Kenya Grapples with Tax Revenue Challenges Amidst Investor Exemptions

Since 2014, Kenya has implemented an array of tax incentives and exemptions, contributing to the observed fall in the country’s tax revenues.

Kenya’s ambitious attempts to bolster tax revenues have encountered significant challenges, with the ultra-wealthy and large investors reportedly undermining efforts through a series of tax incentives and exemptions over the past decade. An analysis conducted by the International Monetary Fund (IMF) on tax policy and administrative changes in East African Community (EAC) countries reveals that Kenya’s tax-to-GDP ratio has been on a declining trend since its peak in 2014.

The IMF’s analysis, tracking tax policy and administrative changes spanning from 1988 to 2022, highlights a distinctive pattern in Kenya’s tax policies. Unlike other EAC countries, where tax changes predominantly focused on base adjustments, Kenya frequently introduced base-narrowing measures. Intriguingly, Kenya stands out as the sole country in the sample where over 60% of total tax policy changes introduced resulted in a reduction in taxpayers’ liabilities.

Since 2014, Kenya has implemented an array of tax incentives and exemptions, contributing to the observed fall in the country’s tax revenues. Tax revenues in Kenya have steadily decreased, hitting 13.1% of GDP in 2020 from a peak of 15.5% in 2014. The recently enacted 2023 Finance Act, despite its ambitious goal to enhance tax revenues, is projected to only lift the tax-to-GDP ratio to 14.4% of GDP.

An examination of recent tax measures suggests that incentives granted to the wealthy and large investors may be a key factor in the drag on tax revenues. Notable examples include VAT exemptions on aeroplanes and aircraft exceeding 2,000 kilograms in 2014, primarily benefiting affluent individuals and companies involved in importing such equipment. In subsequent years, special incentives were legislated for Special Economic Zone (SEZ) enterprises, real estate developers, and projects funded under official aid.

Additional measures in recent tax legislations include a reduction in corporate income tax rates for real estate developers and exemptions for specific sectors such as motor vehicles purchased for aid projects and aircraft parts. The 2023 Finance Act further exempted aircraft parts from VAT and provided deductions for hotel buildings, manufacturing machinery, and bulk storage facilities supporting SGR operations.

However, these measures have led to reduced tax liabilities for companies, including local branches of foreign entities. While these incentives and exemptions aim to attract investment and stimulate economic growth, critics argue that they contribute to an overall decline in tax revenues, impacting the government’s ability to fund its development agenda.

The ongoing debate over Kenya’s tax policies reflects broader challenges faced by governments globally in balancing the need for revenue generation with incentives to attract investment. As countries grapple with economic recovery post-pandemic, striking the right balance between encouraging economic activities and ensuring sufficient tax revenues remains a critical policy consideration.

The IMF’s recommendations align with the broader international focus on creating fair and sustainable tax systems. As countries navigate the complexities of tax policies, the role of incentives, exemptions, and compliance measures will continue to shape discussions on fostering economic growth while meeting fiscal obligations.

In response to the IMF’s analysis, calls have been made for a reconsideration of these tax policies, emphasizing the need for Kenya to strengthen tax collection in line with its development objectives. The Medium-Term Revenue Strategy (MTRS) is seen as a pivotal milestone in increasing revenues by five percentage points of GDP by FY2026/27. The IMF encourages measures that broaden the tax base and enhance tax compliance to meet Kenya’s development goals.

The ongoing discussion surrounding Kenya’s tax policies serves as a microcosm of the broader global conversation on the role of taxation in economic development. Striking the right balance between creating a conducive environment for investment and ensuring adequate revenue collection remains an ongoing challenge for governments worldwide.

As Kenya considers the recommendations put forth by the IMF, the country’s policymakers face the task of recalibrating tax policies to address concerns raised while sustaining an environment conducive to economic growth. The outcome of this deliberation will not only impact Kenya’s fiscal landscape but will also contribute to the evolving discourse on effective and equitable taxation in an ever-changing global economic context.