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The National Growth and Transformation Plan that we have embarked upon is an ambitious plan indeed. According to the plan, Ethiopia will record substantial economic growth and will be well on the way to becoming a middle income country.
For this to happen, in my opinion, the country has no other option but to do everything in its power to enhance production of food and non food items for the domestic as well as the export markets. The balance must be tipped towards export versus import and the productive and service sector must create employment for millions if we want to keep up with the current rate of population growth. The government then must make sure it creates an environment in which business owners are encouraged to invest in production, preferably import-replacing production. However, we observe that investment is mainly directed towards the service sector, buildings, hotels, guesthouses, restaurants, massage parlours, night clubs and spas.
Meanwhile, the Ministry of Industry expresses its disappointment in progress that is being made. The clock is ticking, the population is growing, students leave school and university ready to join the work force, resources are depleting but production is not increasing as it should. Why is this so? Why are investors reluctant to invest in production and why do so many invest in real estate and the service industry instead?
While trying to find answers, I came across the experiences of some business owners with the Revenue and Customs Authority and tax collection.
A wise business owner will have the business audited annually by an authorised external auditor. Such annual exercises will help improve the financial & administrative management practices of the business and submit annual financial statements. The Revenue and Customs Authority is however authorised to review the financial statements of a company over the last five years and it makes sure it does so.
Instead of providing feedback and making corrections over the annual audit, for which the Authority has neither the manpower nor the capacity, it carries out its own audit over a period of five years. If mistakes made in year one were not corrected early, chances are high that the consequences have now multiplied fivefold, while new rules and regulations are applied that only tax revenue officials know about and not the business owner or even the external auditor. Rules change and are applied ad hoc in a manner that is not transparent, to say the least. Some are not even derived from the tax law and do not match common accounting principles. Here are some examples:
Management was told that the depreciation of assets should have been calculated as costs of goods sold instead of expenses. At first glance, this does not seem to matter or even affect profits. However, adding depreciation to the costs of goods sold and applying your profit ratio will result in a higher selling price of goods, the mark up of which is now set by the tax collector and over which sales and VAT should be calculated. Now that the sales have been determined by the tax collector, the VAT collected by the business is less than could have been and penalties apply, including interest. How the business owner can be forced to pay taxes over imaginary selling prices is a question that beats me, let alone having to pay interest over taxes not collected. Also, applying this system drives up the selling price to a point that the business can no longer compete with similar imported items, the costs of which have not been subjected to the same auditing principles. Now, after inquiring, it became clear that the tax law does not at all stipulate the system described above, which is based on assumed selling prices and imaginary non-collected taxes and therefore unjustified penalties.
Some costs of production like materials collected from non-VAT registered service providers (for example, weavers in the textile sector or loaders, etc.) are not accepted as expenses or purchases. For every such unsupported expense included in the financial statement, a monthly ETB 2,000 penalty is applied for the company, in addition to an ETB 1,000 penalty on the manager and ETB 1,000 for the head of finance. However, the very expenses that were first rejected are expected to charge 30% withholding tax on those costs as compensation for the taxes the business failed to collect from service providers. Not surprisingly, interest over the period is again calculated as well.
Depreciation of the value of assets continues to be a controversial issue as the business owner argues that it should be calculated after starting production, while the tax collector assumes that production starts the moment the assets are brought into the country or onto the premises. There are no guidelines or facilities to allow for training operators, setting up and testing production lines, again resulting in additional costs and differences over the financial statements of the business that is yet to take off.
Trying to digest some of the complications producers face, I begin to understand that it is indeed much more attractive to invest in simpler forms of doing business, like renting out a house or an office or providing services at fixed prices over which calculating VAT and profit tax is very easy indeed. I assume some readers will be in a position to add their own experiences to a list of examples of seemingly illogical and unfair applications of tax collection.
What I suspect may fuel such practices as well is the fact that the Revenue and Customs Authority sets its targets as absolute figures instead of percentages. Taxes are to be calculated as a percentage of incomes, sales, profits, and so on. When incomes and sales go down, taxes should go down proportionally with it. If the tax collector is however expected to collect a predetermined amount of money, (s)he has no option but to bend the rules and apply non-transparent rules and regulations instead.
Going back to the top of this article, I conclude that in order to achieve some of our economic development targets, domestic production must be encouraged and a conducive environment must be created by the government, including a transparent and effective revenue system. Not doing so is like shooting ourselves in the foot and killing the goose that lays the golden egg.