Executive Summary

The country tax policy analysis presented in this report was prepared before the outbreak of the Covid-19 pandemic and the economic crisis that resulted from it. While the health, economic and budgetary impact of the crisis remains unclear at the time of the publication of this report, it has become clear that the crisis will be costly for countries around the world, including for Kazakhstan. In light of the low tax collection and weaknesses in the design of the tax system, fundamental tax reform has become even more urgent in Kazakhstan than before the outbreak of the Covid-19 pandemic.

This tax policy review presents a general overview of the design of the tax system in Kazakhstan. The analysis focuses on the strengths and the weaknesses of the current tax system and presents recommendations for tax reform. The analysis in this report is aligned with the approach taken and the recommendations made by the (World Bank, 2017[1]) and the (IMF, 2020[2]) and it also deepens the analysis in a selection of tax policy areas. The analysis in this report confirms the international call to continue developing empirically-focused tax policy analysis in Kazakhstan, which involves strengthening the data that is available for tax policy analysis and developing empirical tax policy tools, indicators and models. This includes micro simulation models within the personal and corporate income tax, analysis of household budget surveys, tax expenditure reporting and revenue foregone estimations of all tax expenditures, cost-benefit analysis of tax incentives, tax gap analysis and general and individual tax revenue forecasting. Such an approach would allow deepening the analysis presented in this report and the OECD would be more than happy to contribute to that work over the years to come.

Recent OECD research has shown that tax policy can cushion the impact of Covid-19 and support economic recovery (OECD, 2020[3]). The most up to date overview of the measures that countries have implemented is included (OECD, 2020[4]). The OECD will continue to update its policy advice as the crisis continues and will publish this information on its website. Broadly aligned with international practice, Kazakhstan has implemented a wide range of measures in response to the Covid-19 pandemic and the corresponding economic crisis. This report does not review these measures. Instead, the report focuses on the fundamental tax reform that Kazakhstan might want to implement as part of a long-term fiscal reform once the health crisis is under control and the economy is firmly on track.

The timing of the tax policy measures might have to be adjusted according to the depth and length of the Covid-19 crisis. The tax policy reform recommendations presented in this report will support economic growth and well-being in Kazakhstan over time. However, the timing of the implementation of the tax measures presented might have to be adjusted, depending on the depth and length of the Covid-19 crisis. Kazakhstan may also want to consider additional and temporary measures to balance the budget once the economy is on a solid recovery track from the Covid-19 crisis. As at the time of publication of the report, no data was available to the authors about the impact of the crisis on tax revenues and the economy in Kazakhstan, this important analysis is left for future work.

Prior to the Covid-19 pandemic, the economy in Kazakhstan had begun to show signs of recovery, supported by the government’s reforms of the tax system. The government has set ambitious targets to reduce the non-oil budget deficit, but the discretionary transfers from the National Fund (which manages Kazakhstan’s oil wealth) to the budget are expected to remain significant for the foreseeable future. In general, having a national fund that manages Kazakhstan’s resources is regarded as good practice. The general idea of a non-oil deficit is to disregard oil revenues from the budget to provide a more realistic measure of the budget deficit in the absence of oil revenues. While these tax reforms are a welcome step in the right direction, reducing the non-oil budget deficit and preparing the economy and the tax system for the future will require a more ambitious fundamental tax reform for the years to come.

Tax revenues are low, undiversified and volatile in Kazakhstan by international standards. Despite rising tax revenues over the past decade, taxes as a share of GDP in Kazakhstan have decreased and remain low by international standards. The tax mix relies heavily on revenues from value-added tax (VAT) and corporate income tax (CIT) with a lower share of revenues from personal income tax (PIT), social security contributions (SSCs) and property taxes. An ambitious SSC reform strategy has been announced which will increase employee and employer SSCs significantly. Whether this reform will contribute to reducing the non-oil deficit will depend on the extent to which the increased SSCs will finance current or additional social spending. CIT and VAT revenues are generated by a relatively small group of large firms and in a small set of sectors. The undiversified tax base makes Kazakhstan vulnerable to declines in tax revenues, even when compared with other resource-rich OECD countries and emerging economies. Important sources of tax revenue, such as CIT and export duties on crude oil, rely on the extractive sectors such as mining and fossil fuels. Furthermore, CIT revenues are sensitive to the international oil price and VAT revenue volatility has increased in recent years.

Resource revenues currently fuel the National Fund and the budget. Tax and non-tax revenues generated by the oil sector are significant. Most tax and non-tax oil revenues flow to the National Fund but some go directly to the budget (namely export duty on crude oil). The assets of the National Fund are largely accumulated from taxes paid by oil sector companies (including CIT, alternative subsoil use tax, mineral extraction tax and others) and investment income from management of the assets held by the National Fund. The National Fund then allocates annual transfers to the budget. In some recent years, flows of transfers to the budget have been larger than the tax revenue flows into the National Fund. The assets held by the National Fund have therefore been decreasing, which will result in a decline in the yield of the National Fund and will in turn further increase the pressure to raise non-oil tax revenues.

Tax reform is needed to raise tax revenues to support the ambitions of the authorities including to meet revenue and expenditure goals and to reduce the non-oil deficit. Kazakhstan aspires to become one of the top 30 global economies by 2050. However, tax revenues are currently too low to support the ambitious plans of the government, to meet revenue targets and to reduce the non-oil deficit. The analysis of the non-oil deficit in this report shows it could range from 4% to 7% of GDP by 2025, compared to the authorities forecast of 6% by 2025. The forecast of the authorities may be optimistic to the extent that it is based on optimistic underlying assumptions of future expenditure and GDP. Kazakhstan should therefore strengthen the design of its tax system and start raising more tax revenues to support its medium-term goals and longer-term sustainability. As a general recommendation, this report recommends that Kazakhstan should not focus on increasing tax rates on the currently narrow tax base in the case of most taxes but rather the priority should be broadening the tax base and increasing levels of tax compliance.

Financing needs could be met by gradually increasingly some taxes that have potential for generating more revenue and that are not linked to the extraction of natural resources. Additional tax revenues could be raised from PIT, SSCs and property tax with modest increase in taxes on goods and services. Opportunities also exist to increase tax revenues across most of the major taxes by broadening the tax base and enhancing tax design. In 2019, the State of the Nation address set out a number of tax reforms including on PIT, SSCs, VAT and CIT. A set of best practice guiding principles need to be followed for these tax reforms to succeed including that they are sufficiently comprehensive across taxes, consistent, and complementary with the existing capabilities of the tax administration.

Kazakhstan could consider transitioning to a progressive PIT system to support equity and raise revenues over the medium-term but not before certain risks and limitations are addressed including the implementation of the universal tax declaration. PIT revenues as a share of GDP are low by international standards, having fallen slowly in recent decades. The introduction of the flat PIT rate system in 2007 does not appear to have had much impact on PIT revenues in the years immediately following its introduction. A new reform introduced in 2020 will exclude 90% of taxable income from PIT for low-income taxpayers; this reform could possibly lead to large distortions as it might induce workers to under-report incomes and to hold multiple jobs simultaneously (as different revenue streams are not added up to determine tax liability) in order to benefit from the tax exemption. This issue could be addressed through the introduction of the end-of-the-year tax declaration (mentioned below). Despite the equity objectives underlying the reform, the exemption comes at a large tax revenue cost and benefits a relatively small number of taxpayers. In order to strengthen the role of the PIT in the tax system, government could consider introducing a progressive PIT system to raise additional PIT revenues, particularly among higher-income employees. Such an approach would be less distortive and fairer than the current flat-rate PIT. However, such a reform should be introduced only in the medium-term and not before the introduction of an end-of-the-year tax declaration (the ‘universal declaration), measures that strengthen the tax administration and possibly when incomes are higher in the future. The decision to introduce a progressive PIT system should be underpinned by rigorous empirical evidence including the development of a PIT microsimulation model using individual tax return data.

The taxation of personal capital income needs reform. Personal capital income, such as dividends and capital gains, are mostly exempt from tax in Kazakhstan. Where tax does apply, the rates are low. Some of the exemptions on personal capital income could be removed and a single low rate or a progressive rate could be applied across all forms of personal capital income (either by taxing capital income jointly with labour income or by applying a separate progressive rate schedule on personal capital income). More generally, any tax rate change should not be considered in isolation but rather as part of the broader tax burden, which is set to increase due to the proposed increases in SSC rates over the coming years. In addition, any PIT reform should take into account the incentives for entrepreneurs to incorporate and carry out their activities through a corporate vehicle in order to earn their income in the form of lower-taxed capital income rather than in the form of a higher-taxed salary.

Kazakhstan should continue to implement its current reform of the SSC system to support the underperforming health and welfare systems while also considering broadening the SSC base. Kazakhstan is in the process of reforming its SSC system, including by introducing new SSCs and increasing current SSC rates. The reform will go some way to increasing SSC funding more closely towards the OECD average, which will provide much needed financial resources to support the underperforming health and welfare system. The timing of the reform is prudent in preparation for the longer-term given Kazakhstan’s current demographic advantages including a large and expanding working-age population. However, the SSC base remains narrow by design with many generous but expensive design aspects. Examples of potential areas for SSC base broadening could include the current deductibility of pension contributions from the SSC base and the inheritability of pension payments. In recent years, the authorities have frequently proposed new SSC policies, which in several cases have been delayed, producing planning challenges for individuals and businesses. Indeed, Kazakhstan could benefit from minimising the frequency of changes and achieve more consistency in SSC and tax policymaking.

The VAT in Kazakhstan is based upon good design features, but there is scope to improve the design and administration and to raise additional revenues with a modest increase in the VAT rate. VAT as a share of tax revenues is similar to the OECD average. Nevertheless, there is scope to increase the standard 12% VAT rate, which is currently low internationally. However, an increase in the VAT rate should be considered in the context of the level of inflation, which is currently somewhat high in Kazakhstan compared to other countries in Central Asia. In addition, the revenue performance of the VAT, measured by the ‘VAT productivity’ indicator, is not high compared to countries in the region, which may point to weak tax enforcement and administration as well as a narrow VAT base (noting that this indicator is a relatively crude measure). Kazakhstan has made efforts to broaden its VAT base. However, there is scope to broaden the VAT base further as many goods and services continue to be exempt from VAT, for example by bringing newly constructed residential buildings that are brought on the market for the first time within the scope of VAT. Important steps have been taken by the authorities to address the challenges of the VAT system. However, the special VAT treatment for Special Economic Zones (SEZ) is a major flaw in the design of the VAT system and recently announced measures will not address the main design weaknesses. Instead, the authorities should fully restore the VAT chain by applying the standard VAT on all transactions to and within the SEZs while simultaneously providing more timely VAT refunds. Kazakhstan is in the process of adapting its VAT rules to increased digitalisation and growing online sales, but the implementation of this reform has been delayed until 1 January 2021. This reform will broaden the VAT base by ensuring the taxation of inbound digital supplies, in line with the OECD International VAT/GST Guidelines. The VAT registration threshold in Kazakhstan remains high internationally. The tax administration could strengthen its operation so that the VAT registration threshold can be lowered along with VAT simplification measures.

Corporate income tax revenues are generated by a small number of companies and sectors and there are many corporate tax incentives. Scope exists to broaden the CIT base while maintaining the 20% CIT rate at its current level. The business economy can be characterised as having a dual economic structure, split into large firms and small firms. A small group of about 500 large companies dominate the economy, producing half of all company turnover and employment. At the same time, there is widespread small-scale self-employment and SMEs with low incomes. CIT revenues are high as a share of total tax revenues compared to the OECD average, partly because more than one-third of CIT revenues is paid by oil companies. Beyond CIT, a range of additional taxes apply to companies operating in the extractive sectors (including Mineral Extraction Tax, Excess Profit Tax and others), which go to the National Fund. In addition to oil tax revenues, there are also oil non-tax revenues (such as the share of production under concluded contracts). The statutory CIT rate in Kazakhstan remains competitive and below the average rate in the OECD, although the gap in the CIT rate between Kazakhstan and the OECD has narrowed in recent years. The statutory CIT rate could be maintained at the current rate. While the top 10% of companies produced 90% of turnover in 2018, the concentration of CIT paid by companies is even higher, with the top 10% of companies paying 99% of all CIT. This may suggest that many small and medium-sized incorporated businesses contribute little to the tax base overall, which is partly attributable to the generous and wide range of simplified taxation regimes targeted at SMEs.

Kazakhstan offers many generous tax incentives to companies that come at a significant tax revenue cost. Whether these tax incentives create significant ‘additional’ investment (i.e. investment that would not have taken place without the tax incentives), requires further empirical analysis. Companies that implement a “priority investment project” under one of the priority areas (as defined by the authorities) that invest in a new production facility could be exempt from CIT and land tax for up to 10 years and property tax for up to 8 years. Furthermore, in SEZs, which were established in Kazakhstan to support the development of economic sectors other than natural resources, companies can benefit from a reduction in CIT, property tax and land tax by up to 100%. The contribution of companies in SEZs to total CIT and VAT revenues was less than half of one-percent in 2017 and 2018. Overall, the tax system is likely overused to stimulate corporate investment in Kazakhstan, particularly to the extent that investors locate in Kazakhstan for resources rather than the generosity of the tax system. To support transparency and accountability, regular and systematic tax expenditure reporting could be conducted to monitor the use and effectiveness of tax incentives along with the tax revenue forgone (OECD, 2010[5]). Cost-benefit-analysis could also be conducted to evaluate whether specific tax incentives meet their stated objectives and, if not, whether they should be abolished completely or replaced by incentives that are more closely aligned with longer-term development objectives. Furthermore, there is scope to reduce the discretionary and uncertain application of some tax incentives to enhance transparency and accountability including the annually updated list of investment areas which determine company eligibility for priority investment projects.

A new tax reform implemented to shift CIT revenues paid by SMEs from central to local government would shift the most challenging tax to administer to under-resourced local tax administrations. Even if the administration of the CIT would continue to be carried out at the central government level, OECD best practice shows that local governments should be financed through taxes whose revenues are less volatile (such as recurrent taxes on immovable property). However, CIT revenues are volatile in most countries and in particular in Kazakhstan. The CIT is therefore the least preferred tax to finance local governments directly. Despite good government intentions, this reform is not a step in the right direction.

The number of special tax regimes for SMEs could be reduced. The 2019 State of the Nation address reaffirmed Kazakhstan’s commitment to support the SME sector of the economy. Currently, SMEs account for the vast majority of firms and self-employment remains widespread but incomes remain low. Kazakhstan has a tiered system of special tax regimes for self-employed individuals and companies. The regimes are intended to simplify and reduce the tax burden on the self-employed while also placing them on a graduated path to expansion towards the regular system. Overall, having many special tax regimes creates complexity for businesses and enforcement and administration costs for the authorities. Therefore, Kazakhstan could consider reducing the number of special tax regimes and, in particular, the tax policy rationales for the Fixed Deduction regime seem weak and the regime could be abolished. Instead, Kazakhstan could introduce and maintain other types of tax simplification measures (such as less frequent tax payments and simplified book-keeping requirements).

In addition to reducing the number of special tax regimes for SMEs, the design of some regimes could be strengthened. The Single Aggregate Payment (SAP) regime introduced in 2019 is a generous regime that replaces most taxes by a low, simple and fixed lump-sum tax, and because of its financial attractiveness, the regime is expected to be successful in terms of its take-up. However, the annual turnover eligibility ceiling has been set too high. While the regime will support fairness by bringing more people under the protection of social insurance, the SAP might become a victim of its own success as individuals who would otherwise have transitioned to the patent regime (a regime in place for individual entrepreneurs with a PIT rate of 1% of annual revenues) have a tax-induced incentive to remain in the lower-tax SAP regime. In addition to the SAP regime and patent regimes, Kazakhstan has the Simplified Declaration regime and the Fixed Deduction regime; the extent to which these regimes achieve their objectives requires further empirical analysis. In particular, the scope for ‘bunching’ activity across regimes and tax planning activities to avoid being taxed in another simplified regime or the regular taxation regime should be tested empirically. Businesses face a strong tax-induced incentive to hire self-employed workers who operate under one of the simplified taxation regimes rather than employing regular employees. This may result in ‘false’ self-employment where workers only work for one employer but work under a self-employment contract. To encourage employment, the requirement to have no employees in the SAP and Patent regime should be removed as it might induce entrepreneurs to hire informal workers, which goes against the government’s efforts to strengthen the formal economy through the introduction of the SAP regime. However, the annual turnover eligibility ceiling of the SAP, Patent and Simplified Declaration regime need to be lowered. Such a reform would allow for the reform of other design characteristics of the simplified SME taxation regimes, such as the non-hiring requirement under the Patent regime and the requirement that SAP workers can only work for individual clients and not for corporations. Indeed, these additional requirements have been introduced to prevent the regimes from becoming too generous. However, these requirements have also resulted in additional tax evasion opportunities and in an increased tax burden on the tax administration to enforce these regimes. Lowering the turnover eligibility ceilings would allow further simplification of the tax system. Overall, the tax administration that deals with the simplified regimes could be strengthened in order to monitor employees entering special tax regimes and to ensure an even level playing field across all businesses.

References

[2] IMF (2020), Republic of Kazakhstan : Selected Issues, https://www.imf.org/en/Publications/CR/Issues/2020/02/07/Republic-of-Kazakhstan-Selected-Issues-49029 (accessed on 15 September 2020).

[3] OECD (2020), Tax and fiscal policy in response to the Coronavirus crisis: Strengthening confidence and resilience - OECD, https://read.oecd-ilibrary.org/view/?ref=128_128575-o6raktc0aa&title=Tax-and-Fiscal-Policy-in-Response-to-the-Coronavirus-Crisis (accessed on 4 August 2020).

[4] OECD (2020), Tax Policy Reforms 2020: OECD and Selected Partner Economies (Forthcoming), https://www.oecd-ilibrary.org/taxation/tax-policy-reforms-2020_7af51916-en (accessed on 21 August 2020).

[5] OECD (2010), Tax Expenditures in OECD Countries, https://www.oecd-ilibrary.org/docserver/9789264076907-en.pdf?expires=1595419389&id=id&accname=ocid84004878&checksum=001F32463F05B2243B005AE50D8714DC (accessed on 22 July 2020).

[1] World Bank (2017), Enhancing the fiscal framework to support economic transformation, https://openknowledge.worldbank.org/bitstream/handle/10986/28939/121677.pdf?sequence=5&isAllowed=y (accessed on 29 August 2019).