Assessment of Principles and Practices of Good Governance in Tax Administration

Academic Paper, 2016

138 Pages





1.1 Background
1.2 Statement of the Problem
1.3 Research Questions
1.4 Objectives of the Study
1.4.1 General objective
1.4.2 Specific Objectives
1.5 Significance of the Study
1.5.1 Policy Makers
1.5.2 ERCA
1.5.3 Future Researchers
1.6 Scope and Limitations of the Study
1.6.1 Thematic Focus
1.6.2 Organizational Focus
1.6.3 Geographic Focus
1.7 Organization of the study

2.1 Taxation
2.1.1 Concept of Taxation
2.1.2 Tax Reform Trends
2.1.3 Coercive and Consensual Taxation
2.2 Income Tax Assessment
2.2.1 Presumptive Tax System
2.2.2 The Process of Income Tax Assessment
2.2.3 Procedures for Income Tax Assessment
2.3 Good Governance
2.3.1 Principles of Good Governance
2.3.2 Good Governance in the Context of Public Sector
2.4 Taxation and Good Governance
2.4.1 The Role of Good Governance in Taxation and Tax Reform
2.4.2 Contribution of Taxation to Good Governance
2.4.3 Measuring Good Governance in Tax Administration
2.5 Tax Administration in Ethiopia
2.5.1 The Tax Authority
2.5.2 Code of Conduct for Tax Authority Employees
2.5.3 Tax Review and Appeals
2.5.4 Categories of Tax Payers
2.5.5 Tax and Tax Administration Reform
2.5.6 Challenges in Tax Administration
2.6 Conceptual Framework for the Study

3.1 The Study Area
3.1.1 Geography
3.1.2 Demography
3.1.3 Economic Activity
3.1.4 The City Administration
3.1.5 Public Finance
3.2 Research Design
3.3 Sources of Data
3.4 Sampling
3.5 Data Collection Methods/Tools
3.5.1 KAP Questionnaire
3.5.2 Survey Questionnaire
3.5.3 Key Informant Interview
3.5.4 Document Review
3.5.5 Research Diary
3.6 Summary of Research Methods and Tools
3.7 Research/Assessment Framework

4.1 Profile of Respondents
4.2 Common Understanding and Commitment to Good Governance
4.3 Awareness of Policies, Strategies and Guidelines/Standards to Institutionalize Good Governance
4.4 Human Resources Capacity
4.5 Assessment and Collection of Taxes
4.6 Overall Assessment of Good Governance

5.1 Conclusions
5.2 Recommendations



Annex 1: List of Persons Contacted

Annex 3: Data Collection Tools
Annex 3.1: Detailed Data Collection Questions/Key Informant Interview Guidelines
Annex 3.2: Knowledge, Attitude and Perception (KAP) Questionnaires for Staff of ERCA
Annex 3.3: Survey Questionnaire for Category "C" Tax Payers
Annex 3.4: Document Review Guidelines

List of Tables

Table 1: Addis Ababa City Population Estimates (July 2014-July 2017)

Table 2: Addis Ababa Population Estimate by Sex, Area and Density by Sub-City, July 2014

Table 3: GDP (at constant factor cost) of Addis Ababa: EFY1998 (2005/06) - EFY2002 (2009/10)

Table 4: Employed Population by Major Industrial Divisions in Addis Ababa, 2013

Table 5: Addis Ababa City Government, Budget Allocated for the 2014/15 Fiscal Year, June

Table 6: Sources of Revenue for the Addis Ababa City Administration, 2014

Table 7: Summary of Research Methods and Tools

Table 8: Gender Distribution of Tax Payers and Employees

Table 9: Address of Informants (Sub-City)

Table 10: Sectors of Involvement for Tax Payers

Table 11: Age of Employees Contacted

Table 12: Duration of Service of Employees

Table 13: Measures to Ensure Ownership of Good Governance Principles

Table 14: Attention to Participation, Transparency & Accountability in Activities

Table 15: ERCA’s Response to Corruption

Table 16: Identification and Response to Misconduct in ERCA

Table 17: Knowledge of the Code of Conduct for ERCA Employees

Table 18: Taxpayers’ View of Accessibility of ERCA’s Compliant Mechanisms

Table 19: Dissemination of Comments from Users

Table 20: Participation of Employees in Evaluations

Table 21: Accessibility of Complaints Mechanism to Employees

Table 22: Regular Evaluation of the Capacity of ERCA Employees to Implement Principles of

Good Governance

Table 23: Effectiveness of is the Mechanism for Evaluation of Employees in the ERCA

Table 24: Opportunities for Leaders and Employees of ERCA to Develop their Competences

Table 25: Existence of a Human Resources Development Policy

Table 26: Evaluation of Measures to Ensure Adoption and Application of Good Governance

Principles among Stakeholders

Table 27: Fairness of the Amount of Taxes

Table 28: Objectivity of Criteria for the Assessment of Taxes

Table 29: Fairness in the Assessment of Daily/Annual Income

Table 30: Fairness between Similar businesses in the Same Area

Table 31: Use of Taxpayer Provided Information on Income in Tax Assessment

Table 32: Accessibility of Tax Information

Table 33: Provision of Adequate Information for taxpayers

Table 34: Understanding of Good Governance Principles in Theory and Practice

Table 35: Response to Violations of the Code of Conduct

Table 36: Adequacy of Contact and Communication with Taxpayers

Table 37: The level of confidence of taxpayer to ask officials of ERCA

Table 38: Accessibility of information from ERCA

Table 39: Accessibility of Organizational Documents and Activity Reports of ERCA

Table 40: Ease of Expressing Opinions on the Activities of ERCA

About the Authors

Mebrahtu Woldu is the Deputy Director of the Institute of Leadership and Good Governance (ILG), Ethiopian Civil Service University (ECSU). He is also a lecturer with the Institute. He holds BA and MA degrees in political science from the College of Social Sciences, Addis Ababa University.

Ghetnet Metiku Woldegiorgis is a freelance socio-legal researcher working with consultancy firms and public institutions including the Institute of Leadership and Good Governance (ILG), Ethiopian Civil Service University (ECSU). He holds LLB (Bachelor of Laws) and MA degrees from the Faculty of Law and Good Governance, Center for Human Rights Studies, Addis Ababa University.


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The significance of good governance in ensuring effective tax administration in the public sector and enhancing tax collection is an undeniable fact that is generally accepted. Yet, there is scanty empirical evidence on the actual application of the principles of good governance in the structure and operation of public sector institutions and its outcome, particularly in the tax administration system. Hence, purpose of this study is to investigate the measures taken to institutionalize the principles of good governance within the Ethiopian Revenues and Customs Authority (ERCA). More specifically, the study assessed the level of conceptual understanding and commitment to the principles of good governance, measures taken to create ownership of the principles; the extent to which the ERCA put in place organizational policies, standards, strategies and structures to institutionalize good governance, and measures taken to improve human resource capacity to implement the principles of good governance. In terms of scope, the study focuses on the assessment and collection of taxes from category “C” taxpayers in selected sub-city branches of the ERCA. The research is essentially a case study that uses quantitative and qualitative data gathered from primary and secondary sources to inform its findings. The bulk of the data for this study was generated from primary sources namely, the leadership and staff of the ERCA and category ‘c’ taxpayers as clients of the Authority. The study accessed these informants through key informant interviews, knowledge, attitude and perception (KAP) questionnaires and survey questionnaires. The research also utilized secondary sources in the form of documentation on the activities of the ERCA. Secondary data was gathered from both print and electronic sources including academic literature, laws and policies, organizational documents, and the ERCA website. The study found that, while there have been efforts to institutionalize the principles of good governance in the structure and operations of ERCA, these measures have not had the anticipated level of impact felt by the employees and clients of the Authority. This has been expressed in the limited confidence of employees and clients on the limited extent to which good governance principles have been internalized by the Authority, and the inadequate capacity of the Authority to identify and address instances of misconduct and corruption. The application of existing organizational policies and codes of conduct was also strongly questioned. Ultimately, this has led to a negative assessment of the quality of the tax assessment and collection process for category ‘C’ taxpayers by ERCA. The study came up with a set of recommendations to address the identified gaps and challenges. Major among these are: a comprehensive branding exercise within ERCA targeting internal and external stakeholders including a review of programming from a good governance perspective; broader dissemination and implementation of the employee’s code of conduct within a comprehensive implementation, monitoring and evaluation framework, and adoption and implementation of an effective communication strategy; sensitizing and building the capacities of staff and leadership on good governance, and mainstreaming good governance in the staff recruitment, development and evaluation system; and, reviewing the process of tax assessment and collection for category ‘c’ taxpayers from a good governance perspective. The study findings also indicate the need for further research on the causes of high staff turnover in ERCA, and a more effective and fairer system of complaints handling for ERCA employees and category ‘c’ taxpayers.

Key words: Taxation, Tax Administration, Good Governance, Ethiopia, Addis Ababa, Category C Taxpayers, Ethiopian Revenue and Customs Authority, principles of good governance

1 Introduction

1.1 Background

Taxation is central to the current economic development agenda. Taxation is even more important for developing countries and forms an integral part of their development policies. It provides a stable flow of revenue to finance development priorities, such as strengthening physical infrastructure. It is also interwoven with numerous other policy areas, from good governance and formalizing the economy, to spurring growth as well as a determinant factor for the process of international trade and flow of investment. For developing countries, taxation: “provides governments with the funding required to build the infrastructure on which economic development and growth are based; creates an environment in which business is conducted and wealth is created; shapes the way government activities are undertaken; and, plays a central role in domestic resource mobilization”. (Pfister 2009, 5-6)

The impact of taxation on economic development has been a subject of academic and policy discourse for a long time. While the negative impacts of higher taxes on economic growth have to be taken into account, arguments in favor of taxation as a spur for growth are also widely evident. One important objective of taxation, which is often referred to as the oldest ‘revenue objective’ of taxation, is revenue collection to finance public expenditure. The core argument is that “public expenditure can enhance productivity, such as the provision of infrastructure, public education, and health care” and “... taxation provides the means to finance these expenditures and indirectly can contribute to an increase in the growth rate”. (Myles 2007, 5) The revenue generation objective of taxation is particularly important for countries with low levels of industrialization with little or no exportable resources such as oil. (Tanzi and Shome 1992, 50) This has become even more so in the context of greater emphasis on domestic resource mobilization gaining importance during periods of unstable commodity prices, global economic crises and ambitious poverty eradication and economic transformation goals. (Kariuki 2003, 4)

However, revenue generation is not always the key or even a major objective behind taxation. In fact, many countries prioritize economic efficiency as the major goal of their tax systems. Taxation could also be used to direct economic development through nuances in the tax structure. For instance, setting aside the various national peculiarities,[1]Taiwan, South Korea and Singapore used taxes as incentives to invest and save, to promote equity, to discourage excessive imports and promote industry-led exports and increase foreign direct investment during their industrialization phase. (Tanzi and Shome 1992, 37-40)

A comparative study of revenue systems in African countries that explores the evolution and performance of the local and central government tax systems published in 1999 based on the experiences of Namibia, Tanzania and Uganda found that taxation is even more critical for poor aid-dependent African countries. In the case of these countries, “the issue of domestic revenue mobilization significantly influences their potential for economic growth and democratic consolidation”. (Fjeldstad and Therkildsen 2004, 3)

Recognizing the critical importance of taxation, countries across the world have put in place tax systems taking into account their specific circumstances. These tax systems principally consist of three interrelated components: tax policy, the tax laws and the tax administration. (Kariuki 2003, 5) Tax policy and tax laws mainly set out the substance of the tax system in terms of the tax base and rules for the assessment and collection of taxes. Tax administration, on the other hand puts in place the system for the actual collection of taxes by designated government bodies, usually a tax authority.

The purpose of the tax administration system is to assess and collect taxes due the public purse. (Das- Gupta and Mookherjee 1998, 28) In other words, “a central objective of tax administration is to collect the full amount of taxes due under the tax laws in a cost effective manner and according to a high standard of integrity”. (Brondolo, et al. 2008, 4) The fiscal function of collecting the planned amount of tax revenues to fulfill the need for public expenditure is the most important task of tax administration. (Trasberg 2004, 5) In general, tax administration is concerned with five important functions. These are: “information and instruction to taxpayers; registration, organizing and processing tax returns; coercive collection; control and supervision; and, legal services and complaints”. (Ott 1998, 6) In this process, tax administration systems face serious challenges relating to the volume of revenue collected, the efficiency of the system and the legitimacy of the tax system.

There are a range of problems that hamper the efficiency and effectiveness of tax administration in many countries. These include: “a steadily growing workload, the complexity of fiscal legislation, the attitude of taxpayers and the degree of non-compliance, the need to improve customer service, the need to reduce costs of tax assessment and collection, and the need for efficient and effective management”. (Hogye 2005, 2) Efforts to address these challenges often take the form of tax administration reform in the context of a broader tax system, public finance management, or a general public sector reform process. (Trasberg 2004,13)

The purpose of tax administration reform is multifaceted in the sense that it seeks to address the challenges of tax administration in a comprehensive manner. (Kariuki 2003, 32) To this end, reform processes seek to enhance effectiveness in terms of reducing the tax gap (the difference between legal tax obligations and the amount of revenue realized), enhancing voluntary compliance as an alternative or supplementary to assessment by tax authorities, and ensuring the efficient use of resources in tax assessment and collection. (Hogye 2005, 4) Ultimately, tax administration reform initiatives aim to bring about a tax administration system that could: “(a) promote voluntary compliance; (b) be efficient, by raising the maximum amount of revenue under the law with the least cost and effort; (c) be effective and administratively capable of delivering the desired policy objectives; and (d) equitable, offering fair treatment of taxpayers”. (Crawford 2013, 6) These issues are closely interrelated and require coordinated reform measures. (Trasberg 2004, 5) The focus of attention is usually on three areas of reform, i.e. performance, effectiveness and quality of services provided for taxpayers. (Hogye 2005, 10)

Thus, tax administration reform is concerned with more than an increase in the revenue collected for the public purse. Issues of efficiency and accountability in the collection of public revenue also figure high in the reform agenda. Tax administration reform also addresses the relationships between the tax administration system and the taxpayers. In working towards revenue collection objectives, tax authorities seek “to help taxpayers comply with the requirements of the tax laws and to enforce compliance when taxpayers fail to do so voluntarily”. (Brondolo, et al. 2008, 4) The success of these measures depends to a large extent on changes in the attitudes of tax payers through focus on taxpayers, taxpayer information and engagement. (Ott 1998, 9-10) Moreover, responsiveness to the circumstances of taxpayers is a major challenge of revenue authorities. (OECD 2001, 4) This calls for accessible, dependable and timely information service, accurate and timely treatment of requests and appeals and consultation with taxpayers and other stakeholders on procedures and policies as well as putting in place policies and procedures that are transparent and protection of taxpayers’ information. (OECD 2001, 4)

In addition to ensuring efficiency and effectiveness, the process has to satisfy the democratic requirements of fairness and justice in the provision of services to citizens as taxpayers. (Ott 1998, 4) This in turn requires the application of tax laws in a fair, reliable and transparent manner. The development and introduction of taxpayers’ charters in many countries reflects the broad recognition of the rights and responsibilities of taxpayers in tax administration and tax administration reform. (Hogye 2005, 4)

The relationship between tax authorities and taxpayers represents one aspect of the interaction between the government and citizens. The very rationale of the principles of good governance is to guide this relationship. As such, tax administration and tax administration reform should incorporate the principles of good governance as a matter of necessity. (Rizal, Lessons from Indonesian Tax Administration Reform Phase I (2001-2008): Does Good Governance Matter 2009, 419) The principles of good governance also contribute to a more transparent and accountable tax administration. On the other hand, increased integrity in the tax system and its administration contributes to wider public sector governance and transparency goals. In this respect, three principles of good governance are especially crucial for tax administration. These are participation, transparency and accountability. (Rizal, Lessons from Indonesian Tax Administration Reform Phase I (2001-2008): Does Good Governance Matter 2009, 420)

1.2 Statement of the Problem

Taxation provides the resources to finance public expenditure. The very survival of the state depends on its ability to finance its institutions and operations. Moreover, tax revenue can jump- start or enhance economic and social development through investment in infrastructure and basic social services. (Myles 2007, 6) It also affords the state one of the most important tools to encourage specific sectors or activities while discouraging others by directing private sector investment through incentives and disincentives. (Tanzi and Shome, Taxation and Development in East Asian Countries 1992, 56) Tax revenue plays a central role in ensuring “economic efficiency, distributional equity, macroeconomic sustainability and revenue sustainability'". (New Zealand Treasury 2013) Taxation is especially important for developing countries in the context of the substantial investment necessary for poverty reduction efforts as well as the financial crisis traditional donor countries are facing. (Keen 2012, 3)

States across the world have been/are engaged in tax reform, including reform of their tax administration systems. Tax reforms vary among countries. Many countries focus on the tax structure, i.e. raising or reducing taxes. There have been a series of US tax reforms mainly focusing on tax structure, i.e. tax rates, in the 1920s, 1960s and 1980s. (Engen and Skinner 1996, 622) These were followed by other rounds of tax reform in 1981, 1986, 1990, 1993 (Auerbach and Hines 2011, 13) Others introduce new taxes or shift away from a form of tax. France and Britain introduced VAT in the 1960s while the US shifted away from corporate taxation. (Engen and Skinner 1996, 625) The introduction of VAT, a form of direct tax, has characterized the tax reform efforts of developing countries spearheaded by the IMF in the past three decades, especially in Sub-Saharan Africa. (Keen 2012, 11)

Generally, taxation reforms across the world focused on: the introduction of the value-added tax; lower personal and corporate income taxes; broadening of the tax bases; reduction of import duties and simplification of the rate structure; abolition of export taxes; and, avoiding excessive reliance on special tax incentives for investors. (Pfister 2009, 11) However, the specific basket of measures constituting tax reform in a specific country depends on balancing the revenue, redistribution and representation roles taxation plays in a society in light of the socio-economic context. (Cobham 2005, 2)

Another important aspect of tax reform is tax administration reform usually in the form of the creation of quasi-independent tax authorities. This trend, which was informed by successful experiences in Latin America, was seen as “a way of addressing the corruption and political interference seen as fundamental obstacles to effective and fair taxation in many low income countries'’. (Keen 2012, 12) The establishment of autonomous revenue authorities has been a popular tax reform policy trend, especially in Anglophone Africa. (Pfister 2009, 14) This is often seen as a precursor to wider tax administration reform through broader autonomy and particularized attention to tax administration challenges.

The link between tax administration/tax administration reform and good governance has been established in recent/current academic literature and international good practice. (Carey 2005) Taxation and tax administration are part of the overall policy framework in a country. As such, the interplay between tax administration reform and other areas of reform, including public sector governance, is to be expected. (Pfister 2009) In fact, one of the imperatives for an optimal tax policy is “promoting good governance, underpinned by effective taxation that promotes the accountability of governments to citizens and the investment community'’. (Pfister 2009, 5) The experience of countries with resource-based economies is also indicative of the correlation between taxation and good governance. There is a wealth of relevant research establishing the existence of a strong connection between the ways in which governments are financed and the ways in which they govern. (Moore 2007, 8) Low tax-burden in resource rich countries can lead to less disciplined government, the undermining of the likelihood of good policy outcomes and widespread exclusion. (Cobham 2005, 5)

Obviously, countries should pursue good in and by itself as part of their development and democratization endeavors. There is almost unanimous consensus on the essential and positive contributions of good governance for economic development. (Avellaneda 2006, 2) Empirical data from across the globe shows that the ‘development dividend’ of good governance is substantial and “high-quality institutions have the power, over the long run, to raise per capita incomes and promote growth in all parts of the world". (The World Bank 2006, 1) The former UN Secretary General Kofi Annan has also described good governance in terms of implications for democratization as “a force ensuring respect for human rights and the rule of law, strengthening democracy, promoting transparency and capacity in public administration'" (Weiss 2000)

The ‘Worldwide Governance Indicators’ developed by the World Bank identify six dimensions of good governance, namely, voice and accountability, political stability and absence of violence, government effectiveness, regulatory quality, rule of law, and control of corruption. (The World Bank 2006, 2-3) Implementing good governance means improving one of more of these dimensions. Among these key dimensions of good governance, three are especially relevant for tax administration. (Kaufmann, Kraay and Mastruzzi 2010, 4) These are:

- Government effectiveness, which measures the quality of public services, the quality of the civil service and the degree of its independence from political pressures, the quality of policy formulation and implementation, and the credibility of the government’s commitment to those policies;
- Regulatory quality, which measures the ability of the government to formulate and implement sound policies and regulations that permit and promote private sector development; and,
- Control of corruption, which measures the extent to which public power is exercised for private gain, including both petty and grand forms of corruption, as well as “capture" of the state by elites and private interests.

Good governance entails improvements in government effectiveness in the form of ‘the quality of the civil service and the degree of its independence from political pressures'. Since the tax administration system is part of the civil service, it follows that good governance entails improvements in the tax administration. Similarly, implementation of good governance means improved government capacity to promote private sector development. This is one of the core purposes of the tax administration. Finally, good governance is about effective control of corruption, which is one of the most important challenges in the tax administration system.

At the organizational level, public sector governance is “the set of responsibilities and practices, policies and procedures, exercised by an agency’s executive, to provide strategic direction, ensure objectives are achieved, manage risks and use resources responsibly and with accountability". (Commonwealth of Australia 2007, 1) This understanding underlines the responsibility to ensure that good governance practices are integrated within all aspects of the organization as well as the responsibility to apply governance practices and procedures in day-to­day activities. In this public sector organizational sense, good governance is important because it helps an organization achieve its objectives while failure to integrate good governance, i.e. bad governance, can bring about the decline or even demise of an organization. (Commonwealth of Australia 2007, 2) Yet, ultimately, good governance in public sector organizations has overall developmental and democratic goals. It still “... refers to government agencies’ conduct in implementing innovative policies and programmes to increase the quality of public service with the ultimate aim of increasing economic growth". (Mardiasmo, Barnes and Sakurai 2008, 2)

Conversely, tax administration reform can contribute to state building and good governance in the sense that tax policies can serve as avenues to promote the accountability of governments to their citizens. (ATAF 2012) In the words of one author:

“Effective taxation underpins effective governance, especially as taxation presents an avenue to promote the accountability of governments to citizens. A key component of a capable state is the existence of an efficient and effective tax administration. A solid taxation system also encourages good governance. A fair and transparent tax system - one which is free from corruption and which applies the rule of law - provides a benchmark for governance more generally." (Pfister 2009, 14)

This is why initiatives to support tax administration reform in developing countries identify strengthening democratic institutions and processes in beneficiary countries through improving the relationship between states and citizens among their key objectives. (OECD 2009)

The utility of good governance principles in public sector reform initiatives aimed at enhancing development and democratization is broadly accepted and advocated. (Gisselquist 2012, 1) This is especially so in the context of civil service reform or public sector reform designed to bring about “systemic and sustainable performance improvement in the public sector(Turner 2013, 3) Empirically, governance reform “in core public sector, such as civil service, public expenditure and financial management, revenue collection, and legal and judicial systems'’ has been prominent. (Kulshreshtha 2008, 560) In the context of developing and newly democratizing countries, civil service reform is viewed as the most important task without which “constitutional and political reforms designed to democratize the state and increase its capacity as an agent of development cannot succeed’. (Nzongola-Ntalaja 2011, 8) The World Bank’s ‘Public Sector Governance Reform Framework’ recognizes that “... developing countries face a growing need to reform their public institutions to provide better performance incentives to their public officials and to reduce the service delivery bias by ensuring greater transparency and accountability in decision making'’. (Kulshreshtha 2008, 557)

Accordingly, international development agencies and governments have developed guidelines, and standards for public sector reform based on the principles of good governance. A case in point is the World Bank’s ‘Public Sector Governance Reform Framework’. Similarly, the Chartered Institute of Public Finance and Accountancy (CIPFA) and the International Federation of Accountants (IFAC) have come up with the International Public Sector Governance Framework establishing a benchmark for good governance in the public sector. (IFAC 2013) At the national level, the Good Governance Standard for Public Services, which was developed by the UK’s Independent Commission for Good Governance in Public Services, has identified six principles of good governance that are common to all public service organizations. (OPM and CIPFA 2004) There are also more specific standards designed to guide tax administration reform with the principles of good governance playing a central role. One good example is the OECD Principles of Good Tax Administration. (OECD 2001) The Fiscal Blueprints containing the most significant principles of good tax administration developed by the IntraEuropean Organization of Tax Administrations (IOTA) is another important standard. (IOTA 2003)

Revenue collection agencies undertake one of the most fundamental of state functions, i.e. ‘the mobilization of sufficient revenues to cover all of the state’s functions’. Thus, it is only logical that reform of revenue collection agencies ought to be a top priority within civil service reform initiatives. (Nzongola-Ntalaja 2011, 10) Accordingly, countries have sought to make good governance a key basis and component of their tax administration reform initiatives. (ATAF 2012, 40-41) Good governance elements and initiatives were infused into the tax administration reforms to increase taxpayer compliance, to enlarge public trust in tax administration, and to improve the productivity of tax officer” by “... by making procedures more transparent, ensuring that the systems more accountable, and improving officer integrity'”. (Rizal, Lessons from Indonesian Tax Administration Reform Phase I (2001-2008): Does Good Governance Matter 2009, 414) This practice of using the principles of good governance in tax administration reform is a widely observed trend. This trend is also seen in the recent experience of countries in Sub-Saharan Africa where tax administration reforms focusing on enhancing the operational efficiency of revenue agencies and modernization of revenue administration are ongoing. (ITD 2010, 6)

One of the key lessons to be drawn from the experience of tax administration in developing or low-income countries is the need for “emphasis on the links between taxation and the building of accountable, transparent, and efficient governments'”. (Keen 2012, 15) Taxation has been recognized as “critical to developing good governance more widely, in the sense of building state institutions that are responsive, accountable and competent’”. (Keen 2012, 15) Taxation plays this role in two ways: as a focal point for bargaining between the state and citizens; and, creating good tax collection institutions. This is possible through creating institutionalized channels for consulting with taxpayers, which could go so far as to clear involvement of communities in tax assessment efforts. (Moore 2007) Wide range of tax bargaining for mutual benefits motivates citizens to accept and comply with taxes in exchange for the implementation of qualities of governance.

On the other hand, the absence of good tax governance could undermine the efficiency, effectiveness and fairness of the tax system by disrupting the relationship between the tax authority and the taxpayer. According to Moor, public authorities in developing countries often become motivated to tax coercively. (Moore 2007, 27) Such inherently antagonistic relationship between the state and taxpayer citizens in developing countries makes taxation a very costly undertaking since the taxpayer seeks to avoid paying taxes while the tax assessor and collector seeks to maximize the payment extracted. The organizational capacities to assess and collect taxes from small enterprises that lack formal bureaucratic structure and operate without use of banking system and written records is the other problem that encouraged face-to-face interaction between taxpayer and tax assessor and collectors in which the later obliges the letter to make discretionary decisions about tax liabilities. (Moore 2007, 27)

Ethiopia is in the troughs of implementing an ambitious development program with a vision of becoming a middle-income country by 2013. This requires significant financial resources, most of which has to be raised domestically. The HoPR has recently approved an unprecedented USD 11 billion (ETB 223.3 billion) budget for the fiscal year 2015/2016. The bulk of the budget is to be spent on capital expenditures, social sectors, urban development and infrastructure.

Tax revenue accounts for the significant part of domestic government revenue in Ethiopia. (ITD 2010, 56) In 2012/13 fiscal year, taxes accounted for more than 86% of domestic revenue 78% of total government revenue including grants. (MoFED 2014, 9) It also represents fiscal independence in the face of possible variations in grants in terms of availability, access and conditionality. (Tsegabirhan 2010, 7) It is thus imperative that the revenue authorities of the federal government be able to raise the revenue necessary to finance these development activities. Indeed, the vision of ERCA, the federal government body tasked with the collection of taxes, is “To be a leading, fair and modern tax and customs administration in Africa by 2020 that will finance government expenditure through domestic tax revenue collection(Kariuki 2003, 12)

However, Ethiopia’s tax-to-GDP ratio (6.6% in 2008/2009) is among the lowest in Sub-Saharan Africa, even less than the 16.8%, which is the average for low-income and fragile SSA countries in 2008. (ITD 2010, 55-56) According to MoFED, the average tax-to-GDP ratio for the period 2003/2004-2007/2008 was 9.0%. The tax to GDP ratio has further increased to 12.5 percent in 2012/13. (MoFED 2014, 9) The revenue to GDP ratio, which stood at less than 13% in 2011 is much lower than the average revenue to GDP ratio of 26% for Sub-Sahara Africa as well as low income countries (17.1%). (The World Bank 2013, 38) This state of affairs is indicative of a serious problem in the tax system of the country.

Academic research on taxation in Ethiopia generally focuses on tax structure, especially the VAT regime, than tax administration. Even the limited research on tax administration gives more attention to the higher income bracket, i.e. category A and B taxpayers. There is a serious dearth of academic research on the tax administration aspects of the Ethiopian tax system focusing on the lowest income bracket, i.e. category ‘C’ taxpayers. Moreover, there is almost no research interlinking good governance and tax administration in the Ethiopian context.

The current study aims to assess the implementation of good governance principles in tax administration. This makes it unique among existing research works in terms of explicitly linking good governance with tax administration and applying a good governance assessment framework to the topic of study. In addition, the study specifically focuses on taxpayers in the lowest income bracket. Thus, the research is expected to make a unique contribution to existing research in the study area in terms of both the research framework and subjects of the study.

1.3 Research Questions

The rationale for the study revolves around the following key questions:

- What is the current level of conceptual understanding and commitment to the principles of good governance among the leadership and employees of the ERCA?
- What measures have been taken by the ERCA to adopt and create ownership of the principles of good governance within the organization and among stakeholders?
- To what extent has the ERCA put in place organizational policies, standards, strategies and structures to institutionalize the principles of good governance?
- Are standards for the design, implementation and evaluation of activities and programs in compliance with the principles of good governance observed in practice?
- What measures have been taken to improve human resource capacity to operationalize the principles of good governance in tax assessment?

1.4 Objectives of the Study

1.4.1 General objective

The overall objective of the study is to investigate the measures taken to adopt and institutionalize the principles of good governance, especially accountability, transparency and participation, in the selected Sub-Cities of Addis Ababa City Administration (AACA).

1.4.2 Specific Objectives

The specific objectives of the study are to:­- Assess the current level of conceptual understanding and commitment to the principles of good governance among the leadership and employees of the ERCA;

- Evaluate measures taken by the ERCA to adopt and create ownership of the principles of good governance within the organization and among stakeholders;
- Examine the extent to which the ERCA put in place organizational systems to institutionalize the principles of good governance;
- Examine the extent to which the design, implementation and evaluation of activities within ERCA is in compliance with the principles of good governance; and,
- Evaluate the measures taken to improve human resource capacity to implement the principles of good governance in ERCA.

1.5 Significance of the Study

The importance of this study could be presented from the perspective of various stakeholders in the sector and the operation of the ERCA. The potential significance of the study to key institutional actors is presented in the following sub-sections.

1.5.1 Policy Makers

Policy makers could use the findings of this study as an input to the formulation, implementation and evaluation of policies and strategies in the sector, especially in relation to the ERCA. The findings, conclusions and recommendations of the study could also be applied to regional tax authorities with some modification.

1.5.2 ERCA

The ERCA is the major expected beneficiary of the study. The Authority could use the findings of the study to assess the level of integration of the principles of good governance in its organizational profile and implementation of activities. The findings, conclusions and recommendations of the study could also inform future measures to facilitate its organizational development towards achieving its objectives and mandates.

1.5.3 Future Researchers

There is limited existing research on tax administration and reform measures in Ethiopia, especially as it relates to the assessment and collection of taxes from category ‘c’ taxpayers. Moreover, the existing research does not adequately address the link between good governance and tax administration. Thus, this study fills an existing demonstrable gap in the literature.

Researchers interested in the sector or the ERCA could use the findings of this study to inform their own subsequent studies. The conceptual framework and methodological approaches developed for the current study could also inform other studies as well as organizational development endeavors within and outside the sector.

1.6 Scope and Limitations of the Study

This section provides a brief overview of the thematic, organizational and geographic focus of the study. After presenting each of these dimensions of the scope of the study, justifications are forwarded for the choices made by the researchers.

1.6.1 Thematic Focus

The major aim of the study is to examine the implementation of principles of good governance in the structure and operations of the ERCA. In line with the nature and profile of the organization in question, the study has focused on three elements of good governance: accountability, transparency, and participation. As such, it does not cover all of the principles identified as the components of good governance in the relevant literature. Moreover, the study is subject to limitations arising from the dearth of previous research on the topic in the specific context of the ERCA as well as accessibility issues.

1.6.2 Organizational Focus

In selecting the ERCA as the focus of the study, the researchers have taken into account a number of issues. First and foremost, the important core mandate assigned to the authority in terms of the collection of tax revenues and prevention of financial crimes makes it an important institution. Moreover, the public finance sector in which the ERCA is a core institution has been identified as a sector most susceptible to corrupt practices by the government. Unfortunately, this has been proved true through a number of high profile cases of corruption and tax evasion that have arisen in recent times.

The selection of the ERCA was also informed by the unique human resources administration setup and discretionary mandate granted to the Director General of the ERCA in the administration of employees of the authority. It goes without saying that these measures, which were taken with an eye to preventing and fighting corruption, have to be assessed in terms of their effectiveness in addressing the anticipated problem. Anecdotal evidence suggests that the provisions of the regulation have resulted in a high level of turnover among the authority’s staff and loss of confidence among lower level officials leading to failure to make and communicate decisions in due time. The study investigated this issue in the framework of the principles of good governance and their practical implementation.

In terms of informants, the study covered the leadership and employees of the authority as well as the category ‘c’ taxpayers they cater to.

1.6.3 Geographic Focus

The study focused on the head office of ERCA and its branch offices in selected sub-cities of the Addis Ababa City Administration. The quantitative data collection covered ERCA branch offices in two sub­cities, namely Arada and Addis Ketema as well as the head quarters of the Authority. However, the researchers used the Woreda level offices in these sub-cities to collect data from category ‘c’ taxpayers since the Woredas were the points of contact between the Authority and the taxpayers. Qualitative data collection from key informants covered the head office and sub-city offices.

The head office of ERCA is located in Addis Ababa; and the branch offices in Addis Ababa are more accessible. Moreover, the Addis Ababa accounts for a significant proportion of the tax revenue collected by the Authority. Thus, the selection of Addis Ababa as the geographic focus of the study is logically justified. On the other hand, the selection of the two sub-cities in Addis Ababa was informed by both representation and pragmatic considerations. Addis Ketema Sub-City is the largest by population and most densely populated area of Addis Ababa. The sub-city also encompasses the largest business center of the city, especially in relation to category ‘c’ taxpayers. Furthermore, one of the two branch offices of

ERCA in Addis Ketema Sub-City was selected due mainly to the accessibility of the leadership at the office. Similarly, Arada Sub-City is the third most populous and densely populated sub-city. While Lideta Sub-City has slightly more population than Arada, the research team opted for Arada in consideration of the apparent similarities between Addis Ketema and Lideta sub-cities in terms of population profile and business activities.

1.7 Organization of the study

The paper has five chapters. With the above introduction as the first part, the organization of the remaining parts of the study is as follows. Chapter two deals with review of related literature, which includes the theoretical, empirical and conceptual framework related with the study. The third chapter covers the methodology of the study including description of the study area, research design, and sources of data, data collection and data analysis. The fourth chapter incorporates the results and discussion of the study. The last chapter includes the summary, conclusions and recommendations of the study.

2 Literature review

This chapter provides a review of the relevant literature on taxation and good governance. It starts with an overview of the conceptual and theoretical framework including taxation, good governance and their interlink.

2.1 Taxation

2.1.1 Concept of Taxation

The Organization for Economic Cooperation and Development (OECD) defines tax as “compulsory unrequited payments to general government’ (Messere and Ownens 1985, 95). This definition captures the compulsory nature of taxes as opposed to voluntary payments. The Tax Justice Network Africa (TJNA) argue that tax, is “a fee levied by a government or regional entity on a transaction, product or activity in order to finance government expenditure.” (TJNA 2015). The purpose of tax is thus to finance government expenditure.

However, not all mandatory payments to the government are taxes. From this perspective, tax has been defined as an “involuntary payment to the government that does not entitle the payer to a quid pro quo benefit or to an equivalent value of goods and services in exchange”. (Bruce 2001) This definition distinguishes taxation from other sources of revenue such as user charges and administrative fees that are provided in par with goods and services provided by the government for which exclusion of those who do not pay for them is possible. Taxes are also distinct from government borrowing or debt incurred by the government in relation to budget deficits as well as revenue from licenses and government business holdings. Taxation is the study of government revenue raising activities through taxes. (Monkam 2011, 11)

A tax system incorporates tax policy, the tax laws and the tax administration. Tax policies contribute to the consolidation of public finances. They also have an important influence on the growth and job potential of the EU economy, while promoting social inclusiveness. (European Commission 2012, 9) Tax legislation includes volume, composition, rates, coverage, and timings of collection, mode of collection among other things are determined by tax law. Tax administration, on the other hand, comprises three interrelated activities: (i) the identification of tax liabilities based on existing tax legislation; (ii) the assessment of taxes to determine if the taxes actually paid are smaller (or larger) than tax liabilities; and (iii) the collection, prosecution and penalty activities that impose sanctions on tax evaders and ensure that taxes and penalties due from taxpayers are actually collected. (Das-Gupta and Mookherjee 1998, 28).

2.1.2 Tax Reform Trends

The idea of tax reform has caught the attention of academicians and policy makers in recent decades. Many in the mainstream have come to understand the concept of tax system performance as “not just about increasing revenues, but also about implementation efficiency, accountability and taxpayer perceptions”. (Fjeldstad and Therkildsen 2004, 3) Recent studies in the context of the EU have concluded that for member states of the union “making tax collection more efficient and tackling tax evasion can increase government revenue”. (European Commission 2012, 15)

Similarly, there is a clear trend across the African continent towards increasing interest in taxation. One clear manifestation of this trend is “the proliferation of tax reforms and new legislation by African governments”. (ATAF 2012, 7) These reforms generally focus on tax administration reforms and reform of the tax structure. However, the reform objectives have gone beyond overall increases in revenue generation towards “more emphasis on how taxes are collected, and how this can contribute to broader state building goals and improved tax governance”. (ATAF 2012, 7) The areas of reform have thus given attention to the autonomy, capacity and organization of the tax administration, ICT, and improving taxpayer services. At least fifteen African countries have established semi-autonomous revenue administration institutions while the remaining thirty-nine African countries have re-structured their revenue collection departments within finance ministries. (ATAF 2012, 8)

The causes of this trend have been attributed primarily to the need for fiscal self-sufficiency through domestic revenue generation and increasing awareness of the nexus between taxation, state building and accountability among African governments. (ATAF 2012, 7) In addition, other actors and stakeholders at the international, regional and national levels including international financial institutions, namely the IMF, the World Bank, the AfDB, bi-lateral development agencies, taxpayers’ associations, tax consultants and NGOs, have pushed tax reforms. International and bilateral agreements, conventions and accords have also contributed to this renewed interest in taxation and tax reform. One instance reflecting the increasing interest of international actors is the November 2010 G-20 meeting where “leaders stressed the importance of strengthening revenue mobilization in developing countries and asked involved organizations to report on how best they could help”. (Keen 2012, 3) Other signs of renewed official interest include the emphasis placed on taxation and development by the European Commission (2010), the 2010 establishment by the Development Assistance Committee (DAC) of the OECD of an informal Task Force on Tax and Development, and the creation in 2011 of a DFID/NORAD-sponsored research center on “International Centre for Tax and Development.” (Keen 2012, 3)

2.1.3 Coercive and Consensual Taxation

The emergence of taxation has historically been associated with the capacity of states to repel foreign aggression by raising adequate revenues for a military campaign. This has created a coercive tax system through which the state forcibly extracts payment from citizens and especially from conquered nations. The inherently antagonistic relationship created between the state and taxpayers in this arrangement made taxation a very costly undertaking since the taxpayer rationally sought to avoid paying tax while the tax assessor and collector sought to maximize the payment extracted. The ruler - subject relationship further complicated the issue by excluding the possibility of a negotiated arrangement between the state and the citizen.

However, as the state became more stable and democratic, the transition into a more consensual arrangement based on contractual relations became necessary. As the imperative for military defense and conquest was reduced, the purpose of taxation shifted more to the provision of public goods such as justice, security and social services to the citizen. This theoretically led to a convergence of rationales between the state and the citizen regarding taxation. The link between resource mobilization through taxation and the purposes for which the mobilized resources are put to use became more direct and visible. This trend was further facilitated by the progressive acceptance of representation and citizen participation in the affairs of government. The result is borne by the current literature on taxation. (Zainulabideen and Iqbal 2009)

2.2 Income Tax Assessment

Tax assessment is an essential part of tax administration in any tax system. Tax enforcement, especially tax collection, cannot be undertaken in the absence of a system of tax assessment. Simply stated, tax assessment can be defined as the act or process of evaluating or computing tax due to an individual, organization or any corporate entity. In relation to income tax, tax assessment enables tax authorities to determine the tax base in terms of identifying taxpayers and taxable income due in a given period. Other enforcement and collection issues such as ascertaining taxable income, possible returns and allowable deductions are addressed during tax assessment. In essence, an assessment “crystallizes the liability to pay tax and determines the time at which the tax is due”. (Barkoczy 1999)

Tax assessment systems and procedures should be designed and implemented with an eye on reducing the burden and cost on the taxpayer and tax authorities while at the same time maximizing the collection of revenue. An efficient tax assessment procedure does not discourage businesses and ensures that the highest amount of public revenue is raised at the lowest possible cost. From the good governance perspective, the key concerns or issues in tax assessment are transparency of the process, the participation of taxpayers and ensuring accountability. The process gives taxpayers the opportunity to take part in the assessment and even object to the results. (Barkoczy 1999) On the other hand, the potential for collusion between taxpayers and tax officials during tax assessment may endanger the fairness of the tax system and deprive the government of critical public revenues. Thus, the process should be as transparent as possible and effective accountability mechanisms to prevent and respond to misconduct on the part of tax officers and taxpayers need to be put in place.

2.2.1 Presumptive Tax System

Income tax is in principle based on earned income. Yet, there is another approach to income tax that does not rely on income referred to as ‘presumptive tax’ that seeks to address the gaps in income tax systems and respond to the demands of a modern tax system with regard to “simplicity, efficiency, administrative difficulties and equity”. (Vegh 1999, 29) A presumptive tax system refers to the utilization of “more appropriate indicators” of income other than “a well- defined and accurate measure of recorded income over a given period, normally a year” (Tanzi and de Jantscher 1987, iii) For instance, tax assessment systems may “presume” income based on physical indicators instead of detailed accounting records to determine the amount of tax liability. (The World Bank 2000, 8)

There are a number of reasons for the adoption of a presumptive tax system. Chief among these is the reduction of administrative burden on the tax collector as well as the cost of compliance for the taxpayer. The logic is that since the amount of tax owed is determined based on assessment of objective indicators, the tax collector does not need to go through records of income for each taxpayer. In many cases, the calculation of actual income may be impossible due to the nature of the income. (The World Bank 2000, 8) Presumptive taxation also gives small business owners and self-employed entrepreneurs relief from the expenses involved in keeping books of accounts for the calculation of taxable income. (Tsong 2009)

Presumptive taxation is also believed to have benefits related to increased compliance. In essence, this approach does not require the taxpayer to go through complex accounting and transparency procedures and reduces the need for enforcement measures. This is particularly true for small businesses using cash transactions. (Thomas 2013) In this sense, presumptive taxation is seen as a mechanism for capturing income that frequently escapes conventional taxation. (Taube and Tadesse 1996)

Although not as strongly argued, some proponents of presumptive taxation also point to the equity related benefits of the system. (Tanzi and de Jantscher 1987) These arguments mainly relate to situations where incomes are difficult or impossible to assess directly. However, the equity or fairness aspect of the presumptive taxation system depends to a large measure on the selection of indicators of income and actual assessment of income based on the indicators. The introduction of subjectivity could also be a problem in this respect. (Tsong 2009)

Presumptive tax systems are in place in developed and developing countries across the world. (Vegh 1999) However, there appears to be a significant move to adopt this approach in developing countries, especially in Sub-Saharan Africa. (International Tax Dialogue 2010, 75­76) The main beneficiaries of this exception are businesses with annual turnovers below a set amount. In the Ethiopian context, the taxes are expected to be calculated based on actual income. To this end, taxpayers with annual turnovers of more than ETB 100,000 are expected to keep books of account and report their income. (FDRE Council of Ministers 2002, Art. 19) On the other hand, tax payers whose annual turnover is estimated by the tax authority to be up to ETB 100,000 - designated category ‘C’ tax payers - are subject to presumptive taxation based on estimated income. However, tax payers within this category may also opt to keep books of accounts in which case the taxes will be assessed based on actual income.

2.2.2 The Process of Income Tax Assessment

The assessment of taxes encompasses the process of identifying taxpayers, filing of returns by taxpayers, processing of returns by tax authorities, and audit and examination. These components, which are common across legal systems, are briefly discussed in the following paragraphs with reference to the Income Tax Proclamation.

The first step in tax assessment is the identification and registration of taxpayers, i.e. determining who should be in the tax net. In the case of business income tax, this involves identifying and registering businesses. This is usually done at the time of formation of the businesses often through some form of taxpayer identification number (TIN). (FDRE 2002, 43)

Taxpayers are normally required to file their returns to tax authorities showing their incomes for the tax period as well as the taxes due within a specified time after their tax accounting year. (FDRE 2002, 64) The tax laws, in the form of rules issued by the tax authority, determine the contents and format of the returns. (FDRE 2002, 66) Usually, the returns are expected to provide adequate information for the determination of taxes due from the taxpayer. These include the taxpayer’s income and expenses as well as any deductions allowed and the net taxes due. This stage of the tax assessment process logically assumes that the taxpayer has kept proper financial records. In the absence of such records, the law may prescribe standard assessment or assessment by estimation. (FDRE 2002, 68 and 69)

Once the tax authority receives the returns, they are checked for accuracy in terms of the contents and form. In addition to the information filed by the taxpayer, the tax authority may use other sources of relevant information in processing the returns. If the filed returns are in order, the tax authority notifies the taxpayer to effect payment. (FDRE 2002, 50) If, however, there are discrepancies, the tax authority may require a new assessment.

The next stage is audit and examination, which is a verification process whereby the tax authority checks to see if taxpayers have provided accurate information. It usually involves a screening process involving comparisons of returns filed by taxpayers with similar profiles or by a taxpayer in previous periods. Where this process or information from other sources such as informants suggest evasion or other compliance issues, the tax authority may conduct further audits of a taxpayer or group of taxpayers. The actual procedures may vary in specific cases from simple field visits to full-fledged audits. Tax authorities also conduct random audits of returns filed by taxpayers. The outcome of this process is the tax assessment notification. (FDRE 2002, 72)

2.2.3 Procedures for Income Tax Assessment

The procedures for income tax assessment may differ in consideration of the type of income taxed, the amount of income taxed or the existence or otherwise of documentation on income (i.e. an acceptable book of accounts). Typically, tax assessment procedures may involve a self- assessment[2]by the taxpayer or estimates of income principally by tax officials. Oftentimes, tax authorities augment these procedures with a default assessment as well as tax audits and re­assessment in specific cases. Self-assessment

Self-assessment involves the calculation of income by the taxpayer wherein the taxpayer submits returns to the tax authority as a basis for determining taxes due. (Kimura 2008, 3) Taxpayers are normally required to file with the tax authority an official declaration of their income. Some categories of taxpayers may also be required to attach an audit report done by an external auditor. The duty to conduct the actual assessment of taxes due may lie with either the taxpayer or the tax authority. Thus, the existence of accounting records prepared and presented in line with accepted standards is an essential condition for self-assessment.

In some systems the taxpayer calculates the taxable income, deductions and net taxes due in the filing. Other systems only require taxpayers to submit information on their income and have tax assessment officers whose task it is to determine taxes due. Different categories of taxpayers or taxes may also be subject to different processes. In either case, the assessment of taxes depends primarily with the income information provided by the taxpayer. Thus, both approaches qualify as self-assessment procedures. The role of the tax authority is very limited in this process except in selected cases identified for further scrutiny. In these cases, the authority may conduct a tax audit of selected taxpayers to ensure compliance in the filing of returns.

Self-assessment is the preferred form of income tax assessment since it relieves the tax authority of the burden and is cost effective. It also allows taxpayers “to be more proactive in fulfilling their tax obligations'’. (Kimura 2008, 4-5) Self-assessment is considered to be one among the tax administration reform measures referred to as “advanced tax administration practices'’. (The

World Bank 2000) This is why self-assessment has replaced official assessment systems wherein the tax authority notifies the taxpayer of the amount of taxes due based on an ex-ante audit. However, self-assessment cannot be employed in the absence of quality accounting records. It also has an implicit risk of under reporting income and filing false returns. Thus, it requires extensive awareness, sensitization and support efforts to enhance a sense of duty among taxpayers and bookkeeping and proper tax filing as well as measures to enhance compliance through audits and firm measures to deal with serious cases of tax avoidance. (Kimura 2008, 5-8) Estimates

This income tax assessment procedure involves the determination of taxes due from a taxpayer through estimates of taxable income by the tax authority based on information the authority collected.[3] The estimate procedure normally involves an ex-ante assessment of potential or projected income rather than actual income based on visits or other mechanisms. Though the taxpayer may be required to provide information to the tax authority, the role of the taxpayer in the assessment is limited. The information on estimated income is deposited with the tax authority for determination of taxes owed by the taxpayer. The taxpayer receives a notice of estimated tax assessment at the end of the tax period at which time complaints on the assessment of actual taxes may be handled.

Estimates are normally employed in the context of a presumptive tax system where tax assessment is not based on actual income. (Tanzi and de Jantscher 1987, iii) This is especially true for categories of taxpayers for whom self-assessment cannot be used due to inability of a taxpayer to keep books of account as per requirements. (Tsong 2009) The estimates may take into account various factors including value of assets, sales, turnover, inventory, equipment, number of employees, kinds of services provided, location and other indicators of income. (Vegh 1999) In this case, the procedure has significant advantages in terms of relief to start ups, small businesses and self-employed individuals from the burden of up to standard accounting and negotiating a complex tax system. (Thomas 2013) It enables the creation of “the simplification of tax obligations for very small enterprises with very little tax impact and very poor administrative resources and skills'’. (Vegh 1999, 28) It also gives the tax authority leave from the task of assessing the incomes of each taxpayer. (Taube and Tadesse 1996) Thus, it could “'provide the tax administration with a tool to assess a minimum tax basis for those hard-to-tax groups and to counteract minimal tax avoidance schemes'’. (Vegh 1999, 28)

However, these advantages are not without cons. At the outset, using indicators other than actual income maybe problematic since income tax is a tax on income. Moreover, the inherent gap in time between the ex-ante assessment of projected income and the notice of tax assessment raises issues of possible changes in the projected income. Taxpayers may be required to pay taxes pay taxes disproportionate with their actual income. This could also affect the fairness of the tax system between taxpayers taxed for income they have not earned and those paying lower taxes than they would have paid in light of their income. (The World Bank 2000) It also opens up opportunities for misconduct by tax officers and taxpayers. Thus, estimates should be applied in tax assessment only where necessary and should be supported by robust accountability measures. Best Judgment Assessment

Best judgment assessment, also called default assessment, involves the determination of the income tax that ought to be paid by a taxpayer based on the best judgment of the tax authority. (Barkoczy 1999) It is instigated by failure to file returns or to comply with the applicable standards on the part of the taxpayer. This includes cases where the taxpayer failed to file a return or the tax authority is not satisfied by the filled returns. (Barkoczy 1999) The best judgment assessment procedure merely complements the self-assessment procedure rather than constituting a distinct primary process. Tax Audit and Reassessment

Tax audit and reassessment are procedures through which tax authorities check the veracity of self-assessments and estimates of taxable income and taxes due from taxpayers. The first refers to an audit of selected taxpayers to verify their filed returns. It is normally a randomly applied procedure. Reassessment, on the other hand, is a procedure used in cases where the tax assessment already done with regard to a specific taxpayer is suspected to be flawed.

2.3 Good Governance

2.3.1 Principles of Good Governance

Good governance, as a system or manner of government, incorporates four fundamental and interrelated elements: rule of law, participation, accountability and transparency. (Oyugi 2001) In relation to the “structure of government and the prerogatives of the different powers” rule of law entails “... effective and accessible means of legal redress, an independent legal system guaranteeing equality before the law and an executive that is fully subject to the law'". (ACP-EU Cotonou Agreement, Article 9/2) From the perspective of participation, good governance is characterized by “... a fair and efficient system ofjustice, broad popular involvement in political, social and economic processes ...” (Oyugi 2001) Transparency, on the other hand, refers to “... transparent interaction among all relevant political, economic and social forces working for the responsible shaping of public life and democratically legitimized decision-making". (GTZ 2007, 8) Finally, accountability as an element of good governance indicates that political leaders who make decisions as agents of the people are accountable to the same. For the World Bank control of corruption is one of the six dimensions of governance. (Kaufmann, Kraay and Mastruzzi 2014)

2.3.2 Good Governance in the Context of Public Sector

More specific definitions of governance (and good governance) have been provided in reference to public sector reform. One relevant definition of governance in the context of public sector reform is provided by the International Federation of Accountants (IF AC). For the IF AC governance “comprises the arrangements (political, economic, social environmental, administrative, legal, and other) put in place to ensure that the intended outcomes for stakeholders are defined and achieved”. (IFAC 2013, 8)

The following are public and financial sector focused definitions of governance:

- The function of governance is to ensure that an organization or partnership fulfills its overall purpose, achieves its intended outcomes for citizens and service users, and operates in an effective, efficient, and ethical manner. (Office for Public Management, Independent Commission on Good Governance in Public Services 2004)
- Governance is concerned with structures, processes for decision-making, accountability, control, and behavior at the top of organizations. (IFAC 2001)
- Public sector governance covers the set of responsibilities and practices, policies and procedures, exercised by an agency’s executive, to provide strategic direction, ensure objectives are achieved, manage risks, and use resources responsibly and with accountability. (Australian National Audit Office and Department of the Prime Minister and Cabinet 2006)
- Public sector governance encompasses the policies and procedures used to direct an organization’s activities to provide reasonable assurance that objectives are met and that operations are carried out in an ethical and accountable manner. (Institute of Internal Auditors 2012)
- The exercise of economic, political, and administrative authority to manage a country’s affairs at all levels. It comprises mechanisms, processes, and institutions through which citizens and groups articulate their interests, exercise their legal rights, meet their obligations, and mediate their differences. (UNDP 1997)
- The process by which decisions are made and implemented (or not implemented). Within government, governance is the process by which public institutions conduct public affairs and manage public resources. Good governance refers to the management of government in a manner that is essentially free of abuse and corruption, and with due regard to the rule of law. (IMF 2007)

2.4 Taxation and Good Governance

There is extensive research on the mutual effects of taxation and good governance. (Zainulabideen and Iqbal 2009) The impact of taxation on good governance has a twofold operation. First, the need to collect tax from citizens creates ample ground for the development of a social contract based on bargaining around tax. In effect, citizens from whom tax is collected will be more actively interested in the operations of the state using the resources they provided. This in turn facilitates representation and democracy. Secondly, the crucial need to assess and collect tax and raise revenues by the state logically leads to the creation of institutions for the collection and administration of the resources. This then creates state capacity essential to the process of state building.

This contrasts starkly with the effects of non-tax revenues directly raised by the state such as revenue from the extraction of natural resources. In this case, the state does not need to negotiate with citizens to a similar degree thereby diminishing the democratizing and capacity building implications of taxation.

On the other hand, good governance is essential for taxation and revenue collection in at least two major ways. Firsts, a sound policy framework defined by effective tax assessment and revenue collection is essential for growth. This in turn increases taxable income and reduces dependence on foreign transfers in the form of aid, loans and grants. Secondly, a responsible, democratic and inclusive state is able to ensure that tax assessment, tax collection and other tax issues are transparent and based on negotiated rules.

2.4.1 The Role of Good Governance in Taxation and Tax Reform

The key principles of good governance that are most directly related to the tax structure are equity, fairness and participation. At the level of the tax administration itself, other principles including transparency and accountability as well as participation in decision making within the tax administration system also come into play.

Improved tax administration cannot compensate for bad tax design. Excessive and arbitrary taxation are major constraints for economic and social development. (Fjeldstad and Therkildsen 2004, 6) Thus, high taxation retards the growth process and induces tax evasion. The build-up of the taxable base and fiscal sustainability are also delayed. Thus, reforming the tax structure should precede the reform of tax administration, since there is not much merit in making a bad tax system work somewhat better.

Reforms of the tax administrations in Tanzania and Uganda in the 1990s, in the form of the establishment of semi-autonomous and well-funded revenue authorities, resulted in short term revenue increases. But these achievements have proved to be difficult to sustain in the long run. After the initial success, revenues in percent of GDP decrease and the level of fiscal corruption seems to increase. The research has explored factors that may explain this trend. Two factors are highlighted; the limits of autonomy and patterns of fiscal corruption. (Fjeldstad and Therkildsen 2004, 5)


[1]The three countries prioritized away from revenue collection as an objective and towards transforming the structure of their economies and spurring economic growth. However, their tax policy and structure emphasized different aspects of the growth process leading to specific peculiar features. For instance, savings and economic equity were important in the case of Taiwan while revenue generation was still an important consideration for South Korea. On the other hand, FDI was more important in the case of Singapore.

[2]The assessment of income tax through direct auditing of the taxpayers’ finances by tax authorities was historically dominant. However, this procedure, named official assessment, is generally replaced by the self-assessment model.

[3] Estimates as a tax assessment procedure should not be confused with ‘estimated tax’, i.e. periodic advance payment of taxes based on the amount of expected future tax liability usually on income not subject to withholding such as self-employment.

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Assessment of Principles and Practices of Good Governance in Tax Administration
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Ghetnet Metiku (Author)Mebrahtu Woldu (Author), 2016, Assessment of Principles and Practices of Good Governance in Tax Administration, Munich, GRIN Verlag,


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