globally in use, has not worked out well for our country or for most other countries, for that matter. The system has the potential to allow businesses to claim twice but the biggest problems are associated with exaggerated or falsified invoices given by suppliers, which companies may use to claim VAT input refunds. The VAT system is prone to refund frauds as it allows businesses to lodge claims for refunds which cannot be fully matched against VAT output within the time required by law to give refunds. It is possible that government is realising that the VAT regime has thus robbed our country of millions of Kwacha in fraudulent claims for refunds.

The proposed change, replacing VAT with Sales Tax will be fought tooth and nail by those who have benefited much from the loopholes which are prevalent in the VAT system has which allowed them to make more profits at the expense of our country and our people having a fair share.

The government must stand resolute to implement the Sales tax regime and avoid the unnecessary losses which are associated with the porous VAT system. The question is how many of our Members of Parliament will articulately and independently debate this motion to replace our VAT with Sales Tax? In life, leaders must make very tough decisions such as the one we heard on VAT replacement. The right decisions are always the hardest to make but they ought to be made in order to live the life you deserve, and that comes with the territory of being a leader.

Disclaimer: The views expressed herein do not necessarily represent the views of any association the author may be affiliated to or this media house but that of the Author