Tax compliance of small and medium enterprises: a developing country perspective
| Pages | 149-175 |
| Date | 08 May 2017 |
| Published date | 08 May 2017 |
| DOI | https://doi.org/10.1108/JFRC-08-2016-0065 |
| Author | Doreen Musimenta,Stephen Korutaro Nkundabanyanga,Moses Muhwezi,Brenda Akankunda,Irene Nalukenge |
| Subject Matter | Accounting & Finance,Financial risk/company failure,Financial compliance/regulation |
Tax compliance of small and
medium enterprises: a developing
country perspective
Doreen Musimenta and Stephen Korutaro Nkundabanyanga
Department of Accounting, Makerere University Business School,
Kampala, Uganda
Moses Muhwezi
Department of Procurement and Logistics Management,
Makerere University Business School, Kampala, Uganda
Brenda Akankunda
Department of Accounting, Makerere University Business School,
Kampala, Uganda, and
Irene Nalukenge
Makerere University Business School, Kampala, Uganda
Abstract
Purpose –The purpose of this paper is to establish the relationship between tax fairness, isomorphic forces,
strategic responses and tax compliance in Ugandan small and medium enterprises (SMEs).
Design/methodology/approach –This is a correlational and cross-sectional study using two
respondent types, the demand (represented by the tax collecting body respondents) and supply (represented
by SME respondents) sides of tax compliance, to examine perceived tax compliance in Uganda’s SMEs.
Findings –Tax fairness, isomorphic forces and strategic responses have a predictive force on tax
compliance. Signicant mediation effects of tax fairness and also strategic responses are found. The two
respondent types perceive the study variables differently – providing an understanding of why the tax
compliance puzzle has remained a burgeoning concern. For example, the tax-collecting body respondents
perceived more tax fairness than SME respondents, suggesting that perceived tax fairness depends on whose
“lenses” you look through.
Research limitations/implications –Rather than focussing only on the importance of the rational
analytical deliberation of tax fairness by taxpayers in inuencing their tax compliance, the current paper
shows that in addition, isomorphic forces and strategic responses establish the basis for understanding
taxpayers’ compliance.
Originality/value –The methodology that enlists two respondent types, i.e. the supply side of tax
compliance and the demand side of tax compliance, probably offers a unique way of deriving better results
than previous studies.
Keywords Isomorphism, Small and medium enterprises, Tax compliance, Strategic responses
Paper type Research paper
1. Introduction and motivation
This paper reports the results of a study carried out to establish the relationship between tax
fairness, isomorphic forces, strategic responses and tax compliance in Ugandan small and
medium enterprises (SMEs). Tax compliance is an important issue for nations around the
world because of governments’ inexorable search for revenue to meet public needs (Andreoni
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Tax
compliance
149
Journalof Financial Regulation
andCompliance
Vol.25 No. 2, 2017
pp.149-175
©Emerald Publishing Limited
1358-1988
DOI 10.1108/JFRC-08-2016-0065
et al., 1998,Ritsatos, 2014;Ibrahim et al., 2015;Armah-Attoh and Awal, 2013;Cerqueti and
Coppier, 2009;Gohou and Soumaré, 2012). With sovereign debt crisis in the global economic
environment, there is also a marked increase in the importance of tax compliance (Ritsatos,
2014). Ibrahim et al. (2015) indicated that tax revenue sustains economic development and
nances both social programmes and infrastructure investment. Armah-Attoh and Awal
(2013) argued that the capacity of a country to provide for the welfare and security to its
citizens, in addition to developing and consolidating a representative democracy is
determined by its ability to raise enough resources through tax. Thus, effective mobilization
of tax revenues from all economic agents increases public services in developing countries
(Cerqueti and Coppier, 2009;Gohou and Soumaré, 2012). One such economic agent is an SME.
SMEs are critical for economic growth of countries given their signicant contribution to
gross domestic product and constituting a large share of the private sector in developing
countries (Hatega, 2007). However, SMEs are notorious for their less traceability by tax
administration and their continuous payment of less tax relative to their fair share (Ahmed
and Braithwaite, 2005). They are also non-tax-compliant despite the many different tax
reforms established by tax authorities in the majority of countries (Terkper, 2003).
These observations have led to a growing interest in tax compliance behaviour of SMEs
(Lederman, 2003;Gerbing, 1988;Wenzel, 2002;Azmi et al., 2008;Webley, 2004;Braithwaite,
1995;Rothengatter, 2005). In his study, Lederman (2003) found out that taxpayers’ behaviour
with respect to tax compliance in the USA depends on how likely the government is to detect
and punish tax evaders and decide how to behave by looking at the actions of other similarly
situated economic agents. Gerbing (1988), and later supported by Wenzel (2002) and Azmi
et al. (2008) studies, suggested that perceived tax fairness among taxpayers was responsible
for the low levels of income tax compliance. The theoretical premise behind these studies is
that perceived tax fairness mirrors the belief that a tax system considered unfair and unjust
is illegitimate. For small businesses, lack of trust in the fairness of a tax system and the
legitimacy of tax authorities increases the likelihood of tax evasion by such rms (Webley,
2004). For example, to ensure fairness, studies suggest a dialogic approach to address
non-compliance (Braithwaite, 1995;Rothengatter, 2005). This understanding leads us to
believe that dealing with the problem of tax compliance requires some understanding of
factors underlying individual taxpayer’s decision whether to pay or evade taxes. Still, the
question of “why do people pay taxes when they have an opportunity even an incentive to
evade?” (Alm et al., 1992, p. 21) has remained unanswered, providing incentives to explore
alternative explanations (Ritsatos, 2014). Also, OECD (2004) reveals that individual
taxpayers adopt a range of motivational postures in their response to the demands of
authorities and acknowledges that it is not “easy to answer the question of what inuences
taxpayer behaviour either towards compliance or non-compliance” (p. 41).
While notable extant research focusses on tax fairness that should be ensured by tax
authorities to achieve tax compliance, this paper aims to suggest that isomorphic forces
might also be signicant in explaining tax compliance. By this, it extends the work of
Lederman (2003) that found tax compliance behaviour depending on actions of other
similarly situated economic agents. We reason that if it is the norm of most SMEs or even
large companies not to fully comply with tax, an individual SME taxpayer may not comply
based on such a social force. Similarly, if it is also fashionable or the trend that SMEs are not
paying tax, it is reasonable to expect that another SME taxpayer will not pay the tax
following the trend. Also, if society expects SMEs not to pay tax, SME taxpayers might not
pay taxes following such societal expectations. Therefore, it is reasonable to suggest that to
improve tax compliance, these forces should support taxpaying predispositions. This line of
thinking suggests that SME tax compliance behaviours can be described in terms of
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