Tax reform is a policy implementation by the government through which a few alterations are made to the tax system in order to overcome the loopholes and enhance the effectiveness of the tax administration in the country in order to generate higher revenues from taxes as compared to overall spending. Is our economy running according to this definition? While talking about “tax”, we are, of course, divulging something which is intensely “disliked”.
This is not only the case with Pakistan and Pakistani taxpayers, but this syndrome is very much present in the rest of the world, including countries like the US.
The main objectives of taxation are to enhance revenues in an equitable manner and to provide support to the industrial sector through variations in tax rates. Compare the tax-to-GDP ratio. Compared to countries like China, Egypt, India, and Malaysia, Pakistan has a relatively low tax-to-GDP ratio.
However, it is more than Sri Lanka, Indonesia, and Bangladesh combined. High tax evasion, anomalies and concessions in the tax structure, and deficiencies in tax administration have resulted in a decrease in revenues but have also created a poor public perception of the tax system.
We Pakistanis are generous with zakat, donations, etc.-but our moment of concern is that out of a population of 220 million, only 2.1 million people file taxes, and, interestingly, only 9% of our population pays direct taxes, while the remaining 91% of the country’s population is outside of our direct system. Honest declaration of income is all the more pivotal when we talk about income tax liability. We have not been faithful enough as a nation to uncover what we possess and have. I’m referring to the increasing trend among taxpayers to conceal their genuine income and make false declarations on their tax filings.
In the current situation, when the declaration of actual income is not the norm, it is simply not possible for tax authorities to cut tax rates. To broaden the tax base, Pakistan needs more filers. If everyone paid their dues, we could collect twice as much tax as we do currently and spend it on public goods more effectively.
Some incentives may be given to induce tax filing by more income earners: An individual taxpayer who files a tax return for the first time is exempt from audit for the first three years. Second, if an individual has been a registered taxpayer for at least three years, they will be exempt from audit if the income declared is 20% higher than the previous year.
There is a basic principle — there will be no income tax in our society unless justice is established in our society. There is a process of progress and improvement everywhere, but in the case of Pakistan we are moving in reverse, from progress to deterioration. In the last seven decades, we have been trying to bring in reforms that were never delivered in the true sense. Therefore, the economic foundation is still fragile despite introducing tax reforms. There are some basic reasons why our tax base does not grow. The first reason is our tax literacy.
The tax literacy rate in our country is far lower than average, and in this figure, there are those people who can merely understand the complications of the tax laws. When this is the state of literacy in our country, we can very well judge to what extent our population or otherwise the taxpayers will be equipped with the proper understanding and education of our tax laws and compliance. While talking about the evolution of the tax culture in our country, we’ll have to launch a mass campaign of tax literacy.
The intricacy of tax laws and their effects is another factor for not growing the tax base. Leaving aside the population’s overall low level of tax literacy, the difficulty of properly understanding tax laws due to their intricacy and complexity becomes massive and multifaceted.
The tax regulations have just recently been simplified to make them easier to understand and apply. To simplify the tax code, a concentrated effort with a strong will is required. As stakeholders in the current tax environment, we should all share responsibility for developing and disseminating a shorter, easier, and simpler tax code. It is true that legal texts are tough to write. It must be admitted that no amount of work can completely eliminate the statute’s complexity, but considerable attempts should be made to reduce its tone and texture.
Another reason for not expanding the tax base is big business. Pakistan’s wholesale and retail sectors have the lowest tax rates. This sector is characterized by high taxation and tax evasion. According to a recent report by Planet Retail, the retail market in Pakistan has crossed $152 billion, which makes the sector the third largest contributor to the country’s GDP and its second largest employer.
According to the Federal Board of Revenue (FBR), the retail market accounts for a whopping 18% of the GDP. Meanwhile, its contribution to the national exchequer is a meagre 3.9%. There has long been an understanding that the only way to bring these retailers within the tax net was to digitize transactions and keep an eye on buying and selling at these retailers. The latest idea was that under the FBR’s new POS system, details of each transaction would go directly to the board and they would be able to calculate and charge tax accordingly.
Interestingly, it will have a lot of development in the country because it is a routine nature in the world that your point of sale system is linked to your tax collection agency, and I believe it will be a huge development for this government if this point of sales system is implemented successfully. Let me give you an example. The population of India is six times more than our population. They have a retail sector worth $690 billion USD.
We have about $152 billion. Four times more than us. If we talk about per capita income or GDP, then they have US $1,750 and we have US $1190; there is a difference of US $560. Shockingly, their organized sector would be around 20 to 25%. We are still far to reach that level. They were like us for a while, but they took things seriously and they went ahead of us. We have to take some steps if we want to make our point of sale more effective. We should give our people awareness of the point of sale system and also reduce the tax rates.
We also need to consider our fiscal side: why we can control it; we can improve it; we can tax the wealth; we can tax the rich; instead of subsidizing the elite class without having proper mechanism to give more benefit to poor as compare to rich, we have to think for ourselves how fast these indirect taxes are increasing in our country. Second, we need to control our expenditure.
Our fiscal deficit soared to 7 percent of GDP. We have to see in Argentina that they have imposed a wealth tax for the next two years. We also have to think about how long we will depend on these indirect taxes. There is no rocket science in this thing.
There will be no country-except our country where these in-direct taxes have exceeded 75% (the disease we have been suffering from since 1980) that we have achieved the required tax target. The basic question is whether we achieved the target. How did we achieve it? If we achieved this by raising the tax target through taxing high consumption commodities by raising the general sales tax, then in my opinion, this is not a big success for us.
The following factors contribute to our country’s low tax revenue: a narrow tax base, devaluation, foreign aid, the informal economy, and a low tax literacy rate. Our country has a large conventional agriculture sector as well as other “difficult to tax” sectors like small companies and the shadow economy. The tax literacy rate is by far the most critical factor in the performance of tax revenue collection, and the documentation of the economy is the backbone of a functional tax system.
A literate tax base provides documentation. Low per capita income indicates unequal income distribution and significant unemployment. Indirect taxes have a negative impact in countries with unequal income distribution, hence in the case of Pakistan, the direct tax base should be expanded rather than the indirect tax base, as Pakistan has more income inequality. Clearly, tax exemptions or low taxation in the agriculture sector affect the rest of the economy and result in a large loss of revenue for the government.
Tax collection necessitates consistency in implementation, which is only possible with political stability. Indirectly, taxes and the state of law and order are linked. A country with a stable law and order situation would attract more investment and create more jobs, resulting in increased spending power for consumers who are efficiently taxed. People’s awareness of the benefits of paying taxes, which boosts tax morale, should be considered as a long-term policy impact.
Copyright Business Recorder, 2022