Subnational Taxation in Developing Countries : A Review of the Literature

This paper reviews the literature on tax
assignment in decentralized countries. Ideally, own-source
revenues should be sufficient to enable at least the richest
subnational governments to finance from their own resources
all locally-provided services that primarily benefit local
residents. Subnational taxes should also not unduly distort
the allocation of resources. Most importantly, to the extent
possible subnational governments should be accountable at
the margin for financing the expenditures for which they are
responsible. Although reality in most countries inevitably
falls far short of these ideals, nonetheless there are
several taxes that subnational governments in developing
countries could use to help ensure that decentralization
yields more of the benefits it appears to promise in theory.
At the local level, such taxes include property taxes and,
especially for larger cities, perhaps also a limited and
well-designed local business tax. At the regional level, in
addition to taxes on vehicles, governments in some countries
may be able to utilize any or all of the following -- a
payroll tax; a simple surcharge on the central personal
income tax; and a sales tax, in some cases perhaps taking
the form of a well-designed regional value-added tax. The
"best" package for any particular country or
subnational government is likely to be not only
context-specific and path-dependent, but also highly
sensitive to the balance struck between different political
and economic factors and interests.