The government has undertaken another ritual exercise by constituting an 11-member ministerial committee headed by Finance Minister Muhammad Aurangzeb, intended “to deliberate upon and firm up proposals for budget 2024-25.” This coincides, unsurprisingly, with officials begging before the International Monetary Fund for an unprecedented 25th bailout. It is patently obvious that there is a need to reevaluate our outdated, anti-growth and anti-people tax policy.
Taxation in Pakistan is oppressive, lopsided and counterproductive. By heavily taxing the corporate sector, successive governments have been encouraging the undocumented and informal sector of the economy.
It may be recalled that four time finance minister, Muhammad Ishaq Dar, now our foreign minister, after occupying Q Block in September 2022, constituted the Reforms and Resource Mobilization Commission (RRMC), which was yet another failure, as it was unable ultimately to suggest any fundamental structural reforms. However, it proposed some anti-corporate proposals like the taxation of undistributed profits on which companies had already paid taxes, and a super tax that was imposed through Finance Act 2022 retrospectively. These proposals led to costly and prolonged litigation that is still ongoing.
As per the latest figures for April 2024, the number of registered companies in Pakistan is dismally low at 212,108, with the annual addition of less than 25,000. Not comparing ourselves with western industrialized states, even in countries like Malaysia, Indonesia and Turkey, the number of incorporates entities is in the millions. If Pakistan is to discourage the undocumented and informal economy and foster rapid industrialization, among others measures, it must incentivize the corporatization of businesses through a rational tax policy.
Taxation can play a vital key role in the process of corporatization by reducing corporate tax rate to 20% and fixing highest non-corporate income tax rate at 30%. Sales tax should also be in the single-digits, as is the case in Japan, Vietnam, and Singapore etc.
In Pakistan, ill-directed, illogical, regressive and unfair tax regulations, coupled with an import embargo are dampening industrial and business growth. The exclusive focus on meeting revenue targets, without evaluating its impact on the economy, has crippled trade and industry.
Taxation should serve as a catalyst for industrial expansion and economic growth, creating more and more jobs that our growing youth population frantically needs—the demand would grow in every coming year as fifty percent of our population is 19 or below 19.
In Pakistan, ill-directed, illogical, regressive and unfair tax regulations, coupled with an import embargo are dampening industrial and business growth. The exclusive focus on meeting revenue targets, without evaluating its impact on the economy, has crippled trade and industry. Had successive governments concentrated more on economic growth, there would have been substantial rise in taxes as a consequence. It is impossible to enhance revenues with stagflation—over-taxing an ailing economy, as has been done in Pakistan, is bound to destroy the revenue system as well.
Fixing revenue targets in isolation and without making necessary efforts to improve productivity and economic growth is our real dilemma. In a country where there is no security of life or property, notwithstanding the availability of any tax benefits, local investors, what to speak of foreigners, would never come forward.
The Federal Board of Revenue (FBR) creates uncertainty by introducing cumbersome Statutory Regulator Orders (SROs), withholding undisputed refunds, making excessive tax demands and resorting to all kinds of nefarious tactics to meet its budgetary targets. Such actions by the tax machinery are detrimental for business.
Despite these repressive actions, FBR has failed to meet even revised targets in the past, let alone realizing the nation’s real revenue potential. Our actual tax potential at the federal level alone is Rs. 20 trillion and if we take the informal economy into account, it is Rs. 34 trillion, which is 16% of GDP.
Prime Minister Shehbaz Sharif must ask his economic managers to concentrate on increasing productivity, industrial expansion, efficiency and growth—these alone can ensure more revenues for the State.
Successive governments’ onerous tax and regulatory policies have pushed millions of people below the poverty line and as per the latest report of the World Bank, “10 million more people are at risk of descending into poverty in the cash-strapped country.” Pakistan needs to move quickly and decisively to reverse this trend.
Revenue performance is a determination of the best and optimal use of resources. Since the composition of investment is an important determinant of the economy’s growth rate, public policy must discourage the flow of resources to low priority areas, diverting them instead to vital sectors. By imposing higher taxes on luxuries and other low priority items, such as open plots, expensive cars, jewellery etc., the government can dissuade the consumption and production of such items, ensuring in the process release of resources for high priority sectors.
The primary function of a tax system is to raise revenue for the government for its public expenditure as well as for local authorities and similar public bodies. Therefore, the first goal in development strategy with regards to taxation policy is to ensure that this function is discharged effectively. The performance of the Pakistani tax managers is highly disappointing, as the fiscal deficit has remained high during the last decades and the revenue targets fixed annually have had to be subjected to downward revision many a times, and yet they could not be achieved. The tax-to-GDP ratio, now at 9%, is pathetically low.
The second equally important function is to reduce inequalities through a policy of redistribution of income and wealth. Higher rates of income taxes, capital transfer taxes and wealth taxes are some means adopted for achieving these ends. In Pakistan, there has been a gradual shift away from equitable taxes to highly inequitable ones—from removing inequalities through progressive taxes to presumptive and minimum taxes that are easily collectable. This deviation has effectively transferred the burden of taxes from the rich to the poor.
Economic justice relates largely to the distribution of the tax burden and benefits of public expenditure. Tax policy is a democratic method to influence the distribution of income and wealth along desired lines. The main ingredients of this policy can be the progressive direct taxation of income, wealth, and property transactions, the taxation of commodities (customs duty, excise levy, and sales tax) purchased largely by high-income groups, and subsidies (negative taxation) on goods purchased by low-income groups. In Pakistan, moving from progressive taxation to regressive taxation has proved to be deadly and lethal as society is already divided on economic, political, geographical and religious grounds.
Taxation policy and its implementation are mainly focused on the formal sector only and consequently, unregistered businesses are flourishing at a rapid pace as compared to registered ones.
In the last two decades, tax reforms remain a closed door, a bureaucratic exercise with patchwork here and there, with no meaningful dialog with the stakeholders and experts who matter in the subject. In the absence of a well-designed tax policy, the agenda of reforms would always remain lopsided. The incumbent coalition government should not make any legislative and administrative changes until public debate is initiated to formulate a rational tax policy after securing the support of all those who are affected by it.
Over the period of time, our tax system has become rotten, oppressive, unjust and target-oriented. There is a dire need to discuss the philosophical framework and principles that should be the main concern of our tax policy, which is far above the mere achievement of targets set out unreasonably by foreign lenders and donors. Our potential is much higher than these targets, which we can never attain with the present tax laws and incompetent, inefficient and corrupt tax machinery.
Taxation policy and its implementation are mainly focused on the formal sector only and consequently, unregistered businesses are flourishing at a rapid pace as compared to registered ones. The lack of predictable, transparent, and consistent policies is harming the formal sector.
Apart from the imposition of higher duties, long delays in issuing tax refunds have become a major problem that has afflicted the local industry. Tax refunds remain pending for years. Many businessmen prefer to sell their finished goods in Pakistan as the government is not clearing tax refunds of exporters.
There is no taxation of the substantially large and undocumented economy. The withholding tax regime is highly complex, with over 50 withholding taxes with very high tax rates. The system is plagued with an unfairly high tax burden for compliant taxpayers and multiplicity of taxes, dealing with many tax agencies.
One of the main goals of a rational tax policy is to increase the level of savings and capital formation in the private sector for enhancing investment resources for economic development. In Pakistan, we have failed to achieve this objective.
There exist multiple regimes within the income tax system, like Normal Tax Regime (NTR), Presumptive Tax Regime (PTR), Minimum Tax Regime (MTR) with NTR, Alternative Corporate Tax (ACT), Alternate Minimum Tax (AMT), Super Tax (ST) etc. The number of provincial and local taxes are unclear, and there is no clarity about the Workers Welfare Fund (WWF), Workers Profit Participation Fund (WPPF) in the case of companies having trans-provincial operations.
There is an egregious lack of harmonization and subsequent confusion about jurisdiction between FBR and the provincial tax agencies, as well as among Punjab Revenue Authority (PRA), Sindh Revenue Board (SRB), Khyber Pakhtunkhwa Revenue Authority (KPRA) and Balochistan Revenue Authority (BRA).
The cost of doing business remains high in Pakistan. The country has a poor rating on World Bank’s ‘Ease of Doing Business’ parameters, especially on tax related measures.
All of this makes tax compliance in Pakistan complicated, costly and time-consuming.
One of the main goals of a rational tax policy is to increase the level of savings and capital formation in the private sector for enhancing investment resources for economic development. In Pakistan, we have failed to achieve this objective. Recent years have experienced the closure of large industries and stagnation in growth. Inconsistent tax policies have forced the business community to search for safer havens abroad, depriving the country of invaluable capital. Similarly, foreign investors are reluctant to avail the tremendous Pakistani talent, especially in IT, that goes to waste for lack of proper opportunities.
Pakistan has been facing an ever-worsening unemployment crisis. However, no government has ever thought of earmarking revenue for employment zones. Such employment zones can cater not only for the creation of employment, but for technological innovation and export promotion.
Devising an efficient tax model for attracting FDI and rapid economic growth in Pakistan requires an analytical study of all the irritants prevailing in the tax codes, procedures and implementation processes. The main irritants are inconsistent policies, inefficiency, red-tape, the lack of coordination, highhandedness, corruption and unprecedented high level of maladministration in tax apparatuses—both at federal and provincial levels.
We need a public debate for suggesting solutions to remedy the situation and promote business growth, attracting domestic and foreign investment aimed at import-substitution, promoting exports and ensuring much-needed employment generation.
Once people see tangible benefits of the taxes they paid, there will be better response to tax compliance. Taxes cannot be collected through harsh measures and existing irrational tax policy.
An equitable tax system is one under which tax payments are based on the amount of benefits received from government services. In other words, the cost of government services should be apportioned among individuals according to the relative benefits they enjoy.
Clearly, implementation of the benefit principle presupposes determination of the incidence of public expenditure before deciding the distribution of tax burden. Thus, it encompasses issues of both tax and expenditure policies. Our men at the helm of affairs want more taxes, but are not ready to provide essential services to the masses at the grass roots level.
Tax policy ultimately must be oriented for the welfare of the public. The government should launch programs, financed mainly through taxes, to solve the twin problems of unemployment and poverty. These welfare-oriented schemes may also include subsidized or free medical and educational facilities, low-cost housing, and drinking water facilities in rural areas, land improvement schemes, and employment guarantee programs.
Once people see tangible benefits of the taxes they paid, there will be better response to tax compliance. Taxes cannot be collected through harsh measures and existing irrational tax policy. Policymakers must engage with public debate and integrate input from all stakeholders in the design and implementation of a just and simple model, so that the taxpayers can place their trust in them and pay taxes honestly and diligently.