Fiscal consolidation should be as growth-friendly as possible. In general, tax base-broadening reforms are identified as growth-oriented reforms. To the extent that they reduce distortions to economic decisions on work, saving, investment and consumption, they should increase output and improve social welfare — Choosing a Broad Base–Low Rate Approach to Taxation, OECD Tax Policy Studies No. 19
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 not levying more taxes or enhancing the rates of the existing ones — Rationalising tax system, Business Recorder, July 19, 2020.
Budget 2023 for fiscal year 2022-23 is in the making, amid very difficult times of economic meltdown, many say even ensuing of a complete disaster, due to perpetual political instability, a tug of war between the state institutions, in-fighting among elites leading to violence and civil strife.
In these testing times, for mitigating extreme financial hardships faced by weaker segments of society, the traditional approach adopted for decades in Pakistan for balancing the books, levying more taxes, containing fiscal deficit and other number games will not work.
Economic policy will have to be reconsidered in totality under the prevalent exceptional circumstances. In this series, we will present concrete proposals, measures and models for economic revival, fiscal stability, and simplification of taxes for growth leading to better revenue collection without hampering existing businesses and suggesting ways to revive them fast.
Like all other nations facing hyperinflation, astronomical borrowing cost, unbearable cost of doing business and rising cost of utilities etc., we will have to strive hard to ensure survival and revival of businesses that employ millions having no other source of income.
Overwhelming majority of businesses are now on the verge of closure. These were already suffering due to sluggish economic activities, high utility bills and mark-up rate. Big to small and medium enterprises (SMEs) have been demanding a comprehensive bailout, including tax reliefs since the dreadful days of several waves of Covid-19 and its different variants, but our policymakers paid no heed.
They are now complaining of facing further difficulties in securing loan facilities after unprecedented policy rate hikes to pay even outstanding salaries and wages. Amid this bleak scenario, they claim that even outstanding mark-up would not be paid and it is not only going to lead to massive layoffs but phenomenal rise as well in the non-performing portfolios of the commercial banks, mostly in private ownership now.
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, the Sales Tax Act, 1990 and all provincial laws relating to sales tax on services.
Unfortunately, nobody is talking about resource mobilisation by suggesting and taking some out-of-box measures. Somebody needs to tell the Prime Minister and Finance Minister that the iniquitous prescription of erratic and oppressive taxes in the forthcoming federal budget will not solve our problems especially in the prevalent circumstances.
The federal and provincial governments need to generate and spend more money for infrastructure improvement to create more employment and ensure higher growth, engaging private sector to take part in public projects. This would kick-start the economy.
Simultaneously, the governments need to reduce wasteful expenditure, right size the monstrous administrative machinery, monetize all the perquisites of civil-military bureaucracy and higher judiciary and make taxes simple and low-rate.
Unproductive State lands, owned by the federation and provinces, if leased out for industrial, business and commercial ventures will generate substantial funds and even tax revenues (through public auction 5% as full and final tax can be collected amounting to billions) and facilitate rapid economic growth.
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)”.
The World Bank, before mentioning tax gap, has not done proper research or study on oppressive taxation and fragmented structures at federal and provincial levels that are the main cause of our fiscal problems. In this series, fundamental issues will be highlighted along with solutions—details can be seen in ‘Towards Flat, Low-rate, Broad and Predictable Taxes’ (PRIME Institute, Islamabad, December 2020.
Federal and provincial governments in Pakistan have shown a lukewarm attitude in restructuring the country’s tax system to achieve efficiency, equity and to promote economic growth. Complex tax codes, complicated procedures, reliance on easily-collectable indirect taxes, weak enforcement, inefficiencies, incompetence and corruption are main factors behind low tax collection.
Instead of broadening the tax base and simplifying laws, federal and provincial governments offer amnesties, immunities, tax-free perks and perquisites to powerful segments of society.
As a result of this policy mindset, ordinary businesses and citizens suffer. In the above cited study, a roadmap for radical revamping and restructuring of the entire tax system, suggesting broad, lower-rate taxes and collection through automation is suggested as also highlighted in Automation of revenue collection — I, Business Recorder, February 1 & Automation of revenue collection — II, Business Recorder, February 7, 2019.
Tax reforms undertaken to date, have mainly been a patchwork, and proven to be an exercise in futility. Tax reform commissions and consultative committees, constituted for reforming the system, have proven to be unsuccessful as they have been suggesting remedies for curing the incurable or otherwise curing symptoms rather than addressing real causes.
The reforms, including World Bank-funded six-year-long Tax Administration Reforms Project (TARP), miserably failed to motivate people towards voluntary tax compliance.
The number of tax filers (excluding those filing income below taxable limit or paying negligible amount to become part of Active Taxpayers’ List to avoid higher incidence of withholding taxes) is still extremely low due to complex and cumbersome procedures, even filing of e-return is not possible by the well-educated class, what to speak of small and medium enterprises (SMEs) and individuals doing business at small level.
The number of sales tax registered persons and those actually paying any substantial amount is even more pathetic (less than 50,000).
In 2020, the Federal Government obtained a loan of US$400 million for Pakistan Raises Revenue (PRR) Project. It may be mentioned that the total cost of Pakistan Raises Revenue (PRR) Project is estimated at US $1.6 billion, of which counterpart contribution is $1.2 billion and International Development Association (IDA) financing is US$400 million.
Following in the footsteps of the Federal Government, the Punjab Government also decided to borrow US$304 million from the World Bank for tax reforms and it was approved by Planning Commission on September 16, 2020. Like earlier programmes, these are also bound to fail as stakeholders are not taken on board.
The only viable option for meaningful change is to replace the existing tax system with a simple, broad-based, pragmatic low-rated tax. With such a system in place, those who are not in the tax net or who avoid true disclosures would be encouraged to pay their taxes voluntarily, honestly and diligently.
It will create incentives for better compliance and lead to accelerated economic growth. A paradigm shift is required to restructure the entire tax system to induce more investment, accelerate growth and ensure economic prosperity for the country benefitting all members of society. This should be coupled with transparent and quality spending of taxpayers’ money for welfare of society as a whole and incentivizing growth and economic well-being of every individual.
(Huzaima Bukhari & Dr Ikram Haq, lawyers, and partners of Huzaima, Ikram & Ijaz, are Adjunct Faculty at the Lahore University of Management Sciences (LUMS), members of the Advisory Board and Visiting Senior Fellows of the Pakistan Institute of Development Economics (PIDE). Abdul Rauf Shakoori is a corporate lawyer based in the USA and an expert in ‘White Collar Crimes and Sanctions Compliance’)
Copyright Business Recorder, 2023