Malice Towards None & All: Broadening The Tax Base With Low Rates & Creating Growth

Malice Towards None & All: Broadening The Tax Base With Low Rates & Creating Growth
Fiscal consolidation should be as growth-friendly as possible. In general, tax base-broadening reforms are identified as growth-oriented reforms. To the extent that they reduce distortions to economic decisions on work, saving, investment and consumption, they should increase output and improve social welfare. - Choosing a Broad Base–Low Rate Approach to Taxation, OECD Tax Policy Studies No. 19

Pakistan needs a simple Income Tax Act of 2023 and single-digit Harmonised Sales Tax [HST] to tap the real tax potential in the federal budget 2023 for fiscal year 2023-24 and achieve the following four important objectives for long-term, sustainable, equitable and inclusive development. Most of the people, even economists, confuse “development” with “growth” that is a just a path, a means to achieve the end goal of creating a welfare society, where respect for rule of law, enrichment of human capital, equal opportunities for all, are as important as physical infrastructure.

Broadening the income tax base and its broadening

The number of “active” income tax return filers as per Active Taxpayers List (ATL) on FBR’s website [data updated every Monday], was 3,666,953 as on May 5, 2023. According to Pakistan Economic Survey (2021-22), the labor force increased from 65.5 million in FY 2017-18 to 71.76 million in FY2020-21 and the number of employed persons increased from 61.71 million to 67.25 million during the same period. As per latest information available on the website of Pakistan Telecommunication Authority (PTA), total cellular subscribers as on March 31, 2023 were 194 million (82.08% mobile teledensity). Out of these, 125 million had mobile broadband utility (52.79% mobile broadband penetration), 3 million fixed telephone line users (1.10% fixed teledensity) and 128 million broadband subscribers (54.13% broadband penetration). It is, thus, clear that not less than 120 million mobile users (many having multiple SIMs) have been paying advance/adjustable income tax of 15% from July 1, 2022 (earlier it was 12.5%).

FBR should determine income tax base from the data of about 120 million unique mobile users using details of their calling patterns, bills, handset ownership status, assets, travel abroad, payment of utility bills, fees for children etc. All of them are paying advance adjustable income tax of 15%, but the gap between persons subjected to withholding provisions like advance and adjustable income tax of 15% under section 236 of the Ordinance and filers is very huge. According to a Press report, out of 7.6 million NTN holders, only 3.6 million filed their tax returns for tax year 2022. It adds that “based on data from the FBR for the Tax Year 2022, it was found that 34.1% of individuals, 46.3% of associations of persons, and 62.8% of companies filed their income tax returns but did not pay any taxes according to their returns”.

The total potential of income tax is Rs. 5 trillion if filers are increased to 10 million, by compulsory registration of all as suggested,  all exemptions and tax credits are removed and agriculture income tax is also collected from rich absentee landowners by FBR after resolutions by all the provinces under Article 144 of the Constitution of Islamic Republic of Pakistan for uniform laws and uniform rates as in the Federal Income Tax Act, 2023. All adults having a mobile should be registered as taxpayers and sent text message with username and password to update profile and file return, irrespective of level of income or no income. It will create a National Tax Registry. The simple one-page return should be available in English and Urdu.

Present sale tax base and its broadening

Collection of sales tax at import stage in fiscal year 2021-22 was 68.75% of total net collection of Rs. 2532 billion. FBR’s Year Book: 2021-22 shows an extremely narrow sales tax base. The share of POL products alone at import stage is Rs. 459 billion of total net collection of Rs. 1741 billion and under domestic net collection of Rs.792 billion is Rs. 107 billion.

The total share of one item alone is Rs. 566 billion [22%]. These are official figures and details of sector-wise share in sales tax collection of top ten revenue spinners at import and domestic stage can be seen at page 13 & 14 of FBR’s Year Book: 2021-22 that exposes the claim of extraordinary performance! It also does not disclose the actual quantum of refunds blocked in income and sales tax to show higher tax collection growth of 16% to 20%.

The World Bank in its report, Project Information Document (PID), updated on April 22, 2019, revealed that out of total 220,042 registered sales tax payers in fiscal year 2017-18, only 141,106 (64%) filed returns and 43,355 (only 20% of registered persons) paid any tax. Recent data till March 2023 show little improvement as total filers are about 286,000 and those who paid any tax were around 59,000.

According to State of Industry Report 2022 by National Electric Power Authority (NEPRA), the total commercial and industrial electricity connections as on June 30, 2022 were 8,219,525. By excluding all not chargeable under the Act e.g. educational institutions, including deeni madrassas (religious schools), hospital/dispensaries, mosques, agricultural sector, service sector, retailers having annual bill of up to Rs. 1.2 million and cottage industries, the fair sales tax base out of 8.2 million commercial and industrial users comes to around 5 million. Present gap is of 4.7 million (5,000,000 minus 286,000 filers).

Sales tax coming through electricity bills as per FBR’s Year Book: 2021-22 is Rs. 149.5 billion. It was second highest after POL at Rs. 107 billion. The retailers pay 5% sales tax where the monthly bill amount does not exceed Rs. 20,000 and at the rate of 7.5% where the monthly bill exceeds this threshold. On unregistered additional 3% sales tax is levied. The electricity supplier is bound to deposit the amount so collected directly without adjusting any input tax.

According to Planet Retail estimates, Pakistan's current retail market size is $152 billion. Even if we ignore entire sales for want of enforcement capacity, safe estimate will be $100 billion. By applying HST of 8%, total collection from retail sector alone comes to $8 billion. (FBR collected total sales tax of Rs. 2532 billion in 2021-22 out of total tax collection of Rs. 6,148.5 billion). We can increase total sales tax collection on goods to Rs. 6 trillion by enrolling all the persons chargeable or not (for documentation purposes and part of National Tax Registry), to ensure compliance, documentation and reducing the rate as well as adopting the solution discussed below.

Solutions: legal provision for IT 2001 & HST

To achieve growth, broaden the tax base, enhance revenues and implement documentation, the following changes in the Sales Tax Act, 1990 and section 99B of the Income Tax Ordinance, 2001 are proposed:

Section 3(9) & (9A) of the Sales Tax Act, 1990 should be omitted and following new subsection (9) should be inserted: “(9) Notwithstanding anything to the contrary contained in the provisions of this Act or any other law for the time being in force, tax on persons mentioned in section 99B(2) shall be charged, levied, collected and paid as provided under rules issued under section 99B of the Income Tax Ordinance, 2001 at the rate of 5% of or at such a lower or higher rate as the National Parliament may specify by notification in official gazette.

Provided that provisions of subsection (7) of section 3 of this Act shall not be applicable, in case of persons covered under section 99B of the Income Tax Ordinance, 2001”.

In the Income Tax Ordinance, 2001, section 99B should be substituted as under:

99B. Special procedure for certain persons.–(1) “Notwithstanding anything contained in this Ordinance or any other law for the time being in force, harmonised, sales tax (HST) shall be charged, levied, collected and paid at the rate of 5% on the gross turnover (value of supply as defined in the Sales Tax Act, 1990) on 15th of every month next following the month to which such turnover relates in the case of all qualifying persons fulfilling the condition mention in subsection (5) of this section.

(2) The income tax on taxable income of the qualifying persons under the head business shall be 10%.

(3) The provisions of withholding of tax under section 147, Part “V” of Chapter X (except under section 149) and Chapter XII and provisions of Tenth Schedule shall not be applicable to persons covered under subsection(5)”.

(5)  Any person to avail the benefit of this section, irrespective of any threshold or other criterion, shall have to connect with FBR’s Point of Sale (POS) system or other prescribed IT-related system and on fulfilling this condition will be registered as the “qualifying person”.

(6) There will be no audit of the qualifying persons as in their case invoice will be generated by FBR as well as pre-prepared sales tax return will be sent electronically.

(7) In exercise of powers under subsection (9) of section 3 of the Sales Tax Act, 1990 and section 99B of the Income Tax Ordinance, 2001, the Board may prescribe the rules and regulations for filing of returns and making payment and other ancillary matters for the qualifying persons.

Chapter XXX

Rules for the qualifying persons under section 99B of the Income Tax Ordinance, 2001 read with section 3(9) of the Sales Tax Act, 1990.

Registration of qualifying persons.—The names and registration numbers of the qualifying persons shall be available online on the website of the Board under the title “Persons covered under section 99B and section 3(9) of the Sales Tax Act, 1990”.

Filing of monthly sales tax return etc (1) The qualifying person shall file monthly sales tax return in the prescribed manner entering the name and registration number of purchasers and make payment on monthly basis along with return on the 15th of every month next following the end of month to which such turnover (value of supply) relates.

(2) The qualifying person shall file the prescribed sales tax returns in the format provided in Annexure A below through irs portal and deposit the tax accordingly.

Filing of annual income tax return (1) The qualifying person shall file annual income tax return on the 30th September next following the tax year or within extended date as provided in the Ordinance in the prescribed manner provided in Annexure B below.

(2) The qualifying person shall file online income tax return in the format provided in Annexure B below.

These can be prepared on the same lines as available in many countries and can be just submitted through electronic signature (Digital signatures are a type of electronic signature with encrypted information that helps verify the authenticity of messages and documents)].

We need to redesign interface/screens/software and make these more interactive like popular tax filing software available in US and Canada, e.g. TurboTax and H&R Block. TurboTax provides graphics and interactive screens. If we want to use any such software, first of all FBR should introduce standardised forms for income payments and deductions as they use in Canada as an example, T2, T4 forms may be considered as good examples.

The second thing that FBR should do is use taxpayers as participants in cross controls. This means that when a designated tax withholding agent withholds tax, then the taxpayer should get an acknowledgement from FBR via SMS.  If the taxpayer confirms that the tax has been correctly withheld via a return SMS, then it should become part of taxpayers return.  At the end of the year the taxpayer would get a summarized tax return as a SMS. If the taxpayer confirms it by a SMS response, then it may be accepted as an authenticated return. Mobile Apps and internet application would also be available.

The above should be finalized after taking feedback from all stakeholders, and the same then should be presented to the Finance Minister through Chairman of FBR for final approval. Through POS or other IT system, FBR will have real time entries of sales, the purchasers (all compulsorily registered appearing in Active Taxpayer Lists of Income Tax and Sales Taxes).

The above technological interventions and innovation as well as changes suggested in laws will help even in sending pre-prepared income tax and sales tax returns and taxpayers can accept through digital signature as such or make changes wherever due, if they want to portray the correctness of declared version. It will reduce cost of doing business while enhancing ease of doing business and ensuring documentation. The four objectives of growth, the broadening of the tax base, enhancement of revenue and documentation will be achieved without much hassle, removing cumbersome procedures and reducing cost and time of compliance.

The writer, Advocate Supreme Court, is Adjunct Faculty at Lahore University of Management Sciences (LUMS), member Advisory Board and Visiting Senior Fellow of Pakistan Institute of Development Economics (PIDE)