Concealment of income, FATF compliance: Improvements in tax administration required

In this last article of a multi-part series of articles I will discuss the improvements required in tax administration in their multiple goals of stopping concealment of income and compliance with the FATF requirement in relation to income and assets in Pakistan. Let me reiterate that the best tool to eradicate corruption and improve accountability in any society is the effective implementation of tax laws. The reason for it is very simple. When everybody’s income from all sources is accounted for properly in the tax records there is no possibility to have income from undesired sources including corruption.

Asset accumulation is the secondary stage. Administration has to be effective at the stage of ‘earning income’. In principle, there has to be a complete record of income and nobody should dare not to hide any form of income. Such income may be taxed, exempted or zero-rated but it be declared so that it is accounted for in the return of income for that year. Unless this universal principle is applied there cannot be any meaningful improvement in tax administration.

Pakistan’s tax system that had digressed substantially since the 1990s from these principles is to be brought back on track. Any attempt to deviate will be counterproductive in the long run. History is a witness that no criminal charge against a mafia chief in the United States could be established except evasion of taxes and for which he was sentenced. It is almost impossible to escape the net of tax if implemented properly.

In Pakistan, if there is a desire to implement accountability then the only way to achieve it is to establish a system that all incomes are declared and properly accounted for. Taxing these is a secondary subject. In other words, agricultural income or income from exports may be exempted or zero-rated; however, the person earning such income has to account for that income in his return of income in all circumstances. This will be actual income not a presumptive amount. If we give space that a particular income is either not required to be disclosed in the return of income (practical case is agricultural income) or is not computable (as is the case in presumptive taxation) then accountability against corruption, on the basis of ownership of assets or for incurring huge expenditure will only remain a desire and an impossible target. It is so because in that case there will be ample avenues to justify funding of assets and expenditure which are identified as undeclared, unexplained or untaxed. The most obvious avenue is ancestral agricultural property giving agricultural income.

This leads to subjects of difference between undeclared, unexplained and untaxed assets. These are three different kinds of assets and whilst conducting proceedings against them, it is essential to identify the differences between these three classifications keeping in view the ground realities in Pakistan. I will explain these three terms in the following paragraphs after explaining the legal disclosure requirements in Pakistan.

In my earlier article, I referred to a document called ‘Wealth Statement’ prescribed under the Pakistan law. This statement is a balance sheet of assets, liabilities and capital of any person. This effectively means that every Pakistani (who is required to file a wealth statement) is required to disclose total assets, anywhere in the world in his or her name and sources from which such assets have been acquired. Those sources may be income, borrowing or a gift from any other person. The sum total of income, liabilities and gifts during a period is reflected by the accretion in assets after deducting expenditure.

Theoretically speaking, this is a comprehensive document; however, the primary question which is before me as an accountant and a former Chairman FBR, is what percentage of total assets held in Pakistan that should have been in the wealth statement of individuals actually appear in the wealth statement if taken as whole. In my personal view there is a very wide gap which is reflected by the heading of this article ‘undeclared’, ‘unexplained’ and ‘untaxed assets’. The purpose of highlighting this subject is to identify that all the actions for ‘concealment of income’ which are expected to be undertaken in the near future and which are necessary for our society will be based on ‘unexplained assets’ as referred to in Section 111 of the Income Tax Ordinance, 2001. Therefore, before entering into the field we should be aware of ground realities.

Pakistan may be one of few countries following Anglo-Saxon legal system which requires filing of any document in the nature of wealth statement. There are no wealth statement documents in the UK, USA, Canada or India. These countries have not prescribed this form for the reason that income tax laws are made for taxing ‘income’ and these laws cannot be used to track, trace or tax assets or expenditure. In this connection, it is also important to identify that the wealth statement as prescribed in our law has nothing to do with the laws relating to tax on wealth which was prescribed by way of a wealth tax law named as the Wealth

Tax Act, 1963. That law was abolished in 2000s.

This raises the question whether or not there should be a wealth statement in Pakistan. In theory the answer is in the affirmative that there should not be any wealth statement in Pakistan; however, the prescription at present is justified on the ground that in Pakistan there were many avenues, within laws, whereby an income can totally escape identification. Accordingly, a document of asset or expenditure has been prescribed to track the same. This is the only justification of the wealth statement and in the present circumstances I concur with that.

It is important to note that in any economy the ultimate ownership of assets lies with some real person. Corporate bodies, partnerships, sole proprietorship, trusts and Non-profit organization are the mediums through which individuals own those assets. It is therefore essential for any tax administration to properly regulate income generation for fiscal purposes in the hands of individuals. In reality, the ultimate taxation is to be made to individuals according to their capability to pay. Businesses are to be incentivized to earn more and reinvest. In Pakistan, however, we work on the reverse side. In developed economies personal taxes are generally more than corporate taxation and that is actually the proper taxation policy.

Private assets in whole of the country are held in the following form:

1. Immovable properties;

2. Investments in government securities;

3. Shares in listed companies;

4. Shares in unlisted companies;

5. Share in partnership assets;

6. Loans and advances;

7. Cash and bearer securities;

8. Bank deposits;

9. Gold, bullion and precious metals; and

10. Paintings and other valuable collections.

These assets may be held in Pakistan or outside Pakistan. After 2018 there is a separate wealth statement for assets held outside Pakistan.

In theory all assets of all kinds should be reflected in one or other wealth statement with a track record through income for any year. This is an idealistic position. On the basis of my experience, however brief, in the field as country’s tax administrator I can openly state that in Pakistan a very substantial part of such assets does not form part of any wealth statement. For example, if you take out even expensive immovable properties in Pakistan which may exceed lacs in number you will note that a large number of them do not form part of any tax record. Even if there is some initial record available that loses its track at ultimate state. This is true for almost all kinds of assets identified above. For example, the number of business bank accounts declared is far less than operating business accounts being maintained by the banks.

The purpose of this description is to identify that there is a need to appreciate the ground realities and mistakes made in the past to identify the correct path for the future. It is a fact that the past cannot be undone. When General Musharraf came to power in 1999 he started ‘Asset Survey Process’ throughout Pakistan and all properties and other assets were required to be disclosed in the forms furnished for that purpose. The military was involved for administration. In principle, it was a good step; however, we are all aware of the fate of the process and data collected may be lying in some offices in the tax department.

Leaving aside the past, it is our duty to identify the future course in a manner that mistakes committed in the past are not repeated. For that purpose there is a need to understand that in Pakistan’s context undeclared assets do not necessarily mean untaxed assets. There are thousands of assets owned by Pakistanis which are not disclosed in the wealth statement though they were required to be disclosed but the question is whether such assets are untaxed and if so criminal proceedings, including AML charges, can be initiated against those persons. The answer is in the negative. There are lacs of expatriate Pakistanis owning assets in Pakistan and abroad. When these persons become tax residents in Pakistan they are required to disclose all their Pakistan and non-Pakistan assets in their wealth statement in Pakistan.

Most Pakistanis in the past defaulted on this account for the reason that in general only those assets which were chargeable to tax in Pakistan were disclosed and those not being taxable in Pakistan were not disclosed. Now when law is enforced with full force for such a person there may be a question of default. The question is the manner of dealing with that default if so construed by the tax administration. In short, the question that emerges from this situation is whether non-disclosure of assets in the wealth statement in the past necessarily means that income from which such assets has been created is taxable in Pakistan. Or the maximum charge is penalty for non-filing of wealth statement. In my view the answer lies in the latter.

I reiterate the statement that in Pakistan’s perspective undeclared assets do not necessarily represent untaxed assets and in most of the cases it is the default of improper disclosure. In the past penalties for such non-disclosure were so mild that people did not care for the same. Now the question is the magnitude of the quantum leap that is to be made for the implementation of law. In my view a measured approach would have to be adopted keeping in view the administrative capabilities. An all-encompassing comprehensive approach is practically neither feasible nor desirable.

In the light of the above it is my suggestion that:

• Tax Administration should concentrate on the subject that all incomes in the present year and thereafter are accounted for in a proper manner. All provisions, regulations, and prescriptions be designed in the manner that income is encompassed in return of income in future. For example, the reconciliation for credit for agricultural income be properly accounted for.

• There should not be unnecessary probe for the assets held as at June 30, 2021 and prior years for the primary reasons that laws which allowed accumulation of such assets without proper disclosure were duly legislated. The aggressive probe will lead to nothing except harassment and undue corruption.

The suggestions, as above, do not mean that I am seeking some ‘NRO’/amnesty for the assets held as at June 30, 2021. My simple argument is that if there is ‘definite information’ about an income or corruption money that has escaped assessment then proceedings for the same should be undertaken. The alternate approach of reaching untaxed income/proceeds of crime from the asset held will not give beneficial results as there are many many avenues to justify the ownership of those assets within the framework of the law that was applicable at that time.

Copyright Business Recorder, 2021