TIME TO TACKLE TAXATION JAMS
By Sana Quadri
Increasing the tax net is one of the many challenges the new government in the making of so called Naya Pakistan is faced with. The previous government had taken some evident steps in increasing the tax bracket of over two hundred million people of the country such as by introducing different tax rates for filers and non-filers, the controversial tax on cash withdrawals by non-filers that came down to 0.3% from 0.6% and then 0.4%, the tax reform of using National Identity Card Number (CNIC) to register tax payers and the commendable two Tax Amnesty Schemes on declaring local and foreign assets that helped collect over PKR 97 billion according to Finance ministry press release in July 2018. However, it is convenient to say there’s a lot that needs to be done since Pakistan’s tax laws have always been more inclined towards more tax collection rather than better tax collection.
The fiscal deficit of Pakistan reached up to 6.6% of Gross Domestic Product (GDP) in 2018 and a 67.2% of government debt to GDP in December 2017. As we look for a tax plan, the per capita income in FY2018 is USD 1,640.5 with an unemployment rate taken in 2015 of 5.9%, an average personal income tax rate of 20.77% and an average sales tax of 16.15% from 2006 to 2018.
The highest personal tax collection in China, India and Malaysia is 45%, 35.88% and 28% respectively, whereas the per capita income of these countries was USD 15,309, USD 1,964 and USD 11,521 respectively in December 2017. Among these countries, unemployment rate is the highest in China standing at 3.82% in the second quarter of 2018.
It would be wrong to say that not all Pakistani people pay taxes as we’re bombarded with escalating sales taxes of as much as 27%. But the sales tax which is based on Value Added Tax (VAT) structure is hurting Pakistan, where according to World Bank 29.5% of the population was living below poverty line in 2014. Hence, the sales tax is depriving poor people of basic amenities so they’re not able to contribute positively to the country’s economy.
On the other hand, registered companies in Pakistan are faced with a complex tax structure comprising: 1) minimum tax, 2) final tax and 3) the corporate tax or 4) the alternate tax along with 5) special tax and now 6) tax on reserves too. This regressive tax environment makes it almost impossible for the government to invite foreign direct investments and impractical to encourage entrepreneurship in Pakistan. In short, the fiscal laws don’t convey a clear vision and show lack of direction.
Despite increasing the tax net being the topic of all tax forums for the last few decades, it is still the biggest obstacles the Federal Board of Revenue (FBR) has failed to overcome. Let’s have a look at the major depressing factors and what can be done to achieve the target of better tax collection.
The two basic obstacles are our tax avoiding culture and the cash economy. For years, our people have considered government an enemy and tax collection a way to fuel their corrupt bureaucracy. Much of this fear has led to unregistered economy and cash based trades. A smaller to medium businessman feels no need to file a record of his earnings and assets to the FBR; instead, he considers no shame in concealing all his money and the business details. The problem here is lack of education that should have been given instead to instill within the minds of the citizens the importance and the need of paying taxes. Also, the perception of government authorities and their representatives built over years is such that it appears more convenient to keep oneself away from dealing with them.
Additionally, cash economy paves way for illegal money circulation and money laundering is one practice that has been found to have significantly depressed our tax revenues. India, being our neighbour and dealing with almost same cultural issues had come up with a ban on high currency notes taken as a step to curb the illegal money troubles and get the unregistered to register. A study of the results of Indian government actions can help us understand the options available to us.
Comparing ourselves with developed countries − France, Spain and USA being the most travelled countries in 2017 have the progressive individual income tax brackets going up to 45%, 45% and 39.6% respectively. Developed countries collect a wider range of taxes in the form of income tax, social security taxes/municipal taxes/social charges and some even collect additional special taxes. These taxes are in addition to the capital gains and investment income taxes and the toll collected on roads. Yes, there are more income earning opportunities but again those opportunities were created by governments from the public money received in the form of taxes.
The essential task however is educating the citizens that while comparing Pakistan with the rest of the world, a consideration of taxes collected from their people is imperative.
Another problem with the tax system here is the way FBR works. Despite the presence of many respectable tax officers, the presence of bureaucracy and corruption is not hidden from the eyes of a common tax payer. The long and detailed paperwork in this global era, with ancient organisational structure and data collecting and storing systems, FBR has half a century to travel to reach the international tax collection standards. It is only by restructuring the whole organisation and bringing user friendly culture and systems that FBR can encounter the developing needs and improve its tax collecting methods. These tasks may be time consuming but with Pakistan being now part of the Convention on Mutual Administrative Assistance in Tax Matters, Multilateral Convention to Implement Tax Treaty Related Measures to prevent Base Erosion and Profit Sharing (BEPS) as well as Multilateral Competent Authority Agreement on Automatic Exchange of Financial Accounts (MCAA) of Organisation for Economic Co-operation and Development (OECD), an aggressive policy needs to be implemented.
The third major issue is the existing fiscal laws which are mostly regressive rather than progressive. The Finance ministry needs to first agree that the tax net be increased by broadening the income tax base; that the sales tax, if based on VAT, should be significantly reduced to give breathing space to the poor or structured to charge high only luxurious goods and services; that a clear demarcation is required whether a particular sales tax be either collected by the federal government or provincial government, not both; and that the corporate tax be not over complicated. Another major flaw in the laws is the way some tax exemptions are given. Whereas tax exemptions to encourage certain businesses and particularly entrepreneurship in Pakistan are needed, long term unchecked and uncontrolled exemptions lead to a tax avoidance behavior. Another larger area of development is capturing the income earned by individuals by working online and that by Pakistanis working outside the country. This has been particularly of concern to even the developed countries and that is one of the reasons the USA came up with Foreign Account Tax Compliance Act (FATCA) and the OECD countries with the BEPS. With improved functioning, FBR would also be able to reserve a spot on the OECD development center and interact better with the rest of the nations.
There are several other things that can be done by engaging the taxation and economic experts but these seem to be the first few steps towards a larger goal. Studies of countries with more or less same cultural barriers can be a good effort to begin with. A very relevant example is that of Malaysia, which is faced with almost the same cultural issues, just recently had elections and is planning on fiscal reforms to reduce its budget deficit by curbing government spending and diversifying its fiscal revenue. According to World Bank, “The historic outcome of Malaysia’s recent elections provides an unprecedented opportunity for change.” And so can Pakistan’s.
Tax laws should be designed to create business opportunities and lock the back doors for tax evasion. With more businesses coming in unemployment will be reduced and with higher employment rate more income taxes would be collected, spending would go up and so will the sales tax revenues. That should be our goal.
References: Finance Ministry press releases; Pakistan Economic Survey 2017-2018; State Bank of Pakistan Economic Data publications; and World Bank Survey and Trading Economics, Inc. NY.
Special Note: This Article was first published in the Journal by the Institute of Chartered Accountants of Pakistan “The Pakistan Accountant” in its issue of October-December 2018.
Ms. Sana Quadri is a Chartered Accountant and a member of the Institute of Chartered Accountants of Pakistan (ICAP). She is finance professional associated with mainly Financial Services Sector for over ten (10) years now. She has served on positions at very senior level and has served as CFO & Company Secretary at listed Companies. She is currently a member of the Women’s Committee of ICAP and has also served on ICAP’s Committee on fiscal laws for two years 2017 & 2018.