Non-Final Withholding Taxes: Why the Rates Should Be Lowered Further
- Leo Kilamile
- 2 days ago
- 5 min read
Withholding tax is a mechanism through which tax is deducted at source when a payment is made and remitted directly to the tax authority on behalf of the recipient. In principle, non-final withholding tax is not intended to be a final tax burden — it is an advance payment of income tax, creditable against the taxpayer’s final tax liability.
In Tanzania, withholding tax rates for resident persons generally range between 2% and 15%, depending on the nature of the transaction. While this system is designed to enhance tax compliance and widen the tax base, its current structure raises important economic and practical concerns.
This article focuses specifically on non-final withholding taxes, which are intended to function as advance tax payments rather than final liabilities.
When “Advance Tax” Becomes a Final Burden
Consider a business operating under relatively favourable conditions with a 20% net profit margin:
Revenue: TZS 100,000,000
Direct Costs: TZS 60,000,000
Gross Profit: TZS 40,000,000
Operating Expenses: TZS 20,000,000
Net Profit Before Tax: TZS 20,000,000
Corporate Tax (30%): TZS 6,000,000
Net Profit After Tax: TZS 14,000,000
In this scenario, the corporate tax payable (TZS 6,000,000) is equivalent to 6% of gross revenue.
Now, assume a 5% withholding tax is applied on revenue (TZS 5,000,000). This implies that most of the company’s final tax liability has already been collected upfront.
For businesses operating at or below a 20% margin, this creates a situation where non-final withholding tax begins to resemble a final tax, rather than a creditable advance. The immediate effect is cash flow pressure, as tax is effectively paid before profits are fully realised.
The Original Purpose of Withholding Tax
Globally, withholding tax systems were introduced with two main objectives:
To enhance tax compliance by capturing transactions at source, and
To help tax authorities identify and track taxable persons and income streams
It was not primarily designed as a tool for aggressive or early revenue collection.
However, under the current legal framework, relatively high withholding tax rates shift the system away from identification and toward front-loaded tax collection, thereby distorting its original purpose.
Economic Consequences of High Withholding Tax Rates
Because withholding tax is applied on gross payments rather than profits, businesses are often compelled to respond in ways that may not be economically optimal:
Cutting operational costs to sustain margins
Reducing the workforce or employee benefits
Limiting expenditures such as training, travel, and expansion
Avoiding transactions with withholding tax arrangements altogether
While cost efficiency measures may benefit shareholders in the short term, such responses can have negative ripple effects on the broader economy, including reduced consumption, lower employment, and slower business growth.
Furthermore, under Section 112 of the Income Tax Act, withholding tax credits are only claimable in the year of income to which the payment relates. Where withholding leads to overpayment, there is no carry-forward credit to subsequent years. Combined with administrative challenges in obtaining refunds, this creates additional pressure on taxpayers and discourages voluntary compliance.
Why Lower Rates Would Be More Effective
If the core purpose of withholding tax is identification rather than early or excessive collection, then high rates are unnecessary.
Even a minimal rate can achieve the same objective.
For example, a 0.1% withholding tax on a TZS 100,000,000 transaction yields TZS 100,000. More importantly, it captures essential data:
The existence of the transaction
The transaction value
The taxpayer’s TIN
From a tax administration perspective, this information is far more valuable than the immediate cash collected.
Lower rates would deliver several key benefits:
Reduced resistance to compliance
Improved business cash flow
Less distortion of business decisions
Greater willingness to transact formally
A broader and more accurate tax base
A System Currently Underutilised
Due to relatively high rates, the non-final withholding tax system is currently underutilised in its intended role. Instead of functioning as a low-friction compliance tool, it is often perceived as an additional tax burden.
This leads to:
Attempts to avoid withholding obligations (especially where enforcement is weak)
Increased disputes during tax examinations
Reduced effectiveness in identifying real economic activity
As a result, the system sometimes creates friction rather than facilitating compliance.
A Practical Proposal
To realign non-final withholding tax with its intended purpose, the following reforms are recommended:
1. Reduce Non-Final Withholding Tax Rates
Maximum rate: 1% (for very high-margin sectors)
General range: 0.1% to 0.5%
Large payers (e.g., government and corporates): cap at 0.5% on supplier payments
The key objective should be capturing TIN and transaction data, not maximising upfront tax collection.
2. Simplify the Compliance Process
Eliminate unnecessary return filing requirements
Make withholding and remittance processes simple and accessible
Align payment with reporting (i.e., payment itself serves as the return)
Reduce administrative burdens for both taxpayers and the tax authority
Make withholding and remittance as simple and seamless as everyday transactions — like buying airtime.
3. Link Withholding to Expense Deductibility
Currently, tax law emphasises EFD receipts as a condition for expense deductibility. However, a low-rate withholding system could provide stronger and more reliable verification, as it captures:
The supplier’s TIN
The transaction value
For this to work effectively:
Expenses subject to withholding tax should be automatically deductible, regardless of receipt issuance
Suppliers should have real-time access to confirm taxes withheld on their behalf, preventing misuse of TINs
This approach would strengthen compliance while reducing over-reliance on receipt-based enforcement.
4. Maintain Final Withholding Tax Where Appropriate
Final withholding taxes on business income can reasonably remain at around 5%, reflecting an implied net profit margin of approximately 20%. Higher rates should only apply where there is clear, data-driven evidence of consistently higher profitability within specific sectors.
For investment and employment income, current final withholding tax rates can remain unchanged.
Conclusion
Non-final withholding tax should be almost invisible to taxpayers — a light-touch mechanism that supports compliance without distorting economic behaviour.
Lowering the rates would create a win-win outcome:
For the tax authority: better data, broader tax base, improved compliance, easier audits
For taxpayers: reduced cash flow pressure, improved expense deductibility, and fewer distortions in decision-making
For the economy: increased activity, spending, and formalisation
Ultimately, a well-designed withholding tax system should not feel like a burden. The lower the rates, the more effective the system becomes — not only for tax administration, but for the overall health of the economy.
Important Disclosure: This article is written primarily to contribute to policy dialogue on improving tax administration and supporting economic efficiency. The author is a practising tax professional and may indirectly benefit from improvements in the withholding tax system; however, the views expressed are grounded in professional experience and intended to advance broader public interest outcomes.
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