Sri Lanka – Tax Reforms and VAT on Digital Services

On June 13, 2024, the International Monetary Fund (IMF) took a significant step by publishing a report on Sri Lanka's tax system reforms. These reforms, set to become effective from January 1, 2025, aim to enhance fiscal sustainability and reach a tax-to-GDP ratio of at least 14% by 2026. 

These reforms are part of a series of changes in Sri Lanka since 2021. The initial results have been promising, with the economy recovering, inflation remaining low, and revenue collection improving. However, additional reforms are necessary given the ongoing debt restructuring and the economy's current fragility.

Key Tax Reforms

The tax reforms set to be implemented in Sri Lanka include introducing new taxes, adjusting existing ones, and removing certain exemptions. One of the biggest and most significant novelties regarding VAT is the introduction of VAT on digital services and items currently subject to the particular commodity levy (which will be removed).

The previously established Simplified Value Added Tax (SVAT) scheme will be abolished and fully repealed by April 2025. This is part of the ongoing efforts to fix the VAT refund system, and businesses that used to benefit from this scheme will need to adjust to the standard VAT system. Unfortunately, this may lead to increased administrative burdens and tax liabilities for these businesses.

Recognizing the current inefficiencies in the VAT system, the Sri Lankan government is committed to making significant improvements. As noted in the report, the overall efficiency of the VAT system in Sri Lanka still needs to improve, and VAT compliance needs to be stronger.

To address this, Sri Lanka will develop a VAT compliance improvement program in 2025 to detect and deter noncompliance. This proactive approach aims to reduce evasion and ensure more effective VAT collection, leading to an increase in government revenues.

Conclusion

For years, Sri Lanka has been working closely with the IMF to implement new tax regulations to reduce public debt and reform inefficient tax systems. After the changes to VAT law that occurred at the beginning of 2024, when the standard VAT rate increased from 15% to 18%, these proposed changes represent the next steps in tax reform and consolidating the fiscal system in Sri Lanka. 

Source: International Monetary Fund (IMF), Sri Lanka Inland Revenue