Taxation: One of Pakistan’s weakest links

Country ranks 10th in the Fragile States Index, OECD blames revenue system.

KARACHI:

The index might offend the overly patriotic but is hardly surprising.

Pakistan is one of the weakest countries in the world, and now has an index assigned to it — fragile state. Pakistan ranks 10th in the Fragile States Index released by the Peace Fund earlier this year. India ranks 81.

According to another report, “Fragile States 2014: Domestic Revenue Mobilisation” produced by the Organisation for Economic Co-operation and Development (OECD) in February, the cause is a non-functional domestic revenue system — the failing tax system.

“For almost 68 years, no one has gone to jail in Pakistan for not paying their taxes,” said Dr Vaqar Ahmed, deputy executive director at the Sustainable Development Policy Institute (SDPI). “Our people have a tendency to not pay them. The informal sector doesn’t get itself registered. There is no mechanism to keep a tab on the income of micro-retail. Salons, private tuition centres, tax solicitors, software developers – how many of them pay taxes?”

With a narrow tax base, development continues to suffer. “With a continuously declining GDP, our development relies solely on loans,” said economist Khurram Shehzad. “The country, therefore, continues to be under heavy debt. One of the most charitable nations in the world refuses to pay taxes due to a trust deficit on the government.”

Bleak future 

The Pakistani government spends a meagre 0.7% of its GDP on health, which is less than half of what other governments in lower middle-income countries spend. National expenditure on elementary education is less than 2%. The OECD reports that progress towards the Millennium Development Goals (MDGs) in fragile states is expected to be much slower compared to other countries, and in five years, extreme poverty is expected to be concentrated mainly in fragile states. Pakistan, thus, has much to worry about.

Money matters

Accountable tax systems are of greater importance in fragile states compared to other countries. While domestic revenues help countries get rid of aid dependency and building mutual accountability between citizen and state, as the report states, Pakistan’s Federal Board of Revenue (FBR) collects a mere 9% of Pakistan’s GDP. This is among the lowest rates of tax collection by a federal government in the world, excluding oil-producing countries, according to a study of tax reforms in Pakistan by the SDPI.

“With a non-trustworthy system, people have no incentive to pay taxes. There are too many loopholes in the system due to which the richest end up paying the least tax,” explained Shehzad.

Preferential treatment

Exemptions made by the government to certain taxpayers are provided in the tax laws, and through a ‘Statutory Regulatory Order’ (SRO) issued by the FBR. To date, the FBR has issued 1,920 SROs. An estimated revenue leakage of 3 to 4% of GDP is due to taxpayers not paying taxes on time, and revenue loss resulting from preferential treatment.

These losses, in 2012, were estimated at between Rs600 and Rs800 billion, and if tax evasion is added, total loss roughly equals the total government borrowing each year.

The business community also seems to disagree with how the SROs are used. Recently, the business community of Rawalpindi unanimously rejected SRO 608, demanding that the government withdraw it within a week. The demand came a day after the Directorate of Customs Intelligence and Investigation unearthed evasion of duties and taxes of Rs775 million by importers who misused SRO-1125 of 2011.

The tax net

“There is immense discrepancy in sources of taxes. Tax we earn from the agriculture industry is non-existent,” said Shehzad. If Dr Vaqar is to be believed, this situation is not going to change anytime soon. “In a country where a quarter or more of our national income comes from agriculture, its income is outside the tax net. The feudal benefits from this – the same feudal who is sitting in parliament. Therefore, every time this matter is taken up in parliament, it is silenced,” said Dr Vaqar.

A narrow tax base

• Out of a total workforce of 58 million, less than 2 million are registered taxpayers

• In 2012, only 0.7 million people actually paid income tax. This comes to 2 per 100 employed

• Of all the lawmakers in the National and Provincial Assemblies, 61% did not pay taxes in the year they contested elections (2013)

• 51% of senators and 62% of cabinet ministers did not file tax returns

(Source: SDPI)

Fragile states – the vulnerability factors

•  A fragile region or state has weak capacity to carry out basic governance functions and lacks the ability to develop mutually constructive relations with society

•  Fragile states are more vulnerable to internal or external shocks such as economic crises or natural disasters

•  The proportion of young people in these states is approximately twice that in non-fragile countries

•  The populations of these states are growing roughly twice as fast

(Source: OECD)

Published in The Express Tribune, October 23^rd, 2014.

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