Revenue Generation through Tax Rates Budget 2011-12

REVENUE GENERATAION THROUGH TAX RATES BUDGET 2011-12 REVENUE GENERATAION THROUGH TAX RATES BUDGET 2011-12 By M. Iqbal Patel, Chartered Accountant, Karachi The country is passing through critical economic situation. The government's main object, therefore, in framing the budget proposals should be to pull out the country from the economic crisis. But from the press reports it transpires that there appear no deviation from the past practices to make plus/minus in the tax rates in a budget for the ensuing financial year, 2011-12... There are reports that the government is planning to increase the rate of withholding tax on cash withdrawal from the banks from 0.3% to 0.5% in the upcoming budget 2011-12 Similarly there is likelihood to enhance the income tax rates on banking and insurance companies from 35% to 37% or 40%. It is also reported that the sales tax rate would remain at 17% and will not be reduced to 15%. Although the 17% sales tax rate was imposed in the budget 2010-11 for the period of three months from July 2010 to September 2010. It was committed to brought down it to 15 % from October 2010 and onward. But the Finance Minister did not meet this commitment and 17% rate is still continued. It is announced recently that the proposals for the budget 2011-12 will maintain the sales tax rate at 17% in the next fiscal year too. The finance managers of the country adopt short cuts in framing a budget which is an important document, sets the strategies, policies and direction of the government. But the finance managers, play with the existing tax rates, making plus and minus here and there. Though present economic critical situation demands innovative measures and more complex techniques be applied with a view to enhance the tax base which is stagnant since long at 2% registered taxpayers out of 180 population of the country. Resultant the government is compelled to place excessive reliance for financial assistance from the donors. In the circumstances the finance ministry has little choice but to adopt their dictated directives as a policy of the country. The International Monetary Fund (IMF) has pressed the government to impose 10% income tax surcharge and increase of tax rates on all kinds of withholding tax (WHT) including on withdrawal of cash from banks, as a condition for successful completion of the fifth review of IMF Stand by Arrangement. Accordingly the government to meet the condition of IMF to enhance the rates of WHT and further in view of there has been steep rise in the WHT collection during 2010-11 of Rs.12.80 compared to Rs.11.36 billion in 2009-10 form withdrawal of cash from banks has encouraged the Federal Board of Revenue (FBR) to enhance further the rate of WHT thereon in the next budget. The WHT on cash withdrawal from the banks was imposed by Finance Act 2005 at the rate of 0.1%, it was raised to 0.2% and 0, 3% by the Finance Acts 2006 and 2008 respectively under section 231A of the Income Tax Ordinance, 2001 (Ordinance) to be deducted by the banks on cash withdrawal of amount exceeding Rs. 25,000 in a day by their account holders. The object for imposition of this tax was to encourage documentation of economy and broadening the tax, base. The steep rise in the collection of tax on cash withdrawals indicates failure of the object set by the FBR of documentation of the economy. But instead of taking measures to make it more effective, the FBR has seized the opportunity making it a major source of tax collection. Prior to financial year 2004, the corporate tax rates were different in case of banking, insurance, public and private companies which were taxed at the rates of 47%, 35% and 43% respectively up to the year 2003. These tax rates were gradually reduced from the financial year 2004 at the rate of 3% and 2% per year, in the case of banking, insurance and the private companies respectively till the fiscal year 2007. Thus these tax rates were brought down of all the corporate bodies including banks and insurance companies at par with the public companies at 35% in the year 2007. Since then all corporate bodies namely banks, insurance, private companies, public listed or non-listed companies are taxed at uniform tax rate of 35%. As a matter of fact present tax rates under Division II of Part I of the First Schedule to the Ordinance are in application since over four years, since then the scenario of the economic conditions of the country and globally at large has been changed considerably, these tax rates, therefore, needs revision. There is need for analytical study of pros and cons, the level of collection of taxes from each of these entities and the benefit accrued to the general public in general and the exchequer in particular as a result of bringing down of these tax rates during over six years of its implementation. There are reasons to believe that uniform taxation system introduced for taxing the corporate sector has adversely affected the investment flow into the industrialization, corporatization and the capital market of the country. Because the uniform taxation system has killed the incentive of the sponsors to invest into business or enter into capital market of the country due to lack of linkage of tax incentive with the investment made by the different corporate bodies in the growth of economic activities. The corporate sector, in the circumstances has very limited role in the economy of the country as witnessed that out of 57,183 companies registered with the Securities and Exchange Commission of Pakistan (SECP) in the year 2010 only 645 companies are listed on the stock exchanges of the country. Further the capital market is passing through the worst situation as it witnessed five Initial Public Offering (IPO's) worth Rs.3.5 billion during the year 2010 at the Karachi Stock Exchange. Most of the IPO's received lukewarm response from the investors even one of them was under subscribed this situation indicates lack of interest of the investors to enter into the equity market due to absence of tax incentive on the investment they venture to make. Moreover, out of 57,000+ companies registered with SECP, over 60% are private companies. These companies prefer to be registered as such due to no tax incentive available to them on listing on the stock exchange being they derive tax benefit of low rates of 35% paid by a listed company. Besides this tax benefit, they also enjoy freedom from stringent requirements of corporate governance. Thus the situation being disappointing, it suggests to have different tax rates for a listed and a private or public non-listed companies including banks and insurance companies. Hence the issue worth consideration is to reduce tax rate for a listed company, excluding banks and insurance companies, to 30%, this measure will encourage a private or public non-listed company to get themselves listed on a stock exchange to derive the benefit of 5% reduced tax rate. Further it may be considered to reduce this tax rate to 25 % for those listed companies who give benefit out of their profit to their small shareholders and declare dividend. Alternatively, it may be considered to allow a rebate equal to 5% of tax liability of the company to the listed companies who declare dividend. The banking and insurance companies enjoy special status in assessment of their income under the Ordinance. The Fourth and the Seventh Schedules to the Ordinance provide rules for the computation of the profit and gains of insurance business and banking companies respectively. These companies thus are given special treatment in determining their taxable profit and tax payable thereon. Thus their special status in taxing their income than a business income, calls for that they should have different tax rates than other corporate bodies, and it justifies rise in their tax rates from 35 %. Moreover, tax rates applied internationally on these sectors also lend support to the proposed rise in their taxation rates. Further-more keeping in view their practice that the benefit of reduced tax rates they enjoy has not been diverted to the small deposit holders as the rate of return offered to them consistently is stagnant at average rate of 6-8% per annum since over several years despite the fact that the gap between lending rates and return offered to small deposit holders has increased as reflected in high profitability of the banking sector. They have achieved 11% increase in profit at Rs.50 billion during year 2010 compared to Rs.45 billion last year, but the small depositors are paid return at low rates. In fact there is need to link the tax rates with the return offered to the small shareholders and the depositors by the corporate sector as a whole. The other issues required to be tackled are to make the taxation system equitable making every citizen to pay tax irrespective source of income, whether he is a parliamentarian or in power or influential whatsoever. Further it entails to withdraw tax exemptions and concessions allowed under the Second Schedule of the Ordinance, specially to the exemptions, the perquisites and privileges allowed to the government functionaries under clauses 51-56 may be reviewed keeping in view the present economic constraints. The international donors also have demanded to tax elite class of the country which is a blow to the creditability of the country. The budget should give message to the people that the government has willingness to tax all kind of income, including that from agriculture along with austerity measures. The wealth of the elite within the country and abroad is no more a secret the FBR should endeavor to bring them into tax net. These measures will infuse the confidence of the people into the tax policy and induce them to pay due taxes.