Kenya's tax system is currently facing significant governance challenges that severely limit its ability to effectively mobilize revenue, according to a new report from the African Development Bank (AfDB). The 'Country Focus Report 2025', titled 'Making Kenya’s Capital Work Better for its Development', highlights several critical gaps, including insufficient taxation of high-net-worth individuals (HNWI) and an underdeveloped property tax regime. These deficiencies are projected to contribute to a substantial annual financial gap of Sh1.6 trillion ($12.5 billion) by the year 2030, posing a significant hurdle to the nation's development goals and its ability to meet Sustainable Development Goals (SDGs).

A primary concern raised by the AfDB is Kenya's heavy reliance on a narrow formal sector for tax collection, despite approximately 86 percent of its population working within the informal economy, which contributes very little to overall tax revenues. Although income tax constitutes a substantial 45 percent of total collections, the country’s tax-to-gross domestic product (GDP) ratio has experienced a steady decline over the last decade. This downturn is further exacerbated by a recognised poor capacity to tax difficult-to-reach areas, such as the burgeoning digital and informal economies. The report explicitly states that inadequate taxation of elite wealth, low rates on 'sin taxes', and an underdeveloped property tax framework further constrict revenue streams. Furthermore, the absence of a clear tax framework for emerging sectors like online gambling means significant potential revenue is left uncollected.

The projected Sh1.6 trillion financial gap by 2030 is particularly alarming, with the road sector accounting for the largest portion at 55 percent, followed by education at 22 percent, energy at 20 percent, and research and development at nine percent. Despite efforts to improve collections, the report notes that tax efficiency in Kenya remains low. In response to this pressing fiscal shortfall, Kenya aims to borrow nearly Sh1 trillion in its current 2025/2026 budget. While the Finance Act, 2025, is expected to generate only Sh30 billion in additional revenue, the majority of the Sh923 billion borrowing – specifically Sh635.5 billion – is slated to come from the domestic market, with the remainder from external sources. This projected fiscal deficit stands at 4.8 percent of the country's GDP.

Despite the challenges, the National Treasury Cabinet Secretary John Mbadi has stated that Kenya’s public debt is projected to remain sustainable over the medium term, with the debt-to-GDP ratio expected to progressively decline from 63.0 percent in 2024 towards a target anchor of 55 plus or minus five percent by 2028. Treasury official Kendrick Ayot affirmed the government's commitment to collaborating with the AfDB and adopting its recommendations, particularly concerning tax policy reforms aimed at enhancing domestic revenue mobilization. These include measures such as reducing and containing public expenditure, implementing e-procurement systems, transitioning to cash basis accounting, and further digitizing and automating tax collection processes.

The AfDB report also identifies the global financial architecture as a significant impediment to Kenya's development financing goals. It underscores the stark contrast between Kenya’s current tax-to-GDP ratio of just 13 percent and its estimated potential of 27 percent. To bridge this gap and secure sustainable funding, the report recommends several complementary strategies: deepening the domestic financial market, mobilizing private capital, leveraging natural resource rents, utilizing financial technology (fintech) to mobilize savings and expand credit access, and increasing blended finance for climate-resilient investments.