Tax evasion, exemptions hindering progress
KARACHI: Recently, under the context of the Article IV consultation, the International Monetary Fund (IMF) released a report on Pakistan’s overall economy.
The report started on a positive note highlighting the macroeconomic gains made over the past couple of years which included the increase in growth rate from 3.7% in FY 2012-13 to 4.2% in FY 2014-15, efforts made to reduce power subsidies and raising the tax revenue.
However, it also highlighted some issues that act as obstacles towards the country’s progress and raising tax revenue was flagged as a cause of concern.
Pervasive tax evasion and the ‘still prevalent’ tax exemptions are some of the long standing structural impediments that act as obstacles in the path to progress. Tax revenue to GDP ratio stands at 11% in 2015, which is still lower than other emerging market economies.
Historically, Pakistan has faced significant challenges towards revenue mobilisation with the ratio standing at its highest ever at 12.4% in 1996. With low revenue mobilisation and presence of loss making public sector entities, the government has to rely on bank financing thus leaving little for the private sector. This is also evident from the glaring statistic: public debt is almost 600% of tax revenues.
A variety of factors plague tax mobilisation in Pakistan which include narrow tax bases, extensive uses of tax concessions, weaknesses in revenue administration and underreporting of formal income.
To aggravate this, the situation is further complicated by intergovernmental fragmentation in revenue administration. Provincial governments are responsible for collection of agriculture, services and immovable property taxes which represent a significant share of economic activity. However, provincial governments have inadequate administrative capacity and limited incentive for revenue mobilization as they rely on the transfer of shared revenues from the federal government.
The National Finance Commission signed in 2010 advanced fiscal decentralisation and increased share of provinces in federal tax revenue from 45 to 57.5% even though provinces have exclusive right to tax agriculture, property and services.
The agricultural sector accounts for less than 0.1% of total tax revenues although its contribution towards GDP is about 25% and employs 45% of the workforce. Similarly taxes on property and services form a meagre share of 0.04% and 0.6% of GDP.
Also, tax burden is exerted on those who are already under the tax net.
According to the IMF report, although the number of people paying personal income tax has increased from roughly more than 750,000 in 2000 to over 3.6 million in 2014, it is quite small to 56.5 million people employed in the country.
Similar is the case with corporate income tax payers. Out of a total of 60,000 registered companies, 25,551 pay corporate income tax.
Furthermore, the number of entities registered for the General Sales Tax (GST) is 0.1% of total retailers. In this scenario, the government heavily relies on indirect taxes as a means of revenue collection which forms a share of more than two third of total tax revenue.
Serious effort needs to be paid on various aspects of the tax infrastructure so that it doesn’t pose as an obstacle toward the country’s path to progress. Well-designed tax reforms at federal and provincial levels can boost the country’s revenue potential. Moreover, after the National Finance Commission, tax administration also has to be strengthened at all levels of government.
Modernising the tax administration and infrastructure would lead to less corruption and leakages. As the IMF report has clearly stated that the objective of tax reforms is not to extract more from already compliant taxpayers but to expand the tax base. Improving tax compliance would not only boost revenue mobilization but prove to be better for perceived fairness of the tax system in the country.
