We cannot tax our way to prosperity

Govt must withdraw super tax which will help raise capital for businesses

ISLAMABAD:

I spent this year’s budget day at four places: office of the prime minister, discussions with the industrial association of Islamabad while listening to the budget speech, PRIME Twitter space, and appearing on the electronic media, both private and state-owned.

I am writing this article to capture my first impressions from these conversations.

The Finance Bill 2023 is the continuation of an old ritual where the finance ministry and its constituent divisions spend countless days and months to allocate revenue and expenditures.

While presenting the bill, Finance Minister Ishaq Dar faced a number of complex challenges: almost zero per cent growth rate, increased incidence of poverty where 20 million people were added in the headcount to 95 million now, historically high inflation of 37%, significant shortfall in tax revenue, a coalition government facing elections, and no guarantee of IMF agreement.

It is clear from the budget speech that he has made a decent effort to make everyone happy. He has managed to increase the development spending significantly by doubling the new allocation from Rs567 billion of the revised PSDP to Rs1,150 billion of the budgeted PSDP.

He has promised a primary surplus to the tune of 0.4% of GDP – one of the key conditions of the IMF from the budgetary exercise. He has committed to increase revenue by more than 28%, from the current year’s collection of Rs7,000 billion to Rs9,200 billion.

He has also proposed to increase the scope of Benazir Income Support Programme to 9 million families and increase the salaries of government employees by more than 30%. He has also announced an increase in the minimum wage to Rs32,000.

The finance minister has announced incentives for various agriculture and industrial sectors through tax and duty exemptions in the hope of uplifting the economic growth rate.

One of the questions which was asked on our Space session was how the government would meet the ambitious tax revenue collection target.

To answer this, one needs to look no further other than the expansion of super tax to all sectors with a minimum annual income of Rs150 million. This limit was Rs500 million when the super tax was first introduced as a temporary measure.

It seems now that effectively the super tax has become integrated with the income tax of medium to large firms – previously it was levied only on large firms.

Super tax is clearly an anti-business measure and with this change, it will encourage greater tax evasion. Most of the family-owned companies will resort to splitting their businesses to ensure that their annual income does not increase to Rs150 million.

Obviously, it is not possible for firms to shut down or re-allocate their capital in a short run, however, it will deter formation of new companies and new investment.

The government must withdraw the super tax on all firms immediately. This measure will prove to be a single most important tool to help raise the level of confidence and working capital for the bulk of our businesses.

It is interesting to compare super tax with the increase in the SMEs’ turnover threshold from Rs250 million to Rs800 million. This is where the bulk of trading enterprises operate.

By a sleight of hand, our financial wizard has promised significant relief to traders while penalising industrial and manufacturing firms.

The increase in government salaries is being welcome, however, I contend that the increase in salaries should be a function of increased skills and productivity.

In this context, it is a better strategy to lay off the lower level of government employees, offer them re-training and help them regain employment or start a business. This will push the government to increase productivity from a smarter government.

The extraordinary rise in inflation, including food inflation, which has taken place in the last one year, is mostly a function of supply constraints.

Import restrictions, flour price hike, 40% devaluation of Pakistani rupee and constant rise in petrol and utility prices have added significantly to the core inflation.

This inflation is largely responsible for pushing additional 20 million people under the absolute poverty line and no cash transfer can mitigate it. In fact, it may be inflationary itself.

The government must lift import restrictions and control on exchange rate immediately and reduce indirect tax rates including customs duty to bring inflation down.

Tax gaps ought to be addressed by reducing tax exemptions and not by increasing tax rates. As the latest tax expenditure report reveals, these exemptions have increased from 2.69% in 2020-21 to 3.36% of GDP in 2021-22.

The tax revenue forgone is estimated at Rs2,240 billion. While the government has reduced income tax exemptions, which grew only by 1.77%, sales tax exemptions increased by 75% and customs duty exemptions by 52%.

This is where the powerful organisations, institutions, and politically connected firms gain the most by throwing the working class and entrepreneurs under the bus.

The Finance Bill is replete with scores of exemptions on the basis of discrimination across industry, product, institution, usage and location.

The budget has continued to legalise tax evasion by the non-filer category. The non-filer category must be disbanded immediately and those not filing tax return must be prosecuted as per law instead of offering them amnesties.

No nation has taxed its way to prosperity. We have been advocating for a low-rate, flat and broad-based tax structure with minimal or no exemptions.

Everyone should pay the same level of income tax as a percentage irrespective of the source of income. Everyone should pay the same level of sales tax upon consumption and not at the level of import or manufacturing.

All excise duties should be abolished. Customs duty should become a function of a new industrial policy instead of a revenue measure.

Let’s hope that next year’s budget speech of the finance minister of the newly elected government takes a leaf from these thoughts!

The writer is the founder and executive director of PRIME, an independent economic policy think tank based in Islamabad

 

Published in The Express Tribune, June 12^th, 2023.

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