Taxing the informal economy: challenges, possibilities and remaining questions

Taxing the informal economy: challenges, possibilities and remaining questions

There is growing interest in taxing the informal economy in developing countries. This paper examines the case for giving it greater priority, and suggests that policymakers and researchers should focus less on technical design issues, and more on strategies to encourage compliance, and to increase political and institutional incentives for reform.

In seeking more effective ways to tax the informal sector, future research and policy should focus less on reducing costs of compliance and more on strengthening incentives and collective action among different stakeholders, including:

  • positive incentives for small fi rms to comply with taxation and pursue formalisation
  • making reform more politically feasible and attractive to political leaders
  • strategic institutional reform to strengthen incentives for effective implementation
  • initiatives by states and governments to promote collective action by informal sector firms and create institutionalised channels for engaging with them
  • increasing credibility of government and trust among SMEs and state authorities