With gains exhausted, Govt. must overhaul tax administration: IMF

Sri Lanka must move its revenue administration from a reactive, crisis-driven model to a modern, risk-based and digitally enabled one if the tax gains that doubled revenue to 15.4% of GDP since 2021 are to endure, the International Monetary Fund (IMF) said, with the next phase of revenue mobilisation dependent on compliance, data and enforcement rather than higher tax rates.

The findings are contained in the IMF Fiscal Affairs Department’s (FAD) Revenue Administration Diagnostic, published by the Ministry of Finance, Planning and Economic Development on 30 October, 2026 in fulfilment of a structural benchmark, or reform commitment, under the Extended Fund Facility (EFF). 

The report, based on a mission to Colombo from 24 June to 7 July, 2026 led by Andrew Kazora Okello, sets out the revenue administration pillar of a government-owned Medium-Term Revenue Strategy (MTRS).

The recovery from 7.3% of GDP in 2021 was led by VAT, which rose from 1.8% to 5.3% of GDP and accounted for about half the increase, while income tax rose from 1.9% to 3.5%. The IMF said, however, that the gains were made from a weak institutional base and against still-large compliance gaps, with risk-based methods emerging across the Inland Revenue Department (IRD), Sri Lanka Customs (SLC) and Sri Lanka Excise (SLE) but not yet consistently embedded in daily operations.

“In Sri Lanka’s case, the MTRS should be seen less as a vehicle for short-term tightening and more as a platform for locking in recent gains, updating the legal framework needed for modern administration, and moving from a reactive post-crisis model toward a more modern and trusted revenue system,” the report said. With the easier policy gains largely realised, the IMF said the strategy should not rely mainly on further statutory rate increases.

The data point to a deeper problem than late filing. In VAT, on-time filing improved between 2025 and the first quarter of 2026, from 80.1% to 85.7% for large taxpayers and from 45.9% to 55.9% for non-large taxpayers, yet non-filing rose from 12.3% to 19.1% among non-large taxpayers and from 0.3% to 4% among large ones. “These data suggest that recent compliance efforts have improved filing timeliness more than they have reduced non-filing, underscoring the need for stronger non-filer identification and follow-up,” the IMF said.

Income tax filing is weaker still. In 2025, non-filing reached 52.7% for corporate income tax (CIT), 45.6% for personal income tax (PIT) and 67.8% for individual income tax (IIT), with more taxpayers failing to file than filing on time in all three. The IMF traced this to weaknesses in non-filer detection, follow-up and enforcement credibility rather than the availability of electronic filing, and described Sri Lanka as a clear outlier with the weakest on-time filing across all major taxes among selected South Asian peers. “Sri Lanka’s results suggest that a large proportion of registered taxpayers are either failing to meet their filing obligations on time or have become inactive while remaining on the taxpayer register,” the report said.

That makes register cleanup central. VAT and CIT register cleanup is on track to meet the July 2026 structural benchmark, but IIT register cleansing can proceed only once adequate server capacity is available, given the volume of records involved.

The weakness extends to employer withholding. Of 47,662 employers required to file for 2025/26, on-time filing was 81% among those managed by the Large Taxpayer Office, but 38% among about 14,000 medium corporate taxpayers and 13% among some 27,600 employers managed by regional and metropolitan offices, which the IMF said reduces the IRD’s ability to detect under-withholding or non-remittance.

At the heart of the overhaul is compliance risk management (CRM), the practice of using data to direct audit, enforcement and service resources to the highest risks. VAT compliance improvement plans are in place, but risk registers, third-party data and analytics are not used consistently across tax types, the IMF said. “As a result, risk analysis does not yet consistently determine who is contacted, audited, assisted, or enforced against.” Penalties, though available in law, are not applied consistently.

The same gap shows in arrears. Tax defaults stood at about Rs. 2.1 trillion as at 31 December, 2025, compared with about Rs. 1.1 trillion in 2024, with about Rs. 1.6 trillion in dispute. “For debts not in dispute, continued aging points to staffing constraints, weak prioritization, and the absence of a risk-based framework to distinguish collectible debts from low-value, disputed, low-probability, or administratively uneconomic cases,” the report said. The IRD cannot write off bad debts without submission to the Ministry of Finance.

Systems are the most immediate risk. The maintenance contract for the Revenue Administration Management Information System (RAMIS), the IRD’s core platform for registration, filing, payment, arrears, audit, refunds and taxpayer services, expires on 31 January, 2027, and the planned transition to a Sri Lanka-based support model has not begun. Foundational actions under the IRD’s IT Strategic Plan for 2025-2027, including data warehouse procurement and defining RAMIS 3.0 requirements, have also not progressed as envisaged. “Any interruption in vendor support, system maintenance, or operational troubleshooting could disrupt essential tax administration processes and put recent revenue gains at risk,” the IMF warned.

Administrative readiness should also set the pace of policy. Before lowering VAT thresholds or bringing materially more taxpayers into the system, the IRD should substantially improve register quality, digital filing and payment, taxpayer service and refund risk management, the IMF said.

If sustained, the overhaul could pay off. The IMF estimated that lifting Sri Lanka’s score on the Operational Strength Index (OSI), a measure of revenue administration capability, from 0.39 to 0.55 over five years could generate additional internal revenue of about 1.9 percentage points of GDP. It cautioned that the figure is illustrative, is not the MTRS revenue objective, excludes Customs, Excise and tax policy measures, and should not be treated as revenue additional to the baseline without further analysis.

Over the longer term, the report recommended considering a modern tax procedures code covering registration through to appeals and taxpayer rights, but cautioned against reaching for structural fixes first. “Options such as a revenue authority model, or other forms of closer structural integration, may merit consideration, but they should follow, and not substitute for, the operational, legal, and institutional foundations needed to make such reforms effective,” it said.

The IMF identified loss of momentum once the immediate crisis context fades as the principal implementation risk, and called for credible early wins, including cleaner taxpayer data, stronger filing and payment controls and more predictable treatment of compliant taxpayers, to sustain support for reform.