Nigeria: Effective Taxation Of The Nigerian Informal Sector

Last Updated: 13 December 2018
Article by Olufunso Ola-Ojo and Oladejo Adeyemi

The Nigerian tax authorities have been making efforts aimed at increasing the level of tax collections and improving government revenue generation from taxation. This is spearheaded by the Federal Inland Revenue Service (FIRS) and the other State Internal Revenue Services. The authorities have initiated different schemes including several tax amnesty programs to encourage non-complaint taxpayers to come forward and declare their taxes, which will make them included in the tax net. Despite these efforts, the general level of tax compliance in Nigeria is still quite low. The recent International Monetary Fund (IMF) country report shows that only about 10million people, out of a labor force of about 77million people, are registered for taxes in Nigeria.

This low level of tax registration certainly creates a narrow tax base from which the Government is able to collect taxes and therefore impacts Government's ability to generate revenue through taxes. It also places significant burden on the existing taxpayers who in some instances, already have a high level of compliance, as the tax authorities continues to focus on these known taxpayers for audits and tax drives.

The informal sector

The informal sector refers to the economic activities that function with limited government regulation and usually unstructured. They typically operate at a low level of organization, with little or no division between labor and capital as factors of production. The informal sector consists of micro, small and medium scale enterprises including traders and artisans and constitutes a significant portion of the Nigerian economy.

There has been a lot of focus on the fact that Nigeria's tax to GDP ratio of about 6.1% is quite low and appears to remain unchanged despite all the efforts of the tax authorities to improve collection. Given the significant size of the informal sector in the economy, it is safe to say that the tax to GDP ratio will not significantly improve until this huge and untapped section of the economy is effectively subjected to tax.

Challenges of taxing the informal sector

The biggest challenge is that most of the businesses operating in the informal sector do not keep proper records of their day-to-day transactions. It means that they do not maintain proper books of account which should enable them produce audited accounts and compute the appropriate tax payable for the period. The operators in that sector are usually more focused on improving and growing their businesses rather than keeping proper records. It is also common occurrence for them to mix their personal funds with that of the business. This includes using the same bank accounts for both business and personal transactions, subsidizing the business with personal loans and taking money out of the business for private use without proper documentation. This makes it difficult for an independent party to accurately evaluate the financial position of the business in order to determine the amount of tax payable.

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