‘Existential crisis’: tax the undocumented sector, urges PBC

The Pakistan Business Council (PBC) stressed that the incoming government should expand the revenue collection base by bringing the informal sector into the tax net.

In its report, ‘Agenda for Incoming Government’, the PBC highlighted different issues the country faces, including taxation.

 “Tax policy in Pakistan is regressive in nature and penalises growth and profits; it concentrates on a very narrow base for tax collection and encourages informalisation of the economy,” the report said.

The PBC’s report comes ahead of general elections that are scheduled for February 8, which will lead to the formation of a new elected government.

The PBC is a Pakistan’s premier business advocacy body, supported by over 100 leading local and multinational companies from 17 sectors and 14 countries.

According to the PBC, lack of transparency, accountability along with lacunas in the law have resulted in a demoralised tax collection machinery, which is viewed with suspicion by the taxpayers.

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Pakistan’s tax to GDP ratio would remain more or less at the current rate, unless there is political will and capacity/capability in the enforcement machinery to formalise the economy and broaden the tax base, it added.

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“Tax policy in Pakistan is inconsistent and subject to knee jerk reactions in the face of tax collection pressures. This discourages long-term investments in industry,” PBC said.

 Separately in a post on X, formerly known as Twitter, PBC said the first task of the incoming government should be to negotiate the 24th IMF programme.

“It [new government] should seek a longer term, reform centric programme instead of the previous short term, front ended programmes, targets for which are easily met by taxing the taxed and by raising energy tariffs instead of conducting deep reforms of the energy sector.

“It is also important to reprofile external debts, otherwise the threat of default will persist and negatively impact investor and business sentiment,” PBC said.

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The business body urged that the country needed a broad tax base and predictable and equitable tax policies.

“Taxing the already taxed to meet IMF or other targets is akin to killing the goose that laid the golden eggs,” it said.

Corporate sector woes

The corporate sector, which by the nature of its structure needs to be transparent and compliant, is at a disadvantage when it comes to other forms of businesses such as association of persons (AOPs).

The tax rate on AOPs is lower than that on corporations, discouraging firms from corporatising. It is important to have a minimum or no tax arbitrage when it comes to various forms of businesses.

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 The formation of Groups and Holding Companies is a prerequisite for consolidation and growth of businesses. Pakistan in 2007 started down this path with a Holding Company law aimed at encouraging the formation of Groups and Holding Companies. However, by taxing inter-corporate dividends since 2016 it has reduced the momentum of Group formation. A shareholder in a Holding Company may end up paying tax as high as 61% on profits.

The minimum tax regime in Pakistan taxes turnover as opposed to profits,which discourages investments in large-capital intensive projects where a tax loss is a normal in the initial years of operations. Pending the development of the Federal Board of Revenue (FBR) capability, as a first, the listed sectors would be exempt from turnover tax as listed firms are well audited with multiple audits and transparent accounts.

Pakistan’s corporate tax rate at 29% is one of the highest in the region. In addition to the high tax rate, there are contributions from income to the Workers Welfare Fund (WWF) at 2% and Workers Profit Participation Fund (WPFF) at the rate of 6%. In addition, successful firms are also subject to a Super Tax.

“In addition, personal income tax rates of up to 35% are leading to an exodus of Pakistan’s best professional talent,” read the PBC report.

Ramp up taxes on retail/wholesale and real estate sectors     

Meanwhile, the PBC has estimated Rs747 billion amount – Rs 234 billion from retail/wholesale trade and Rs513 billion from the real estate sector - that could be raised through taxation.

“Public savings should be guided towards more productive venues, Pakistan’s savings and investment levels are about half those of its neighbors,” the report pointed out.

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“Real estate, retail, and wholesale trade, gold, cash, prize bonds, foreign currency etc., have become major avenues for generating and parking non-tax paid business profits as well as income from illicit activities,” it added.

Asset tagging and a more aggressive stance on avenues for generation as well as investing unaccounted money should thus be a priority, according to the PBC.

The report argued that provinces have an opportunity to add Rs380 billion to their revenue through taxation of properties and Rs372 billion from agriculture tax on large and medium sized farmers.

High rates of taxes encourage evasion

The PBC said the high 18% general sales tax in a poorly documented economy of Pakistan together with relatively high import and excise duties provide an attractive incentive to evade, the spoils of which are then shared with a notoriously inefficient enforcement and collection machinery.

“Since provincial GST does not apply on goods, provinces where most of the evasion of federal taxes takes place, have no financial interest to stem it,” the report said.

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Pointing towards the menace of under-invoicing of imports, the council estimated that imports are under invoiced by $5 billion annually in the country, which hurts the national exchequer and creates an unfair playing field for the formal sector.

Until the FBR and the provincial revenue authorities are radically restructured and their capacity to broaden the tax base through use of technology is addressed, the scope of broadening the tax base would remain limited, it said.

“Tax collection targets should be set separately for those in and outside the tax base so that its achievement of growing the latter becomes more visible,” the report recommended.