2009 Reports

Tax Reform in Kenya: Policy and Administrative Issues

Eissa, Nada O.; Jack, William

Kenya's tax system has undergone more or less continual reform over the last twenty years. On the policy side, rate schedules have been rationalized and simplified, a new value-added tax introduced, and external tariffs brought in line with those of neighboring countries in East Africa. At the same time, administrative and institutional reforms have taken place. Kenya has the trappings of a modern tax system, including, for example, a credit-invoice VAT, a PAYE individual income tax with graduated but arguably moderate rates, and a set of excise taxes focused on the usual suspects (alcohol, cigarettes, gasoline, etc.). However, with up to 70 percent of GDP produced and possibly as much as 75 percent of labor employed in the informal sector, the ability of the tax system to raise sufficient revenue with minimal distortions is severely circumscribed. In such an environment, raising around one-fifth of GDP in tax revenue is likely to impose very large distortionary costs on the economy. Continued reform of both the policy instruments and the administrative and enforcement capacity of the tax system is therefore imperative. The aim of this paper is to provide a broad overview of the Kenyan tax system, the reforms that have occurred over the past two decades, and the administrative structures in place. To properly assess the distortionary costs of the current tax system, we intend to undertake micro-econometric analysis of the effects of the tax reforms pursued by the government, using individual-level tax return data when available. We discuss the proposed methodology for this subsequent research in the conclusion to this paper.