UNIT 7 TAXATION OF SMALL ENTERPRISES

77 T5 Taxation Amendment Act 2006/07

CHAPTER 11 TAXATION OF SMALL AND MEDIUM SIZE ENTERPRISES

After studying this Unit you are expected to understand the following: Definition of small and micro enterprises (SMEs) Qualification for classification as SME The Zambia Development Act Source of income General deductions Capital allowances peculiar to SMEs Exemption from tax Presumptive Taxes Introduction to Turnover Taxes

11.1 - Introduction Taxation is perhaps the most direct and visible way in which the government of the Republic of Zambia affect the Small business environment. At present, the taxation system for small businesses in Zambia is among those that are receiving increasing attention from tax policy drivers. This is more the reason why you need to know some of the emerging tax incentives aimed at promoting small businesses. Many small businesses rely on accumulated earnings to provide the capital for investment and growth. Tax incentives, such are provided for under the small enterprise development Act, are meant to help small businesses accumulate more after tax earnings for reinvestment and expansion. The incentives are also intended to help small businesses to build their equity base, making them more attractive to external investors. And this revelation leads us to another inevitable revelation, and this is that many small businesses are concerned about the cost of complying with the taxation system. The burden of tax compliance does not fall evenly on all businesses. It varies by type of business, by income level and by level of tax awareness! Economic growth in every country is defined by the performance of its production sector. In many highly developed countries a great share of production is manufactured by small and medium sized Enterprises (SMEs) an important part of their market economies. For instance, the portion of SMEs in GDP of Great Britain is 50 53%; of Germany 50 54%; of USA 52 55%.
78 T5 Taxation Amendment Act 2006/07

The development of SMEs is greatly affected by the level of taxation, its administration and compliance: the higher the tax rate is, or the greater the efforts to fulfil taxation requirements are, as well as to check how those requirements are met, the lower the initiatives are for SMEs to perform well. Therefore, maintaining the tricky balance between tax rate, compliance costs, tax administration and economic development should be a main goal of every tax policy. And Zambia as a country seems to be moving towards this ideal tax policy creativity! In Zambia, the SME sector has only began to receive some tax attention. Lack of proper incentives as well as unfavourable government policy towards SMEs has had a negative impact on the Zambian economy. Weak legislative support, administrative barriers and many such vices have in the past forced some of the SMEs to operate in the shadow. All leading textbooks in taxation list three main features of a perfect taxation system: efficiency, equity and simplicity. Efficiency is understood as economic neutrality: taxation imposes no interference with private decision-making. Equity means equal treatment of equals as well as distribution of tax liabilities according to the level of well being. Simplicity is often used as a synonym for easy compliance and simple administrating. All these are some of the issues we undertake to explore in the light of how each of these features of a perfect taxation system may impact on small business enterprises and ultimately on their survival! DEFINITION The definition of a small enterprise presents a number of problems for many tax advisers. It is justifiable to feel that it is not satisfactory to attempt to define a small enterprise in quantitative terms but in the European Union and even in Zambia, this quantitative approach is what is actually embraced. THE MEANING OF ENTERPRISE The Small Enterprises Development Act 1996 Act No. 29 of 1996 defines an enterprise as: QUOTE An undertaking engaged in the manufacture or provision of services, or any undertaking carrying on business in the field of manufacturing, construction and trading services but does not include mining or recovery of minerals This means that for small companies engaged in mining activities, they do not qualify as an enterprise by the provisions of SED Act 1996 regardless of their size, and by virtue of this exclusion such companies are not entitled to claim any tax incentives provided for under this Act.

79 T5 Taxation Amendment Act 2006/07

THE MEANING OF MICRO ENTERPRISE Under the SED Act 1996 Micro Enterprise means any business enterprise: Whose amount of total investment, excluding land and buildings, does not exceed K10,000,000. Whose annual turnover does not exceed K20,000,000; and Employing up to 10 persons. The proviso to Section 2 of the SED Act gives powers to the Minister of Finance to vary the thresholds of K10,000,000, K20,000,000 and the maximum number of employees of 10 by way of a statutory instrument. THE MEANING OF SMALL ENTERPRISE Small Enterprise means any business enterprise: Whose amount of Total Investment, excluding land and buildings does not exceed: In the case of manufacturing and processing enterprises K50,000,000 in Plant and Machinery. In the case of trading and service providing enterprises K10,000,000. Whose annual turnover does not exceed K80,000,000. Employing up to 30 persons. Again you must take note that the Minister of Finance is given powers under this Act to vary any of the variables by means of a Statutory Instrument. Registration of Micro and Small Enterprises Any person undertaking a business enterprise may apply for a certificate under the provisions of Section 7 (1) of Small Enterprises Development Act. An application for a certificate is made to Director of the small enterprises development board after paying a fee, which is determined by the board from time to time. Upon receiving an application for a certificate the Director submits the application to the board for further consideration. 11.2 ISSUE OF CERTIFICATE Within 4 weeks of receipt of an application for a certificate, the board will register an enterprise as a micro or small enterprise and issue a certificate, which entitles the registered enterprise to benefit from the incentives provided for under the Act.

80 T5 Taxation Amendment Act 2006/07

11.3 INCENTIVES TO MICRO AND SMALL ENTERPRISES Small and medium enterprises perform several important functions in the Zambian economy: SMEs help form a competitive environment. They are actively involved in research and development, promoting fast implementation of new technical and commercial ideas. They quickly react to market changes and thus, provides necessary flexibility to the economy; and They assist in decreasing unemployment through creation of new working places. Thus, promoting the development of small and medium enterprises should receive proper attention while, at the same time, the authorities that be are engaged in implementing complementary stabilising macroeconomic policy. 11.4 ROLE OF TAX POLICY IN PROMOTING SME SECTOR DEVELOPMENT There are many factors that can influence the development of SMEs in the Zambian economy. The most frequently mentioned among them are state support of the sector, proper legislative support and mechanisms of its fulfilment, access to financial resources and investment incentives. However, one of the most important single factor that promotes development and growth of SMEs is of course the taxation system. Research made in different countries has shown that the countries where the levels of tax rates, the costs of fulfilling taxation requirements are high, the sector of small and medium enterprises is comparatively small. For instance, in Ukraine, where policy of SME sector taxation is considered to be too burdensome, the share of the sector in GDP was only 5.5% in 1997 according to the Analytical Report on State Committee for Entrepreneurship Development. Specific Tax Incentives An enterprise registered under the SED Act is therefore entitled to the following Tax incentives: Exemption from payment of tax on income for: The first three years of operation for an enterprise operating in an urban area. Although the Act does not define the term 'urban' it can be construed according to its popular meaning in the English language. The first five years of operations for an enterprise in a rural area. Again the Act does not define 'rural area' but it does give a very general direction. In section 2 the Act states that rural area shall have the same meaning assigned to it in the local Government Act of 1991.
81 T5 Taxation Amendment Act 2006/07

TUTORIAL NOTE: For a small business owner or those considering starting a business for the first time, they do need to get registered under the small enterprise development Act 1996 and don't have to worry about ZRA for their first 3 years of operations if they are in an urban area or their first 5 years of operations if they are in a rural area. As you can see, the taxman is not absolutely intolerant!

11.5 LETTING OF BUILDINGS BY PRIVATE PERSONS The small enterprise board may, in consultation with any person, institution, organisation or company, let out any building or premises for use by micro or small enterprises as an industrial or commercial estate. An owner of any building or premises let out for use by micro or small enterprises is entitled to the following: (i) Capital allowances which shall be deducted in ascertaining the gains or profits at the following rates: Where a building is used as an industrial estate - a 5% wear and tear allowance on cost, plus a 10% initial allowance on cost in the year in which the said building is first used. For implements, machinery and plant exclusively used in farming and manufacturing - a wear and tear allowance of 50% of the cost in each of the first two years. (ii) Exemption from payment of tax on income received from rentals on such premises; and (iii) Exemption from the payment of rates on factory premises. Though tax policy for SMEs in Zambia is still far from being perfect, a lot of attempts are being made to improve it. If all the future policies are thoroughly evaluated, there is hope that in future the taxation system of Zambia will achieve the three main objectives of taxation: efficiency, equity and simplification. In that case, taxation would not hinder but rather stimulate the development of the SME sector and it would become an important part of the Zambian production sector.

82 T5 Taxation Amendment Act 2006/07

Progression to Micro or Small Enterprise Status:

Enterprise sets up in business

Apply for Small enterprise certificate

Receive certificate confirming small enterprise status.

Tax Benefits

Example: Bangweuru Enterprises was set up a year ago. Since then it has been operating as the major supplier of Tomato jam to the Chilubi Island Mission Hospital. The Enterprise director has heard about tax incentives given to micro or small enterprises in rural areas like Chilubi Island and he has accordingly applied for a Small Enterprise Certificate. He rents a small room, which was once, used as a hospital mortuary in the early 1980s, in which he carries out the manufacturing of his Tomato Jam. Explain to the director in clear terms the specific tax incentives available to him and his small enterprise assuming that his application for a small enterprise certificate goes through.

Answer: Bangweuru Enterprises As the Enterprise's application for a micro or small enterprise certificate has gone through, the enterprise can enjoy the incentives provided for under the small enterprise development Act 1996 as follows: Tax Advice: The enterprise will not be liable to income tax in the first five years of operation as it is set up in a rural area. Since the enterprise was set up a year ago, oneyear of the benefit period has already elapsed. This means that in effect the enterprise will only enjoy a tax holiday of four years. One year has been wasted. The equipment used to manufacture the Tomato Jam qualifies as plant under the Income Tax Act and this will qualify for a wear and tear allowance of 50% starting in year five when the tax holiday elapses.
83 T5 Taxation Amendment Act 2006/07

 The Small room, which was used as a mortuary in the early 1980s, qualifies as an industrial building on which a wear and tear allowance of 5% on cost is available. But it is not Bangweuru Enterprises who will benefit from this but the Hospital. Even at the end of the fifth year, the industrial building will still belong to the hospital who will gain have the right of claiming capital allowances. In this respect, the incentive is not directly extended to the small enterprise but to the organisation that offers a business opportunity to a small enterprise. Unfortunately, the industrial buildings will not qualify for an initial capital allowance because at the time it was first used as an industrial building, the Enterprise was not yet a registered small enterprise. 11.6 PRESUMPTIVE INCOME TAXATION Presumptive Income Taxation is employed primarily in economies where hard to- tax taxpayers comprise the majority of the population and administrative resources are scarce. In these Countries, most taxpayers lack the financial transparency that allows for effective taxation by the government. The result is that governments estimate or presume the appropriate income on which taxes should be levied. Zambia is certainly one of these countries whose population is largely characterized by hard to tax potential taxpayers. In developed Countries, the transition from presumptive to actual based taxation paralleled the shift from agricultural to industrial economies. Economic advancements replaced self- employment in farming and small-scale trade with concentrated employment in fewer and large entities such as governments and large corporations. Whereas tax liability was formerly derived from indices such as estimated crop yield of agricultural lands, it gradually became a factor of actual income received from salary and wages. Movements towards more modern forms of tax administration emerged, as businesses became more sophisticated and financial transparency increased. As accounting practices became more prevalent, self-assessment of tax liability and withholding tax at source inevitably followed. In developing countries like Zambia, however, presumptive taxation may still be the most appropriate method of tax administration for specific groups of taxpayers. In Zambia, the reality is that most taxpayers do not possess the administrative resources to maintain accurate books. As a result, tax evasion has been rampant. To this effect there has been growing concern in government and among various stakeholders. Who is the target? As a first step, presumptive taxes have been introduced to bring bus, mini-bus and taxi operators into the tax bracket. This is intended to broaden the too often complained about narrow tax base.

84 T5 Taxation Amendment Act 2006/07

Benefits of Presumptive taxes Presumptive taxation is considered an optimal method of curbing widespread non-compliance without excessive government resources because it addresses the concerns of both taxpayers and the tax authorities. Presumptive taxation provides taxpayers with a simplified option for tax compliance without requiring full financial transparency. Presumptive taxation also allows the government to tax its citizens in a more equitable fashion while rewarding efficient businesses with financial incentives. Presumptive taxation entices Small and Medium Enterprises (SMEs) into the tax net by disregarding high tax rates. It is argued that presumptive taxation can help reduce corruption in tax administration. However, the success of presumptive taxation in reducing corruption will depend both on the structure of the scheme and the overall administrative environment and capacity in the tax administration. A presumptive taxation scheme can in fact increase the discretionary power of tax officials and a worst-case scenario increase corrupt practices. A carefully designed presumptive taxation scheme can help reduce corruption, but can never be a substitute for much needed capacity building and administrative reforms within the tax administration. Presumptive taxation provides taxpayers with a simplified process. There is no need to file in the Income tax Returns and keep elaborate records. Presumptive taxation provides taxpayers with an opportunity to manage their cash flow efficiently. Taxpayers need not spend money on professional consultancy services. Are all operators of busses, minibuses or taxis liable to pay presumptive tax? This question is almost inevitable. Presumptive tax has been introduced with the exemption of limited companies. Therefore only individuals and partnerships are included. The ZRA feels that compliance is not a big problem for limited companies as they have the capacity to comply fully with all the standard requirements under the Income Tax Act. But the inclusion of partnerships on the list of those to benefit from presumptive tax is counteractive. It is common in Zambia to see very large partnerships, which, in my view, ought to be classified among limited companies in terms of their ability to comply with the various requirements of the Income Tax Act. How much will each category of vehicle be charged? The Income Tax (Amendment Act 2003) has introduced a new Ninth Schedule to the Income Tax Act. This new Ninth Schedule contains the rates for presumptive tax as follows:

85 T5 Taxation Amendment Act 2006/07

NINTH SCHEDULE ----------------------------------------------------------------------------------------Type of Vehicle Amount of Tax per vehicle (Sitting Capacity) (Per Annum) 64 seater and above 50 63 seater 36 49 seater 22 35 seater 18 21 seater 12 17 seater K7,200,000 K6,000,000 K4,800,000 K3,600,000 K2,400,000 K1,200,000

Below 12 seater (including Taxis) K600, 000 -----------------------------------------------------------------------------------------Tax Audits Perhaps the best news of all for tax payers is that since presumptive tax is a levy, there is no longer any need for tax payers to keep records for tax purposes and as such no audits will be conducted on a transporters business. The only requirement will be for the transporters to pay their presumptive tax as stated by the law. 11.7 TURNOVER TAXES The 2004 National Budget announced a significant amendment to Section 64A (2) of the Income Tax Act by introducing a presumptive tax on businesses whose annual turnover does not exceed and up to K200 million. The rate of tax is 3%. Turnover Turnover is defined as including the Gross: Earnings Income Revenue Takings Yield, and Proceeds. Who is liable to pay turnover tax? Any person carrying on any business with an annual turnover of K200 million or less. Any person whose business earnings are subject to withholding tax and that withholding tax is not the final tax. These include rental income, commissions, interest earned by companies and royalties earned by Zambian residents.
86 T5 Taxation Amendment Act 2006/07

Who is not liable to pay turnover tax? The following persons are not liable to turnover tax: Those whose turnover exceeds the threshold of K200 Million. Any individual or partnership carrying on business of Public service vehicle for the carriage of persons. Partnerships carrying on any business irrespective of whether the annual turnover is K200 million or less. Partners Income from the partnership is also excluded from turnover tax. Any person whose business earnings are subject to withholding tax and that withholding tax is a final tax such as Bank interest for individuals, dividends, Interest on government bonds, interest earned on treasury bills for charitable Institutions and other exempt persons, etc.

11.8 - MANAGING SMALL AND MEDIUM TAXPAYERS (SMTs) Small and medium taxpayers (SMTs) are grouped with the traditionally hard-totax (HTT) group, which may also include large entities such as commercial farmers and retail outlets. Since, recent trends in tax administration reforms in Zambia have placed large entities in a large taxpayer unit [LTU] and roughly equate medium entities with VAT-registered taxpayers (i.e. outside LTUs), small entities are automatically deemed to fall below VAT registration thresholds. However, these classifications overlap since LTU and VAT thresholds may be set at high levels to ease tax reforms. The reference to SMT-formal and SMTinformal entities in this chapter is meant to stress the potential of taxpayers to comply with, and be subject to, formal accounting and enforcement principles. It is not necessarily related to the informal sector in which all SMTs thrive. In general, SMT-formal entities are structured and have the capacity to keep records that conform to the accounting standards and Zambian Company or tax laws. In contrast, SMT-informal entities are not well structured and they may have genuine difficulty in keeping adequate records. SMT BACKGROUND ISSUES There are several reasons why SMTs fail to comply with tax legislation but, at the same time, significant benefits can be derived from making it easy and costeffective for them to meet their obligations. Many developing countries use presumptive tax regimes to improve SMT compliance but they are often not well managed as is the case in Zambia. While the Presumptive Tax regime needs significant improvement, Zambia can also use modified or simple accounting, audit and enforcement rules to make SMTs comply better and also improve procedures in tax offices within the ZRA structures. Why SMTs fail to comply: Apart from factors related to their operations, SMTs also fail to comply with tax laws because the ZRA often lacks effective mechanisms for controlling tax from them. The poor infrastructure and large informal sector in Zambia (i.e. about 50
87 T5 Taxation Amendment Act 2006/07

and 65 percent) result in informal approaches to setting up, changing and winding up SMT businesses. The sector is characterized by inadequate recordkeeping and weak financial or internal controls by a network of close family members, business associates, employees or friends. Often business and private transactions are not separated and there may be no oversight boards or committees. These factors often give rise to malpractices such as suppression and falsification of accounting transactions. Finally, the absence of clear SMT tax accounting guidelines tends to increase compliance costs and dissuade them from meeting their tax obligations. Importance of improving SMT compliance: Effective control of SMTs can promote fairness among small taxpayers (e.g. many self-employed persons earn more income but pay less tax than employees subject to wage withholding). Second, administrative decisions often depend on a 20/80 percent rule of thumb that implies that SMTs are many but pay only a small part of total revenue. There is less emphasis on the inverse 80/20 cost rule that implies that management often uses more resources to generate the small SMT revenue. The ZRA can reduce costs and stabilize or increase revenue by improving SMT compliance. Third, the potential revenue from medium entities is significant but it can be eroded through non-compliance, despite the fact that medium entities can keep modified accounting records. Fourth, weak SMT methods can undermine compliance among all taxpayers. Perceptions of unfairness and a high tax burden can motivate large entities to evade and avoid taxes with more adverse consequences for the ZRA. Finally, while SMT reforms may not increase revenue in the short-term, they can stabilize or even enhance it in the medium-to-long term. Traditional methods of controlling SMTs As noted, many developing countries depend on presumptive tax systems to enhance SMT compliance. The two broad categories are often used to compare taxpayer declarations and support enforcement: Standard assessments applied to groups of taxpayers, businesses or economic sectors; and Minimum, often individual, assessments. SMT-informal standard assessments may be treated as final (i.e. non-creditable) because these taxpayers do not file tax returns. In principle, however, medium entities expect a credit for the monthly or quarterly installment of minimum taxes paid. Weak management of presumptive regimes Presumptive taxes are policy measures but they are also regarded as feasible administrative options for controlling SMTs described as a win-win proposition because they simplify administration and compliance. In practice, the regimes are not well managed for several reasons. Surveys are not regularly updated and, therefore, the assessments tend to be arbitrarily applied to vulnerable small entities. They may also be indiscriminately extended through informal
88 T5 Taxation Amendment Act 2006/07

negotiations to medium entities that should self-assess. Most presumptive schemes are also not linked to Flat rate or equalization taxes may be imposed on SMTs in lieu of consumption taxes such as VAT. IMPROVING SMT ADMINISTRATIVE PROCESSES There are two basic approaches to improving SMT administration and compliance. First, the improvements in presumptive tax processes must be seen as a top tax administration priority. Second, the functional activities (i.e. registration, accounting, collection, enforcement and audit) must be simplified to make it cost-effective for the ZRA and taxpayers, especially medium SMT-formal entities. Improvements in presumptive tax procedures It is important not to over-estimate the capacity of SMT-informal entities to apply modified accounting rules. The presumptive taxes may be the only feasible option for controlling many of them and therefore they need to be improved. First, the primary and secondary surveys used to determine standard and minimum assessments should be updated regularly to ensure that they represent a fair and reliable basis for estimating SMT tax liabilities. Second, the ZRA must establish links between the presumptive regime and their conventional accounting, data gathering/analysis, and enforcement programs. For example, SMTs must be issued with TPINs and separate manual or automated ledgers used to record and monitor assessments, payments, penalties and adjustments (credits and refunds). Third, detailed but standard guidelines must be provided to tax offices to ensure uniform application of tax rules, especially collection enforcement activities. Finally, procedures need to be established to ensure that a sample of SMT-formal and informal entities are included in the audit programs of the ZRA. Registration, identification and taxpayer service programs Most SMTs, with the probable exception of medium-sized corporate entities, do not register voluntarily. Once registered, they fold-up or change identity with little or no formality - for example, by simply obtaining a new local government licence. SMTs must be included in taxpayer identification number (TPIN) programs, in close collaboration with the local authorities that have jurisdiction over their operations. SMTs with formal outlets (e.g. retail shops) must display the registration certificate and TPIN as required by tax laws. The ZRA must use routine audit or enforcement programs and special registration drives to check non-registration and assist taxpayers to comply with their obligations-

89 T5 Taxation Amendment Act 2006/07

Improvements in accounting procedures The purpose of accounting is to ensure that taxpayers keep adequate records to support the tax returns they file. Different methods can be used to make SMTformal and SMT-informal entities meet this obligation. The ZRA must also improve their accounting procedures to ensure effective control of the financial transactions of taxpayers, including assessments, payments, penalties and adjustments. While significant concessions should be made for small taxpayers, the tax regulations need not be unduly relaxed for SMT-formal entities, especially corporate entities that are required by law to prepare modified audited financial statements. Exclusion from accounting requirements: The majority of SMT-informal entities that pay only standard assessments need not be required to keep records or file tax returns. In this regard, the personal income tax exemption and VAT registration thresholds must be set at high levels to exclude as many small entities as possible from accounting requirements. However, those contesting assessments must keep basic documents (e.g. invoices) and cash records to support their appeals. The current VAT Threshold of K200 Million looks sufficient to address this requirement. Cash accounting records: The majority of SMTs need to keep only a cash book to record daily transactions involving purchases, sales and expenses. No ledger records are required but, if desired, assets and liabilities can be listed to track debtors, creditors and assets. Taxpayers must keep copies of purchases and sales invoices and be ready to produce evidence of other payments to support transactions such as apportionments between personal and business expenditure (e.g. splitting fuel and utilities between business and private use). Simple accrual accounting: Medium entities must keep a ledger in addition to the cash book to support simple accrual accounting and audited financial statements. The accounting rules are modified with respect to specific transactions such as depreciation and expenses. Profit and loss accounts (i.e. income statement) and balance sheet are required but in abridged form only thus making it unnecessary to show subclassifications and detailed notes of assets and liabilities .... on grounds of size or relative lack of public interest. Tax office accounting measures: The accounting process in the ZRA TCU must be improved to enhance SMT compliance. At a minimum, manual ledgers must be kept for all SMTs even under presumptive regimes. Where feasible, automated ledger records should be kept to reduce tedious manual processes and better augment audit and collection enforcement. The ZRA must publish guidelines for taxpayers and encourage them to use practitioners in order to reduce the direct involvement of tax officials in preparing taxpayer records. The practitioners must be registered
90 T5 Taxation Amendment Act 2006/07

but only non-qualified professionals need to be formally trained and certified by the ZRA. Medium entities must be given incentives (e.g. immediate write-offs) to acquire accounting software and equipment. Audit, examination or inspection procedures The purpose of tax audits is to examine an entitys accounting records to ensure that disclosures made in the accounts and tax returns are true, fair, reliable and accurate. The professional accounting standards state explicitly that small and medium entities (SMEs) must not be treated as un auditable. Moreover, auditing is the primary means of controlling tax evasion and avoidance and should be taken seriously for all categories of taxpayers. Nature of SMT audits: SMT audits must follow the conventional view that it is costly and practically unnecessary to examine all taxpayers and their records in given audit cycles. The so-called 100 percent inspections must be replaced with sampling techniques that involve profiling, stratification and risk analysis. The audit plan must follow two broad approaches (a) using simple audit programs to routinely audit an annual sample of SMT-formal entities; and (b) applying audit techniques to review the presumptive regime (i.e. management assurance), including the records of samples of SMT-informal entities. Implementation of SMT audits: The goal of implementation is to obtain audit evidence to confirm the validity of transactions used to process tax returns. The ZRA must be issued with standard audit guidelines to cover background, compliance or control, and transactions or substantive checks. The standard guidelines must ensure that specific procedures are followed and adequate feedback provided to audit managers. As with VAT, the duration and scope of SMT-control audits must be limited to approximately 2-3 days and initially cover only a limited number of returns and records. Given the inadequate record - keeping culture of SMTs, Tax Inspectors must be trained to use indirect audit and single-entry bookkeeping techniques to improve examinations and, if necessary, rewrite the accounts. Complex cases are encountered during desk or control audits should be referred to comprehensive or integrated audit teams. All audit assignments must be properly supervised and adequately covered in the annual budget of the ZRA. Collection and enforcement procedures The goal of collection and general enforcement is to control tax arrears and offences. The SMT enforcement strategy must follow a mild-to-aggressive application of powers and sanctions. Priority must be given to debt management procedures because many conventional debt recovery procedures tend to be costly and may involve lengthy procedures and litigation of SMTs that contribute insignificant amounts of revenue. Nonetheless, even SMTs must bear the consequences of persistent non-compliance through stringent measures.
91 T5 Taxation Amendment Act 2006/07

Debt management and recovery measures: SMT arrears rapidly accumulate and become irrecoverable. The SMT debt problem is linked to poor liquidity management and the non-separation of private and business activities. The ZRA must implement recovery plans at an early stage by updating ledger records, sending reminder notices, and enforcing installment payment rules often supported by tax clearance procedures. This will prevent the use of drastic measures with low fiscal yields and with little or no chance of success because they drive SMTs into liquidation or underground. The regular update of ledgers will also ensure effective imposition of interest and penalties as well as collection enforcement. Interventionist measures: The ZRA now requires taxpayers to obtain annual tax clearance certificates (TCC) to show that they have settled or made satisfactory arrangements to settle their liabilities. Without the certificates, they cannot engage in specific transactions such as tendering for government contracts or obtaining an operating licence from Local Government Authorities. While these measures may be effective, they are often mismanaged and they easily lead to abuse of power and corruption. Another measure which is quite effective against SMTs is the temporary closure of businesses that do not comply. It prompts compliance because of the potential loss of family incomes, contracts and customers. Seizures, sales, levies (Destraint or garnishment) and prosecution: The ZRA must apply stringent measures against persistent SMT noncompliance. The first option is to recover the arrears from third parties, notably commercial banks and debtors. This may be effective against medium-size SMTs but not the majority small SMTs in large informal economies that deal in cash and make little or no use of banks. The ZRA can also seize and sell personal and business assets to recover tax arrears. Ultimately, SMTs engaged in serious delinquent behaviour must be prosecuted to serve as a deterrent against general non-compliance. Simplification of judicial and appeals processes: It is less costly to resolve SMT cases through special schemes like special courts, tribunals, administrative boards, and advocates. They are suitable for dealing quickly with large numbers of small cases that often slow down operations in regular courts. The rules must be simplified and made flexible to make it easy and cost-effective for small entities to seek redress including representation in their personal capacity or by practitioners who may not be lawyers.

92 T5 Taxation Amendment Act 2006/07

TUTORIAL QUESTIONS

93 T5 Taxation Amendment Act 2006/07

QUESTION I What is an Enterprise? (Para. 11.1) QUESTION II Who qualifies for Registration under the Small Enterprise Development Act of 1996? (Para. 11.1) QUESTION III List some of the Tax Incentives enjoyed by Micro and Small Enterprises under the Small Enterprise Development Act of 1996? (Para.11.2) QUESTION IV What is the meaning of Presumptive Taxation and to which category of Taxpayers is it usually applied? (Para.11.6) QUESTION V List some of the Benefits of having a Presumptive taxation System in Zambia. (Para. 11.6) QUESTION VI What is Turnover Tax and when was it introduced in Zambia? (Para. 11.7) QUESTION VII Who is liable to pay Turnover Tax? (Para.11.7)

****************************************************************************************************

94 T5 Taxation Amendment Act 2006/07