Can consumer incentive schemes enhance VAT revenue collections in developing countries?
There has been a resurgence in the adoption of consumer incentive schemes within the realm of revenue collection in recent years, due in part to technological advancement, digitisation of records, and the rise in digital payment platforms such as mobile money. These schemes can help address evasive practices that some retail firms currently engage in. Their success however, depends on a host of factors including the choice of incentive, the mass of consumers mobilised, and the combination with different schemes.
Incentivising citizens by encouraging them to participate in achieving a public policy goal has enjoyed a resurgence during the COVID-19 pandemic. Governments around the world are offering incentives, such as the chance to win a lottery prize (as high as US$ 1 million), to citizens in a bid to encourage them to get vaccinated. Another public policy application is to offer incentives to consumers to boost revenue collection. Through such schemes, consumers are co-opted into the revenue collection process as tax auditors.
Consumer incentive schemes within the domain of revenue collection, are citizen-monitoring policies that governments use to incentivise consumers to generate third party information that can help with enforcement of taxes such as Value Added Tax (VAT). These schemes typically offer incentives such as entry into a lottery draw to win cash prizes, or offer tax rebates to encourage consumers to request for receipts or to pay electronically. Consumer incentive schemes are particularly well-suited to complement the Value Added Tax (VAT).
Consumer incentive schemes and Value Added Tax (VAT)’s last mile problem
Value Added Tax (VAT) is a consumption tax that is currently in use in over 160 countries around the world. It is an important tax for domestic revenue mobilisation in developing countries as it is often responsible for more than a quarter of revenues collected . VAT, however, has a last-mile problem. The self-enforcing mechanism that makes it so effective for business-to-business (B2B) transactions, breaks down for business to final consumer (B2C) transactions. Final consumers have no incentive to request for receipts and the information trail gets lost. This can result in tax evasion and revenue losses for governments. Consumer incentive schemes are targeted at remedying this type of evasion by offering consumers incentives, such as the chance to win a lottery prize or a tax rebate, to encourage them to request for receipts or to use electronic payment means which are easier to track.
Why consumer incentive schemes might be suitable for developing countries
There has been a resurgence in the adoption of consumer incentive schemes in recent years. In 2020, Italy rolled out a VAT lottery scheme where consumers could log receipts though an app and in 2021, Bangladesh launched a VAT lottery for consumers who requested for receipts issued from Electronic Fiscal Devices (EFDs). Technological advancement along with other factors has driven this renewed interest, and improved monitoring, enhanced compliance, as well as specific factors make these schemes particularly well suited for developing countries.
- Technology
The renewed interest in consumer incentive schemes has been driven, in part, by technological advancement with increased use of Electronic Fiscal Devices (EFDs), digitisation of tax records, and the rise in digital payment platforms such as mobile money. Many developing countries have rolled out EFDs in recent years: Bangladesh, Ethiopia, Rwanda, Tanzania, and Zambia. EFDs issue standardised receipts in real time which make it easier to run consumer incentive schemes more efficiently. Mobile money platforms facilitate easier payment of incentives as use of mobile platforms is greater than traditional banking in developing countries. Digital media also provides a multiplicity of avenues to disseminate information about the incentive scheme.
- A good complementary policy to boost revenue collection
Consumer incentive schemes can also help optimise resource use by complementing traditional forms of enforcement such as audits and inspections, which tend to be more expensive and difficult to increase at the margin. Crowdsourcing consumers as auditors is one way of increasing revenue in a cost-effective way. Technology has provided opportunities and created efficiency but it also has limitations which consumer incentive schemes can help address. EFDs, for instance, offer a digital innovation that enables the revenue authority to better monitor transactions; yet the use of EFDs in some countries has not led to the anticipated gains in revenue. Consumer incentive schemes can make EFDs more effective as consumers act as third party enforcers.
- Retail firms engage in evasive practices
There is evidence to suggest that some retail firms engage in evasive practices that consumer incentive schemes can help to address. A study in Tanzania found that 30% of businesses only issued receipts when prompted by the consumer. A mystery shopper exercise in Rwanda found that the use of Electronic Billing Machines (EBMs) was low but increased substantially when consumers requested for a receipt. In a survey in Zambia, 21% of respondents stated that at some point in the last six months, they were offered a lower price if they forewent receiving a receipt after requesting for one. Consumer incentive schemes, by offering an opportunity to win a prize in a lottery draw such as a large cash prize or a tax rebate, will create incentives for consumers to complete these transactions with a receipt.
Not all consumer incentive schemes are created equal
The success of a consumer incentive scheme is not guaranteed. It depends on several factors, crucial amongst them being the design of the scheme. These factors include the incentive chosen, such as a lottery draw with a cash prize or a large item like a car, or whether the portion of the tax paid on the item is returned to the consumer. There is also an optimal rate at which revenue is maximised relative to the cost of running a lottery scheme for instance. A critical mass of consumers needs to be mobilised to take part for the exercise to be effective. There is also the question of combining different schemes such as running a lottery along with a rebate scheme. Brazil and South Korea are examples of countries with combined schemes. However, there has been little research that has evaluated these schemes, with the exception of the Nota Fiscal Paulista programme in São Paulo, Brazil. It is worth noting that some countries have discontinued their consumer incentive schemes, either due to the programme having achieved its objectives or the scheme having not been successful. For more information on the consumer incentive scheme in use around the world, you can have a look at our data visualisation of schemes in use around the world .
Consumer incentive schemes and equity concerns
Some consumer incentive schemes, such as income tax rebates, have raised equity concerns. With an income tax rebate scheme, consumers only qualify for a tax rebate if they pay Personal Income Tax (PIT). Most individuals who pay PIT tend to be formally employed. As individuals with a higher income are the ones who tend to pay Personal Income Tax with the incomes of low-income households too low to qualify, this can lead to a situation where only individuals with lower incomes pay VAT and higher income individuals are effectively exempted. Individuals with lower incomes would also effectively be taxed on purchases from formal stores nudging them towards informal stores. This would contribute to the regressivity of the tax system.
Conclusion
Consumer incentive schemes are a potential avenue that developing countries can use to increase compliance of VAT, especially if countries leverage the opportunities created by technological advancement. To be successful, it is important that they are well-designed and rigorously evaluated once implemented.
Editor’s note: This blog launches our Consumer incentives for VAT data visualisation tool.