Browsing through a large departmental store in Yerevan, I selected a tie, pair of trousers and a shirt to make up for having arrived in the city before my suitcases did. The store manager pointed me to three different cash counters for the three items I had purchased. “But isn’t this all one store,” I asked in my inadequate Russian, that never fails to amuse native speakers. “Perhaps,” she smiled. “But never mind; these are different otdels (units).”
While governments around the world try to use simplified regimes to decrease the compliance burden of small and medium-sized enterprises (SMEs), it also opens the door wide open for larger businesses to abuse these regimes either by hiding as a small business, or splitting a larger business into smaller units. This is particularly true when there are few checks on firms entering the simplified regime. Think aforementioned department store!
In most countries, SMEs make up 85 to 95 percent of taxpayers, but their contribution to overall revenue is generally less than 15 percent of total collections. In Kazakhstan, for instance, simplified regime contributed only 1 percent to direct tax revenues. Hardly any business voluntarily migrates from small to medium business category. SMEs are often characterized as hard-to-tax groups, especially in sectors such as construction, restaurants, shops, and several services, mainly because of the poor quality of accounting information and data available about them.
The taxation of SMEs faces major policy challenges across emerging economies in Europe and Central Asia. The first challenge concerns compliance costs of taxation. Existing evidence clearly shows that small and medium sized businesses are affected disproportionately by these costs. When scaled by sales or assets, compliance costs of SMEs are higher than for large businesses. Given that small start-ups and research SMEs are generally considered important for economic growth, tax compliance cost may slow down economic growth.
Besides the problem of tax compliance costs faced by SMEs, the SMEs themselves are a challenge for tax authorities. One is the sheer number of small firms with very little revenue potential. Evasion is widespread, information level is low, and resources available to tax administrators to tackle them are limited.
There could be several responses to these problems. To brainstorm on these options and to exchange experiences on how to get them translated into specific policies, the TAXGIP (“Tax Administrators Exchange of Global Innovative Practices”) network got together in St. Petersburg, Russia last September. This time, my suitcase did arrive with me.
But before we get into that (in a second post) I’d like to know what readers think about this issue? Have you witnessed situations where large businesses are hiding as small?