The Taxation of Microenterprises

The Zambian Turnover Tax exemplifies a “simplified” tax scheme, which replaces the corporate income tax for firms with turnover below the VAT threshold. Such approaches are ubiquitous among low- and middle-income countries. Despite the prevalence of “simplified” systems, thorough analyses of firms subject to such systems are scarce. The impact of this project is thus not constrained to Zambia. It may contribute to sustainable growth through improved taxation of the vast small firm sectors and enhance state capacity in low- and middle-income countries.

In Zambia, an analysis of the administrative microdata shows that the tax behaviour of SMEs differs strongly from what has been reported for larger firms in high-income countries. Most strikingly, at “notches,” i.e., turnover thresholds in the tax schedule above which tax liability increases discontinuously, the data reveals a strong accumulation (bunching) of reported turnover just above the threshold (on the high payment sides). This is inconsistent with standard economic models, as firms could decrease turnover slightly to increase net-of-tax turnover substantially. This project seeks explanations of these observations by complementing the analysis of the administrative data with more qualitative evidence.