During the last three years, the present government has proved that it lacks the will to reform the tax system. The brunt of indirect taxes, even under the garb of direct taxes, has retarded economic growth besides inflicting more miseries on salaried persons and the middle classes. The government failed to accelerate economic growth and boost exports. In the last four years, it has been following the failed donor-imposed prescription of austerity. As reports in Press suggest, the major taxation proposals will be of regressive nature for 2017-18 as well. These will bring more disastrous results for the poor and overall economic growth. The members of National Assembly shamelessly increased their pays many times even before the budget, while over 60 million are living below poverty line while millions are malnourished. The gigantic bureaucratic apparatus-epitome of bad governance and corruption-will also get raises and more facilities. The government is not inclined to curtail its monstrous wasteful expenditure and monetize all perquisites and benefits of civil servants.
What should budget 2017-18 look like? This question was never discussed by the government or opposition benches. They remained busy in hurling accusations and mudslinging over the Panama and other leaks. Pakistani political parties have yet not learnt that they need to have select committees working on various matters so that they can devise and implement well-debated and well-researched policies. The opposition parties are considered governments-in-waiting and are supposed to chalk out policies accordingly so that alternatives are readily available. Presently, in taxation matters they follow donors' agenda via bureaucrats!
Even in its fourth year in power and for the third time in the Centre, PML (N) seems to have prepared budget 2017-18 in the same old mould-bureaucratic-controlled and donor-desired. Ishaq Dar and his team, while preparing this important document, not for a moment engaged any experts to seek their input as to what Pakistan should do to achieve rapid economic growth, class stability through employment generation to avoid chaos, civic strife, lawlessness and religious obscurantism. He has paid no attention to restructuring of existing unjust taxation system.
The burgeoning debt servicing, wasteful expenses, declining exports, industrial slowdown, recession, inefficiency and bad governance, pose serious challenges to our economic well-being. But, in the budget 2017-18, no serious efforts to meet these challenges would be seen.
The budget-makers (sic) have been more interested to balance their books through foreign and domestic resources (some purely imaginary or unrealistic). The finance minister is least bothered about the fact that Pakistan's share in global exports is diminishing by 1.45% every year since 2005 or that the number of return filers showed an enormous decline during the last 10 years. He is not paying bona fide refunds of billions due to exporters and appeasing non-filers by just subjecting them to pay higher rate of withholding tax!
Today's budget will provide no concrete steps to harness the real tax potential of Pakistan, which at the federal level alone is not less than Rs 8 trillion. A model for achieving this target without hurting the economic growth was suggested by us-Towards Flat, Low-rate, Broad & Predictable Taxes. It is available at the website of PRIME Institute (http://primeinstitute.org/towards-flat-low-rate-broad-and-predictable-taxes/) but Dar and his team have paid no heed to it.
Dr Arthur B. Laffer, the father of Supply-Side Economics and famous for "Laffer Curve", has made the following remarks about this work:
"Huzaima Bukhari and Dr Ikramul Haq have designed a tax reform plan that would dramatically change the structure of taxation in Pakistan by correctly aligning incentives to promote economic growth and voluntary tax compliance. An ideal tax system should consist of the lowest possible tax rate on the broadest possible tax base. Such a system gives people the least incentive to evade, avoid or otherwise not report taxable income. Along with sound money, free trade, spending restraint and minimal regulation, the adoption of these recommendations will launch Pakistan onto a new trajectory of economic growth and prosperity for all".
This paper suggests that no tax reform can succeed unless tax administration is completely overhauled and modernised. Tax administration should be headed by professionals and not outdated bureaucrats. It should employ modern IT system to capture inflows and outflows to enforce tax obligations. At the same time, an independent tax appellate system should be introduced so that tax obligations are judiciously imposed and collected rather than through arbitrariness and highhandedness.
Presently, non-filers are outside the audit regime and demands are created against those who file tax returns. Since Federal Board of Revenue (FBR) has failed to enforce tax obligations, there is a perpetual decrease in the number of filers-this year only 1.1 million. In 2011 this number was 1,443,414. Ten-year back around 2.1 million individuals filed income tax returns. FBR lost one million in 10 years!
FBR keeps on creating huge and arbitrary demands against existing filers, especially those in the formal sector. This is the reason why people do not file returns as they say once you do so then you are under constant threat of being harassed and blackmailed by FBR officials/staff and in case you do not oblige, you are subjected to arbitrary orders. The efficacy of FBR can be gauged from the fact that out of 67,000 companies registered in 2015, only about 24,000 filed returns though all were obliged under the law to submit their declarations. The analysis of returns filed by companies and Association of Persons (AOPs) reveals the following starling results:
-- Total filers: 72,699
-- 39% paid NIL Tax
-- Cumulatively 60.54% paid less than Rs 1,00,001
-- Cumulatively 1395 entities paid Rs 25 million or more
-- Only 60 entities paid Rs 1 billion or more
-- 300 entities pay about 71% of the total taxes paid by all companies and AOPs
-- 100 top companies contribute about 56% of total tax paid by all companies and AOPs
The following facts also need attention of those running the affairs of FBR and claiming "extraordinary" (sic) success:
-- There are nearly 1.8 million people who frequently embark on international tours but do not file tax returns
-- About 700,000 Pakistanis have multiple accounts in various banks but are not on the roll of FBR
-- Over 100,000 live in posh areas and more than 80,000 possess luxury cars, yet they do not file income tax returns
-- There are 90,000 individual consumers who pay large utility bills, but have never filed any income tax return.
-- There are over 200,000 people engaged in professions like medicine, engineering, law and chartered accountancy, but less than 30 percent file returns
-- Out of over 2.5 million who even obtained NTNs in the past, only 1.1 million filed income tax returns
-- In 2015, out of 1,001,722 individual return filers, 31% paid NIL tax. Cumulatively 63% paid less than Rs 20,001. Cumulatively 83% paid less than Rs 100,001. Only 43 individuals paid more than Rs 10,000,001.
-- Out of 90 million active and unique mobile users-though 139,108,964 SIMs were issued as on March 31, 2017 but many have multiple SIMs-only 1.1 million filed tax returns. How many of these 90 million mobile users have taxable income? FBR has never tried to ascertain the real tax base. May be 70 million have no income or income below taxable limit but are forced to pay 14% advance income tax. Out of remaining 20 million, around 2.5 million are ultra rich-they are either not filing tax returns or showing much lower income than what they actually earn.
Many keep on saying that our tax base is narrow. The reality is that as many as 90 million unique mobile users are paying 14% advance income tax whether they have taxable income (more than Rs 400,000 annually) or not, in addition to 19.5% sales tax. Pakistanis are subjected to 70 kinds of withholding taxes under the Income Tax Ordinance, 2001 (both adjustable and non-adjustable). DIFD-funded NGOs must tell the truth that ultra-rich are the real culprits while 90 million are paying 14% advance income tax as mobile users.
The self-styled tax experts in Pakistan think that only those who file returns are taxpayers. It is true that about 1.1 million filed income tax returns this year so far, but this figure is representative of only return filers and not of taxpayers. In the income tax realm, every account holder of a bank, who receives any amount of interest, is subjected to withholding tax and is therefore a taxpayer. It is worthwhile to note that in the case of individuals and associations of persons, tax deducted at source by the banks is full and final discharge under section 169 of the Income Tax Ordinance, 2001. They are merely required to file a simple statement under section 115(4) of the Income Tax Ordinance, 2001, ie, if they do not have any other source of income.
The real failure of tax system is non-taxation of super-rich and rich who owe billions to the national exchequer but are not filing tax returns. What has prevented FBR to take action against them? After receiving data from Nadra, other agencies and details about the UAE properties, information through the Panama Papers, why FBR instead of taking action against them was proposing an amnesty scheme? Why no action has been taken against them till today?
Shahid Hafeez Kardar, ex-Governor of State Bank and former finance minister of Punjab, very rightly observed:
"In our case tax administration weaknesses with regard to enforcement arise because of an ineffective legal system and the lack of effective accountability of government employees. Greater publicity should be given to cases of tax evasion (only those upheld by courts or conceded to by taxpayers) in the hope that public shame would serve as one of the deterrents to tax evasion. Good governance in a structure of transparent taxation cannot be achieved with the same ease as computerisation of the taxation system through purchase of equipment and supporting software. These essentials will continue to elude us as long as the governing political system nurtured and supported by the elite is financed by black money through institutionalized instruments and mechanisms for evading taxes. How does one overhaul such a system through the transformation of the political structure is a million-dollar question that defies easy answers as to the need for tax reform built around transparent and simpler systems of taxation. However, the reality is that there are no quick fixes. Exercises to simplify tax laws and to ensure effective enforcement can take several years, as the experience of even developed countries shows-for instance, it took Canada 10 years to implement the proposals of the Carter Commission."
Our tragedy is that on the one hand we have too many taxes and on the other revenue collection is much below the real potential. The biggest failure of successive governments has been to spend taxes for the public good. The militro-judicial-civil complex and politicians in power are the real beneficiaries of tax collection. They get increase in pays and receive unprecedented perks and perquisites. Since the government is not ready to check wasteful expenditure and end policies of appeasement towards the rich and mighty, fiscal gap is increasing every year bringing more miseries for the common man of Pakistan. The so-called wizards sitting in FBR and Ministry of Finance have utterly failed to reform the obsolete tax system. They have wasted millions received in the name of reforms as loan from donors, a process initiated as early as 1990s and still continuing!!
In fact, the twin malady of complexity of tax codes and weak tax administration has not been properly studied by anybody. 'Towards Flat, Low-rate, Broad & Predictable Taxes', a paper published by Islamabad-based think-tank PRIME, is an attempt in this direction. 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 for low tax collection. Instead of broadening the tax base and simplifying laws, federal and provincial governments offer amnesties, immunities, tax-free perquisites to powerful segments of society. As a result of this policy mind-set, ordinary businesses and citizens suffer. 'Towards Flat, Low-rate, Broad & Predictable Taxes' argues radical revamping and restructuring of the entire tax system, suggesting broad, low, flat and predictable taxes.
Tax reforms undertaken to date, have mainly been patchwork, and proven to be exercises 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 the causes.
The so-called reforms, including World Bank-funded six-year-long Tax Administration Reforms Project (TARP), have failed to motivate people towards voluntary tax compliance. The number of tax filers has fallen significantly since 2003. The only viable option for meaningful change is to replace the existing tax system with low, flat and a predictable tax system that is simple, pragmatic, growth-oriented, and broad-based. With such a system in place, those who are not into the tax net or who avoid true disclosures would be induced to pay their taxes voluntarily. 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.
In 'Towards Flat, Low-rate, Broad & Predictable Taxes', the structural and operational weaknesses of the existing federal tax system have been analysed and alternate solutions are suggested in the following areas that require fundamental reforms:
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Area Solution
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Complex Income Flat-rate
Taxation Taxation
Distorted/Multiple Harmonised
Sales Taxes Sales Tax
Customs/SRO Single-rate
Culture Customs Duty
Multiple Tax National Tax
Collection Agencies Authority
Inefficient Appellate Federal
System Tax Tribunal
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These fundamental reforms alone can provide the basis for an alternate tax system. Tax reforms without a fair and efficient tax administration will not be enforceable. For this, a new tax collecting agency, National Tax Authority (NTA), is proposed. The NTA can be assigned the task of collecting all taxes for the federation (levied in terms of Article 142 read with the Fourth Schedule to the Constitution of Pakistan by federal and provincial parliaments). This is necessary for reducing the monstrous size of multiple collecting agencies at federal and provincial levels that are marked with inefficiencies, incompetence and corruption.
Presently, taxpayers have to deal with multiple tax agencies adding to their cost of doing business. A well-equipped, automated and efficient tax agency is imperative to facilitate the citizens for discharging their tax obligations through a one-window operation and also to disburse to all, tax-related benefits (pensions, social security, income support etc.). The non-existence of tax-related benefits is the most neglected area of our discourse on reforms.
The existing four-tier tax appellate system has also failed to deliver. The problems faced by taxpayers in appeals/references speak volumes of the ineffectiveness of various judicial forums that have been assigned the statutory obligations to safeguard them against unjust imposition of taxes. The revenue authorities are also unhappy with the tax appellate system as litigations take years for the settlement of tax disputes. Therefore, in order to make the appellate system more responsive, the existing tax tribunals dealing with direct and indirect taxes need to be restructured.
'Towards Flat, Low-rate, Broad & Predictable Taxes' proposes a two-tier tax appellate system where first appeal goes to National Tax Tribunal with the right of another appeal in the form of intra court appeal. Subsequently, if any substantial question of law needs consideration, it can be referred to the Supreme Court by way of leave to appeal. This will help in achieving uniformity of decisions since at present High Courts in different provinces sometimes differ on identical questions of law and it takes years for final authoritative pronouncement by the Supreme Court. The two-tier tax justice system can ensure expeditious settlement of tax disputes, preferably within a year's time of first order.
Income taxation at the moment is highly complex and fragmented. There is classical taxation under various heads of income, while many transactional taxes, presumptive and minimum taxes have been added to distort the entire concept of personal income taxation. 'Towards Flat, Low-rate, Broad & Predictable Taxes' suggests simple and flat rate taxation of 10 percent for all entities other than companies, for which rate of 20 percent is proposed.
The right to levy sales tax on goods rests with the federal government and that on services lies with the provincial governments. Presently, federal sales tax on goods is fraught with exemptions, multiple rates (from 17% standard rate to about 70% on high diesel oil) and complicated procedures for various kinds of goods. The same position prevails with the provincial tax codes where telecommunication services are taxed at 19.5 percent in addition to 14 percent advance income tax paid by the subscribers. This kind of harmful taxation is anti-growth and anti-investment. 'Towards Flat, Low-rate, Broad & Predictable Taxes' proposes single-digit harmonised sales tax (HST) on goods and services by federal government and provinces across the board with no exemption, albeit exporters shall have zero-rated regime. The only exemption shall be on food, life-saving drugs, books, children's garments and educational equipment.
Under the current customs law (Customs Act, 19691), exemptions/concessions are granted to goods that are imported into Pakistan through Statutory Regulatory Orders (SROs). There are about 5,000 effectively traded tariff lines. However, SROs, covering nearly 84 percent of those tariff lines and impacting 45 percent of imports across almost all sub-sectors, have been issued over the course of years. The SRO-based customs policy has rendered the actual tariff different from the standard tariff. As a result of this, customs tariffs have multiple rates and several exemptions, and various "conditions and requirements" are to be fulfilled to avail those exemptions. This creates opportunities for the discretionary use of powers by officials, raising the cost of doing business and incentivising malpractices and mis-declarations for evading duties. Recognising these problems, the paper proposes that there should be a single-slab duty of 5 percent for all imports to end these undesirable practices.
The essential points of 'Towards Flat, Low-rate, Broad & Predictable Taxes' are:
-- Low, flat, predictable and broad-based taxes administered through efficient tax apparatus
-- Pakistan must achieve fairness in taxation system. 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 thus benefiting all members of society
The federal and provincial governments have miserably failed to tap the real revenue potential, which is not less than Rs 8 trillion at federal level alone. The failure of FBR on this account adversely and directly affects the provinces as they are heavily dependent on what the Centre collects and transfers to them from the divisible pool. Pakistan is thus caught in a dilemma. The size of the cake-divisible pool-is so small that nothing substantial can be done for the welfare of the poor masses, no matter in which part of the country they live. The real issue of generating sufficient resources for public welfare and rapid growth is still unattended and 'Towards Flat, Low-rate, Broad & Predictable Taxes' is an attempt to initiate a debate on fair tax policy from this perspective. Of course, our budget makers are still not aware what the real challenges are and how to deal with them. Thus the budget 2017-18, as expected, will be another routine and ritualistic exercise of number games.
(The writers, tax lawyers and partners in HUZAIMA, IKRAM & Ijaz, are Visiting Faculty at Lahore University of Management Sciences)
Copyright Business Recorder, 2017