There seems to be a lot to explain about the four Tax Reform Bills now before the National Assembly. Though it is desirable to straighten and streamline the tax regime in Nigeria to remove redundant and obsolete tax laws and eliminate duplication of taxes, there is, however, a need to explain to Nigerians the idea of sharing revenue generated from Value Added Tax (VAT), using the derivation principle as proposed by the committee chaired by Taiwo Oyedele.
Responding to allegations of opaqueness associated with his proposal on the sharing of VAT proceeds, Oyedele, on his X handled said the new VAT regime would be shared using the derivation principle. He said: “The proposed derivation model is contained under S.22 (12) of the Nigeria Tax Administration Bill which states that “For the purpose of attribution, any return under this section shall provide details of the derivation of taxable supplies by location …” According to Oyedele, “the current formula for sharing VAT among states is based on 20% derivation, 50% equality and 30% population. The tax reform proposes a different model of derivation which will attribute VAT to the place of supply and consumption rather than the current model which attributes VAT to the state where it is remitted thereby favouring states with company headquarters. Further, derivation under the new model will account for 60% of VAT distribution for better equity and to discourage any state from seeking to administer VAT as a state tax, which will not only result in much lower revenue for all tiers of government but will impose a higher burden on businesses.”
As Oyedele stated, the derivation model, according to tax administrators, would favour the domiciled address of businesses and corporations. This indicates that the VAT proceeds would be shared based on the domiciled operational address of the company generating the revenue irrespective of where the sales took place. According to experts in taxation, the derivation principle indicates that the state where the income is sourced or derived should have the primary right to tax that income. For instance, if VAT is generated from the consumption of dairy products, states where such economic activity is generated from ought to have the right to VAT from the consumption of the products. This also suggests that the sharing formula would give more VAT revenue to the tax address where the diary company is domiciled.
For laypeople, the principle of derivation in tax administration suggests that the state where the economic activity takes place, where the value is created, or where the income is earned should have the power to tax that income. In other words, the principle puts more powers in the hands of states where the economic activity that led to the generation of the VAT revenue, to have and to hold the VAT revenue. This is the understanding that governs the principle of derivation in tax matters. This may not be the intendment of the reforms or the Oyedele committee. However, it is the understanding that has fuelled the opposition to the bills by state governors and the National Economic Council (NEC). This is because there is fear that VAT revenue from the consumption of alcohol, for instance, would be administered more to the benefit of states that host alcohol production companies.
This taxation principle is contrasted against the principle of attribution to the area of collection which advocates sharing VAT revenues to the specific geographic area or state where the tax was generated or collected. This suggests that VAT should be shared based on where the income was generated. In other words, local areas that contribute more to the VAT purse would benefit more. This principle is discussed extensively by Richard Musgrave in ‘The Theory of Public Finance; (1959), and Wallace Oates in ‘Fiscal Federalism’ (1972). These scholars are unequivocal in their summations that the tax attribution to the area of collection principle is best to drive economic development and growth. According to them, tax attribution to the area of collection ensures that local governments receive the tax revenues they need to fund services and infrastructure. They also argue that with this policy, local governments can generate income to support local economic development initiatives and promote business growth.
There is a feeling that most Nigerians will vote for VAT revenue sharing based on attribution to the area of collection if subjected to a referendum against the principle of derivation because the goal of tax attribution to the area of collection is to ensure that the tax revenues are allocated to the area where the economic activity took place, and where the tax was collected. This approach is based on the principle that the tax revenues should be used to benefit the local community where the tax was generated. This has more advantages with regards to the development and growth of the economies of Nigeria’s states and local governments as VAT would be directly contributing to the local community where the business is conducted. This option is tempting and should be most desirable.
The opposition to the tax reforms is mounting on the suspicion that VAT administration, once reworked, under the derivation model, will be to the favour of states in the productive enterprise. This is why Alhaji Musa Kwankwaso derisively, described it as an effort to colonize the north. He had said: “Today, we are aware that the Lagos young men are working so hard to impose taxes and take away our taxes from Kano and this part of the country to Lagos. Today, as we have seen, even the telephones that we make or register here in Kano, efforts are there to take all the taxes to Lagos. Even our sons and daughters who have brought factories many of them here in Kano and northern Nigeria and even banks, somehow, they are forced to take their headquarters to Lagos because taxes will now have to go to Lagos.”
The fact, however, is that Kwankwaso has only but pointedly spoken to the fears of most Nigerians over the VAT reforms, to the extent that the derivation principle is applied. And, the general fear that if approved as it is, the principle of derivation will drive VAT allocations more to states hosting the headquarters of the business irrespective of where the consumption took place. Perhaps, the Oyedele committee would have to explain why it avoided using the principle of attribution to the area of collection in the sharing of VAT proceeds in the reforms it proposed to the government and insisted on the principle of derivation despite the obvious flaws.