Our tax-to-GDP ratio can rise to 25 percent in one year if we tax absentee landlords, real estate developers, and assets created out of untaxed money
By Huzaima Bukhari and Dr Ikramul Haq
No society can surely be flourishing and happy, of which the far greater part of the members are poor and miserable -- Adam Smith, 1776. There is a direct link between growing poverty in Pakistan and income inequalities due to distortion in the tax base. The lack of judicious balance between direct and indirect taxes and levy of regressive taxes in the garb of income tax and petroleum development surcharge has pushed an overwhelming majority of Pakistanis towards, and a substantial number, below the poverty line.
According to various studies, especially one conducted by the Centre for Research on Poverty and Income Distribution (CRPID), there are 63 percent of poor in Pakistan in the category of ‘transitory poor’. This has also been observed by the State Bank of Pakistan (SBP) in its various annual reports that the standard definition of ‘transitory poor’ includes those households that are below the poverty line for most of the time but not always during a defined period. The rest of 32 percent and 5 percent of the population that subsist below the poverty line were found to be ‘chronic’ and ‘extremely poor’, respectively.
Chronic and extremely poor are households that are always below the poverty line, all the time during a defined period. Similarly, on the other side, 13 percent and 21 percent of total non-poor (above the poverty line) were classified as ‘transitory vulnerable’ and ‘transitory non-poor’, respectively. This portrays a frightening and shocking situation as more and more people are moving from transitory category to chronic category, courtesy regressive tax system that is the main cause of income inequalities. In egalitarian societies, tax is used as a principle tool of income redistribution to reduce inequalities amongst different socio-economic strata.
Strangely, neither the CRPID nor SBP has tried to interlink growing poverty with prevalent oppressive tax system. It is an undeniable fact that in Pakistan, ill-directed, illogical, regressive and unfair tax system is widening the existing divide between the rich and the poor. Look at the sprawling bungalows coming up fast, especially in urban centres, and growing number of people having either no shelter or living in subhuman conditions in ghettos. By taxing the rich (living in sprawling houses) houses, the money could have been collected by the state for providing basic facilities of housing, transport, education and health to the poor. No government in Pakistan -- civil and military alike -- has ever thought about it seriously. There is lot of lip service but no action.
The sole stress on indirect taxation without evaluating its impact on the life of poor is a serious cause for concern. The contribution of direct taxes as percentage of GDP was merely 2.2 percent in 2009-2010, whereas in 2007-2008 it was 2.9 percent. The pathetic state of affairs in respect of tax-to-GDP ratio in Pakistan from 1990-2000 to 2009-01, highlighted in Table A, not only confirms inefficiency of Federal Board of Revenue (FBR) but also depicts poor share of direct taxes in overall economy.
Disastrous impact of indirect taxes (on an imported article of public consumption, the effective rate of tax before any further supply is 32 percent] and levy of surcharge on POL products has crippled the purchasing power of the people. Resultantly, a large segment of the lower and now even middle class is being pushed below the poverty line.
Achieving revenue targets by keeping the rich outside the ambit of personal taxes is a criminal act. Our revenue potential is not less than Rs4000 billion but Federal Board of Revenue (FBR) is not even collecting half of it (it collected merely Rs1328.6 billion during fiscal year 2009-10). The government is not making necessary efforts to improve productivity and economic growth. Resultantly, Pakistan is facing a dilemma: neither can it afford to give any meaningful tax relief package to the common people, trade and industry due to huge fiscal deficit nor can it achieve a satisfactory level of economic growth due to retrogressive tax measures.
This is a vicious circle in which our policymakers find themselves trapped. Time and again in these columns we have presented ways and means to come out of this tangle; to make Pakistan a place where economic growth takes place with development for all and not just a handful few.
The total amount of income tax collected for financial year 2009-10, according to FBR, was Rs528.6 billion. If we subtract tax collected at source on goods and services/contracts/supplies which being full and final discharge is in substance, indirect levy, the real direct tax collection comes to 325 billion. After this adjustment, direct tax-to-GDP ratio for 2009-10 at less than 2 percent is pathetically low -- FBR has wrongly claimed share on direct tax as 40 percent in total tax collection.
In reality, 70 percent collection is indirect. It proves beyond any doubt that the tax system is directly contributing to rising poverty as people who possess enormous income and wealth are not being subjected to income taxation in Pakistan. Thus, the very purpose of redistribution of wealth as the main object of taxation is being defeated.
It is pertinent to mention that in 2010 the government of Sweden collected taxes at 50 percent of GDP, almost twice as high as the total tax revenue of America and Japan, with both collecting around 25 percent of GDP. In the Euro area, tax revenue, on average, reaches 40 percent of GDP.
It hardly needs any further evidence to show that the FBR has been single-handedly destroying Pakistan’s trade and industry and contributing to rising poverty by:-
levying exorbitant sales tax and forcing the importers for forced value addition even before actual sales take place;
imposing indirect taxes on goods and services under the presumptive tax regime in the garb of Income Tax Law, which violates Constitution of Pakistan;
imposing withholding tax obligations without any facilitation and then taking punitive action or using the same as revenue collection tool;
blocking undisputed refunds under one pretext or the other;
making excessive tax demands which in 99 percent cases do not stand the test of appeal; and
resorting to all kinds of negative tactics and highhandedness to meet budgetary targets.
These actions of the tax machinery are detrimental to economy, social justice, business and industry. If a given amount of revenue is needed to finance public services, then each taxpayer should contribute in line with his ability to pay taxes. Those who possess more economic power (income and wealth) should contribute more to the public exchequer and vice versa. Article 3 of the Constitution categorically holds that “State shall ensure the elimination of all forms of exploitation and the gradual fulfillment of the fundamental principle, from each according to his ability to each according to his work”.
It is tragic that in a country where billions are made in real estate business alone, tax-to-GDP ratio is pitifully low (below 10 percent). The definition of ‘business’ given in section 2(9) of the Income Tax Ordinance, 2001 covers even speculative transactions being “adventure in the nature of trade” and yet the apex revenue authority is sitting idle, causing colossal loss to the national exchequer by not bringing such adventures in the nature of trade in real estate and stock markets into tax ambit. Our tax-to-GDP ratio can rise to 25 percent in one year if we tax absentee landlords, real estate developers and assets created out of untaxed money by deleting section 111(4) of the Income Tax Ordinance, 2001.