Consumer incentives for VAT
Over the past four decades, Value Added Tax (VAT) has emerged as the mainstay of many developing countries’ revenue mobilisation strategies. VAT is now in use in over 160 countries and is responsible for over a quarter of all revenues collected. It is the most stable and often the largest contributor to the treasury in developing countries. But VAT has a last mile problem. The self-enforcing mechanism that is so effective for business to business (B2B) transactions breaks down for business to final consumer (B2C) transactions, leading to cases of tax evasion.
Consumer incentive schemes are an attempt to address VAT’s last mile problem.
This visualisation tool is a typology of consumer incentive schemes in use around the world. It outlines five different types of schemes and the features of each country’s incentive scheme.
Consumer incentive schemes around the world
What are consumer incentive schemes?
Consumer incentive schemes are citizen-monitoring policies that governments use to incentivise consumers to generate third party information that can help with enforcement of Value Added Tax (VAT). Consumer incentive schemes offer incentives to consumers such as entry into a lottery draw to win cash prizes or offer tax rebates to encourage consumers to request for receipts or to use electronic payment means.
Types of consumer incentive schemes
- VAT lottery (green)
The VAT lottery is the most common incentive scheme currently in use around the world. Taiwan was the first country to launch a lottery scheme in the 1950s. In a lottery scheme, consumers are incentivised to request for a receipt with the possibility of entering a lottery draw and possibly winning a prize.
Different countries offer different types of prizes ranging from large cash prizes (Philippines), in-kind prizes like cars (Poland) and even the chance of appearing in a television show, ‘The prize is right’ (Slovakia). With a lottery scheme, there is a tension between the form of the payment system, the administrative cost of the program, and the share of the population that can or will choose to participate to make the scheme effective.
- Firm incentives (dark pink)
This is strictly speaking not a consumer incentive scheme but an innovation that focuses on incentivising firms. Few countries currently incentive firms to issue receipts. One of the reasons for limited uptake of this scheme is that firms are legally required to issue receipts and governments do not see the need to offer them further incentives.
In cases where firms are offered incentives they are often tied to a consumer-focused lottery. Poland, for example, offers the firm that issues the winning lottery ticket a prize. Tanzania ran a lottery for traders giving prizes to businesses that operate Electronic Fiscal Devices (EFDs) and declare a higher turnover as a result.
- Consumer VAT refunds (pink)
A consumer VAT refund scheme offers a percentage of the tax paid back to consumers for requesting for receipts. The appeal of this scheme is that it guarantees that consumers get something back unlike with a VAT lottery where winning a prize is uncertain. The key with consumer VAT refunds is determining the optimal rate which maximises the VAT revenue subject to the incentive paid out.
Finding an optimal rate ensures that awarding of refunds does not lead to an overall reduction in revenue. Due to the relatively small size of individual pay-outs, most countries aggregate the payments over a period so that the pay-out is more substantial. Brazil offers a 20% refund on the VAT paid for submitted receipts. Portugal restricts refunds to receipts from cash intensive sectors such as the hair dressing sector.
- Income tax rebates (yellow)
Income tax rebate schemes are a variation of a VAT consumer refund scheme that offers consumers the opportunity to claim back VAT incurred on personal consumption against their Personal Income Tax liability. To be eligible for a VAT refund, consumers should be paying Personal Income Tax. This scheme is popular in South America with Bolivia, Ecuador, Guatemala and Paraguay running a variation of it. Bolivia’s VAT complementary scheme offers a personal allowance equivalent to two minimum wage salaries. Paraguay extends the credit to include dependents of the employee.
- VAT rate reductions (purple)
Another variation of a consumer incentive scheme is to reduce the VAT rate for consumers who opt to use an electronic method of payment such as a debit or credit card. Electronic payments are easier to track than cash payments which reduces the likelihood of firms evading. Pakistan and Argentina run VAT reduction schemes.
- Combined schemes (blue)
Some countries often opt to use more than one scheme a combination of schemes. Brazil and South Korea are examples of this. Countries that use this multi-pronged approach tend to enjoy greater success in their consumer incentive scheme.
- Discontinued schemes (grey)
Not all consumer incentive schemes prove to be effective and some countries have discontinued theirs. Argentina launched a VAT lottery in the mid-1990s and abolished it four years later due to waning public interest. They also abandoned their VAT rate reduction scheme. Zambia’s VAT lottery was also discontinued after a relatively short time.