Arguably, it is the simplest and most-comprehensive amnesty scheme offered in the country’s history. A thoughtful process and bold decisions can not only repatriate foreign undeclared money and decelerate dollarization within the country, but also have the potential to broaden the domestic tax base and unleash the wealth locked in the real estate.
Having said that; implementation is hinged upon bringing political parties, judiciary and establishment. Barring legal and political complications, the scheme is better than what many had anticipated. Kudos to PM Abbasi and Miftah!
Earlier, in Dar’s period, other incentives were offered by the PML-N government; but they were counter-productive. The distinction between filers and non-filers in withholding and other taxes has resulted in two adverse consequences. One is the increase in CIC (money going out of the system) due to higher banking transaction tax on non filers. And the other is passing on the direct tax in indirect form to consumers, making the taxation system more regressive.
The other penalty, according to section 214D, was an automatic audit for those not filing returns on time. However, this year around, 0.9 million filers are late and it’s not logistically possible for FBR to audit them all.
The current scheme may not have any such adverse results, other than what could result from non-filers not being allowed to open foreign currency accounts. If non-filers are not encouraged to come in tax-net after getting barred from keeping foreign currency accounts, they would take their foreign currency parked in FE25 accounts out of the system.
From the time when banking transaction tax was imposed on non-filers (June 2015) to date, the combined ratio of CIC/M2 and prize bond to NSS has jumped from 21.6 percent to 26.7 percent. The resident foreign-currency deposits with banks now stand at $6.9 billion and a chunk of it may go out of the system.
The reform package has to offer some stick to penalize non-filers, else the scheme’s fate might not be much different from the earlier distinction between filers and non filers.
The good news is that most of the tax reforms are truly providing a white-wash opportunity to shades of grey. There are three noteworthy elements which have the potential of pushing economy on a growth path if the carrots are followed by the stick of penalizing tax-evaders as a deterrent in future. Else, it’s a one-off exercise of bringing some foreign exchange back in the country.
This is first time in a decade that an amnesty for foreign assets had come about. The scheme can be compared with recent successful effort by Indonesia, which fetched roughly $11 billion back to the country (see the illustration). The Abbasi package is more lucrative than Indonesia where the offer is not only on declaration but a 5-year bond is offered at a return of 3 percent per annum which can be cashed in PKR after one year.
In local banks, the rate of return is under one percent; overseas, shady money has to mostly pay maintenance charges to the bank, so forget about any return. The cost of declaration, in case of buying bonds, is 2 percent. Otherwise, the cost of declaration of liquid assets abroad or at home is 5 percent. The fixed foreign assets can be declared at 3 percent.
In Indonesia, the declaration cost was 4 percent in the first three months of the announcement, with the clearance levy increasing with time. In Pakistan, the initial incentives are similar but there is no secondary or tertiary stage.
The short time-space of availing the scheme by June end 2018 is the catch. Not everyone jumps in the wagon in early days, especially when the future and reaction of next government is unknown. The tax reform package through presidential ordinance has to be ratified by parliament within 120 days with an option of another 120 days’ extension.
The PML-N government has to have stakeholders on board immediately to pass the bill in the parliament within next week. Had the scheme been offered a year back, the chances of success would have been higher.
Anyhow, if Pakistan (which is a third of Indonesian economy in size) can get one third of what Indonesians brought back home, the scheme would be termed successful. Market is expecting $2-3 billion to be repatriated home. Those who have foreign assets should avail this; once the OECD’s “Automatic Exchange of Information Initiative” is active, tax evaders’ money outside the country can be captured.
The success of the scheme is on bringing assets within the country into the tax net. The foreign-currency holders have a golden opportunity and they should not waste it. The challenge is in broadening the income-tax net and declaring domestic real-estate assets at actual value.
The bold move in the reforms package is to substantially lower the income tax rate on individuals. Zero tax on income under Rs1.2 million per annum is a great step. However, this will lower the number of tax filers by around half a million from the base of 1.3 million. Phew, all of a sudden 40 percent of tax-filers would be gone.
In case of middle- and higher-income brackets, there is a windfall, especially for salaried class. Higher disposable income may spur consumption, which may put some strain on current account deficit through higher imports whilst the domestic consumer-related businesses may spur.
The tax-loss by lowering individual taxpayers’ tab is estimated to be around Rs100 billion. FBR is not at all happy with it; but the revenue body has no business in policymaking, as it’s an enforcement arm. The tax policy should be independent of FBR.
The fiscal loss has to be covered by broadening the tax base i.e. by enforcing non-salaried individuals to declare their actual income. That calls for bringing retailers and traders into the tax net. It’s tough politically, but the new government should own this scheme and force the individual tax-evaders to comply.
The jewel in the scheme is rationalization of taxation and valuation on real estate; but it’s more complex in implementation. The biggest chunk of domestic black-money is parked in real estate; and due to high provincial taxation, virtually every real-estate transaction is recorded at value much lower than actual. It’s pretty much grey in real estate.
The federal government is abolishing FBR valuation rate on properties while provinces are requested to abolish DC rates. It also wants to have one percent transaction-tax by provinces and one percent adjustable advance-income tax by FBR on the transaction-value declared by buyers and sellers.
The catch in declaring close to real value is that federal government will be empowered to buy property at certain premium to declared value. Now that is a legally-weak argument as real-estate is a provincial subject and it is imperative for all provinces to be onboard. Still, it carries the risk that anyone can go in court against and take a stay. Therefore, having judiciary on board is imperative.
The benefits of unlocking real-estate development potential are huge. It can develop REITS, bring formal financing in real-estate projects and put a break on insane increase in property prices by cementing the conduit of black money in the market.
In a nutshell, the amnesty scheme or tax-reform package is excellent without getting into the argument of moral persuasion. The legal and political challenges are huge, given the short time for its implementation. BR Research will provide further analysis after the scheme’s details are furnished in the ordinance.