Budget 2025 proposed the abolition of the Simplified Value-Added Tax (SVAT) scheme, introduced in April 2011, with plans to transition to a risk-based refund system.
However, many exporters are lobbying for the continuation of the SVAT, particularly due to concerns about delays in refund payments and inconsistencies of an upfront VAT system.
NCE recommendations
Speaking to The Sunday Morning Business, National Chamber of Exporters (NCE) of Sri Lanka Secretary General/CEO Shiham Marikar, whose organisation is the apex body representing exporters, expressed the NCE’s apprehension regarding the proposed removal of the SVAT system and its replacement with a streamlined VAT refund mechanism.
He noted that exporters, who were fundamental to Sri Lanka’s economic development and key to achieving the ambitious $ 19 billion export target, already faced significant hurdles such as unpredictable global demand, intense international competition, and internal operational issues.
Marikar explained that the proposed elimination of the SVAT system, without a reliably proven refund process, risked intensifying these existing challenges and placing undue strain on exporters.
He further noted that the SVAT system’s ability to minimise cash flow disruptions by offsetting VAT on inputs was a critical advantage, enabling exporters to maintain their competitive edge in the global market. A shift to a refund-based system, which involves seamless digital processing, necessitates strong testing to ensure its effectiveness.
“Past experiences with VAT refund mechanisms have revealed significant concerns, such as prolonged delays and complex administrative procedures, resulting in years-long backlogs, severely impacting exporters’ financial stability and forcing them to resort to high-interest loans to fulfil orders, thereby increasing their operational costs,” he said.
Marikar explained that to mitigate these risks, the NCE recommended a phased and carefully monitored transition, including a comprehensive pilot testing in collaboration with the Export Development Board (EDB) to identify and resolve potential issues, a clear implementation timeline with a transitional period to facilitate adaptation, adequate stakeholder training and support, guaranteed prompt VAT refunds with clear dispute resolution mechanisms, and a contingency plan to address potential system failures.
Need for an effective mechanism
Similarly, Laugfs Corporation (Rubber) CEO and Sri Lanka Association of Manufacturers and Exporters of Rubber Products (SLAMERP) Vice Chairman Chinthaka Wegapitiya highlighted that the SVAT scheme was critical in managing the cash flow of exports.
He added that the main issue lay in the lack of a proper mechanism to refund VAT, while pointing out that abolishing the SVAT scheme would result in a waiting period of three to four years to receive the refunds.
“The annual VAT amount is high for many exporters, with our company spending over Rs. 1 billion as the VAT component. The withdrawal of this scheme suggests that that amount might be held up at the Inland Revenue Department (IRD), impacting daily business operations.”
He highlighted that a proper system should be put in place to ensure an effective refund process even if the Government proceeded with the withdrawal of the SVAT scheme, given its unusual nature, with Sri Lanka being the only country with such a scheme.
However, he noted that since the SVAT programme had been introduced due to delays in refunding, proceeding without solving this particular issue would impact many industries in terms of working capital.
“We have conducted discussions with relevant authorities and they claim that the proposed refund scheme will not be carried out without implementing a proper system. However, the effectiveness of the system that is to be proposed is yet to be examined and a trial run should be conducted, where performance-based proof prior to full implementation is examined,” he noted.
Commenting on the rubber industry, Wegapitiya noted that the lack of a proper system would have a significant impact due to its highly competitive nature and the low manufacturing cost of key competitors such as India, Vietnam, and China.
“Therefore, the cost is already high. If the SVAT is abolished without a proper refund system, businesses will be required to borrow to fulfil working capital requirements, adding to the financial cost, which will be especially harmful to Small and Medium-sized Enterprises (SMEs) in the export sector. Since the Government must address the matter due to it being an uncommon practice, it must ensure proper solutions are provided for existing and outstanding issues,” he said.
Ensuring refunds
Speaking on the impact on the tea industry, Imperial Teas Director Jayantha Karunaratne noted that serious consequences would emerge from the implementation of an alternative system from 1 October.
“While the Government claims that refunds will be carried out within 45 days, past instances concerning refunds show otherwise, in addition to lacking infrastructure, technology, and necessary facilities. Recruiting additional staff to serve these purposes would also cost the IRD significantly. Therefore, a substantial additional cost will have to be borne by both the IRD and the exporters,” he stated.
He noted that as the tea industry paid 18% VAT, which amounted to a substantial sum, removing the SVAT technically suggested the requirement of an additional 18% to work with the VAT system.
This will likely result in certain exporters discounting prices at auctions, posing challenges to producers who are already unhappy about current prices. Karunaratne emphasised that this decision would result in a sizeable impact on the survival of the tea industry, exporters, and even producers.
“As VAT refunds have not been made in many years, the authorities must first showcase commitment to at least making the outstanding refunds in order to ensure confidence in the system. We have been lobbying for the continuation of the SVAT unless 100% certification is ensured in the provision of refunds,” he added.
“If the SVAT is removed a properly executed system should be in place, conducted with effective preparation, where a pilot project is conducted for at least one year.”
Requirement for transitional provisions
Meanwhile, NMK Agro Industries Chairman/Managing Director N.M. Manjula Narayana outlined the concerns of the coconut industry, stating that withdrawal of the SVAT would cause a direct impact to businesses, as it posed an impact on export growth, especially since it was difficult to assess when refunds would be provided.
“Many businesses have been awaiting refunds for several years. In this context, placing trust in the mechanism is difficult. There are existing issues regarding IRD refund mechanisms and therefore further emphasis should be placed on assurance.
“If an assurance is provided by the Government, especially regarding the timeline, it would help significantly. However, the timeline can be affected by factors such as auditing processes, human resource concerns, and fund concerns,” he said.
Narayana added that the withdrawal of the SVAT could lead to an increase in cost due to value addition, impacting the competitiveness of products when compared with other regional players.
Focusing on the coconut industry, he noted that the primary challenge pertained to raw materials. Sri Lanka has a higher premium cost resulting from higher costs compared to other coconut producing countries such as Indonesia, the Philippines, and Vietnam.
“Adding the SVAT component on top of that will result in a further increase in the cost. If the refunds can be processed immediately following export within a stipulated timeline, where the submission of export documentation is facilitated on the basis of an online mechanism, it would benefit exporters,” Narayana said.
Addressing concerns, he highlighted that costs faced by exporters would be increased by 18% if the SVAT was withdrawn and would rise to 54% if the refund period were to take approximately three months. With the coconut industry already facing a challenging period due to lower crop yield, a hike of this nature would intensify challenges for exporters.
“According to the current SVAT, submitting documents should be carried out within six months. However, there is no clarity on the transition provision regarding the submission of documents following such withdrawal,” he explained.
The SVAT system was introduced specifically as a result of the delay in refunding VAT. While it was stated that the Revenue Administration Management Information System (RAMIS) would be used to conduct the new withdrawal process, proper explanations regarding its exact functioning are yet to be provided.
Deterring exporters from purchasing locally
Highlighting another concern, Aqua Packaging Group Director Udaya N. Sirisena noted that this move could deter exporters from purchasing locally, instead being directed towards imports.
He explained that many exporters purchased a substantial amount of raw materials locally and introducing VAT upfront would impact the cash flow, resulting in a complicated situation. One primary concern he noted was that this would compel exporters to import raw materials for export production instead of purchasing locally, especially given the lack of a mechanism to refund VAT.
“Certain VAT refunds dating back to 2010 are still outstanding. This situation will be mostly harmful to the SMEs and a good number of industries might close if people move away from purchasing locally,” he said.
Addressing corruption concerns, Sirisena highlighted that corruption in Sri Lanka was typically caused by cash handling, referring to previous scams that involved billions of rupees in VAT refunds.
“The SVAT is a foolproof system and we question why this system has not been introduced in other countries. Exporters have also requested digitalisation in order to enable a smooth process where documentation and signing processes can be performed through an online system.
“Outstanding refunds should have been cleared before working towards abolishing the SVAT scheme, while a pilot project should have been conducted to assess its feasibility and functionality,” he stated.
A thorough review of tax policies
Speaking to The Sunday Morning Business, KPMG Sri Lanka Tax and Regulatory Division Principal Suresh R.I. Perera elaborated that abolishing the SVAT would weaken the position of exporters and would lead to an adverse impact on the entire economy.
“The proposal to abolish the SVAT scheme is not going to help exporters in the endeavour to increase exports. The SVAT abolition and the consequent delay in providing VAT refunds to exporters will expose them to a cash crunch. As per the proposed scheme, the IRD will replace the SVAT with a risk-based refund mechanism,” he explained.
Perera further noted that when VAT refunds were not issued in a timely manner, exporters would have to rely on bank loans to address their working capital requirements whilst paying interest to banks.
As per the current law in Section 18 of the Inland Revenue Act, there is a restriction on tax deductibility of interest paid to non-related entities in addition to related parties. The limitation of deductibility of finance cost in Section 18 imposes a barrier wherein the excess interest is not allowed to be deducted for income tax purposes if the total interest paid is more than the maximum amount calculated as per the formula therein.
“The inappropriateness of the formula under current circumstances is that it extends not only to borrowing from related parties but also covers interests paid to unrelated parties such as bank borrowings.
“Therefore, it acts as a double jeopardy for exporters, who are expected to suffer a cash flow crisis with the abolition of the SVAT. While their legitimate cash due will be stuck at the IRD, there will be a restriction with regard to the deductibility of the interest paid on bank loans taken to cover working capital requirements,” he noted.
Furthermore, Perera explained that while Budget 2025 projected a $ 19 billion target for export revenue from goods and services, the proposed tax policy, specifically the abolition of the SVAT scheme, appeared misaligned with this objective.
Eliminating the SVAT and the resulting delays in VAT refunds will likely create cash flow challenges for exporters. The proposal is to replace the SVAT with a risk-based refund mechanism implemented by the IRD.
“Delayed VAT refunds will necessitate increased reliance on bank loans to meet working capital needs, incurring interest expenses,” he added.
Therefore, Perera noted that a thorough review of the tax policies affecting exporters was crucial in order to achieve the export revenue target of $ 19 billion.
The Sunday Morning Business learns from an IRD spokesperson that the risk-based analysis scheme will be conducted by specific groups using the IRD system. It was further noted that while the details of the alternative refund system could not be announced at this time, specific awareness programmes for informing all stakeholders would be conducted once the act was passed.
The Sunday Morning’s attempts to contact the EDB and Minister of Industry and Entrepreneurship Development Sunil Handunnetti proved unsuccessful.