A new way to catch the informal market in the tax net

24 June 2016

In the struggle to increase revenue, African governments are seeking new ways to catch their informal economies in the tax net. This is not surprising as the informal sector contributes about 55 % of sub-Saharan Africa’s GDP and 80% of the labour force. The informal economy is often associated with increasing poverty and weak employment conditions. By investing through informal channels, African entrepreneurs seek to reduce the costs related to wages, retirement pensions and other social benefits. Beyond poverty and social issues, the prevalence of informal activities is closely related to an environment characterised by weaknesses in three areas: taxation, regulation and private property rights. A transition to electronic tax collection is a way to achieve better control over taxation. Governments struggle to collect sales tax because merchants and purchases still use cash (informal economy) and outdated technology with high risks of fraud and there is a lack of access to real-time transaction data or reliable information systems.

Sales and transactions subjected to taxes are not declared or under-declared and there is no incentive to tax compliance. Authorities rely on time-consuming, costly and ineffective paper-based processes to verify and enforce tax compliance. And then there is the informal market where no taxes are paid at all. Clearly there is a need to widen the tax base by formalising the informal market.

The tax-collection solution Avatar Technologies can provide consists of a tax data ecosystem in the Cloud, controlled by the relevant government authorities and powered in real time by electronic transaction-recording devices. This solution stands out from previously implemented electronic tax collection systems implemented in some countries to control sales-generated taxes. The real-time transmission of all transaction data brings far-reaching benefits:

very high reliability of data
integrated high capacity
high visibility and transparency for government
fast processing
user-friendly program
the prevention of fraudulent suppression and/or manipulation of transaction data
the prevention of loss of data due, inter alia, to network outages, hardware failures—very different from other systems that rely solely on off-line devices with data stored locally in a built-in fiscal memory
supporting governments to “go digital” while providing the information systems necessary to understand and predict economic health

African governments cannot afford to lag behind in the digital revolution. They must acquire the technology to enable them to capture all new sources of taxable income. The benefits this will bring in increased tax revenue will far outweigh the costs.

In the new electronic tax collection solution, a fiscal lottery can be linked to the system—an innovative and integrated way to create buy-in from the participants. Customers are encouraged by the prospects of winning a prize in the lottery to reclaim their tax receipt from the service provider because the receipt number is used for the lottery. It doesn’t cost them anything extra but provides them with an incentive for tax compliance. This, secure revenue stream for the government could be ploughed into sustainable development. Any costs for supplying the prizes are also by far outweighed by the increase in tax revenues. In an indirect way too, the customers, by requesting their receipts force the sales provider to be compliant.

In this way, the informal market can be brought into the tax net and motivated to comply with government tax regimes.