*Review* **Taxing the Digital Economy through Consumption Taxes (VAT) in African Countries: Possibilities, Constraints and Implications**

**Favourate Y. Mpofu**

School of Accounting, Auckland Park, University of Johannesburg, P.O. Box 524, Johannesburg 2006, South Africa; fmpofu@uj.ac.za

**Abstract:** Owing to the Fourth Industrial revolution and digital transformation, the digital economy has grown substantially globally and in Africa. Despite the positive outcomes such as advancements in technology, improvements in business models and expansion in digital financial inclusion, negative implications include the erosion of tax bases due to the invisible nature of digital transactions. Although the digital economy is one of the biggest and quickest growing sectors in the African continent, its contribution to tax revenue is negligible. Developed and developing countries are grappling to find effective ways of mobilizing revenues from this hard to tax economy. African countries have turned to digital services taxes, value added taxes and withholding taxes in a bid to collect revenue from the digital economy to broaden their tax bases. There is intense debate among policymakers, governments, development bodies and tax bodies on the most effective way to tax the digital economy. Through a conceptual analysis based on a critical review of the literature, this article contributes to the ongoing debate by assessing the possibilities and constraints of taxing the digital economy in Africa using value added tax (VAT). The paper reviewed 55 articles, most of them current, published between 2014 and 2022, reflecting embryonic nature of the subject area. The findings on the opportunities include the existence of VAT regulation, increased revenue mobilization and efficiency gains, while challenges include ambiguities in legislation, capacity constraints and tax knowledge gaps. The implications of using VAT to collect tax from the digital economy encompass increased cost of digital services, decreased access, increased inequality and impediment on employment creation, poverty reduction, digital financial inclusion, and the realization of the sustainable development goals.

**Keywords:** VAT; digital economy; taxation; consumption tax; constraints

**1. Introduction**

The digital economy has grown dramatically worldwide, leading to the emergence of new business transactions and the growth in e-commerce and online transactions. Digitalization of the economy is viewed as a propeller for growth, innovation as well as societal change and connectivity (Organization for Economic Co-operation and Development (OECD) (2020); Schiavone Panni 2019). Despite the advantages linked to the expansion of the digital economy, several challenges have also originated. Key areas of the economy such as industries, entrepreneurial development, innovation and technology, fiscal policy and taxation have faced problems emanating from the substantial growth of the digital economy (Ahmed and Gillwald 2020). Simbarashe (2020, p. 178) asseverates, "Among these, tax implications of the digitalized economy are perhaps the most urgent issue for policymakers, governments, civil societies and international organizations". Taxation is a not only a revenue generation problem but also a development issue, a regulation matter, a financial inclusion concern and a topic that touches on the fulfilment of the United Nations (UN) Sustainable Development Goals (SDGs).

**Citation:** Mpofu, Favourate Y.. 2022. Taxing the Digital Economy through Consumption Taxes (VAT) in African Countries: Possibilities, Constraints and Implications. *International Journal of Financial Studies* 10: 65. https:// doi.org/10.3390/ijfs10030065

Academic Editor: Sabri Boubaker

Received: 22 April 2022 Accepted: 15 June 2022 Published: 9 August 2022

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**Copyright:** © 2022 by the author. Licensee MDPI, Basel, Switzerland. This article is an open access article distributed under the terms and conditions of the Creative Commons Attribution (CC BY) license (https:// creativecommons.org/licenses/by/ 4.0/).

The change in business models and the widening of global digitalization has enabled MNEs and other ordinary companies to penetrate global tax jurisdictions where they only have markets but no physical presence (Kelbesa 2020; Munoz et al. 2022). These companies have managed to generate profits in ways, which have challenged the existing international tax laws' adequacy in handling and tapping tax revenue from the digital economy (OECD 2019, 2020). The African continent is not immune to these challenges (Kirsten 2019; Latif 2019, 2020; African Tax Administration Forum (ATAF) (2019a), 2019b). The digital economy has led to a consequential digital presence and investments by digital MNEs such as Amazon, Google, Netflix, Facebook, and Uber. Most African revenue authorities and their governments have started to take a special interest in how to mobilize revenue from the seemingly intricate digital economy.

MNEs had been previously operating in these market jurisdictions such as Africa, but their activities have immensely increased in breadth, scope, and intensity. The widening of the activities is due to the expansion in digital transformation, together with the advancement in communication and information technology (Akpen 2021; Bunn et al. 2020; Deloitte 2020a; Simbarashe 2020). Digitalization has brought significant modification to the way businesses conduct their activities and transactions as well as to tax administration. The changes in the business world and the fact that they now lean more on digitalization was fueled by the COVID-19 pandemic. This accordingly calls for changes to be incorporated in regulation, infrastructural development, tax policy construction and tax administration.

The invisibility and borderless feature of digital transactions makes levying and collecting taxes on them a formidable task for all economies (both developed and developing) and more so in African countries where tax administration capacities are weak, coupled with underdeveloped technologies as well as resources constraints. Identifying digital businesses, determining the scope of their activities, tracing their revenues, gathering, and verifying information that leads to the determination of tax liability is difficult for countries in general (Lowry 2019) and more challenging for African countries (Santoro et al. 2022; Simbarashe 2020).

While revenue authorities continue to face the revenue collection predicaments emanating from the growing presence of the digital economy, digital transformation continues to heighten innovation and the emergence of complex business models. Tax administration in Africa remains unclear on the most effective and efficient way to tax the digital economy, yet the challenges arising from novel technologies and intricate business models continue to mount, increasing the likelihood of tax revenue leakages. Digital transformation has indeed raised questions on whether the current international tax legislation remain applicable and adequate for tax revenue mobilization in this globalized and digitally transformed business environment. The current legislation includes the OECD transfer pricing guidelines and UN guidelines on transfer pricing (TP) as well as various unilateral TP rules (arm's length principle). While considerable efforts have been made to regulate base erosion and profit shifting (BEPS) through BEPS projects (Simbarashe 2020), OECD TP guidelines (Kabala and Ndulo 2018) and ATAF guidelines on intangibles (ATAF 2020), the key challenges in taxing the digital economy have remained insufficiently addressed (Ahmed and Gillwald 2020; Kelbesa 2020; Rukundo 2020). The BEPS Inclusive Framework on BEPS and on Addressing the Challenges in the Taxation of the Digital Economy discussions have been ongoing, and the implementation of the negotiations have been delayed to the frustration of member countries, with some of these countries resorting to enacting their own individual tax rules on the digital economy. Divergent views have emerged among member nations. In relation to the OECD consensus-based rules, ATAF, on behalf of African countries, has posed questions on the effectiveness and inclusiveness of the proposed provisions and pillars guiding the envisaged implementation (Becker 2021). The thorny areas revolve around the applicability of OECD guidelines in the African contexts. Firstly, the issues of the effectiveness of international digital services tax rules in curbing tax avoidance and evasion by MNEs in Africa. Secondly, how the consensus-based rules take

into consideration the shortcomings of African tax administration authorities and other resource constraints. These issues raise concern on whether the playing field is level when viewed in the context of developed and developing country perspectives.

From the extant literature, African countries have moved towards finding their own ways to tax digital income. Some have introduced new direct digital taxes that are akin to corporate tax rates (Tunisia, Zimbabwe, Kenya, and Nigeria) (Becker 2021), others have used withholding taxes while others have expanded their consumption taxes or VAT regimes (Zimbabwe, South Africa) (Simbarashe 2020). These methods are not without their fair share of challenges and shortcomings. Firstly, with direct taxes, the difficulty lies in the establishment of the taxable nexus in accordance with the existing international tax laws. For example, the physical permanent establishment or the adequate physical presence. Secondly, digital MNEs such as Amazon, Facebook, Netflix, YouTube, and Twitter can engage in aggressive BEPS due to the mobility and intangibility of their assets. With the shift of the economy from the brick-and-mortar nature of businesses to the novel digital commercialization, BEPS is likely to broaden. Africa must find a suitable and efficient way to tax the digital economy.

Taxation of the digital economy remains explored to a limited extent due to its infancy. While some studies have focused on the need to tax the digital economy (de Lima Carvalho 2020; Ismail 2020; Schiavone Panni 2019) and some on the challenges of taxing the economy (Gulkova et al. 2019; Ndajiwo 2020; Saint-Amans 2017; Turina 2020), the methods of taxing the digital economy both direct and indirect remain comparatively unassessed. This paper focuses on the use of indirect or consumption taxes to tax the digital economy, the possibilities of effective revenue mobilization, constraints, and other associated ramifications. This study makes two vital contributions. Firstly, to the academic body of knowledge and literature on the taxation of the digital economy in general and specifically to using VAT to mobilize revenue from this economy. As highlighted previously, there is a paucity of literature that evaluates taxation of the digital of the economy using VAT in Africa. This study gives a comprehensive insight into the VAT legislation and administration that is still in its nascent stages of development and implementation in the digital economy in Africa. While Simbarashe (2020) gave an overview of the VAT legislation adopted by African countries in response to the growth of the digital economy, the authors did not conceptually analyze the practicability of administering the regulations, and the possible constraints and implications that can be encountered. Secondly, through a conceptual analysis of the VAT legislation and its applicability to the digital economy and by unpacking the likely pros and cons of VAT administration in this economy, the paper makes a practical contribution to policy formulation. Taxation is not only about collecting revenue but also about driving growth in the economy, encourage usage of goods and services as well stimulating international trade and investments. Therefore, by unpacking the key strengths of the VAT policy, the legislative shortcomings and possible areas of improvement, this paper helps inform future VAT policy amendments and new policy designs in African countries.

This paper found out that the VAT legislation with respect to taxing the digital economy was not fully developed in most African countries and that in some cases key terms and provisions of the VAT Acts were not clearly explained. The paper also found out that VAT is a cost that increases the prices of digital services and products, thus unfavorably affecting their usage. For example, if VAT is levied on services such as mobile money services, internet data, mobile phones and other digital products, this would affect usage, profitability of companies, corporate tax revenue, digital financial inclusion, and the fruition of the SDGs.

Having given the background of the conceptual analysis in this section, the next section explains the methodology employed to gather relevant literature upon which the evaluative review was conducted to generate insights on VAT administration in the digital economy, the possible opportunities, challenges, and implications associated with the VAT legislation enforcement. Section 3 covers the conceptual analysis conducted to unpack and analyze the VAT regulation in Africa's digital economy by focusing on selected African counties. Section 4 articulates the implications and recommendations for future VAT policy construction and amendments in relation to the digital economy. Section 5 gives the conclusion, recommendations, limitations, and areas of further research.

#### **2. Review Methodology**

This article discusses the use of consumption taxes to mobilize revenue from the digital economy in Africa, mainly focusing on VAT. A critical qualitative literature review approach was adopted. The researcher conducted an evaluative analysis and interpretive critique of legislation documents, policy briefs and other previous literature to conceptualize the views of various researchers in relation VAT legislation in the digital economy. The researcher sought to give an analysis on the VAT regulation, the possible benefits, and challenges as well as implications of tax revenue mobilization in the digital economy using VAT in Africa. As proclaimed by Snyder (2019), a critical review of the literature enables researchers to gather relevant literature, discuss it, appraise, comment on it, and synthesize it. This equips researchers to give a comprehensive picture of the subject area. A critical literature review aids researchers in drawing out divergent and converging views on the subject area as well as identify research gaps, policy gaps and methodological gaps that could be explored further by future researchers (Mpofu 2021b; Paré et al. 2015; Snyder 2019). In evaluating the literature, the researcher in this case was able to draw out controversial areas such as the ambiguities in definitions such as place of supply and electronic services in the VAT legislation.

The researcher reviewed documentation on the VAT legislation towards taxing the digital economy in African countries. The documentation reviewed includes VAT Acts from the different African countries, especially those that have put the VAT legislation in place to tax the digital economy (Zimbabwe, South Africa, Angola, and Cameroon, among others). The article also assessed policy briefs released by accounting firms such as Deloitte, PWC and KPMG, among others, on VAT legislation on digital services. These were complemented by an examination of documents from tax bodies such as ATAF, developmental bodies such as the OECD and working papers from developmental research bodies such as the Institute of Development Studies (IDS) and the International Centre of Tax and the Development (ICTD) and other similar bodies. This was in addition to the review of previous studies on the taxation of the digital economy using indirect taxes, consumption taxes or VAT in Africa. The literature search was carried out through the Google scholar search engine. The search provided only a few papers, with most of them focusing on South Africa, which has been taxing the digital economy since 2014 using VAT legislation. To buttress the literature, the researcher used forward and backward snowballing to search for the more recent and previous works of the authors of the relevant articles, respectively. This yielded a few other articles. In total, 55 articles were reviewed. Therefore, to increase the diversity of the sources and make the review more meaningful, the researcher used a combination of the resources mentioned above (peer reviewed journal articles, policy briefs, working papers from development bodies and discussion papers from accounting firms). This was to overcome the limitation of the scarcity in literature linked the novel nature of the issue of taxing the digital economy in Africa. Data were reviewed until the saturation point was achieved, this being the point where further reviewing did not reveal any novel information other than what was already established (Sebele-Mpofu 2020b).

Thematic analysis was employed to present and discuss the findings of review. This was in line with the advantages of thematic analysis expounded by Braun and Clarke (2006, 2019). Data were presented in accordance with the key focal objects of the research, that is, the possibilities, constraints, and possible implications of the use of consumption taxes (VAT) to tax the digital economy. The main themes were further split into subthemes guided by the facts that emerged from the review. Accordingly, sources used were also referenced both in-text and in the reference list to enhance the traceability, confirmability, and trustworthiness of the research.

#### **3. VAT Administration on the Digital Economy in Africa**

This section presents a conceptual analysis based on an evaluative review of the literature on VAT administration and taxing the digital economy in Africa, focusing on opportunities, constraints, and implications. The sections guiding the analysis focus on VAT legislation, possibilities of mobilizing revenue from the digital economy using VAT and the challenges to effective VAT administration in the digital economy as well as the implications of levying VAT on digital transactions.

## *3.1. Consumption Taxes and Digital Economy Taxation*

The broadening of the VAT legislation, especially the term 'electronic services', included anything ranging from software to advertising. As an output from the Global Forum on VAT set by the OECD in 2012, in September 2016 the OECD released guidelines to help countries to curb tax avoidance in the digital sector (Deloitte 2020b). These guidelines incorporated the destination principle to make non-residents service providers in market jurisdictions (country where consumers or users of the digital services are) liable for VAT in the market jurisdictions. Foreign digital service providers were obliged to register for VAT or appoint to registered domestic representative to do so on their behalf; this makes tax compliance and enforcement problematic (TaxWatch 2021).

VAT is normally referred to as a destination-based or consumption tax chargeable on a consumer. VAT is a broad-based tax levied on the consumption of goods and services (Beebeejaun 2020; Kruger and Moss-Holdstock 2014; Rooi 2015). The seller is the one who normally collects the tax. VAT is often applied on the price. VAT is a major fountain of tax revenue for most governments globally. In Africa, VAT is argued to contribute approximately 30% of national revenues (TaxWatch 2021).

The characteristics of VAT include: (1) Applicable to transactions on or the supply of goods and services; (2) calculated as a proportion of the price charged for the sale of goods; (3) chargeable at each stage of production or distribution; and (4) input tax (VAT) can be claimed. The mechanics of VAT computation are such that businesses can claim input tax that they have incurred in making taxable supplies (Lowry 2019; Russo 2019). For example, a company that sells clothing adds VAT/Goods and Services Tax (GST) to the prices of the clothes they manufacture and sell (output VAT). The company also buys a car for its sales and distribution. The purchase of the car would attract VAT (input VAT). Therefore, to arrive at the VAT payable or refundable the calculation is as follows: Output VAT-Input VAT = VAT payable or refundable.

Therefore, having explained the mechanics of VAT, the next sections look at the use of VAT in mobilizing revenue from the digital economy in international forum (briefly) (Section 3.1.1) and in Africa (Section 3.2).

3.1.1. The Application of VAT Regulation in the Digital Economy and the International Tax Platform

The unprecedented growth in digital activities globally motivated countries and international development bodies and tax bodies to explore possible ways to tap tax revenues from this novel economy. One such possible approach was the application of VAT legislation to the digital economy. Debates surround the adequacy and effectiveness of VAT regulation in fostering tax compliance and productive revenue mobilization at minimal administration and compliance costs. In most countries, VAT was never levied on digital transactions due to the absence of physical presence, hence significant revenues were being lost. This placed domestic companies supplying electronic services in an unfavorable position, since in incorporating the legal obligation to charge VAT to their consumers, their prices increased (Beebeejaun 2020; Lowry 2019; Munoz et al. 2022). Furthermore, the disadvantaged position was compounded by the registration and administration burdens, the VAT assessment, collection, and remittance costs as well as filling procedures. The OECD taskforce made recommendations to guide countries to build a fair and level taxation playing field and to protect the individual countries' ability to levy VAT. Four ways of

collecting VAT are recommended. Firstly, the traditional VAT collection approach, where the assessment for VAT is carried out at the border. Secondly, the vendor collection method, whereby non-resident foreign companies are responsible for the imposition, collection, and remittance of VAT to the market jurisdiction (destination principle). Thirdly, the intermediary collection method, that is, using intermediaries to collect VAT on behalf. Lastly, the reverse charge mechanism (Beebeejaun 2020). The destination principle which is adopted by most countries (South Africa, Mauritius, Indonesia, Kenya, Zimbabwe, and Cameroon) is argued to provide certainty and predictability in revenue mobilization through VAT.
