Expanding tax base: myths & realities

Cosmetic measures may raise short-term revenues, but don't treat deep-rooted issues

KARACHI:

Despite repeated reforms, Pakistan continues to collect only about 10% of its GDP in taxes, a ratio that has barely moved for decades and remains among the lowest in South Asia.

We frequently hear calls from policymakers, economists, and business circles that the tax base should be expanded, and that existing taxpayers should not be further burdened in order to achieve revenue targets. Recommendations and proposals on how to increase the tax net are discussed at different forums every year. Yet, what is often overlooked are the root causes and structural obstacles that continue to prevent the country from achieving meaningful expansion of the tax base.

Every budget cycle, the government announces an increase in the number of tax filers, suggesting progress. However, a closer look reveals that a significant portion of these declarations are either "Nil" returns or below-threshold filings submitted merely to obtain the status of "Active Taxpayer." This allows individuals to avoid the higher rates of withholding and advance taxes imposed on those listed as "non-filers." While the statistics may look impressive on paper, they do not reflect genuine tax contribution or broadening of the net.

At the same time, we celebrate increases in tax collection without appreciating the composition of this revenue. Pakistan's tax system is heavily reliant on indirect taxation, and even within direct taxes, a large portion comes from withholding and advance tax regimes rather than from voluntary compliance or strong enforcement. Very little is collected from individuals or businesses coming forward to declare their true liabilities. The increases are often the result of higher tax rates rather than structural reforms. This raises the fundamental question: can Pakistan ever expand its tax base without undertaking the much-needed systemic corrections?

Some argue that Pakistan's culture is such that people will never voluntarily pay income taxes, and therefore reliance on indirect taxation is unavoidable. In reality, such reasoning serves as an excuse to avoid reforms. A patient suffering from cancer cannot be treated with painkillers alone; while they may provide temporary relief, they will not cure the disease. Similarly, cosmetic measures in taxation may raise short-term revenues, but they prevent the treatment of deep-rooted structural issues.

One of the most pressing reasons for taxpayers' reluctance to voluntarily join the tax net is the sheer compliance burden, coupled with the fear of harassment from tax officials. For instance, if a taxpayer is engaged in both goods and services across multiple provinces, he may have to file more than 60 separate returns annually with different tax authorities. This staggering compliance requirement is unrealistic and expensive. It not only increases the cost of doing business for taxpayers but also strains administrative resources, as each authority conducts separate audits without a holistic view of the taxpayer's profile.

To address this, Pakistan urgently needs to simplify compliance requirements. A single national tax portal, consolidated filing mechanisms, and rational revenue-sharing arrangements between federal and provincial governments could significantly reduce compliance costs. Returns could also be segmented according to the size and nature of businesses, thereby creating proportional requirements for smaller taxpayers. Unless such reforms are introduced, the perception that the system itself discourages expansion of the tax base will persist.

Another critical obstacle is Pakistan's high tax rates. Excessive rates discourage compliance and encourage informality. Introducing a single-digit sales tax rate could incentivise businesses to join the documented economy, expand the value-added chain, and reduce cash flow blockages caused by the current system of input-output adjustments. In income taxation, the reliance on more than 40 provisions of withholding and advance tax is equally problematic. These provisions may help the government meet immediate revenue targets, but they erode trust, increase resentment, and create distortions in the economy.

Understandably, policymakers may argue that reducing withholding and advance tax measures would jeopardise revenue targets, especially given pressure from international lenders. While true in the short term, such changes can and should be phased in gradually. If the direction of reform is correct, the pace is less critical; what matters is consistency in pursuing measures that prioritise voluntary compliance over forced collection. The ultimate goal should be to make compliance so simple and tax rates so fair that opting out becomes unattractive.

Another major issue is the persistence of "sacred cows" in Pakistan's taxation system. Large sectors such as retail, real estate, and agriculture remain undertaxed relative to their share in GDP, while compliant sectors such as corporate businesses and salaried individuals shoulder a disproportionate share of the burden. This inequity undermines the fairness of the system and discourages participation. Genuine reform would require taxing these exempt or undertaxed sectors more effectively, even if that demands constitutional amendments or significant policy shifts. At the same time, tax policy should not ignore the importance of incentivising high-growth sectors that generate employment, attract investment, and contribute to exports.

The exit of multinational companies from Pakistan further illustrates the consequences of the current tax regime. Heavy tax burdens, continuous pressure to pay advance taxes, issues with repatriation of profits, and inconsistent business policies collectively discourage foreign investment. Without a balanced approach that combines fair taxation with a predictable policy environment, Pakistan risks further capital flight.

Perceptions of fairness are equally critical in building trust. Many potential taxpayers question what they gain by entering the tax net. The state often fails to provide even basic public services such as healthcare, education, infrastructure, and security, which lowers taxpayers' willingness to contribute. Moreover, government spending practices frequently raise concerns. When taxpayers see officials enjoying luxury vehicles, perks, and privileges while being told that the country is under financial strain, they naturally feel disillusioned. To address this, the government should publish transparent annual tax expenditure and spending reports, clearly showing where taxpayers' money is being spent. Rationalising government expenses is equally essential to restoring trust.

Technology presents a unique opportunity to transform Pakistan's tax system. Artificial intelligence, big data analytics, and blockchain can all be used to identify tax evasion and expand the base. Lifestyle mismatches, such as luxury asset ownership inconsistent with the declared income, can be flagged through automated systems. Electricity consumption patterns can be compared with declared turnover to detect underreporting. Blockchain can prevent duplication of invoices and curb fraud.

Despite having access to extensive data from multiple sources, tax authorities have historically failed to utilise it effectively. A centralised one-window portal integrating tax registrations, licences, property transactions, and business permits could make documentation seamless. Many countries have already implemented such platforms with success, proving it is not an impossible task. Properly deployed technology can reduce red tape, increase efficiency, and bring transparency to the system, making it easier to detect non-compliance while also simplifying compliance for those already in the net.

Expanding Pakistan's tax base requires far more than short-term revenue-raising measures or superficial policy tweaks. True reform lies in reducing compliance burdens, rationalising tax rates, ensuring equitable taxation across all sectors, curbing wasteful government spending, and leveraging modern technology to its fullest potential. Most importantly, it requires rebuilding the social contract between the state and its citizens by transparently using tax revenues for public welfare.

Unless these fundamental steps are taken, Pakistan will remain trapped in its cycle of overreliance on indirect taxation, stagnant voluntary compliance, and perpetual fiscal stress. With political will, structural reforms, and technology-driven enforcement, Pakistan can still build a fair, efficient, and sustainable tax system that expands the base without overburdening the existing few.

The writer is a tax expert and member of the Institute of Chartered Accountants of Pakistan