By: Kinyanjui Mungai and Albert van der Linden
Historically, low-income consumers in emerging economies often perceive banking services as too expensive. As a result, these consumers opt out of using formal financial services, preferring informal alternatives instead. However, we have seen an increasing proportion of lower-income consumers opening financial accounts through mobile money operators. This more diverse pool of financially included customers, through the addition of mobile customers, has meant that the sensitivity of financial services to price changes has begun to shift. Therefore, any regulatory changes affecting the price of financial services are far more notable than before and should be more carefully considered.
During the COVID-19 pandemic, different policy actions to encourage the use of digital payments have led unbanked customers to adopt digital payments services. For instance, in Rwanda, the National Bank of Rwanda’s (NBR) decision to remove fees on digital person–to-person (P2P) transfers, as well as merchant payments, led to the rapid adoption and use of digital payments.
African tax authorities are considering new ways to fund fiscal expenditures put on hold due to COVID-19. The increased market size, volumes, and values of digitalised transactions make them a potential and attractive source for tax revenue.
However, in the era of digital transformation, can governments afford the developmental impact of taxing digital payments without reversing the digitalisation successes achieved during the pandemic?
Sub-Saharan Africa (SSA) has low tax to GDP ratios (15.6%) relative to Europe (24%), North America (24.2%) and Eastern European countries (18.6%) (GSMA, 2020). As a result, the effectiveness of the public sector in SSA remains constrained as economic needs far outweigh domestic resources. To make matters worse, COVID-19 has derailed the economic development trajectory of many countries. Moody’s indicates the current debt burden in SSA is around 64% of GDP and is not expected to reduce in the near to medium term due to weak revenue generation capacity (Moody’s, 2021). Taxing digital payments presents a convenient channel for tax collection but with potentially longer-term detrimental development outcomes. The impact of the taxation may disincentivise mobile money customers, who tend to be lower-income consumers, from using digital payments.
Despite the benefits that could accrue to the disadvantaged communities through increased inclusive government expenditure, there is a risk of reversing the digitisation of payments that is being recognised. For instance, in Malawi, the proposed mobile money tax bill was not passed into law due to heavy critique by industry and the consumer association, citing that the policy would counter financial inclusion gains and drive consumers back to cash. Another risk posed by a digital payments tax proposal is a rise in the cost of providing financial services if providers are forced to absorb the costs. For instance, in Cote d’Ivoire, digital payment providers were forced to absorb mobile money taxation costs as consumer associations cited that less than 20% of consumers in Cote d’Ivoire had a financial account. Even in this instance, there is no guarantee that financial services providers may not find alternative, less direct ways of pushing costs onto customers.
Mobile money is a valuable entry point into financial services for lower-income consumers. This leads to a shift in the price sensitivity of demand for digital payments as more lower-income customers form part of the market. From our transaction-level analysis of mobile money data in Rwanda in 2020, we have concluded that low-income customers are highly price-sensitive to fee changes in Rwanda (Carboni and Bester, 2020). In a society where cash is a strong substitute for digital payments, mobile money users are highly sensitive to the fact of the fee, not just the value of the fee. The reason is that consumers incur no or very little cost to use cash, as opposed to using digital financial services. Therefore, increasingly, the relative cost of digital financial services will reverse financial inclusion gains.
Furthermore, the taxation of digital payments can break the trust of consumers if it is not communicated and understood effectively. There have been key issues around communication, the lack of strict adherence to the policymaking processes, and a lack of consultation with consumer associations that have created a strong mistrust of government and, in some instances, proved to deter customers from using digital payments completely (ICTD, 2021; GSMA, 2020). For example, in Uganda, customers were essentially taxed four times: for depositing funds, sending funds, receiving funds, and withdrawing funds. Customers responded by reverting to cash; digital P2P values fell by more than 50%. After widespread backlash, Uganda’s authorities reduced the taxation rate and only charged it on withdrawals. To maintain trust and tax morale, tax authorities should ensure that they apply an appropriate tax measure and consult with the market as well as consumer associations.
The development community should consider practical ways of supporting tax regulators in this process with data. Aggregate data on digital payments is not sufficient to make decisions on how taxes could potentially affect different use cases as well as consumer and merchant segments. A key opportunity exists to support policymakers and regulators to use record level transaction data to explore some of the questions that tax authorities may have on the development impact of digital payments and the key dependencies that need to be considered when evaluating the feasibility of digital payments taxation.
To assess the key opportunities for driving the digitalisation of payments, the Government of Rwanda, funded by the Mastercard Foundation, has launched a programme aimed at digitalising payments in Rwanda. Commissioned by the Government of Rwanda, Cenfri will analyse public and market data held at public institutions to explore questions on how to catalyse the digitisation of payments as well as where the key opportunities to drive digitalisation in the Rwandan market are.