Tax Reform in Sri Lanka

Sri Lanka stands at a crucial stage in a programme of stabilisation and adjustment which started in the late 1980s. Fiscal pressures are severe with government revenue around 21% and expenditures around 31% of GDP in 1990 and 1991 (although expenditure has been reduced to around 28% in 1992, largely through cuts on the capital side). A programme of fiscal adjustment would seem to require both a substantial decrease in expenditure and a substantial increase in revenue. The purpose of the paper is to describe possible sources of revenue expansion, in part by drawing on international comparisons. Sri Lanka's direct taxes contribute very weakly, as a fraction of both GDP and revenue, relative to other countries. Expansion of the personal income tax could provide a major contribution to extra revenue. Advance on corporate tax tevenue will depend on the closing of loopholes from exemptions and holidays which have proliferated. The VAT previously announced for April 1994 (now postponed to April 1995) would be a positive development but cannot by itself be expected to raise the extra revenue which appears necessary, and indeed will have to be well administered to replace revenue from existing turnover taxes. The introduction of the VAT, if well-planned, can help in the collection of the personal income tax.