The missing link

The government must unveil its pro-growth ‘national tax policy’, if it has prepared any

By Huzaima Bukhari and Dr. Ikramul Haq

Over the period, our tax system has become unjust and target-oriented. There is a need to discuss the philosophical framework and principles that should be the main concern of our tax policy. Our revenue potential for 2011-12 is not less than Rs4 trillion provided the tax base is broadened, equitable and rational policies are devised with the backing of stakeholders, tax machinery is completely overhauled, and all exemptions and concessions available to the privileged sections of society are withdrawn.

Now that the Finance Minister, Abdul Hafeez Shaikh, has spoken his mind about fundamental changes in the tax structure and only few weeks are left before the national budget for fiscal year 2011-12 is announced, the government must unveil its pro-growth ‘National Tax Policy’, if it has prepared any. Presently, the Federal Board of Revenue (FBR) is performing the role of legislator and policymaker, which is not only highly lamentable, but a transgression on the powers of a sovereign parliament. It is the duty of the elected parliament to make laws and policies while FBR should only be implementing them both in letter and spirit.

During the last many years, before the annual federal budget, a plethora of proposals are solicited by FBR from trade and professional bodies, tax bars and industry’s representatives. This practice, serving only the vested interest, should be stopped. The Parliament should immediately amend Federal Board of Revenue Act to establish a new Board of Directors having 50 percent representation from the public. The task of preparing tax proposals should be the exclusive domain of Select Parliamentary Committee on Finance and Revenue. It should receive proposals -- both from the FBR and the public at large -- for making recommendations to the House. The House and not FBR should prepare the Finance Bill.

It is an unfortunate fact that during the last decade, FBR introduced an avalanche of mindless changes in the tax codes having no meaningful impact on much-needed industrial expansion and economic growth of the country. The existing process of initiation of budget proposals and making of revenue policies by FBR is against democratic norms. In a true democratic set-up, tax proposals are prepared through parliamentary processes, and implemented after thorough public debate, whereas in Pakistan it has always been a bureaucratic prerogative, authority vests in the official kingdom sitting in Ministry of Finance and FBR. This is the root cause of failure of our fiscal and revenue policies. One hopes Hafeez Shaikh would change this scenario and rely more on “people who know” than the “all-knowing tax baboos of FBR”. National Tax Policy should be prepared after taking input of all the stakeholders, opinion of a committee of experts in the field and FBR’s point of view. It must be growth and welfare-oriented and not just target specific.

Since all governments in power gave tax bureaucrats an absolute hand, FBR has been resorting to regressive and unfair tax regulations to show “wonderful performance”. In reality, these measures and policies have caused a dampening effect on the industrial and business growth. Had the successive governments concentrated on economic growth and industrial expansion, there would have been consequential substantial rise in taxes today.

Over-taxing economy, as has been done in Pakistan, destroys the economic growth and expansion leading to unemployment and social unrest. It is well-recognised that private sector regards the problem of dealing with government revenue agencies, in particular the FBR, a major constraint to its business operations and growth prospects.

Successive governments’ onerous tax and regulatory policies have pushed millions of people below the poverty line. We will have to move quickly and decisively to reverse this trend by restoring Pakistan’s undeniable geo-strategic and business competitive position in the region. This article suggests some key areas where paradigm shifts are needed in structural and operation level to ensure not only more tax revenue for the State but also social equity, redistribution of wealth and fairness so that honest taxpayers are not disillusioned.

Countering tax evasion

It is a curious paradox of our situation that while money for worthwhile industrial and business growth and public benefits is scarce, there is colossal unaccounted cash supply circulating in the economy in search of further undercover gains. What is more tragic is that this social evil inherent in the tax system is doubly compounded as it necessitates greater and greater tax burdens on those who are law-abiding. The most crucial problem faced by us in fiscal reform programme is that of devising astute and stringent measures to curb tax evasion so that we can distribute the burden of taxes fairly between different persons in the same or similar occupations.

In the form of section 111(4) of the Income Tax Ordinance, 2001, unprecedented tax amnesty scheme favouring tax evaders, smugglers, corrupt, extortionists, drug barons and criminals is available. Such schemes mock the honest taxpayers (proving them as most foolish for paying their taxes).

An extortionist in Karachi can decriminalise his ill-gotten money through this scheme but the victim (a businessperson) who paid it due to shameless failure or connivance of law enforcement apparatus cannot even claim it as an expense in his tax return. The situation needs to be corrected. The facilitation of whitening untaxed/undeclared money should be removed or restricted only for genuine industrial investment to bring such capital back into disclosed/formal sector and not for the benefit of criminals, corrupt and unscrupulous elements in the society.



Equity principle

Our tax-to-GDP ratio is one of the lowest (only 9pc) in the world, yet the government is least bothered to tax undocumented economy and check benami (name-lender) transactions. Pakistan’s indirect tax system is aggressive and biased against the poor putting greater burden on the lower income households than the affluent ones.

The determination of a tax base capable of measuring an individual’s ability-to-pay is a major problem of our tax system. This rule is incorporated in the form of progressive rate schedule for personal income tax, estate duty, and property tax worldwide. In Pakistan, we have moved from this policy to unequal sacrifice rule where the mighty civil and military bureaucrats (who are now part of the landed aristocracy by getting State lands as awards and rewards), rich industrialists and businessmen are paying meagre personal taxes while the poor people are compelled to pay 17pc sales tax and ever-rising costs of public utilities and POL products. This is directly in violation of guarantees provided in the Constitution (Article 3). The government must immediately remove these dichotomies. Taxes should be for the welfare of the public at large and to make the State invincible, but certainly not for the luxuries of the rulers and State functionaries.



Benefit principle

According to this principle, 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 distribution of tax burden. Thus, it encompasses issues of both tax and expenditure policies.

Our governments have failed to convince the people that payment of taxes is their collective responsibility. All the civil and military governments were engaged in wasteful expenditure, not to talk of providing them basic needs of health, education and civic amenities.

Tax policy should be used as a tool of distributive justice. The government should launch programmes, financed mainly through taxes, to solve the twin problems of unemployment and poverty. These welfare-oriented schemes could also include subsidized/free medical and educational facilities, low-cost housing, and drinking water facilities in rural areas, land improvement schemes, and employment guarantee programmes. Once people see the tangible benefits of the taxes paid, there would be better response to tax compliance. It is hoped that in the coming budget, the government would announce a rational tax policy.