Using tax for short-term political gains a serious threat to growth

Taxpayers found themselves in a difficult position this past week due to confusing tax measures and compliance requirements by the government. According to the National Treasury Cabinet Secretary, John Mbadi, it is wrong for Kenyans earning less than Sh30,000 to pay tax on their employment income.

As a result, he intimated that the President had requested that this cluster of employees, estimated to comprise about 49 per cent of workers in the formal sector, should be exempted from the Pay As You Earn (PAYE) tax. Another 244,000 employees earning between Sh30,000 and Sh50,000 will enjoy a reduction of five percentage points in their PAYE, from 30 to 25 per cent. The Treasury estimates that at least 1.7 million workers in the formal sector would benefit from these proposed new tax measures.

From a casual point of view, this could easily pass as an ordinary tax policy measure by a reasonable and caring government. However, looking back at the oppressive tax regime that has mainly targeted employees in the formal sector under President Ruto’s administration over the past three years in office, this move appears to be a high-octane political manoeuvre aimed at appeasing hostile taxpayers. Contextually, the actual shillings returned to the pockets of workers within this bracket will, at best, be less than Sh750 per month, after accounting for other levies attached to payslips.

For the majority of the working poor targeted, this is something. It may even be a good gesture from the Treasury to signal taxpayers to relax consumption constraints and catalyse retail-level economic activity. However, on the other side, indirect and more punitive taxes such as Value Added Tax remain intact. This is in addition to diverse forms of “black taxes” arising from the failure of government to provide essential public services such as education, effective healthcare, public transport and social protection safeguards.

Besides, despite the Treasury proposing this tax relief, the Kenya Revenue Authority is threatening to track people’s and businesses’ bank balances, implying a heavy compliance burden for the majority of informal transactions that dominate our economic system. This column has consistently argued that while paying due taxes to the state is the highest civic obligation of any citizen, taxes and the compliance burden must never get in the way of normal economic activity.

Indeed, millions of Kenyans do not pay due taxes to the state despite enjoying public goods and services. However, this compliance failure is not the result of already compliant taxpayers within KRA’s tax net, but rather a defective economic structure and a rotten moral fabric that leaks taxes at both the collection and expenditure points.

For instance, why should the government introduce punitive taxes or levies aimed at adding about Sh70 billion into the tax basket when, on the expenditure side, it is leaking an estimated one-third (over Sh850 billion) annually, based on multiple conservative official estimates?

Here is a good case in point. In the past one and a half fiscal years alone, how many billions have been wasted on UDA party-related activities at State House? When did political party activities become national priorities to be funded from public coffers? This week, why would thousands of UDA political aspirants for 2027 meet at State House? Who footed the bill for the controversial brown envelopes circulating on social media, and the meals served there? Is it not basic common sense that it is these political activities at the House on the Hill that explain why the top office in the land would exhaust its entire annual budget in less than six months of the fiscal year?

Systemic problem
Unfortunately, while CS Mbadi’s sentiments may sound like welcome news to suffering employees in the formal sector, this policy shift is merely the latest twist in what has become a chaotic tax system that shifts perpetually at the whims of powerful political actors.

The annual Finance Bills have become the theatre of these silly games. Instead of serving the envisioned policy direction of government revenue mobilisation, the Finance Act has been reduced to a political weapon to manage public expectations or advance the pecuniary interests of the ruling elite.

This runs contrary to sound economic theory and evidence, which show that a stable tax regime is a necessary condition for sustainable growth and development. A simple AI search on the benefits of a stable and predictable tax system lists the following.

First, a predictable tax regime boosts investor confidence and therefore attracts foreign direct investment. Simple economic logic explains this as a legitimate expectation by investors when making projections on operating costs, required working capital, payback periods and returns on investment.

Second, a stable tax system enables businesses to plan in the short, medium and long term. The majority of ordinary businesses in the retail and manufacturing sectors operate on very thin margins and rely heavily on borrowed capital. Small distortions in cost variables, such as tax, can easily wipe out otherwise viable enterprises due to mandatory obligations and compliance burdens. In recent years, we have seen enterprises with hundreds of employees fold under the weight of tax disputes or slight shifts in government policy.

Third, with a stable tax regime, it becomes easier for the government to implement and enforce policy interventions aimed at broadening the tax base and increasing revenue collection. Annual tax changes reduce policy proposals to administrative moving targets that never focus on the core value proposition at the policy level.

For instance, each year, KRA continually issues a range of directives or calibration changes to its digital tax return platforms. This costs billions for both the tax authority and taxpayers who must comply. This is the classic toxic business environment that enterprises which have folded or exited the domestic market have consistently complained about.

Fourth, a predictable tax system encourages voluntary compliance when individuals and corporations perceive it as clear and fair. By contrast, taxpayers are bombarded daily with threats, intrusions into private financial spaces, and uncertainty about what the taxman will do next. These theatrics partly explain why most players in the informal sector never volunteer to declare taxes. When KRA raided mobile-based payment platforms, many small businesses simply abandoned them in favour of direct M-Pesa transfers or cash.

Finally, a clear tax structure reduces administrative and compliance costs, making life easier for both the tax collector and taxpayers. In reality, taxes are simply a necessary evil for private economic actors pursuing wealth maximisation. No one wakes up early or loses sleep because they want to pay taxes to the government.

It can therefore only lead to a tragic long-term outcome when a government behaves as though tax obligations are favours that can be granted or withdrawn at will by those in power. It becomes worse when compliant taxpayers watch their contributions plundered through political shenanigans or diverted for personal gain instead of funding legitimate public goods and services.

As someone once said, who would willingly part with their hard-earned money to fund a publicly run criminal enterprise?