The government’s introduction of new taxes and expansion of existing ones are among the most significant legislative changes of the past year. The changes represent a newfound source of financial pressure for the public, particularly low income groups, as the government moves to beef up its coffers in light of ever-expanding expenditures and a widening budget deficit.
Among the major developments is the introduction of a property tax in Addis Ababa, as well as adjustments to the value added tax (VAT) and excise tax regimes, with more changes in the pipeline. A nationwide property tax is also set to be introduced soon.
The government is looking to expand its tax base, with officials looking to collect an additional 92.5 billion birr from taxpayers this fiscal year to finance a record federal budget of close to one trillion birr.
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Finance Minister Ahmed Shide recently stated the government is working to expand taxation and grow its sources of revenue, targeting to collect a total 502 billion birr from taxpayers by the end of 2024/25.
Among the tools the government is looking to use to shore up its finances is the amendment of the VAT proclamation first introduced in 2002. Parliament ratified the amendment in July 2024, nodding to changes that look to broaden the tax base by including previously untaxed goods and services. The new VAT law now includes essential services like water and electricity, which experts foresee will inevitably drive up the cost of living further and turn up the pressure on already struggling low-income households.
The new law levies a 15 percent VAT on transportation services, potable water, electricity, and financial technology services like electronic transactions. None of these had been subject to VAT since the tax was first introduced more than two decades ago. Telecommunications and insurance services are also now subject to VAT.
Eyasu Girma, a financial consultant, observes that while expanding and reforming the VAT regime is necessary to fund public services and infrastructure, he cautions that the government should be careful not to harm poor people. For instance, he says, a VAT on water and electricity will raise commodity prices as producers pass the cost onto consumers, who are already struggling with high living costs and low incomes.
Previously, essential goods like edible oil were exempted from VAT. In September 2021, the government moved to lift the tax from consumable items such as spaghetti, eggs, edible oil, sugar, rice, and macaroni. However, the recent VAT directive from the Ministry of Finance has excluded these items from the VAT exemption list. On June 20, the Ministry issued a directive imposing a 15 percent VAT on these essential items.
Accordingly, cereals and pulses (teff, wheat, barley, maize, sorghum, zengada, dagusa, oats, peas, chickpeas), agricultural inputs (fertilizer, pesticides, seed, veterinary medicine, drug sprayer), and foods such as injera, bread, and milk, as well as capital goods, are exempted from VAT. However, many other items are now excluded from the VAT exemption list. Essential food items such as edible oil, spaghetti, eggs, edible oil, sugar, rice, and macaroni will be levied the 15 percent VAT.
Tesfaye Haile, the general manager of the Ethiopian Millers Association, fears this new law will adversely impact Ethiopian producers of macaroni and spaghetti. As VAT has been imposed on these items, producers have raised their prices by an average of 8 percent. Tesfaye explains that producers are concerned that this price hike, driven by VAT, will muffle demand. He notes that the longer-term impact of this price increase will become clear over time.
Eyasu highlights the contradiction in the government’s decision to impose VAT on essential goods like edible oil, which is used as much as teff and wheat. He argues that imposing VAT on edible oil contradicts the decision to exempt some food items from VAT to help low-income households. Edible oil is essential in any food, and taxing it will push its price up, further challenging the wider public, he says.
Eyasu hopes the government will reconsider and exempt these items from VAT to prevent further financial strain on a public already struggling with a high cost of living. The move has already pushed the prices of edible oil up and the impact is evident even now.
Ethiopia faces significant financial challenges, including a huge fiscal deficit, massive public debt, and a serious lack of foreign currency. The country has both substantial domestic and external public debt, alongside a significant budget deficit and galloping inflation. Last December, Ethiopia defaulted on a USD 33 million interest payment on its USD 1 billion Eurobond.
The government is expanding taxation in a bid to reverse the situation and, according to the Finance Minister, government expenditure will be tailored to prioritize debt repayment, even if it means delaying capital projects.
Meanwhile, the government’s 10-year Perspective Plan looks to maintain a balance between revenue and expenditure by increasing tax collection efforts and expanding the tax base.
It outlines reforms in tax policy and regulations, modernization of the tax system, and combating illegal trade activities. The aim is to raise gross domestic revenue from Birr 395 billion to Birr 3.9 trillion, an average growth of 26.1 percent per year. Tax revenue is projected to increase from birr 317.9 billion to birr 3.5 trillion, raising the tax revenue to GDP ratio from 9.2 percent to 18.2 percent.
However, Ethiopia’s tax revenue to GDP ratio has been declining sharply since 2012. According to the World Bank, this ratio decreased from 9.4 percent in 2012 to 4.5 percent in 2022, casting doubt on the government’s ambitions to raise it to 20 percent.
Eyasu agrees that broadening taxation is crucial, noting there are only around 64,000 federal taxpayers in the country, representing 0.05 percent of the population.
The necessary broadening is also taking tax officials into uncharted territories, including the world of digital services and transactions, which have proliferated in recent years. A report from the National Bank of Ethiopia (NBE) reveals there were 1.2 billion digital transactions with a value of five trillion birr per year as of June 2023.
Digital transactions have now overtaken cash transactions, with close to 103 million digital accounts active in the country as of June 2023, according to the same report.
Over the past three years, the number of mobile money accounts has increased fourfold. Various digital transaction service providers, such as Ethio telecom’s Telebirr, Safaricom’s M-Pesa, Arif Pay, and Chapa, are licensed by the government. In Ethiopia, there are 60 million mobile money users, 22 million mobile banking users, and 4.8 million internet banking users.
Eyasu sees that including digital services and electronic transactions in the new VAT law was crucial. He argues that the proliferation of digital services and transactions in the country over the past few years makes it essential to include these services in the VAT law. This inclusion will significantly contribute to raising government revenue and enable the state to allocate more funds for public services and infrastructure, he explains. While he acknowledges that the VAT will have an impact on the consumers, he believes the benefits outweigh the negative effects.
By taxing digital services and transactions, the government can tap into a rapidly growing sector, ensuring that the tax base is broadened and that more people contribute to the country’s revenue, recommends Eyasu.
Another significant piece of reform is the introduction of a property tax. This tax proposal was approved by the Council of Ministers on June 14 and has been sent to Parliament for ratification. Officials want to use this tax to raise funds for ongoing infrastructure improvements. The tax will be nationwide, granting regional states and city municipalities the authority to issue specific implementation directives.
The proposed property tax bill imposes a tax on urban properties, specifically houses, calculated as 25 percent of the property’s market value. Finance Minister Ahmed Shide announced that the property tax will be introduced throughout the country starting this fiscal year. However, Eyasu anticipates that Parliament will not approve the property tax law this fiscal year due to the heated debates it has sparked and the need for further discussions and revision.
Eyasu argues that the proposed property tax will negatively impact property owners, especially the poor. The current proposal exempts houses built on 15 square meters of land or less in high-priced areas and houses built on 30 square meters of land or smaller in less expensive neighborhoods. Eyasu points out that such small houses are rare in Addis Ababa and throughout the country. He suggests that the exemption should cover houses built on larger plots of land to protect small homeowners from the tax.
In Addis Ababa, the smallest houses are typically built on 40 square meters, which are condominium units designed for low-income residents. Eyasu argues that imposing property tax on these condominium houses will harm the very people they were meant to help. He fears that landlords will pass the tax burden onto tenants by raising rents, further burdening low-income individuals.
The new property tax is an expansion of the “roof and wall” tax introduced in 1968 under the ‘Urban Land Lease and Urban Tax Proclamation.’ This law required house owners to pay property tax of between 1.5 and 4.5 percent of the annual rent they receive. Although it remained unimplemented for many decades, in January 2023, Parliament granted regional states and cities the power to collect property taxes based on this law.
In May 2023, the Addis Ababa City Administration introduced a directive implementing this property tax. According to this directive, property taxes are calculated based on different categories: first-grade residential properties pay 214 Birr per square meter, condominium houses pay 247 Birr per square meter, villas and apartments pay 361 Birr per square meter, business-owned properties in the first category pay 444 Birr per square meter, business condos pay 493 Birr per square meter, and business-owned villas or apartments made of brick pay 632 Birr per square meter.
Eyasu argues that the rates are too high and recommends lowering them to avoid burdening people, especially low-income residents who are already struggling to make ends meet. Additionally, the tax is imposed on every floor of multi-story buildings, which Eyasu fears might discourage the construction of taller buildings.
He also contends that the current tax system disproportionately targets the same group of people, particularly employees. He notes that an employee typically pays income tax, VAT, and other forms of tax, which can amount to 50 percent or more of their income. Eyasu believes that broadening the tax base should not be at the expense of these individuals. Instead, he suggests that the tax system should target those who do not pay their fair share.
Eyasu points out that the agriculture sector, despite contributing the largest share to the GDP and employment, pays almost no tax. He argues that farmers and the agriculture sector should also contribute to the tax base, thereby ensuring a fairer distribution of the tax burden.
It is advice worth considering as Ethiopia continues to struggle with high debt levels and the stress of debt repayment. A significant portion of the budget goes to debt repayment, and there is also a budget deficit. To reduce this pressure, the government has been seeking debt restructuring and looking for fresh loans.
Prime Minister Abiy Ahmed recently told members of Parliament that his government was expecting about USD 10.5 billion from the International Monetary Fund (IMF) and World Bank.
Meanwhile, the high debt repayment burden is draining Ethiopia’s budget and siphoning funds away from development projects, argues an economist who asked to remain anonymous. He sees strengthening tax collection and increasing tax revenue as the best and most sustainable solution to these problems.
“We don’t have a better alternative,” said the economist.
However, he argues that these tax reforms should include new taxpayers and new sectors. He notes that Ethiopia collects less tax than the standard in sub-Saharan Africa, partly because the agriculture sector is not paying taxes despite being heavily subsidized.
Additionally, Ethiopia offers tax holidays for foreign investors to incentivize and attract foreign direct investment (FDI). The economist recommends imposing proper taxes on foreign investors, as giving tax holidays does not necessarily attract FDI.
The economist also points out that Ethiopia is experiencing galloping inflation, which is already challenging the people and raising the cost of living. He warns that new taxes might hurt low-income consumers.
The economist recommends that the Ethiopian government should be careful not to affect the poor with these tax reforms or cause further inflationary impacts. He suggests that the government regulate the informal sector and contraband activities and impose taxes on these sectors to increase revenue.
