Budgets 2020 amid Covid-19 crisis-I: Revival, growth and revenues

"If we were to construe Entry 52 of the Legislative List keeping in view the above meanings of the expression "in lieu of", it becomes evident that the Legislature has the option instead of invoking Entry 47 for imposing taxes on income, it can impose the same under Entry 52 on the basis of capacity to earn in lieu of Entry 47, but it cannot adopt both the methods in respect of one particular tax. Since under sections 80-C and 80-CC the imposition of presumptive tax is in substitution of the normal method of levy and recovery of the income-tax, the same is in consonance with Entry 52"-Supreme Court of Pakistan in the Messers Elahi Cotton Mills & others v Federation of Pakistan & others [ PLD 1997 Supreme Court 582].

"Simplify taxes, reduces the cost of excessive documentation, open the economy for higher growth and employment, taxes too will increase"-PIDE Policy Viewpoint [16:2020] Doing Taxes Better: Simplify, Open & Grow Economy.

The biggest challenge on tax mobilisation front faced by Federal Board of Revenue (FBR) is bridging monstrous tax gap through automation and introduction of tax intelligence system and levying taxes on the rich, rather than enhancing the rates of the existing ones, especially the indirect taxes-already made us uncompetitive in the world.

The World Bank in its report, Pakistan Revenue Mobilisation Project, has noted:

"Pakistan's tax revenue potential would reach 26 percent of GDP, if tax compliance were to be raised to 75 percent, which is a realistic level of compliance for lower middle income countries (LMICs). This means that the country's tax authorities are currently capturing only half of this revenue potential, i.e. the gap between actual and potential receipts is 50 percent. The size of the tax gap varies by tax instrument and by sector. The tax gap in the services sector is larger than in the manufacturing sector (67 percent vs. 46 percent respectively) and it is larger for the GST/GSTS than for income tax (65 percent vs. 57 percent respectively)".

Budgets 2020 for fiscal year 2020-21 by federal and provincial government are in the making amid very difficult times when we are faced with economic meltdown due to Covid-19 outbreak and extreme hardships by weaker segments of society. The federal budget is expected to be presented on June 5, 2020. The traditional approach adopted for decades in Pakistan for balancing the books, levying irrational taxes, containing fiscal deficit and other number games will have to be reconsidered in totality under the prevalent exceptional circumstances. In this three-part series, we will present concrete measures to increase revenues (tax and non-tax) without hampering the already collapsing economy, incentive and stimuli to revive the businesses fast and proposals for better fiscal management in post 18th Constitutional Amendment and finally using integrated new city model to achieve desired growth of over 6% for a sustainable period of at least a decade by tapping rich natural and human resources.

While efficient and enhanced collection of revenues (tax and non-tax) is very important to meet the needs of fast-growing population, run the State effectively, these are urgently required to help 40 million identified as poor in the latest Multidimensional Poverty Index [MPI] 2019 and bring them out of poverty trap. The central theme of all budgets of 2020-federal and provincial-should be achieving the long-delayed and much-needed goal of simplification of the tax system, ensure welfare of the common people and provide universal entitlements [free education, health, decent living, affordable public transport, universal pension, income support, civic amenities etc] to all citizens through a comprehensive social security system. This would only be possible by following a rational tax system proposed in 2016 [Towards Flat, Low-rate, Broad and Predictable Taxes, PRIME Institute, 2016] and some concrete measures suggested below.

Like all other nations in the coming days, we will have to work hard to ensure survival and revival of businesses adversely affected by Covid-19 pandemic that employ millions having no other source of income. An overwhelming majority of businesses in the wake of lockdown necessitated due to Covid-19 epidemic even after relaxation is facing a battle to survive and revive. These were already suffering due to sluggish economic activities, high utility bills and markup rate prior to the Covid-19 outbreak. Big to small and medium enterprises (SMEs) are demanding a comprehensive bailout, including tax reliefs. They are complaining that they are facing difficulties in securing loan facility announced by State Bank of Pakistan to pay salaries/wages. Those on rent are demanding remission/deferment/loan to pay the same. Their demand is of interest-free loan and/or grant to employees to avoid lay-offs as after opening of businesses, they argue it will require many months to recoup losses and achieve a break-even position. Amid this bleak scenario, they claim, markup would be an additional burden. There is a demand of massive tax reduction, deferment of old and forthcoming liabilities, tax amnesty, and zero taxation for employees earning up to Rs. 100,000 per month, waiver of advance income tax and over 70 withholding tax provisions contained in the Income Tax Ordinance, 2001, Sales Tax Act, 1990 and all provincial laws relating to sales tax on services.

Unfortunately, nobody is talking about mobilising tax and non-tax revenues by taking some out of the box measures. Somebody needs to tell the Prime Minister that the iniquitous prescription of erratic and oppressive taxes and austerity in the federal and provincial budgets will not solve our problems especially in the prevalent circumstances. The federal and provincial governments need to generate and spend more money on infrastructure improvement to create more employments and ensure higher growth, engaging private sector to take part in public projects to revive and grow. This would kick-start the economy. Simultaneously, the governments need to reduce wasteful expenditure, right-size the monstrous size of their inefficient machinery, monetize all the perquisites of bureaucracy and make taxes simple and low-rate. State lands, lying unproductive owned by the federation and provinces, should be leased out for industrial, business and commercial ventures. It will generate substantial funds, revenue (at public auction 5% as full and final tax can be collected amounting to billions and thereafter on development and construction of various housing and commercial projects huge amount of taxes, both direct and indirect, for the FBR and provincial tax agencies) and facilitate rapid economic growth and create substantial employment opportunities.

The dire need in today's Pakistan is to undertake fundamental institutional and structural reforms. Our biggest burden on economy is the huge unproductive workforce comprising nearly four million people, in various governments (federal, provincial, local and corporations) and Public Sector Enterprises (PSEs), who waste time and money and mostly create hurdles for citizens and businesses rather than serving them. Right sizing of monstrous administrative machinery and improving quality of public services should be on the top of agenda for reforms. This can be done by transferring much of the work to Local Governments, which should be installed from the lowest level up. Local elected authorities should handle all health, education, water and sanitation, local roads, local policing, local property transfer, property and income tax etc. For making Pakistan a self-reliant economy, we need to stop wasteful, unproductive expenses, cut the size of cabinet and government machinery, the government-owned corporations should be run with private-public partnerships giving stock shares to the employees and introduce other steps to make these profitable through complete restructuring, increasing productivity through better technology and trained human resource, improving agricultural sector to meet local needs and creating exportable surplus; and reducing economic inequalities through redistribution of income and wealth using rational tax policy.

The following are some measures to generate revenues (tax & non-tax) for both federal and provincial governments to become self-reliant as well as steps for providing relief to all, especially the weaker sections of society. In the present crisis situation, we have a great opportunity to create nation-wide data of all persons, showing their earning/expenditure levels and ownership of assets, in order to provide a comprehensive social security system. The Pakistan Tehreek-i-Insaf (PTI) having a coalition government in the centre and three provinces, can easily implement these. The government of Pakistan People Party (PPP) in Sindh will certainly follow suit or face the wrath of its voters.

* For the next three years, the actual quantification of income of non-corporate businesses and professions should be given up and taxation may be moved to gross basis at fixed rate (after determining the fair rate for each class of business/profession). There will be no audit/raids. The taxpayers in their books shall be allowed to take credit of imputable income.

* Presently, barring a few, income tax is levied on net income with minimum tax to the extent of amounts collected through over 60 withholding provisions. It is patently unconstitutional as held by Supreme Court in the Elahi Cotton Mills & others v Federation of Pakistan & others [PLD 1997 Supreme Court 582]. The apex court held that the National Assembly through Money Bill can impose taxes on income under Entry 47, Part I, Fourth Schedule to the Constitution or impose the same under Entry 52 on the basis of capacity to earn, but "it cannot adopt both the methods in respect of one particular tax". The Finance Act 2019 blatantly violated this constitutional command.

* For ease of doing business and waiving off lengthy disclosures in exceptional circumstances, if presumptive tax is imposed on turnover/receipts under Entry 52 as was done in 1991-92, the collection will be around Rs. 800 billion from all businesses and profession other than companies and employees that will keep on paying taxes under the existing tax rates and system. Its working and enforcement are discussed in the second installment elaborating efficacy of tax intelligence system developed by some top experts to capture turnovers/receipts for all businesses and professions. The total collection, if we add corporate sector's contribution after levying excess profit tax to counter monopolies and cartels, under the head income tax for fiscal year 2020-21 alone will be Rs. 2000 billion against the net collection of Rs. 1445.4 billion in 2018-19 [we are not taking 2019-20 collection into account due to massive shortfall in the wake of Covid-19 outbreak and lockdown]. The additional revenue of around Rs. 555 billion under one head alone will be a great achievement without hampering economic revival and, in fact, giving businesses and professions a stimulant to grow in the next three years. FBR will get much more tax than what it is presently collecting after giving share to provinces under the National Finance Commission (NFC) Award.

* The federal government should also amend the definition of "agricultural income" to bring into its ambit receipts from sale of orchards, lease of lands, nurseries and in this way, the rich absentee landowners and those engaged in businesses of nurseries will come under the Income Tax Ordinance, 2001. The additional revenue of Rs. 200 billion can be obtained from this source, if taxation is based under Entry 52 as discussed above. The historic decision of taxing "agricultural income" by the federal government was passed by Federal Parliament in the shape of the Finance Act, 1977, but was thwarted by the military regime of Ziaul Haq. Through this law, the Parliament amended the definition of "agricultural income" to tax big absentee landlords under federal income tax law. This was a revolutionary step to impose tax on agricultural income at federal level for the first time in the history of Pakistan but was unfortunately foiled by a military dictator. It needs to be revived. The small farmers having holdings up to 15 acres are already exempt from income taxation and will remain so. There is no need to amend the 18th Constitutional Amendment or disturb NFC Award if this measure is adopted in the Finance Bill 2020.

* During Zia's 11 years rule and that of General Musharraf for nearly 9 years, absentee landowners (including mighty generals who received state lands as gallantry awards or otherwise!) did not pay a single penny as agricultural income tax or wealth tax.

* Taxation of "agricultural income", at present, is the sole prerogative of provincial governments under the 1973 Constitution of Pakistan under Entry 47. All the four provinces have enacted laws to this effect, but total collection during the last five years never reached even Rs. 2 billion cumulatively (share of agriculture in GDP on average was about 20% for this period). Therefore, there is a need to impose income tax on the rich absentee landowners as suggested above.

* Military rulers abolished all progressive taxes, e.g., Estate Duty, Gift Tax, Capital Gain Tax etc. Now these are with provincial governments after the 18th Constitutional Amendment, but they are least interested in taxing the rich and mighty. If these taxes are imposed additional revenue of Rs 80-100 billion can be generated.

* Multinational Companies (MNCs) through transfer pricing mechanism, deprive Pakistan of taxes of over Rs. 200 billion every year and this can easily be recouped with advance transfer pricing agreements, present no provision exists to this effect.

* The Wealth Tax Act, 1963 was abolished through the Finance Act 2003 on specific demand of Shaukat Aziz before he took charge as Finance Minister of Pakistan. He was fully aware of the fact that by virtue of his status as resident in Pakistan, his global assets would attract provisions of the Wealth Tax Act culminating into substantial tax liability on annual basis. The repeal of this progressive law, especially suitable to Pakistan where enormous assets are created without disclosing income, was shown to be justified despite substantial revenue losses, and the resultant misery inflicted on the majority of the people of Pakistan. Successive governments through amnesties and asset-whitening schemes caused loss of billions of rupees to the national exchequer. Levy of 1% tax on those having net moveable assets exceeding Rs. 10 million by the Federal Government and at the same rate on immovable assets by the provincial governments will bring equity as the rich will be forced to contribute at least Rs. 200 billion to help economically distressed and badly affected by Covid-19 pandemic.

* The total collection by imposing unified sales tax on goods and services (as done by India in 2017) can reach Rs. 3500 billion as against collection of around Rs. 1659 by the Federal Government through sales tax on goods [Rs. 1459 billion in 2018-19] and provinces by sales tax on services [cumulatively Rs. 190 billion]. The additional revenue collection of Rs. 1400 billion will not only give fiscal space to the federal government to narrow down fiscal deficit but will also enhance distribution amount to the provinces. Distribution will be strictly as per Constitution. The collection under new law will be by FBR as provincial assemblies need to pass only resolutions under Article 144 of the Constitution empowering the National Assembly to enact integrated sales tax on goods and services. There is no need to enter into controversial amendment in the Constitution disturbing 18th Amendment. The slogan of 'One nation, One Tax', adopted by India in 2017, and Harmonised Sales Tax (HST) by Canadian federal and provincial governments is the way forward as taxpayers operating on trans-provincial level are facing many difficulties. If provinces do not agree, then for trans-provincial entities, FBR can include in the Finance Bill 2020, sales tax on services, following the command of Supreme Court in the case of Messers Sui Southern Gas Ltd & Others v Federation of Pakistan & Other 2018 SCMR 802. It extensively elucidates that the post-Eighteenth Amendment position vis-à-vis legislative competence of federation and federating units as under:

"We are in agreement with the observation made by the learned High Court that though in a Federal system, provincial autonomy means capacity of a province to govern itself without interference from the Federal Government or the Federal legislature, but as the Provincial legislature does not possess extra-territorial legislative authority, i.e., it cannot legislate regarding the establishments operating beyond the territorial boundaries of that province".

* The above pronouncement of the Supreme Court is not restricted to any particular law and cover tax laws as well. It is binding under Article 189 of the Constitution and provinces if do not agree for integrated sales tax of goods and service will suffer.

* In Customs, massive evasion takes place due to under-invoicing and mis-declarations. The collection in 2018-19 by FBR was 686 billion in 2018-19. If revenue leakages are plugged as suggested in Dismantle containers' mafia, Business Recorder, September 14, 2018, it can be Rs. 1200 billion. An extra generation of Rs. 500 billion under this head alone is possible.

* The loss in Federal Excise Duty (FED) due to illicit and smuggled cigarette sector alone is Rs. 100 billion a year. It can be plugged by trace and track (T&T) system [see detailed study by Huzaima & Ikram, Revenue Losses and illicit tobacco trade, 2020].

As evident from above, the additional revenue generation of at least Rs 2500 billion is possible at federal and provincial level, improving tax-to-GDP ratio substantially and reducing fiscal deficit in fiscal year 2020-21 if measures, as suggested above, are taken.

In the next installment, we will discuss a much-needed paradigm shift in various areas in the tax system and fundamental structural reforms to improve tax collection at federal and provincial levels making Pakistan a self-reliant and truly welfare state and paying off internal and external debts.

(The writers, lawyers and partners in Huzaima, Ikram & Ijaz, are Adjunct Faculty at Lahore University of Management Sciences)