“There is no Urgency To Change The Incentive Policy.”

Mulugeta Beyene
Director, Manufacturers & Duty Free Support, ERCA

Ethiopia offers financial incentives such as tax reductions and holidays, as well as custom duty exemptions to companies engaged especially in manufacturing activities. But incentives are given and monitored in a scattered and uncoordinated manner. To address the issue, the Ethiopian Revenues and Customs Authority (ERCA) is currently establishing a directorate that will follow up and monitor the proper use of incentives, which have been exposed to abuse. EBR’s Ashenafi Endale sat down with Mulugeta Beyene, director of the newly established Manufacturers and Duty Free Support Directorate at ERCA to learn more about the government’s plans to enforce proper usage of incentives.

EBR: What are the major incentives provided to businesses?
Mulugeta: One way of supporting investors is by offering duty drawback. This method allows exporters to recover the duty they paid while importing raw materials immediately after they export their final product.
The other is the voucher scheme. Under this mechanism, companies that fulfill certain criteria can import raw materials after registration, without paying taxes. These companies, however, are expected to export their products within a year. In case they encounter issues outside their control, which prevent them from exporting within that time, the law allows them an additional year. If they fail to export within the extended time frame, the company will have to pay the tax, plus an additional penalty.

Under the bonded export factory scheme, the factory is secured by ERCA, until the company exports the items it produces with duty-free imported raw materials. On the other hand, in the bonded warehouse scheme duty-free raw materials will be stored, without payment of duty, until they are sold to companies that export the final product.

What are the incentives provided for non-exporting businesses?
The government provides second-schedule incentives. They give import privileges to businesses that produce items that substitute imported products. Custom duty exemption is also given to investors engaged in agro-processing and construction, whether they export or not.

The other type of incentive is tax holiday, especially for investments in the agriculture sector. The extent of this incentive depends on the location of investments. For instance, investment projects in remote areas receive higher incentives than projects in the center of the country. Investors also get priority when accessing loans.
Another fundamental incentive that gives businesses the biggest competitive edge is the quality and on-time delivery of services from government institutions. The single-window-service installed in various industrial parks can be mentioned in this regard.

But there are companies engaged in the production of goods which substitute imports that pay duties when they import raw materials.

Businesses involved in the production of goods locally that substitute imported commodities and receive second-schedule incentive enjoy customs duty exemptions of 30Pct or more when importing raw materials. This means they have to pay some duty. Exporters, on the other hand, import raw materials duty free. This is because Ethiopia has to increase and diversify the country’s exports. But we also need to give due attention to import substitution.

We have seen products that are imported duty free being sold on the local market. What are the reasons?
There are circumstances under which manufacturers can sell export-destined products on the domestic market, even after using incentives. For instance, if the item produced is substandard, or if the company is carrying out trial production, export-destined products can be sold locally, even if they are produced in industrial parks.
Like I explained, a company that imports raw materials under the voucher system can get an extension for one year, If they don’t extend, they pay the necessary tax plus a penalty. After paying they can sell the raw material on the local market.

Incentives under the bonded factory system, on the other hand, have less opportunity to be abused because they are under the control of ERCA. But the voucher system has no such control so it is particularly exposed to abuse.

If companies are abusing incentives why doesn’t the government make adjustments?
Until the government knows the real reasons for the abuse at the national level, it cannot make such decisions. As of now, there is no urgency to change the incentive policy just because some companies are abusing it.
Companies that work on value addition, especially assemblers, complain about the lack of incentives.

Do you think that the incentives given to these companies are sufficient?
In the current situation, very few investors are interested in investing in the manufacturing sector. Therefore, the government provides more incentives even for businesses that add very little value to products locally. For instance, if an assembling business is hiring people, it should receive incentives, but with close monitoring.
Yet, businesses that manufacture from scratch should receive better incentives. It is unfair when companies that add little value compete with those who manufacture from scratch. By the way, this is one of the basic challenges Ethiopia is facing in terms of supporting companies engaged in the production of goods that would otherwise be imported. The solution cannot be provided by ERCA alone. So we are creating a partnership with the Ministry of Industry, which approves and monitors incentives for businesses in the manufacturing sector and the Ministry of Finance and Economic Cooperation, which devised the incentive policy.

ERCA conducted checks on items imported by investors entitled to duty free privileges. What did you find out?
For example, assemblers of refrigerators are beneficiaries of second schedule incentives. They import the components, assemble them here and sell them locally, which should be encouraged. But a significant number of assemblers were caught importing the complete refrigerator, with only the door removed from the main body. We have seen containers stuffed with complete products, especially transformers, refrigerators, and TVs.

A committee was formed after the checks. What kind of strategy is it crafting?
The strategy involves creating a clear and common standard for each sector. Creating awareness among investors will also be part of it. A significant number of investors get into trouble because of lack of awareness. Thirdly, follow-up is needed, which in turn needs compiled data and information.

Many government institutions are involved in the approval and monitoring of incentives. How do you coordinate all that?
The methods we have been using so far have their own advantages as well as challenges. To tackle the challenges, there has to be a flow of information among various institutions. We are building a central database, which will help in doing research, implementing proper follow-up and monitoring activities, and taking punitive measures on businesses that abuse incentives.

Has the government conducted assessments to find out the impacts of incentives?
I have no information on whether an impact assessment based on well-compiled data has been done.

So, what are the justifications for going forward with the incentive policy?
If you look at the expansion of the economy, it implies investment is growing. The spread of infrastructures in different corners of the country shows the incentives are working. The private sector could not grow this much without incentives. The investments that receive incentives are also creating job opportunities.
Recent reports from the Federal Ethics and Anti Corruption Commission and the Office of the Auditor General underline the lack of proper monitoring mechanisms in government institutions such as ERCA.

How does ERCA follow up on incentive abuse?
First, ERCA has its own follow-up mechanism, through the Intelligence Affairs Directorate. We investigate businesses based on tips forwarded by individuals. We undertake Post Clearance Audit and tax audits. If an abuse is discovered under these mechanisms, the company will be penalized. We are still taking action against companies that import vehicles, rebar and other items duty free and sell them on the local market. But the existing follow-up mechanism needs a modernized database, technology and coordination with all other stakeholders.
The forgone money from duty free exemptions in the first six months of the current fiscal year has fallen to ETB34.25 billion from ETB36.97 billion in the same period of the last financial year.

What is the reason?
Research and impact assessments are needed to identify the reasons. The Authority is conducting studies to that end, in addition to investigations undertaken by other institutions like the Federal Ethics and Anti Corruption Commission. Until the assessments are finalized there is nothing I can say.

6th Year . April 16 – May 15 2018 . No.60