How KRA staggered into tax hole chasing easy alcohol revenue

When Kenya chose to change taxation of alcoholic products from ad valorem rates (based on the sales price) to hinge it on volumes produced in 2015, there were high hopes that a soft tax target had been discovered.
Treasury had seen an easy revenue source with increasing alcohol consumption, and took advantage to keep pushing them up without much noise.

Since then, tax on alcohol has been increased with introduction of inflation to excise since August 2018 when a 5.2 per cent adjustment was made. A similar addition was loaded onto the price of beer in October 2019.

For alcoholic spirit, which changed to Sh200 per litre in 2015, adjustments of 5.2 per cent in both 2018 and 2019 was followed by yet another 14.8 per cent inflation rate in October 2019 and this is where the rains started beating the taxman.

ENFORCE COLLECTION

To enforce collection, the Kenya Revenue Authority put import of ethanol (a key component in distilleries) under very tight controls, increasing its excise taxes to Sh200 per litre (even higher than the East African neighbours such as Uganda Sh2 (Ush60) and Tanzania’s zero per cent. Production costs kept soaring and so was the price of drinks.

Consumers of alcohol had to change fast. They either had to find a cheaper option or dig deeper into their pockets to enjoy their favourite tipple.

Manufacturers were also torn between absorbing the taxes and keeping their clients happy while making losses or finding them cheaper alternatives.

While genuine makers struggled to stay afloat and keep paying taxes, and sourcing raw materials from official channels, heightened taxes, tight regulations and the resulting high production costs opened a multibillion shilling corruption and tax evasion loophole. One that has proved hard to seal.

The disconnect has kept underhand dealings in alcohol in Kenya a powerful machinery which KRA has found itself deeply entangled into with some of its officers said to be involved.

The sensitive Kenyan market where consumers look at the price has given the dark market good business from which KRA cannot harvest a single cent.

According to Association of Beverages Association of Kenya (ABAK) Chairman Gordon Mutugi , the taxman will find it difficult to address the menace through the compliance approach without looking at the market fundamentals.

AFFORDABLE ALCOHOL

“We have maintained as an industry that there is a disconnect between the market and the government policies around the industry. Consumers want quality affordable alcohol yet year in, tax policies and such advisory on pricing are driving quantities and cost high. Unfortunately, it is impossible for one agency to be present in over 30,000 outlets to monitor compliance,” Mr Mutugi said.

While KRA licensed more than two hundred manufacturers and registered importers of alcoholic beverages, tens of others have continued to exist in estates and far-flung towns, distilling liquor from smuggled ethanol and using fake stamps to sell the products without paying their pound of flesh.

Registered manufacturers have also joined the club to avoid being outfoxed. Porous borders have ensured lots of ethanol find its way into the local market and used to produce licensed brands which are then sealed with fake excise stamps, denying KRA customs, excise and income taxes running into billions of shillings per year.

Unscrupulous manufactures have turned the industry into a largely illegal empire with those struggling to comply being undercut by firms selling liquor in illegal packaging and below basic production costs.

KRA whose officers have been on the spot for abetting tax evasion through poor market surveillance did not respond to our queries despite multiple follow ups as we sought to know how the widening tax loophole was being narrowed. Communication managers went mute after promising to get back.

The tax man which installed a Sh17 billion Excisable Goods Management System (EGMS) from Swiss multinational, SICPA Securities Solutions recently changed the stamps being used on alcohol products but the market is still awash with drinks bearing the old ones.

FAKE EXCISE STAMPS
A widely publicised mobile application dubbed soma label to distinguish between genuine and fake excise stamps in 2016 to enable anyone to be able to flag out the fake stamps on alcohol and cigarettes, has also failed to work in multiple occasions, leaving other law enforcement agencies helpless when suspected counterfeit stamps are impounded.

Insiders are said to have engineered its failure to give the largely compromised market surveillance team the monopoly of telling which stamp is fake and which one is genuine.

To address the menace, it had created in the liquor industry, KRA chose the easy route. One was an attempt to have alcohol prices controlled to weed out illicit distillers, a move that fell flat last year when the Competition Authority of Kenya cited illegality that would see the taxman set the least price which is against competition laws.

The market watchdog told Smart Company that it would continue to engage KRA on the matter after writing to express the illegality in the attempted set of minimum prices.

“The Competition Authority of Kenya communicated with the KRA through normal government communication channels and we shall continue engaging them if need be.

Effective competition is always and should always be determined by allowing the forces of supply and demand to signal the optimal market price,” CAK director general Wang’ombe Kariuki replied to follow up queries on how the matter over price control for alcohol was concluded.

Critics of the KRA move to try and control prices to tame illegal distillers smuggling the raw material say the taxman failed to control one loophole of ethanol smuggling and was seeking the easy way of enforcing a price of the end product.

The move essentially means that KRA which is present in all border points where the fake stamps also pass through decided to focus on the more complicated and expansive market in trying to salvage the situation which is estimated to be bleeding billions every year.

TAX EVADERS

KRA would, however, find it easy to flag tax evaders using the minimum cost structure given that Kenya has set up a minimum packaging for spirits. The cost of an empty bottle, the label, stamp, the spirit, excise duty and additional labour and electricity costs takes the smallest bottle Sh128 to produce making those selling the same at less than Sh100 candidates for tax evasion checks.

The only traceable component of the industry is the importation of empty bottles mostly sourced from a company based in Oman and another in Tanzania. A source within the industry intimated to Smart Company that KRA was trailing over two million bottles which entered the country recently and whose whereabouts have remained a mystery.

For makeshift distillers though, recycled bottles make a good bet with a network of collectors starting from street boys well spread across major cities and which end up in the firms to be refilled.
Those using fake stamps have found a safe haven in markets outside Nairobi where they sell freely in small wines and spirit shops undeterred. So bold are some producers that they sell the spirits in illegal quantities like 205 millimetres instead of the legal minimum of 250 ml.

Efforts to reach one such manufacture based in Nairobi’s Industrial area Road A were not successful as the firm promised to send us feedback but had not done so by the time of going to press. The distiller had promised to reply to our email inquiring whether it was packaging its Jambo spirits below the 250ml against the law.

ILLICIT DEALERS

Those in the know about the operations of the alcohol tax evasion cartel say distillers have built separate production lines that lack the KRA stamp fixing machines.

Others use the genuine stamps in the morning when the KRA market surveillance teams are known to visit and then change to the fake stamps in the afternoon and most of the night with the genuine stamped spirits sold around Nairobi while the rest are disposed o in other regions such as Nakuru, Molo, Meru and Machakos.

The distillers are also said to be paying weekly bribes to the market surveillance officers making the genuine manufacturers who report them to KRA the enemies within.

“If you report them to KRA, you become the target. Your products are impounded in the market and dealers are made to fear stocking your brand, effectively pushing you out,” one distiller confided anonymously for obvious reasons.

The illicit dealers also sell cheaply in what continues to undercut the genuine dealers, reducing their sales and the income taxes they remit to KRA.

At the border points, Kenyan alcohol has no market. Either the consumers cross the border to drink in the neighbouring countries or the dealers smuggle the drinks into the country to sell them at about Sh150 cheaper.

What was meant to be an assured tax yield has turned out to be a huge tax evasion loophole that will take KRA years of planning and sobriety to save the government from the staggering loss of revenue from one of the easiest tax heads.