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Ministry of Finance | Department of Revenue
The IMF Technical Note, The Reverse Method: A New Indirect Technique for Global VAT Compliance Gap Monitoring, introduces a cost-effective, scalable, and standardized approach to estimating the Value-Added Tax (VAT) compliance gap—the difference between potential tax revenue and actual collections. Known as the Reverse Method (RM), this indirect top-down technique allows for global benchmarking across multiple countries and years using publicly available data.
Key features of the Reverse Method include:
Accounting Identity: The RM builds on the definition of C-efficiency, expressing it as a product of compliance and policy gaps. By inputting known values for C-efficiency and the policy gap, the compliance gap is derived residually.
Calibrated Estimation: To handle the lack of detailed policy gap data globally, the model is calibrated using data from over 200 standard IMF Revenue Administration Gap Analysis Program (RA-GAP) missions.
Scalability: Unlike standard RA-GAP missions, which are resource-intensive, the RM uses global datasets (like the Global Tax Expenditure Database) to provide “order-of-magnitude” estimates for 111 countries.
Global Trends: Between 2010 and 2023, the RM indicates a steady improvement in VAT compliance globally, with the average gap in advanced economies falling from 26% to 21% and in low-income countries from 44% to 40%.
What is C-efficiency? It is a standard indicator used to measure the performance of a VAT system. It is calculated as the ratio of actual VAT revenue collected to the revenue that would be raised if the standard tax rate were perfectly applied to all final consumption. A low C-efficiency indicates either a high “policy gap” (many exemptions or lower rates) or a high “compliance gap” (tax evasion and administrative inefficiency).
Policy Relevance
While India has made significant strides in VAT/GST administration, the IMF’s “Reverse Method” provides a vital strategic framework for the Ministry of Finance and the GST Council:
Comparative Benchmarking: The RM allows India to benchmark its GST compliance performance against emerging market peers in the Asia and Pacific (APD) region, where the average compliance gap to potential stood at 33% in 2023.
Policy Gap Analysis: The report highlights how a “nontaxable goods and services gap”—comprising public administration, health, and education—affects overall C-efficiency. This provides a roadmap for evaluating the impact of GST exemptions on India’s revenue mobilization.
Low-Cost Monitoring: India can utilize the RM’s accounting approach to cross-check its own top-down GST gap assessments, providing a secondary “mirror estimate” to validate findings from more complex production-based techniques.
Data-Driven Reforms: The method’s reliance on National Accounts and Tax Expenditure Reports underscores the importance of India’s continued push for digitized and transparent reporting to improve the accuracy of its own tax gap monitoring.
Follow the full news here: The Reverse Method: A New Indirect Technique for Global VAT Compliance Gap Monitoring