Why Status Quo on VAT Collection Must Be Maintained

Ifeanyi Omokwe

In the past few weeks, Nigerians have been treated to intense legal fireworks over issues relating to the collection of Value Added Tax (VAT) in the country.

From an ongoing legal tussle between the Federal Inland Revenue Service (FIRS) and Rivers State, a recent communique at the end of the meeting of the Southern Governors’ Forum has shown that more states in the region may likely want to start agitating for the collection of the consumption tax.

Nigeria as a federation has gone through a chequered history of boom and bust, with the bust getting a larger fraction of the country’s development story. Indeed, the country’s rising population has seen the government adopt proactive measures in boosting revenue generation due to its growing financial obligations. In all of these, the federal government has been supportive to the states as was seen when the government extended bailouts to state governments during the cash crunch that occasioned the slump in the price of crude oil during the first tenure of President Muhammadu Buhari.

The creation and imposition of VAT was part of the federal government’s effort to diversify the revenue base in Nigeria. The consumption tax was introduced into Nigerian tax system by the Value Added Tax Act no 102 of 1993 and took effect in January 1994. Presently, the consumption tax is administered under an arrangement that allows the federal government to collect 15 per cent, states 50 per cent, and local government 35 per cent. With the existing arrangement, states and local governments take about 85 per cent of VAT proceeds.

VAT replaced the sales tax with the rationale that the base of sales tax in Nigeria was narrowed as it covered only nine categories of goods plus sales and services in registered hotels, motels and similar establishments.

Also, the sales tax targeted only locally manufactured goods which put such goods at a disadvantage relative to imports.

When VAT law was introduced during the military era, it was soon realised that if practiced strictly, in monitoring, compliance and enforcement, it will be cumbersome and will create untold hardship on consumers, hence the government agreed to appoint FIRS as an agent of collection.

FIRS serves as the government’s foremost revenue generation agency and in that light has positioned VAT as one of the major ways to increase tax revenue.

Aside the fact that taxes have been administered by FIRS for a while; the federal agency has over the years developed the experience, technology and manpower to handle all issues concerning the administration of taxes far better than the states. This reflects in the country’s tax revenue, which has been on the upswing over the years.

There is nowhere in the world, where the administration of VAT is done at the sub-national level.

Clearly, since inception of VAT under the administration of FIRS, the consumption tax has continued to be one of the most stable sources of tax revenue for the funding of yearly budgets of the three tiers of government.

In spite of this, constitutional validity of VAT has been a contentious issue being challenged at various courts even up to Supreme Court. Various judgments have reflected divergent views not undermining their political undertone to the imbroglio on the constitutional validity of the VAT Act.

If the recent ruling on the VAT between the FIRS and Rivers State is upheld, I can categorically say that states will be the biggest losers of the judgment.

According to foremost tax expert and a Partner at PwC, Taiwo Oyedele “few states like Kano, Rivers, Oyo, Kaduna and Delta may experience minimal impact, while at least 30 states which account for less than 20 per cent of VAT collection will suffer significant revenue decline.”
It is worthy to note that if states enact their VAT or Sales tax laws, the guaranteed winners would be the federal government in respect of import VAT and international transactions (whether retained by FG only or paid into the Federation account and shared), and the Federal Capital Territory.

If decentralisation of VAT administration system is adopted instead of central administration of VAT, different states will be entitled to impose taxes in its territory on consumption or sales tax. This might make sense majorly to some states like Rivers, Lagos and FCT but consideration should be given to other states, such as Ebonyi, that are not geographically located or naturally endowed with mineral resources.

Additionally, another issue to be considered is the destination principal as the country adopts destination principle of VAT administration system. With this, state where goods or services are consumed will take the benefits of the VAT revenue. This will create various administrative challenges such that each taxable person must identify goods to be consumed within or outside their state for the purpose of VAT invoicing. Another issue to be considered is the input-output mechanism, that is where goods and services have to cross several sub-national territories before getting to their final consumer, each state will likely levy VAT based on destination principle which will not qualify as input VAT in the other state. That means the seller will bear taxes on the goods produced or sold instead of the final consumer, thus resulting in multiple taxes, decline in ease of tax payment and discourage tax compliance.

Furthermore, those jostling for states to start collecting VAT must also considered the effects of the refund system on their citizens. That is because a fundamental issue is whether the sub-nations have adequate resources to cater for VAT refund. Presently several states do not have enough resources to meet its budgetary obligation, huge debt, inability to pay salaries etc. it follows thus that meeting the refund of taxes will be a mirage and would create a distrust among taxpayers.

Likewise, proponents of states’ collection of the consumption tax must also weigh the effects of hyper-inflation as the transfer burden of multiple taxes levied at various sub-nationals would be heaped on the final consumers, which would result into higher inflation as the prices of goods will reflect the various taxes born by the supplier or producer at each stage of supply chain from one state to another. If allowed, Nigeria’s ease of doing business and paying taxes would deteriorate in view of the multiple VAT compliance and Nigeria’s tax to GDP ratio will decline.

“People will pay more, but government will collect less due to inefficiency of collection and leakages. There will be higher cost of goods and services arising from input VAT claim and refund complications in addition to items which are not exempted under the states VAT law such as rent, tuition, processed foods such as amala, suya, jollof rice, and ogbono soup. In addition, there will be incidence of double taxation due to likely conflicts between origination and destination principle in different states. Worse still when the reality of inability to implement VAT hits home many states will inevitably introduce sales tax with its cascading effect,” according to a report.

Definitely, the pulling of sub-national resources for the benefits of all under the fiscal federalism would be defeated if each sub nationals are allowed to administer VAT. These will mean only the endowed states in natural resource or geographical location/affiliation will be developed at the expense of the other states.

In view of the foregoing, the focus of all parties involved in the matter should be how not to take actions that would stifle businesses and investments, which has been the advantage of the current VAT system as was explained recently by the Group Lead, Special Operations Group, FIRS, Mathew Gbonjubola.

Gbonjubola explained: “The VAT is not paid to the federation account but to VAT pool account for distribution to the three tiers of government. It is after the sharing that the portion of the federal government is paid to the Consolidated Revenue Fund Account.

“VAT works only at a national level but not at a sub-national level. There is no country in the world where VAT works at the sub-national level.”

It is also interesting to note that the VAT Act allows taxpayers to offset their input VAT (Allowable Input VAT) against their output VAT, to the extent that such input VAT only related to such goods that were purchased or imported for resale or form the taxpayers’ stock-in-trade used for the production of new products on which output VAT would be charged.

And where the output VAT exceeds the recoverable input VAT; the taxpayer is expected to remit the excess to the FIRS.

So, because the consumption tax depends on the input-output mechanism, it can’t work at the sub-national level.

So, Nigerians must continue to support the FIRS so that the federal wish has over the years developed enough capacity to collect VAT and have ensured that its distribution among the states is fair.

Mr. Ifeanyi Omokwe, a student of Information Systems and Network Economics at the University of Freiburg, wrote in from Germany.