Income Tax Change a Reform Worth Getting Right

Income Tax Change a Reform Worth Getting Right

Aug 30 , 2025. By Mulay W. Asegahegn ( Mulay W. Asegahegn is an economist by training and conducted his postgraduate studies in applied economic modelling and forecasting, with a specialisation in fiscal policy analysis, at Addis Abeba University. )

Ethiopia has quietly revised its corporate tax laws, transitioning from annual to quarterly payments. The new rules, modelled on systems used in Kenya, Tanzania, and Rwanda, mean companies should now remit profit taxes every three months. Parliament has dubbed this “advance tax,” but the mechanics differ from the pay-as-you-earn models seen in countries like India, argued Mulay Weldu Asegehegn (asegehegn@gmail.com), head of the tax policy department at the Ministry of Finance.

Ethiopia has introduced a new system for collecting business income tax, whereby businesses are required to pay their liability in four instalments, on a quarterly basis. This amended new income tax law scraps the decades-old practice of settling the business income tax liability after the company auditor signs off for the tax year. Instead, businesses are required to pay every three months, based on the previous year's tax liability, which is then reconciled by the end of the tax year.  This has been widely implemented across many countries, including Kenya, Tanzania, and Rwanda, as well as in markets such as South Africa, where corporations remit payments every two months.

Across Asia, the pattern is similar. Businesses in India and Singapore settle their profit tax every quarter, while in Japan, businesses settle their business tax liabilities every two months. In China and Indonesia, businesses prefer monthly instalments. In Latin America, Brazil allows bi-monthly estimates or quarterly true-ups, while Mexico and Chile collect monthly pre-payments, and Colombia breaks the charge into five instalments. The principle is clear. When profits flow steadily, so should public revenue.

Parliament, borrowing terminology from India, christened the fresh rule "advance tax." The label is slippery. In New Delhi, advance tax literally means paying the state before income is recorded in the cash register. Ethiopia’s model is different. Money changes hands after, not before, profits are earned, and the sum due is calculated on actual or reasonably projected quarterly results.

What Ethiopia has adopted is an estimated tax, not an advance on one's own or out-of-pocket income before business activity.

A sharper comparison lies in PAYE, the system that scoops income tax from employees' wages the moment they are earned. Workers hand over the government's cut every month. Under Ethiopia's revised legislation, businesses still can retain the state's share of profits for up to 90 days without incurring interest. That benefit is more than theoretical. If employees were offered the same grace period, many would likely deposit the withheld cash into a savings account and earn the interest. Instead, the burden falls unevenly. Labour pays immediately, and capital later.

Because the mechanism is built on estimates, the final reconciliation is still done after the tax year closes. A company may overshoot its target during the year and claim a refund, or fall short and top up the balance. However, the quarterly tax payment deposits money into the treasury in near real-time, thereby narrowing the gap between economic activity and fiscal inflow. Under the old annual arrangement, the Ministry of Finance routinely resorted to overdrafts from the National Bank of Ethiopia (NBE) to bridge cash shortfalls.

Central bank credit fanned inflation and crowded out private borrowing. Quarterly receipts should reduce that pressure. However, the benefits are not confined to the public ledger.

The U.S. Internal Revenue Service (IRS) reminds taxpayers that “Having enough tax withheld or making quarterly estimated tax payments during the year can help you avoid problems at tax time.” Hopefully, local businesses will quickly absorb that lesson. Smaller and more frequent payments reduce the likelihood of a year-end cash crunch, when principal, interest, and penalties can accumulate. The practice also forces management to keep a close eye on margins and cash flow throughout the year rather than sprinting to compile books before the fiscal deadline.

Critics argue that the banking industry is too sluggish to keep pace with the faster tax clock. They argue that allowing companies to postpone payment acts as a liquidity buffer at zero cost, one that the government can afford while lenders learn to move faster. The analogy is tempting but flawed.

Using tax deferral as ersatz working capital turns the state into a source of subsidised credit and undermines fiscal discipline. It also blurs the lines between tax policy and monetary stimulus, risking procyclical swings in demand.

Liquidity shortfalls, when they occur, should be addressed where they belong, in the banking hall, not the tax office. Strengthening credit channels and trimming bureaucratic frictions will help companies finance expansion without leaning on delayed tax payments. In the meantime, paying tax as profits are earned brings Ethiopia a step closer to fiscal maturity and in line with the practice in other countries.

The healthier fix is to accelerate financial sector reform. The government is already trying to modernise payment infrastructure, raise capital requirements and invite new entrants. Efficient banks should be able to evaluate credit risk promptly and supply short-term loans when sales dip or inventory builds up. Once credit markets function, the rationale for tax leniency evaporates.

Quarterly revenue, meanwhile, enables the public sector to plan effectively. Predictable inflows allow the government to sequence outlays on roads, power lines and health clinics without relying on costly bridge financing. By trimming the state’s appetite for domestic borrowing, the policy frees up deposit-funded resources for private enterprises, easing the crowding-out that has long plagued domestic borrowers. Lower inflation pressure strengthens purchasing power and stabilises the macroeconomic backdrop in which companies operate.

From the taxpayer’s perspective, the quarterly system can even produce modest savings. A firm that would otherwise confront a large bill 12 months after profits accrue can spread the cash outflow over four dates, shrinking the cumulative interest it might have had to pay on a bank loan or overdraft arranged to meet the year-end obligation. The shift also reduces the temptation to massage fourth-quarter accounts in hopes of deferring a liability, thereby improving the integrity of financial reporting.

Nonetheless, terminology still matters. Branding this particular measure as an “advance tax” implies, somewhat wrongly, that the state is grabbing cash before it is earned and that companies are victims of fiscal overreach. The reality is the opposite. Taxes now follow profits more closely than before, but do not preempt them. Precision in language underpins precision in policy. Legislators would be better served by the plainer American phrase, “estimated quarterly tax.”

The virtue of the new profit tax framework is balance. The government secures a steady revenue stream without relying on money printing or advance payment from the National Bank of Ethiopia, and businesses avoid a punishing lump sum debit. The arrangement ties tax liability to the rhythm of commerce, sustaining a healthier cash cycle on both sides of the ledger. Policymakers have not invented anything novel. They are merely adopting a timetable that much of the world has used for decades.

Quarterly estimated payments are, therefore, a fair shake for both the treasury and the private sector. They curb inflation risk, reduce the crowding out of investment, and encourage firms to maintain continuous fiscal prudence. All that is required now is clarity of terminology and steadfast execution. The policy decision to compel businesses to pay as they earn, rather than paying long after the event, is a reform worth getting right.

PUBLISHED ON Aug 30,2025 [ VOL 26 , NO 1322]