• Livelihoods of 480,000 smallholder farmers at risk

The Tea Exporters Association (TEA) has raised serious concerns over the proposed abolition of the Suspended VAT (SVAT) system from April 2025, warning that it will severely impact Sri Lanka’s tea exports and the livelihoods of over 480,000 smallholder farmers.

The SVAT system, introduced in April 2011, was designed to ease cash flow constraints for exporters by eliminating delays in VAT refunds from the Inland Revenue Department (IRD). The tea industry was brought under the VAT regime from 1 January 2024, and its exporters now fear that the removal of SVAT will significantly disrupt operations, drive up financial costs, and weaken Sri Lanka’s competitive edge in global tea markets.

Currently, 90% of Sri Lanka’s tea production is exported, with domestic consumption accounting for only 10%. In 2024, Sri Lanka produced 262 million kg of tea, exporting 245 million kg at a value of $1.4 billion. Smallholder farmers, who contribute 75% of national production, will be among the hardest hit by the SVAT abolition, as over 60% of them own less than half an acre of tea land.

The weekly tea auction, which handles 95% of Sri Lanka’s tea production, operates with a transparent pricing system, ensuring that exporters make payments to producers within six days. However, exporters often extend credit facilities of 30 to 180 days to foreign buyers to remain competitive. In contrast, key competitors like India, Kenya, and Vietnam offer extended credit periods of up to 365 days, making it imperative for Sri Lankan exporters to maintain efficient cash flow mechanisms. The removal of SVAT will increase financial strain on exporters, as VAT costs will need to be financed upfront, further burdening the industry.

With the introduction of an 18% VAT on tea products in January 2024, maintaining SVAT or an alternative cashless refund mechanism is essential for sustaining tea exports. The return to a cash-based VAT refund system will expose exporters to bureaucratic delays, inefficiencies, and governance risks. The delay in refunds will force exporters to incorporate the VAT cost into pricing, reducing the global competitiveness of Ceylon Tea.

The impact will cascade down the supply chain, affecting tea smallholders, auction prices, and green leaf payments. A drop in auction demand will lead to lower prices for smallholder farmers, reducing their incomes. Additionally, foreign tea brands currently packing Ceylon Tea in Sri Lanka may shift to other countries with more favourable VAT structures. Kenya, for instance, removed VAT on value-added tea exports in 2023, giving its exporters a clear advantage. India, while imposing GST on tea exports, provides refunds within two weeks upon submission of export documentation—a stark contrast to Sri Lanka’s inefficient VAT refund system.

Based on current tea production volumes and average auction prices, the abolition of SVAT will increase the working capital requirement for tea exporters by approximately Rs. 5 billion per month, or over Rs. 60 billion annually. This will not generate additional tax revenue but shift value from the export sector to the financial sector, leading to unnecessary credit expansion. While the government may see a short-term improvement in cash flow, the administrative burden on exporters and tea manufacturers, coupled with the costs of VAT collection and refunds, may negate any long-term benefits.

Exporters will be forced to borrow at high-interest rates to cover cash flow shortfalls, making Sri Lankan tea less competitive in the global market. Small and medium-sized tea exporters, who account for 15-20% of the country’s annual tea export volume, could face financial distress, further reducing demand and prices at tea auctions. The removal of SVAT will also impact input suppliers, including packaging material providers, as VAT-exempt imports through the Temporary Imports for Export Purposes (TIEP) scheme will no longer be viable.

The Tea Exporters Association urges the government to continue the SVAT mechanism to ensure the long-term sustainability of the tea industry. If the abolition is driven by IMF reforms, the Inland Revenue Department must first establish a reliable VAT refund system, ensuring settlement of claims within two weeks, similar to India. If this is not feasible, the tea industry should be exempted from VAT altogether, preventing smallholder farmers from bearing the burden of additional costs.