Commercial banks find themselves in a quagmire following the implementation of the new Value Added Tax (VAT) Proclamation, ratified in July 2024. Confusion has permeated the sector as tax authorities demanded back taxes, interest, and penalties from banks for the past four months, causing tensions between financial institutions and senior officials from high-income taxpayers’ district offices.

Ministry of Revenues is pressing banks to comply with VAT remittances retroactively, backdating to the proclamation's enactment by Parliament. Alarmed banking executives warn that this abrupt enforcement could impose marked financial strain on the industry.

Under Abie Sano’s leadership who also heads the Commercial Bank of Ethiopia (CBE), the Ethiopian Bankers’ Association (EBA), has appealed to the Ministries of Revenue and Finance. They request formal instructions be sent to district tax offices affirming October 1, 2024, a start date for VAT collections. The letter indicates the date was agreed upon in September meetings between financial sector leaders and government officials, intended to give banks time to prepare and comply.

However, no official directive materialised from the Ministry of Payments following the discussions, leading to confusion among banks that initiated VAT compliance only after deploying the necessary systems in October.

"Commercial banks are hoping tax officials will acknowledge the complexities involved in retroactive obligations," said Demessew Kassa, secretary general of the Association. He noted that the law should apply only from its publication in the Negarit Gazette.

"This brings the applicability of the law into question," he said.

The July Proclamation aims to enrich government revenues by applying VAT to new areas of banking, including digital services such as ATM, POS, online transfers, and certain import-export charges.

The retroactive taxation sparks industry-wide debate. Yared Fekade, director of the tax declaration monitoring directorate at the Ministry, noted that the law is effective upon parliamentary ratification unless instructed otherwise by the Ministry of Finance.

"We are simply enforcing the law as it stands," he said, acknowledging that undeclared taxes attract penalties, interest, and administrative fees each month.

The federal government’s recent tax strategy targets increased VAT collections to raise Ethiopia's tax-to-GDP ratio by 0.5pc, aligning with a broader tax reform plan in partnership with the International Monetary Fund (IMF). A July agreement with the IMF includes goals to raise the tax-to-GDP ratio by four percentage points by 2027/28, relying on reforms to VAT systems and other measures. This year’s tax collection target has risen to 851 billion Br, with 487.22 billion Br expected from domestic sources, including 170 million Br from VAT collections.

Financial officials within the Finance Ministry expressed understanding of banks’ concerns but clarified that only the Council of Ministers can waive VAT requirements. However, interest and administrative penalties could be considered for reduction by both finance and revenue ministries.

According to Abraham Arega, tax policy advisor at the Ministry, the law is binding upon ratification.