One of the options available to the Federal Board of Revenue (FBR) to curtail tax evasion in the cigarette industry is by considering the successful solution of tax stamps. Industry sources told Business Recorder here on Wednesday that with the budget (2016-17) fast approaching, the FBR is finalising tax proposals to seal existing fiscal leakages in the economy.
The illicit cigarette sector is one such leakage which continues to grow in quantum at an alarming rate, having reached 23.7 percent of the market in the year 2014. In its bid to find a solution to curtail tax evasion in the cigarette industry, it would serve the government well to consider the successful solution of tax stamps introduced in Bangladesh. The implementation of said solution would not only increase tax collection from the cigarette industry, but would also serve as visual proof of tax payment on all locally produced packs; a crucial pre-requisite for enforcement efforts in the country and consequent deterrence.
Bangladesh, much like Pakistan ails from the issue of domestic illicit cigarettes. So in 2000, the government, prompted by the unabated increase in illicit cigarette sales, introduced a tax stamp on all packets. In the short six year period that followed, Bangladesh witnessed an astounding decrease in illicit sales (from 20 percent to 1.2 percent). This system came on the back of previous failed attempts to manipulate the tax policy as a tool to curtail illicit. The tax stamps system on the other hand, focused on providing a more conducive environment for enforcing the existing policy. A crucial element is missing in Pakistan's current strategy to curtail domestic illicit cigarettes.
Research shows that 90 percent of Pakistan's illicit cigarette problem is home-grown, meaning it stems from locally-manufactured tax-evaded (LTE) brands. These brands are priced as low as Rs 15-20, whereas according to the law, minimum tax payable per pack is around Rs 36; a clear testament to the tax evasion at hand. These brands are produced in factories located in Khyber Pakhtunkhawa and Azad Jammu and Kashmir, where the manufacturers only declare a portion of the actual quantum of cigarettes produced; thereby paying a negligible portion of their tax liability. Despite accounting for nearly a quarter of the market, the illicit sector's tax contribution makes up less than 1 percent of the total tax revenues from the cigarette industry. It is no surprise then, that the LTE cigarettes cost the national exchequer around Rs 25 billion every year.
The need to clamp down on LTE manufacturers is aligned with the government's mission to grow its revenue and seal sources of tax leakages. The presence of the LTE cigarette sector provides price sensitive consumers cheaper options to down-trade to. This has led to a decrease in the sales of the legitimate industry, thereby shrinking the tax base of the government. With the persistent tax-led price increases that the legitimate industry has to adapt, this trend of down-trading is bound to continue resulting in diminishing returns for the government with regards to cigarette tax revenues. To pre-empt this situation, there is a strong and urgent need for the government to take action against LTE cigarette manufacturers.
Currently, while smuggled cigarette packets are easy to identify by virtue of the lack of the pictorial health warning, no such parallel exists for LTE brands, as on the face of it, these comply with all printing requirements. As a result LTE brands are sold openly across the country with no fear of repercussion. The introduction of a visual marker would enable law enforcement officials to monitor the trade of LTE cigarettes effectively. This would not only result in increased revenues from the illicit sector but also provide a more even playing field for the legitimated industry to compete in.
The said visual marker could come in the form of a tax stamp. A solution, as demonstrated in Brazil, has been tried and proven successful. The proposed system would require manufacturers of cigarettes to purchase a tax stamp for each packet of cigarettes that leaves their factory premises. The inventory of tax stamp purchases would then be reconciled by tax officials to determine each manufacturer's tax liability. With the proposed system in place, if LTE manufacturers were to continue to under-declare their production, it would be very easy for enforcement officials to identify packets without the requisite tax stamp in place and consequently hold the manufacturer's liable for tax evasion.
Under the Supply and Distribution of Stamp Rules, 1954, the Pakistan Security Printing Corporation (PSPC) already has the authority to print revenue stamps and tobacco excise labels. In Bangladesh too, the tax stamp solution was implemented through the National Security Printing Press, with experts attributing the success to the national corporation having a deep understanding of the local context. With the problem highlighted, a tested solution proposed and a supplier ready to put the system in place, every LTE cigarette sold hereafter is a regrettable opportunity cost to the government.
While retailers of smuggled cigarettes can be penalised under the Cigarette Printing of Warning Ordinance; there is gaping hole in the law when talking about LTE cigarettes. Therefore, once the proposed system is in place, the government should additionally consider implementing laws that would hold the retailer responsible for selling cigarette packs without the affixed tax stamp. Since retailers are not as financially strong as the manufacturers of LTE cigarettes, the prospects of strict penalties would lead to deterrence at the ultimate stage of the supply chain and would result in a guaranteed decline in sales of LTE cigarettes in the country and greater revenues for the government, they added.