Harnessing taxation from the informal sector

Source: Harnessing taxation from the informal sector | The Herald May 25, 2016

Sanderson Abel

The incorporation of informal sector into the broader national economic planning is part of an emerging thinking about development alternatives which seek to expand the number of actors in the national economy. Studies have shown that the informal sector acts as an important shock absorber for an economy gripped by a fairly lengthy period of sluggish jobs and income growth.It is therefore important that bottlenecks facing the performance of the sector be identified and addressed in order to improve its ability to contribute to improved local productive systems which can generate more employment opportunities. Indeed, the informal sector is glaringly visible in our economy.

It includes home businesses, domestic workers, street vendors, small-scale artisans, car repairs, bakeries, and livestock traders and the sector makes a huge contribution to the economy.

The main challenge is how they contribute to taxation and are policy makers noting the sectors contribution.

How does the informal sector contribute to the fiscal revenues?

The performance of informal sector has a major impact on the performance of the fiscal revenues given the informality of the economy.

Despite the sector not falling under the armpit of the tax man, the sector indirectly contributes some significant mount to the fiscal revenues through VAT.

The informal sector employs a significant amount of the people who are supporting the majority of the households in the country their purchasing activities of the various household consumables and capital goods significantly contribute to the VAT.

In some circumstances the formal sector sources its inputs from this sector which allows them to increase their production and resultantly amount of tax in the form of corporate tax, pay as you earn, value added tax among other taxes paid by the corporate world. The other side of the matrix is where the informal sector buys goods and services from the corporates where they also pay VAT.

Given the linkages between the formal and formal sector, it is important to understand that the sector contributes to the revenue inflows to the treasury.

The measure that the Government meant to promote this sector have a bearing on revenue generation. Despite the contribution of the informal sector to the fiscus, the informal sector players feel the taxman remains unfair to them.

One of the challenge is that the tax and regulatory burden are heavy on them which prevent informal businesses from formalising, or are driving formal firms into the informal economy. There is therefore need to critically look at the tax and regulatory environment and the associated bureaucracy that one needs to go through the process of setting up a formal institute.

Relaxing some of the regulatory requirements while the process of compliance of the various requirements can be staggered can assist in the process of formalising these businesses.

What mechanisms are need to improve the informal sector potential towards fiscal revenues?

For the country to enjoy maximum benefit from the informal sector, there is need to better understand their characteristics and tame these for the benefit of the country. Activities that are undertaken in the informal sector are usually characterised by unregulated and competitive markets; small scale operation with individual or family ownership; ease of entry; reliance on locally available resources; family ownership of enterprises; labour intensive and adapted technology and absence or limited of access to institutional credit or other supports and protections.

While the participants in the informal sector are characterised by; absence of official protection and recognition; non-coverage by minimum wage legislation and social security system; predominance of own-account and self-employment work; absence of trade union organization; low income and wages not transferred through the banking system; little job security and no fringe benefits from institutional sources.

It is the ability of the Government and interested groups that should assist the informal sector players to reduce these so that they can contribute significantly to the fiscus. The importance of capacity development for the informal sector players?

It is important to understand that some of the informal sector players are not financially educated to understand the tax issues hence the need for capacity development for the sector.

The success of the informal sector lies in them acquiring skills that will transform their businesses which include cultivating in the informal sector entrepreneurs the skills of changing their business models which are tax compliant. Given the level of competitiveness of some of the informal players in terms of quality of goods, if there are taught that Government tender systems require tax compliant businesses, there might be incentivised to formalise their businesses.

The banking sector plays a critical role in their advisory function.

This is only possible when these players are able to sell their ideas to the financial institutions for better advice to increase their compliance with the laws.

Banks can be the source of information for the development of the bankable proposals for these informal organisations once they want to turn their operations formal.

Sanderson Abel is an economist. He writes in his capacity as senior economist for the Bankers Association of Zimbabwe. For your valuable feedback and comments related to this article, he can contacted on [email protected] or on numbers 04-744686 and 0772463008