Writing for The Express Tribune, author Hamid Ateeq Sarwar explains that the issue of low tax collection in Pakistan has been a persistent challenge for the country’s economy.
Despite levying taxes through law, the ratio of taxes to the size of the economy remains quite low, far lower than the spending ambitions and obligations of its federal and provincial governments. This has raised concerns about the government’s ability to provide necessary services and infrastructure to its citizens.
Various arguments have been put forward to explain the low tax collection in Pakistan. These include a lack of trust in the government, corruption and misuse in the expenditure of public money, and connivance between tax agencies and tax evaders. However, many countries with worse records in these areas are still able to collect much more taxes.
The root of the problem lies in the counter-intuitive nature of tax compliance. The human brain is wired to make trade-offs, that is, giving away something only on getting something of equal or greater utility in return. Taxes, on the other hand, are not linked to any exchange or reward, in the short, medium or long term. Often, the beneficiaries of tax payments are sets of people different and remote from those paying the taxes. Therefore, in a rational world, nobody would like to pay taxes unless forced to.
Even those who are patriotic and understand the national importance of paying taxes may be deterred from doing so due to the fear of harming their business. For instance, honest traders or manufacturers of non-branded goods may suffer a loss if their competitors are not paying their taxes honestly. This leads to a situation where many honest taxpayers under-declare or fail to declare their revenues.
The deepening of the tax base is not possible without sufficient broadening, so as to establish horizontal equity, without which no tax enforcement can work. Horizontal equity refers to the principle that taxpayers in similar situations should be treated similarly. However, in Pakistan, there is extreme horizontal inequity, with a large number of people not paying their taxes, which forces those who are filers/payers not to declare their revenues and incomes correctly.
In order to address this issue, tax authorities need to create a perception in the minds of potential and actual taxpayers that paying taxes correctly now is far cheaper and painless than paying later, when their tax evasion stands detected. They also need to create the perception that the probability of being caught if one is not honest in compliance is close to certainty.
According to available data, there are 160 million mobile phone users, 85 million bank accounts (67 million active bank accounts), at least 5 million private vehicles on roads, 350,000 industrial electricity connections, and 4 million commercial electricity consumers in Pakistan. However, the income tax filing population is only 3.5 million (one-third filing zero income returns) and sales tax payers/depositors are 60,000. This highlights the need for a more effective tax administration that encourages tax base broadening and deepening by ensuring horizontal equity and deterrence.
Currently, Pakistan’s tax collection system relies heavily on withholding taxes and tax collection on formal imports, which contributes about Rs5.5 trillion. Most of the remaining balance is contributed by large corporations in the form of advance income tax and domestic sales tax. This system has evolved due to the peculiar political economy of the country and the reluctance to allocate reasonable resources to the Federal Board of Revenue (FBR). While partially effective, it does not encourage tax base broadening and deepening due to the lack of horizontal equity and deterrence. Compliance has become dependent on ad hoc measures rather than a consistent and effective tax system.
In conclusion, addressing the low tax collection issue in Pakistan requires a comprehensive strategy that goes beyond ad hoc measures. It involves creating a perception of deterrence and establishing horizontal equity to encourage tax compliance.
To read the full article visit www.tribune.com.pk
