STREAMLINING THE FAULTY TAX REGIME

ALL INCOMES MUST BE TAXED, BUT RATES BE REVISED DOWNWARD

SHABBIR H.KAZMI
May 25 - 31, 2009

It is often said that the number of taxpayers in this country is very small and therefore, the tax net has to be broadened. However, the reality is that even the poorest are paying tax through their noses but certain segments continue to enjoy tax exemptions. On top of this announcement of 'money whitener schemes' with regular intervals provide incentive for tax evasion. Therefore, there is a need to introduce radical changes in the present tax collection regime and also rationalize tax rates.

To begin with the income irrespective of its source should be taxable and it must be mandatory for every individual to submit his/her annual return, irrespective of the fact whether he/she is liable to pay tax or not. Fixing a realistic threshold level is a must and all sorts of exemptions must be abolished. Also, all sort of presumptive and indirect tax should be abolished by introducing direct taxes.

The worst and most pinching are the taxes on energy products. At present government collects billions of rupees on POL products, gas and electricity. This means that virtually every individual is being taxed for using energy products, the basic requirements of life. Ironically, if one adds the tax paid at various stages perhaps, Pakistanis are paying the highest. However, it must be kept in mind that rich pay much lower taxes, as a percentage of their income, whereas poor the highest. It is mainly because of the faulty tax regime, which believes in collecting indirect and presumptive taxes.

A 16% general sales tax is levied on most of the products and services. This includes cement and sugar and around 21% tax levied on telephone bills. The break up of a PTCL telephone bill picked at random amounting to Rs1,566 shows that Rs1,252 went to the service provider and balance Rs314 or 25% went towards taxes. On top of this, the government collects corporate tax from the PTCL. When the profit, on which the government has already collected tax, is distributed among the shareholders, tax is collected once again. Therefore, it may not be wrong to say that at time up to 70% of the retail price of various products comprise of tax.

Similarly, when import duties and various taxes are charged on import of plant and machinery, the front loading adds to the cost and also the borrowing. Usually projects are established on up to 80:20 formulas meaning that sponsors' contribution is 20% and remaining 80% is borrowed money. On top of this various types of taxes, including sales tax are charged on raw material. Although, most of these taxes are subject to adjustment the process is very cumbersome and billions of rupees of the businessmen remain receivable for ages. To expedite the process businessmen have to pay 'speed money'.

This opens the Pandora box of refunds. There is an elaborate regime responsible for collecting tax along with as equally bid infrastructure for the managements of refunds. Ideally, a tax which has to be refunded should never be collected. Foe example a sales tax is payable at various stages of value addition of raw cotton, from sale of raw cotton to made-ups. This entire system has to be abolished and VAT should be payable at the time of purchase of made ups. In addition, exports should be zero-rated. If the procedure is made simple and tax is payable only at one stage its monitoring would become and probability of evasion be minimized.

As on today industries have to follow a very complicated procedure, which also include 'bonded warehousing'. Under the procedure raw materials are kept at two separate warehouses one where raw material on which duty/tax are not paid and other where duty/tax paid quantities are kept. This offers opportunities for embezzlement to the business community and also the tax collectors.

In this regard, specific mention of a rule is necessary. In the sugar industry, the mills are required to follow FIFO (first in first out) procedure. This is the most ridiculous rule because of the staking procedure, the bags produced first are staked at the bottom and ones produced last are kept at the top. Therefore, the tax collectors are paid money for hoodwinking. Interestingly, the business community is paying money for decades but necessary changes have not been brought in the system. This raises the suspicion that the system provides incentives of misappropriation and/or embalmment. Therefore, it will be right to say that both the parties, taxpayers and collectors are happy because the system benefits them, while the government looses billions of rupees.

As regards evasion of taxes and thriving undocumented economy, the estimates suggest that only one fourth of the economy is documented whereas three-fourth is undocumented. Other studies also show that per capita income in large cities is above US$20,000 contrary to the government's stated figure of around US$1,000. This is mainly because most of the income generated in the rural economy is not documented.

Lately, there was a lot of hue and cry about the salary of the president of a commercial bank, stated to be around Rs10 million per month. However, most of the critics do not realize that tax is paid by the gentleman whereas there are hundreds and thousands of feudal lords in this country who earn more than this man but do not pay a rupee as tax.

This also highlights that in this country, salaried class pays the highest tax (as a group) but the income of landlords is exempted from payment of tax. This is despite the existing laws of the country. The exemption of income from agriculture has created another distortion. Many people have acquired barren land and use it for whiting their undocumented income.

For years prior to the announcement of budget certain circles starts spreading rumors that capital gains made on trading of shares of listed companies would become taxable. This creates bearish sentiments, prices of shares go down and once the KSE-100 index looses substantial weight the announcement regarding continuity of this exemption comes in. There are people who do not want end to this exemption as they consider it the driving force of equities market, whereas their opponents that if dividend income is taxable, tax should also be levied on capital gain. Yet another group says dividend income should be declared tax-exempt because corporate pay tax and the income when distributed among its shareholders should not be double taxed. They also say that stock market also contributes billions of rupees taxes on the trading of shares and any attempt to enhance quantum of tax could only prove counter productive.

In this part of the world virtually every product from food items to medicines and from diesel to electricity and telephone services are taxed. However, other income of government officials, politicians and some of the holy cows continue to enjoy tax exemption, because it is never documented.

It is also said that the tax to GDP ratio is very low in this country. Low tax collection is due to the exemptions enjoyed by elites of the elite. If all the undocumented income is brought on record the size of GDP could become three times the present size. This would further highlight the gross inefficiency of the tax collection regime. There are critics who say that if one compares the expenses incurred by the government on maintaining the tax collection infrastructure and the amount collected the very existence of the system becomes questionable.

Some of the critics say that Pakistan has inherited a tax collection regime from the colonial system, which was aimed at developing favorite groups and buying out loyalty. Unfortunately, instead of making it public friendly the successive governments have added to the confusion to avoid accountability and rewarding the turncoats. While poor are paying tax, income of some of the groups remain tax exempt.

To substantiate the point it suffice to say that 98% land of this country is owned by less than 2% of the population but the have been resisting imposition of tax on income from agriculture. They have been saying that imposition of this tax is anti small farmer. However, they do not admit that if tax is based on produce index unit then the smaller the landholding lower would be the tax incidence.

The legislative of country is dominated by feudal lords and industrialists. Therefore, they oppose any move, which can reduce their income by the smallest percentage but support every move to squeeze more from those who are already paying tax. They support imposition of news taxes to bridge budget deficit but keep on increasing their stipend and extravaganza. They are prompt in cutting PSDP allocations but are willing to spend huge sums on non-developmental expenditures.