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"How effective taxation policies can improve the economic

situation in Pakistan"

Seminar in Economic Policy

Written by Abdul Moiz – Submitted to Mr. Salman Ahmed

Institute of Business Management, Karachi

Student ID: 15112 – Email std_15112@iobm.edu.pk

Date: 10th August 2015

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Acknowledgement

I take this opportunity to express my

profound gratitude and deep regards to our

course instructor & mentor Mr. Salman

Ahmed for his exemplary guidance,

monitoring and constant encouragement

throughout the course of Seminar in

Economic Policy – The sense of seminar and

presenting every week next to class and being

part of the debate was one of the greatest

experience of life – The individual like me

who never liked Economics was given a new

perception of Economics – I’d like to thank

you for changing my attitude. – Abdul Moiz

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Letter of Transmittal

August, 20, 2015

Mr. Salman Ahmed

Seminar in Economic Policy

Institute of Business Management

Korangi Creek,

Karachi.

Dear Sir,

SUBJECT: TERM REPORT

As per the requirement of Seminar in Economic Policy course

on Topic of "How effective taxation policies can improve the

economic situation in Pakistan", I have prepared this report.

This report helped me in broadening vision, building self-reliance

and getting an actual experience of what we have learnt

throughout this course. I hope it is up to your expectations and

fulfills all the requirements provided by you.

Your feedback will further enhance my capabilities and reduce

the missing areas in the report.

Yours sincerely,

Abdul Moiz

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Literature Review

The research paper by Herbert Grubel in Fraser

Institute - gives us a broader picture of how the

taxation policies works in the world’s biggest welfare

state, also how the taxation policies of such countries

are balanced and ensured that it doesn’t exploit some

individuals but the burden of paying the both direct

and indirect taxes lies on all classes within the

economy of the country. The case starts with the

ardent policies Canada possessed and how it became

hinder in creating appropriate balance of taxation

among all classes of the people, similarly what sort of

reforms helped. The case study is divided into three

different parts – The first outlines the conditions that

make tax reform possible and desirable. It is argued

that these conditions exist in Canada at the beginning

of the new millennium. The second part provides very

short summaries of the papers included in this case.

The final part presents simplified agenda of tax

reforms.

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Mismanagement of Taxation

Prevalent for of Taxation is tantamount to extortion – Mr. Shabbar Zaidi said this

which became the headline of Business Recorder Page No. 17 dated 22/06/2015

stated that Banks have been subjected to higher tax rate on Capital Gains and

dividend earnings. He added; When a bank buys shares in the stock market it will

be subjected to 35 percent capital gains tax while a broker will be subjected to

much lower rate within 10-15 percent. The difference has created an arbitrage

opportunity. It is true that the banks have been making lots of money in lazy

banking. But if government wants to rake in more tax from the banks, it should be

done by simply raising the income tax rate applied to bank, even though that rate is

already higher than the rate all other companies are subjected to. But the

government has opted to apply different tax rates to the same transaction for banks

and others that has created an opportunity for arbitrage. (Zaidi, 2015)

When we talk about same transaction for a certain figure it creates an arbitrage

opportunity which can be defined as “the practice of taking advantage of a price

difference between two or more markets: striking a combination of matching deals

that capitalize upon the imbalance, the profit being the difference between the

market prices” (Wikipedia, n.d.)

Similarly one more recent policy that over burdens the service sector is also

incompetent Business Recorder on 28th July 2015 reported such tax as “Draconian

Law” considering the businessmen from the service sector also have termed the

eight percent un-adjustable withholding tax on revenue implemented from Jul 1,

2015 as draconian tax law, which is aimed at destroying the service sector that

contributes over 53% of the GDP, considering that tax is being applied on those

who are already under the ambit but not the people who aren’t.

With so much chaos regarding the withholding tax of 3pc on banking transactions

above Rs. 50,000 in a day is a welcome move, however it is being considered as

phantom too but by the people who evade taxes in masses, it is not the amount that

is troubling the people but it is about the issue that may arise after coming under

the ambit of taxation agency.

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What should be the Government

approach towards tax collection

and documenting the economy?

Macroeconomic indicators are heading in a positive direction; however private

sector’s contributions through taxes and investments have to be escalated in order

to address national goals of distributional equity. The government does not have

money to ensure social spending because the private sector is unwilling to pay its

dues. This is a vicious circle that has to be broken. One way to do that is borrow

money and pour it into the economy to set it churning. The other option, which in

my opinion is better, would be to come in with major tax reforms even if it stalls

the economy in the short run. The banks are conduits for all transactions in the

economy. Currently, people who don’t pay taxes have the following avenues for

stowing away their money;

1) Plots of Land

2) Developed Property

3) Foreign Currency

4) Jewelry

5) Stock Market

6) Cars

There is no law that requires registration of these asset classes in successive years,

within a short time of span we can see a dramatic improvement.

Business Recorder daily reports such issues – the following headline of Sales Tax

return adjustment disallowed for certain sectors.

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(Recorder, n.d.)

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That’s where mismanagement comes into action, so many policies and so many

contradictions and latest many S.R.O’s are passed to make life more difficult for a

taxpayer.

Chaos in the market and cash dealings

With my personal conversation with one of the biggest wholesaler of Areca Nut

(Supari) – who claimed that due to the introduction of withholding tax 3pc on cash

transactions above Rs. 50,000/- for non-filers the market dynamics has entirely

changed and the cash dealings have been intensified – the cash is now basically

based on small notes such as Rs. 10 – 20 – 50 & 100 and banking transactions have

almost been getting nil.

My question to the business person was – The deductions aren’t much why

don’t you pay these deductions?

- His answer was simplistic, we transact in millions on daily basis and the

margins is very less if we lose 3000 rs on 1 Million we lose half of our

profit.

Similarly, I managed to ask the questions – Why don’t you become an active tax

payer?

- Sorry, I can’t take that much of hassle.

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Reform that can help Pakistan

1. The Taxation of income from work, investment and risk-taking should be

eliminated or, at least reduced significantly. The Taxation of consumption

should be increasing correspondingly. These basic objectives can be attained

by two different approaches:

a) Turning the current income tax into an expenditure tax by exempting

from taxation on all savings. This goal can be achieved by the removal of

all limits to tax-free contributions.

b) Raising the rates on indirect taxes like GST, sales and excise taxes and

lowering correspondingly the rates on direct taxes like personal, business

& capital income.

2. The multiple taxation of Income from Investment should be eliminated. To

attain these objectives, it is necessary to consider the following policies.

a) The tax regimes for personal and business income should be integrated so

that taxes on profits paid by business can be used to reduce personal

income taxes due on dividends.

b) The taxation of capital gains should be eliminated.

c) The capital tax paid by business should be eliminated.

3. The personal income-tax should be simplified and disincentives to work,

investment and risk taking should be eliminated by the following measures.

a) Progressive income-tax rates should be replaced by constant marginal

rates.

b) Most deductions from the personal income-tax base should be eliminated.

c) The personal and business income taxes should be fully integrated.

(Tax Reforms in Canada: The Path to Greater Prosperity) – Herbert

Grubel (Grubel)

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Relating it to Pakistan

The above mentioned reforms can be applied fully on the current Pakistani

Taxation System – The welfare state across the globe apply the factor that doesn’t

burdens the individual and the focus is more toward huge corporates – Similarly

the double taxation also needs to be reduced.

(PwC, n.d.)

If we look at a throrough look most of the contribution is towards from Income

Tax, which isn’t an ideal relationship in government soruce – whereas the Sales

Tax, Custom Duty, FED and Levy’s need to be brought up and income tax to be

reduced – The reason behind this is that the dilemma that not everyone pays

income taxes and those who pay also pay indirect taxes – reducing the income tax

and increasing indirect taxes so there is no escape and the economy could be

helped in this way when there are enough receipts to cover expenditures.

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(Tribune, n.d.)

Bibliography Grubel, H. (n.d.). Tax Reforms in Canada. The path to Greater Propserity.

PwC, A. F. (n.d.).

Recorder, B. (n.d.).

Tribune, E. (n.d.).

Wikipedia. (n.d.). Arbitrage. Retrieved from https://en.wikipedia.org/wiki/Arbitrage

Zaidi, S. (2015, June 22). Prevalent for of Taxation . (B. Recorder, Interviewer)