Pakistan has a number of indirect taxes on energy. First, the general sales tax covers all energy sources. Second, a petroleum levy was introduced in 2008-09, to explicitly act as the equivalent of a carbon tax on fossil fuel. The effective rate is close to 13 percent in the case of motor spirit. Third, natural gas is also subject to an excise duty and development surcharge. A gas infrastructure development cess was introduced in 2011. Fourth, again a recent development, import duties have been levied on crude oil and petroleum products. The highest rate is on furnace oil, inclusive of a regulatory duty, of 13 percent. The rate of import duty on HSD is 11 percent while on other products and crude oil it is 3 percent.
What is the contribution of this diverse collection of energy taxes to indirect tax revenues? In 2016-17, revenues of over Rs 900 billion were collected from energy taxes. This represents over 42 percent of the total revenue from indirect taxes at the Federal level and 25 percent of total tax revenue. The biggest contribution is from the general sales tax with a share approaching 60 percent.
The energy sector also makes a major contribution to the corporate income tax. Some of the largest taxpayers are from this sector including OGDC, PPL, PSO and Pak-Arab Refinery. Out of the tax payments with returns, the share of the energy sector is close to 40 percent.
What has happened to revenues from the energy sector following the sharp fall in oil prices since September 2014? Given the primary source as GST, there was the danger of a big decline in the tax contribution of the sector. However, there has been a simultaneous enhancement in the rates of GST on petroleum products above the standard rate of 17 percent. As of the 1st of January 2018, the sales tax rates respectively are 25.5 percent on High speed diesel oil, 6 percent on light diesel oil, 17 percent on motor spirit, kerosene oil at 6 percent and 20 percent on furnace oil. The overall incidence of energy taxes approaches on average almost one third of the retail prices.
Are the current differential rates of GST justified? Actually, the price of HSD oil is almost 14 percent higher than the price of motor spirit in Pakistan. This pricing policy is very unusual. In all other countries of South Asia, the opposite is the case. For example, the price of motor spirit is higher than that of high speed diesel oil by 16 percent in India, 50 percent in Bangladesh, 34 percent in Sri Lanka and 28 percent in Nepal. The logic is that HSD oil is used mostly in public transportation, especially in the movement of essential goods, like food items. As opposed to this, motor spirit is largely consumed by the upper income groups for private transportation. Therefore, the tax incidence on motor spirit should be more than that on HSD oil.
A major review of the pricing policy on petroleum products especially needs to be undertaken following the almost 40 percent hike in international oil prices since June 2017. Given this price upsurge, it is possible now to rationalize the tax rates without any significant loss of revenues.
The government has, in fact, brought down the GST rate on HSD from 31 percent to 25.5 percent. However, in an inexplicable move, a 6 percent GST has been introduced on kerosene oil and light diesel oil, which had been exempted earlier. The former product is consumed mostly by low income households and the latter in the running of tubewells. These exemptions need to be restored.
There are also serious problems with the levy of the gas infrastructure development cess. According to the GIDC Act of 2015, this happens to be a earmarked source of revenue. The revenues generated are to be used for construction of pipelines like the TAPI and Pak-Iran pipelines. However, revenues are currently being taken into the Federal Consolidated Fund, instead of a special purpose fund. Also, an annual report is to be presented to the Parliament. Apparently, this has not been the case up to now.
The following proposals are made for changes in the energy taxation structure:
(i) Given the increase in petroleum prices internationally, the policy should be to revert to the standard GST rate of 17 percent in the case of motor spirit and HSD. Both kerosene oil and light diesel oil should be exempted. Any adjustment for revenue purposes should be made in the rate of petroleum levy, especially on motor spirit.
(ii) The same duty of 11 percent should be applied on the import of HSD and motor spirit respectively. This will represent an increase in the duty on the latter product from 3 percent to 11 percent. However, it will reduce the differential between the retail prices of the two products.
(iii) The highest rate of the gas infrastructure development cess is on gas used as a feedstock in the production of fertilizer. It should be brought down from 300 Rs to Rs 100 per MMBTU. Simultaneously, the rate may be enhanced on large domestic consumers to prevent any revenue loss. The consequential reduction in the price of urea will facilitate crop output in the country. A GIDC of Rs 100 per MMBTU may also be levied on LNG, given the need of pipelines for domestic distribution.
(iv) To the extent that furnace oil continues to be used for electricity generation, the regulatory duty on import should be removed and the GST rate brought down to the standard rate.
The above proposals need to be implemented to improve the competitiveness of Pakistani industry. They will also imply a less regressive burden of energy taxes and a favorable impact on the price level.
(The writer is Professor Emeritus and former Federal Minister)