The Securities and Exchange Commission of Pakistan (SECP) has proposed to the Federal Board of Revenue to gradually reduce corporate tax rates (unlisted public companies and listed companies) with simultaneous increase in tax rate of Association of Persons (AOPs) in Budget (2013-14).
According to the budget proposals of the SECP communicated to the FBR on Monday, to encourage documentation and growth of corporate sector, particularly the listed corporate sector, gradual reduction in the Corporate Tax Rates (private company, unlisted public company and a listed company) is proposed with simultaneous increase in tax rate of the AOPs.
The SECP has further proposed that the classification of small company be omitted considering the economic disincentive for small company to increase its turnover, paid up capital or employment. The rate of presumptive tax regime be increased gradually over a period of three years to make it unattractive for businesses vis-à-vis normal tax regime. The rate of PTR be reduced for the importer of goods, from 5 percent to 8 percent of value of goods; supply of goods from 3.5 percent of the value of supplies to 5 percent and presumptive tax on exports from 1 percent of the value of sale proceed to 2 percent.
Fiscal incentive for listed companies to distribute dividend - The rate of tax in case of company not distributing a minimum of 30 percent of its after tax accounting profits of the year as cash dividend will be 3 percent higher than the normal tax rate for listed company, the SECP proposed.
The SECP was of the view that the proposed increase in the rate of income tax for AOPs and reduction for companies (private and listed) will encourage corporatisation and documentation of the economy. Potential loss to the national exchequer will be offset against the enhanced government revenue through income tax from increasing number of companies; capital gain tax, increased collection of withholding taxes, dividend taxation, federal excise duty, increase in rate of small companies, conversion of AOPs into companies and monitoring of FBR on existing non filers.
The SECP said that the existence of numerous exemption programs and avenues coupled with tax evasion has greatly distorted the allocation of investment across sectors and asset types along with reduction in tax revenues. The extensive use of tax incentives is seldom tracked, quantified and evaluated, and the intended effects on economic growth are uncertain. Consequently, there are important issues that must be addressed in the Pakistan corporate fiscal system. The high corporate tax rate - 35 percent vis-à-vis 25 percent for non-corporate sector - an incentive for non-corporate sector to remain undocumented and without any supervisory oversight. In addition to the tax, companies are also liable to pay WPPF and WWP @ 5 percent and 2.5 percent respectively. The existing tax regime for small companies discourages corporate progression from small company to normal company, exceeding the threshold defined for small company. The existence of Presumptive tax regime (PTR)- Incentive is to avail PTR and remain undocumented instead of normal tax regime.
The SECP said that the rates for the corporate sector were exceptionally high in the past. During 1992-93, banking, public, and private companies were taxed at the rate of 66 percent, 44 percent, and 55 percent, respectively. These rates have been reduced significantly over time. Currently, there is one uniform corporate tax rate of 35 percent for all three types of companies except for "small" companies that are taxed at a lower rate of 25 percent. The PTR not only reduces tax revenue but also distorts allocation of investment across sectors and asset types. In the present fiscal structure, following activities falls under PTR and taxes are collected via withholding; Importer of goods, are taxed @ 5 percent of value of goods; Supply of goods, other than by listed companies and manufacturing companies are taxed @ 3.5 percent of the value of supplies, Exporters are taxed @ 1 percent of the value of exports and interest, profit on debt in the hands of non-companies, are taxed @ 10 percent.
This effectively means that all importer, exporters and traders are not subject to tax on net income basis, unless they are public listed companies or manufacturers of goods. Thus, all such activities are outside the effective equitable tax net. This PTR discourages both corporatisation and manufacturing activities
Present taxation regime incentivises corporatisation as small companies are taxed at 25 percent. This is a significant fiscal incentive for a "small" company that means a company registered after July 1, 2005 that fulfil the criteria of paid up capital plus undistributed reserves not exceeding Rs 25 million; number of employees not exceeding 250 during the year; annual turnover not exceeding Rs 250 million; and not formed by splitting up or reconstitution of business already in existence. However, no smooth graduation is allowed for a company from small to normal company thus if a company increases, say, its employees above 250, then in principle entire net income of the company is immediately taxed @35 percent.
The economic disincentive exists for companies at the threshold of small company. Companies generally, fragment to meet the legal requirements. Although fragmentation disqualifies a company from the "small company" designation however, monitoring of the split is quite difficult. Such tax driven fragmentation is economically inefficient and a disincentive for growth in turnover, paid up capital or in employment, the SECP said.
Pakistan's corporate sector contributes almost 70 percent of federal direct tax revenue collection. The tax collections from the corporate sector have increased at a fast pace during the past few years. Despite the gradual but steady reduction of corporate tax rates, especially for banking and private sector companies, overall collections have improved substantially and the corporate share in gross income taxes has jumped from 60 percent in 2004-05 to 70 percent in 2009-10. The profitability of the banking sector has been instrumental in this revenue performance. Private companies exhibited a reasonably high growth rate but one that is lower than for public and banking companies. This outcome spotlights the need of revisiting the extent of tax compliance by the private sector. The collection of corporate taxes is mainly generated from advance taxes, payment with return and withholding taxes, the SECP added.