Tax,tariff reforms more rewarding than other steps

Country should levy flat income tax, eliminate advance tax at import stage

ISLAMABAD: Pakistan seems to have averted, or delayed, an imminent balance of payments crisis, thanks largely to the packages from friendly countries, which are expected to reach $13-14 billion, including the much talked about package from the UAE.

These packages comprise cash deposits in our foreign reserves and deferred payments on commodities, largely oil, but may include liquefied natural gas (LNG) as well. None of this is grant or aid, and although the government is using the word deposit, in practical terms, it is a short-term external loan as this money ought to be repaid along with interest of up to 3.5% per annum.

This has, at least, provided a breathing space to the government and, in particular, to the finance minister. How he uses this breathing space, which is expected to last one year, will determine the economic situation of the country during the current government’s tenure.

Here are my two cents to the discussion on the economic roadmap - literally a two-point agenda.

Tax reforms

A good sign is the separation of tax administration and policy, which gives an encouraging message about seriousness of the reforms. The Federal Board of Revenue (FBR) should not be given any monetary targets for tax collection, which has often been used in the past to collect advance taxes by hook or crook or by withholding tax refunds, thus jeopardising working capital of the businesses.

We should move to a simplified income tax system, with ideally a single, flat rate. Fifty countries of the world now have the flat tax. Thus, instead of having to play with a plethora of tax slabs and rates, every firm or individual should pay the same rate.



We have proposed in a study, led by Dr Ikramul Haque, that a flat income tax of 10% should suffice for fiscal needs of the country. This is wrongly perceived as an unjust tax because under this decision the poor and rich are required to pay the same level of tax.

The obvious flaw in this argument is that rich individuals and firms will end up paying much more in absolute terms than the low-income individuals and firms.

All kinds of exemptions should be immediately withdrawn in the budget for 2019-20. If fully enforced, the flat tax can double the yield and at the same time, it can substantially reduce the tax burden on a small number of enterprises.

For example, the industry, which contributes 20% of gross domestic product (GDP), pays 70-80% of direct taxes. This needs to be immediately corrected and a simple solution is the introduction of a low, flat income tax. The general sales tax (GST) regime also needs a major overhaul as large enterprises account for more than 80% of the GST collected. Instead of maintaining multiple slabs of GST, we should move to a unified GST rate.



Countries usually start from a lower level of GST, like 3% and revise it upwards. However, Pakistan started at a very high GST rate of 25%, though it was brought down to 17%. It is still substantially high and needs to be drastically cut down to 5-10%.

The distinction between filers and non-filers of tax returns should be resolved and instead we must increase our capacity to enforce taxes on everyone where they are due.

Tariff reforms

Except for Pakistan, there is no other country in the world which collects up to 40% of indirect taxes at the import level. Pakistani tax planners seem to have devised an easy formula to raise tax collection - charge increased and multiple duties, taxes and tariffs at the level of import.

An importer does not only have to pay import duty, but also advance income tax and advance sales tax at the time of import, which can be later adjusted or claimed. The finance minister should eliminate the collection of advance income tax and advance sales tax at the import level. This will bring substantial liquidity back into businesses and also simplify the import taxation structure. The tariff lines also need further harmonisation.

Ideally, we should have a flat tariff rate, regardless of the nature of products. But a reasonably low level of tariff can be agreed upon without losing the current revenue collection through import duties alone. When it comes to business environment, something which the prime minister has highlighted several times, there is nothing more painful than the current tax and tariff structure.

Pakistan is in the list of countries where paying taxes is the most cumbersome. This is the very area where the government has the biggest leverage to demonstrate success.

A simplified, low, flat and uniform tax structure is a perfect recipe for wealth creation. This will also release the dead capital stuck in unproductive assets in the form of real estate across Pakistan and results can be seen within one fiscal year.

Single-mindedness on tax and tariff reforms can be much more rewarding than any other economic initiative at the moment.

The writer is the founder of PRIME Institute, an independent think tank based in Islamabad

 

Published in The Express Tribune, January 7^th, 2019.

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