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Modelling Tax Structure Changes in Nigeria

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Presentation by Dr. Nonso Obikili at the second annual Nigerian Tax Research Network meeting which took place in Abuja on 24th and 25th November 2018.

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Modelling Tax Structure Changes in Nigeria

  1. 1. Modelling tax structure changes in Nigeria Dr. Nonso Obikili Turgot Centre for Economics and Policy Research October 23, 2018
  2. 2. Summary Very low and downward trending non-oil taxes as a share of GDP implies need for structural tax reform Politics requires that consequences of changes are ”known” Modelling takes time. Need to have models ready in the event they are needed Sample framework: Using Sokoto state.
  3. 3. Tax problems - Tax to GDP ratio Source: Budget office, NBS
  4. 4. Oil FG revenue as percent of Oil GDP Source: Budget office, NBS
  5. 5. Non-Oil FG revenue as a percent of Non-Oil GDP Source: Budget office, NBS
  6. 6. Oil vs Non-Oil GDP Source: NBS
  7. 7. Implications Non-oil GDP growing faster than non-oil tax revenue Continuing dislocation between taxes and the non-oil economy Gap between hypothetical target and reality getting larger Marginal improvements are unlikely to be effective Structural reforms needed
  8. 8. What does tax reform mean? Re-organization of incentives and benefits Who collects what? Who keeps what? Re-aligning incentives and benefits can have broad impacts Significant literature on tax farming 4% and 7% cost of collection of CIT and Customs Potential gains from re-organization Who gains or losses with changes?
  9. 9. Political realities Tax reforms is a political process Potential winners and losers decide outcome Social planner must know how changes influence various parties Must know how each state and LGA will be impacted by any changes Answering these questions requires modelling which takes time In the event of benevolent politician, need model to be in place instantly Can you design reforms that increase the share of ”winners”?
  10. 10. Simplified two-agent model One State and Rest of the Country (ROC) One tax: Corporate income tax Model: Tax revenue collected by either state or ROC Tax revenue shared according to formula State collection/enforcement effort depends on expected returns
  11. 11. Current Status Revenue Collection → ROC Revenue Distribution → Current revenue allocation formula State Effort → Expected returns approx zero. e.g. Given current revenue allocation formula A N10m increase in CIT from Sokoto companies → N77,660 to Sokoto state government (0.7%)
  12. 12. CIT distribution model Revenue Collection = αs State + αroc ROC: [αs + αroc = 1] Revenue Distribution = βsStatei + βroc (State + ROC): [βs + βroc = 1] State Effort = f(Expected return) = f(βs, Expected(collection)) Status quo: αs and βs → 0. Tax reform: What happens when you change α or β?
  13. 13. Question 1: In a static model, what happens to SOKOTO revenues if you increase CIT derivation from 0 to 13%? If you increase βs from 0 → 0.13 Data needed: State-level CIT collection. Source: ideally FIRS Estimate from NBS sampling frame Current revenue allocation formula
  14. 14. 2018 Business survey
  15. 15. Estimating CIT distribution Used NBS business sampling frame Sokoto accounted for 6 of 1820 firms 4 of 6 were officially registered Of all compliant firms: Sokoto accounted for 4 of 1561 (0.26%) Simplifying assumption 0.26% of centrally collected CIT comes from Sokoto in 2017: N3.136bn of N1,206.29bn
  16. 16. Question 1: In a static model, what happens to SOKOTO revenues if you increase CIT derivation from 0 to 13%? Based on 2017 CIT collections SOKOTO with βs = 0 → N8.99 bn SOKOTO with βs = 0.13 → N8.394 bn (6.6% shortfall) Will Sokoto support such tax reform? Probably not.
  17. 17. Question 2: In a static model, what happens to SOKOTO revenues if you increase CIT derivation from 0 to 13% and shift some collection/enforcement responsibility to state? If you increase βs from 0 → 0.13 and increase αs from 0 → 0.5 Data needed: State-level CIT collection. Current revenue allocation formula Estimate potential for SOKOTO CIT increase Size of SOKOTO Economy
  18. 18. Question 2: continued Potential static increase Ordinarily: Could use surveys to estimate potential increase. Estimates of state GDP Research on formalization Simplifying assumption: 5% increase Simplifying assumption: Everyone else increases collection by 0%
  19. 19. Question 2: continued Based on 2017 CIT collections and assumptions SOKOTO with βs = 0 and αs = 0 → N8.99bn SOKOTO with βs = 0.13 and αs = 0.5 → N8.416bn Will Sokoto support such tax reform? Probably not.
  20. 20. Can you design reform package that works for Sokoto? Continuing from (2) Assumption: Everyone else increases their collection by 5% Sokoto still drops from N8.99bn to N8.816bn ROC increases from N1,206.29bn to N1266.60bn (5%) Transfer payments Increased βs means SOKOTO gets less and ROC gets more. Transfer payments to Sokoto of N1bn to Sokoto leaves Sokoto and ROC both better off.
  21. 21. More practical model Dynamic model Model all taxes Model all states and LGAs Properly estimate parameters of model Model impact on wider economy
  22. 22. Conclusion Dynamics of non-oil tax revenue to GDP growth imply broad tax reform necessary Reform based on changing roles and responsibilities for collection and enforcement Reform is largely political but will require modeling to understand impacts of changes Need modelling in place before politicians (maybe) come calling
  23. 23. Thank You

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