Spearhead Analysis – 21.01.2016
By Moaz Masood
Research Analyst, Spearhead Research
Taxation presents itself as a core variable that not only determines a nation’s domestic policy but has a multi-pronged effect on the economic paradigm. The taxation policy can either welcome fresh investors, coax the old guards to inject more money through a proper channel or reverse the order by boosting the efforts of the black market economy. Every year, Pakistan and its political leadership vow to consolidate its weak tax collection system. The citizens, especially the salaried, have had the largest impact due to the increasing bulge of the taxes. As it is a case where the citizens come into a direct contact with their government, the response is tipped to fathom out the governance strategy of the government.
Taxes are a vital source to mobilize the internal resources of the economy. Heavy reliance on the indirect taxation system burdens the taxpayers and thus economic development takes a back seat. While the standard theory of taxation hints that taxes should only look forward to strengthen the social welfare system, the canonical theory states that an optimal tax system needs to preserve productive efficiency. Pakistan’s government is currently taking solid steps to improve the taxation system by introducing new policies.
The taxation policy and the taxation theory have a strong correlation. Many a times, this interplay has also flummoxed economic policymakers and thus oft landed the nation into trouble. The design that the current government, the elected leadership of the Pakistan Muslim League- Nawaz (PML-N), follows is derived from multiple authorities. Pakistan has found its major policy maker in the form of the International Monetary Fund (IMF). It is clearly due to the multiple tranche of loans that Pakistan receives from it. Nonetheless, being the biggest player and the decision maker, the Government of Pakistan (GoP) maintains its own stance and follows the policies that it believes will shape a solid outlook for the nation.
The Finance Ministry is under an immense pressure to chalk out a coercive strategy to tackle with the decreasing tax payers and the weak collection system. To tackle the menace of tax aversion, the government came out with a policy that imposed a withholding tax (WHT) on debits and credits of amounts more than fifty thousand rupees. This scheme did target non taxpayers but brought the traders to the roads- protesting against the policy. Despite having the largest support coming in from the trader community, the government did not change its policy but halved the withholding tax on the cash movements of the registered tax payers. This was a major shift as such a political pressure always clicked in the past.
As a New Year gift, the government re-launched a tax amnesty scheme but this time only for traders. It aims to induct numerous potential tax payers as well as the undocumented money by imposing a one-time fixed tax on the amount. Skeptics however used this idea to term that the government followed a carrot and stick policy. At one time, the accounts were targeted with a WHT whereas the amnesty gave an opportunity to the traders to whiten their black money. These are two different things but pivoting towards a single target; broadening tax base, increasing taxpayers and increasing the growth. This time, the biggest advantage that the government has is that its approach is non-coercive.
Previous regimes endeavored to expand the tax circuit through tax amnesty schemes but never targeted the traders alone. Ayub Khan initiated this idea, inspiring more than seventy one thousand individuals to get enrolled into the tax net, the Federal Board of Revenue (FBR) states. Such amnesty schemes continued in 1969, 1976, 1986, 1997 and 2008 by the respective governments. However, they could not succeed to whiten huge reserves of money as they were coercive and were easily resisted. This time, as the policy targets traders, the move is welcomed by the economists, terming it as the ‘right time’ to launch such a venture. Statistics reveal that the trader community formulates nineteen percent of the Gross Domestic Product (GDP) but has more than thirty three hundred thousand traders out of the tax bracket. Not fearing the political deadlock, the recent policy is poised to coax traders into the tax net with the government targeting a modest figure of one million new tax payers. This shall be another feather in the cap for the government and shall prove to strengthen the democratic system as well.
In 2015, Pakistan ranked 172 out of 186 countries in a World Bank survey that identified difficulty in tax compliance. One of the reasons is the operation of the worst of all policies in Pakistan; high rates but a narrow tax base. This led the top of the talents to divert its attention towards tax evasive measures leading to minimal economic value. Also, objectionable activities took a start, the political leadership became corrupt, salaried class became the victim, the investment climate suffered, capital remained offshore, migration got catalyzed, poverty and other social adversities got entrenched in the system while good governance remained absent.
Tax reform measures, as history justifies, have always surfaced out as hardy perennials. Such ventures create hurdles, protests and present a potential threat to the political power. The government today is following the route which guarantees sustainable economic prosperity as opting for such reforms with intelligence is positive. It also engenders hope within the taxpaying circuit and dwarfs the idea of any sector having an edge over the other.
As Pakistan grapples with its black economy, speculations state that the undocumented economy is many times larger than the registered economy. With the current tax amnesty scheme, there appears a strong probability of success in dealing with this issue. This will not only provide a thrust to the economic growth that Pakistan promises in the near future but will prove to give birth to a culture of paying taxes, an equitable chance of success, a just welfare system and an increased social and economic development. In the future, this tax amnesty might be realized as the best opportunity to increase the tax base. Also, for a developing economy like Pakistan, it might serve the purpose by setting the train out on a track that magnetizes growth. Therefore, all eyes are rightly set on this amnesty scheme though there are many critics and skeptics.