LAHORE: The Punjab government has decided to revamp its strategy on the sales tax on services (STS) to make its contribution to the province’s GDP more meaningful and use it as an instrument to document the economy.

This was a part of the revenue mobilisation strategy and plan for fiscal years 2023/24-2025/26, formulated by the Punjab Finance Department, said sources.

As per the document available with the Business Recorder, the government aims to maintain high growth in sales tax revenue by following a multi-pronged strategy comprising policy and administrative reforms aiming at simplicity and clarity in the tax provisions, following international good practices in the design of tax policy, broadening the tax base, promoting the use of technology for transparency in recording and reporting of sales by taxpayers, stronger audit and enforcement mechanisms, and continued taxpayer awareness and facilitation.

It also realises that effective implementation of the sales tax could be of great help in achieving other important public policy objectives, such as documentation of the economy and better enforcement of income tax laws of the country

The document noted that the sales tax on services was already the largest source of the province’s revenues and has the highest potential for future growth because of its direct correlation with economic activity in the province, adding that the collection from this tax as a percentage of provincial GDP improved from 0.33 percent in FY16 to 0.45 percent in FY22.

However, a study conducted with the help of the World Bank in 2017 suggested that the potential of this tax was around Rs198 billion in FYI6, which translates into an STS-to-GDP Ratio of 1.10 percent. Hence, the government decided to gradually increase targets for STS-to-GDP Ratio over the next three years, it added.

Currently, the tax was not universally applicable to all services; the positive list of taxable services (a list of services that were subject to the sales tax) provides an opportunity to service providers to define their services in a manner that helps to avoid sales tax altogether on the premise that their services do not fall within the scope of the positive list mentioned in the law.

Moreover, considering the dynamic nature of the economy and the types of goods and services that were, or could be, produced, it is inherently difficult for the government to make an exhaustive list of all possible services rendered in the economy.

The combination of the above two factors leads to tax evasion and litigation, which the government believes could be avoided by applying this tax universally on all services except those included in a negative list (a list of services that were not subject to the sales tax).

Hence, it would make a transition from a ‘positive list based sales tax regime’ to a ‘negative list based sales tax regime’ with effect from FY 2023-24. A transition plan for this purpose would be prepared by the Punjab Revenue Authority (PRA), the document added.

It also noted that currently, concessional sales tax rates were applied to various services while exemptions from this tax have also been granted to certain consumers, services, or service providers due to various reasons. “As a rule, the cost (loss of revenue) of concessional rates and exemptions should be borne by the government and not by the consumers or businesses.

The official sales tax rate should accurately reflect the tax burden on consumers/businesses. However, when input tax adjustments were not allowed, the consumers and/or businesses were forced to bear the burden of input taxes in addition to the output taxes. Thus, the effective sales tax rate (actual tax burden on consumers/businesses) becomes higher than the official sales tax rate; this policy has resulted in certain anomalies and unintended consequences,” the document adds.

Hence, the government has shown intention of gradually reducing the complexities in the tax policy arising due to the introduction of exemptions, concessional rates and denial of input tax adjustments. Its long-term strategy was phasing out exemptions; rationalising concessional rates; allowing input tax adjustments across the board; and gradually reducing standard sales tax rate to a reasonable level.

As per information, the government has shown interest to change the basis of sales tax collection, replacing the ‘origin principle’ (the right to collect sales tax lies within the jurisdiction where the production of a good or service takes place) with the ‘destination principle’ (the right to collect sales tax lies within the jurisdiction where the final consumption of a good or service takes place).

In the document, it was said that the federal and provincial governments in Pakistan, except one provincial government, agreed that the destination principle was the appropriate basis for charging sales taxes. “However, in practice, all provincial sales tax laws charge tax based on both origin and destination principles, which have adverse implications for the businesses whose operations extend beyond the jurisdiction of a single government.

Such unhealthy competition among provincial governments discourages business activity and transparent disclosures by taxpayers and leads to unnecessary litigation and compliance and enforcement costs,” the document adds.

“The disputes on the sales tax between federal and provincial governments pertain mainly to the disagreement on the definition of goods and services. Hence, the government was committed to resolving these disagreements through negotiations.

However, on its part, the government would take the steps necessary to align its sales tax law firmly with the destination principle so that sales tax was administered in its true spirit and in line with the international best practices as a tax on final consumption,” it added.

The government also intends to broaden the sales tax base with a focus on e-commerce and other high-potential taxpayers, introduce strong information technology and communication platforms, which would also support withholding tax regime; automate administrative processes; set up research and policy wing; and grant financial and operational autonomy to PRA to acquire the resources necessary for its smooth and efficient functioning.

Copyright Business Recorder, 2023