Focus turns from lower tax rates to ease of capital flow

MNCs are in search of places from where they can move money with ease

ISLAMABAD: The slogan of lower taxes to boost investment started to falter in the last century. The relevance of reduced tax rate and its critical role in stimulating investment took the back seat. Although it is still a major factor in attracting investment to any destination, its role and importance has lost strength.

Now, the concept of ease of moving money is the prime concern of big investors across the world. Giant multinational companies and investors are in search of places, from where they can move their money with ease and which offer massive tax cuts. Favourite places for moving money with ease are called tax havens.

Pakistan also tried to encourage foreign companies by offering a lower tax rate of 12.5% last year, believing that the incentive would win trust of overseas investors. However, it could not attract the required investment due to multiple reasons including Financial Action Task Force (FATF) restrictions. Stringent monitoring by the FATF has prevented easy movement of money inside or outside of the country.

Now the question arises what strategy should be adopted to facilitate easy movement of money within the prescribed limits.

There are three strategies which can help Pakistan to overcome this issue. First, Pakistan can improve the domestic investment climate by streamlining the system and making it business-friendly. It can provide incentives for reinvestment of profits and dividends in the country instead of taking out the wealth.

In recent months, Pakistan has done a tremendous job on this front. It has made the investment climate attractive and is striving to bring further improvements. This has helped attract some investment as Pakistan is trying to break the shackles and is turning into a favourite investment destination.

The second strategy will be to engage with different countries and small business groups. States always keep business straight. It is easier to deal with a state as compared to big multinational companies.

Pakistan is already doing this as it has signed a huge deal for implementing the China-Pakistan Economic Corridor (CPEC) project. A few days ago, Pakistan also inked $21 billion worth of deals with Saudi Arabia.

Now, it is closely working with the United Arab Emirates (UAE), Qatar and Oman to finalise investment deals.

Pakistan has also started attracting medium-sized investment. It is very important because it leads to job creation at lower levels. The third strategy should be to promote and encourage domestic investors. These investors should be given more incentives and small and medium enterprises (SMEs) should take the driving seat.

SMEs will help to create jobs on a mass scale and it will also pave the way for industrial development in the country. Incentives for domestic investors will help control the outflow of money as these will encourage the investors to reinvest in their home country.

Curbs on capital flight

However, this does not mean that Pakistan should discourage big investors from coming to the country. It should frame a policy which could define the scope of investment and terms and conditions for the movement of money. There should be a limit on taking money out of the country.

Capital flight from the country has had an impact on tax collection and distribution of wealth. It is considered one of the main bottlenecks in the way of distribution of wealth. This helps big companies avoid taxes at places where they are engaged in production of goods and services. It leads to the contraction of revenue base in the country and the government is compelled to shift the burden on to other sectors.

In the end, the middle class and lower strata of the society are affected by the capital outflow. Domestic small companies also get hurt which appear to be losers in this cycle.

The US is facing a similar problem. Congress is working to reverse the trend as it has found that Apple, Pfizer and other big names are stashing capital in tax havens. It is costing the US economy very much and creating inequality in the country.

Its impact becomes much more severe for developing countries like Pakistan. As these companies do not belong to Pakistan, they are here just to do business. They settle their accounts without involvement of the host country. It minimises the chances of taxing these companies.

In its bid to improve the investment status, Pakistan will also have to ensure smooth money flow with minimum cost to the national economy. A best strategy will be to ensure that all transactions are done through domestic banks. After paying due taxes, the companies can take their money to desired destinations.

However, it is not easy to negotiate with big multinational companies, but now Pakistan can manage to press its case. We have gained strength as we already have two big projects. Moreover, the country should clearly tell all future investment partners that it needs to meet the FATF requirements.

However, it must be done in a way which could have minimum impact on investment flow and also help improve the national economy.

The writer is the chief operating officer at Zalmi Foundation

Published in The Express Tribune, March 4^th, 2019.

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