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Reduced Burden of Indirect Taxes, Expansion of Tax Net in BUDGET 2011-12

Cut in rate of GST by one per cent: 15 per cent increase in govt employees’ salary: budget fails to address structural weakness of economy.

Finance Minister, Dr Hafeez Sheikh presented the federal budget for fiscal year 2011-12 in the National Assembly amidst sloganeering from the opposition benches. A budget which envisages containing fiscal deficit at four per cent, numerous measures were announced to provide relief to the common man. Visible measures include the reduced burden of indirect taxes and commitment to enhance direct taxes through expanding the tax net. Gross revenue receipts are estimated at Rs 2,732 billion (13.3 per cent), which are inclusive of Rs1,952 billion estimated to be collected by the Federal Board of Revenue (FBR). The tax to GDP ratio is thereby estimated at 9.3 per cent, which is on the lower side when compared to last year’s estimate of 9.7 per cent. Total taxes are estimated to occupy 76 per cent of total revenue. However, given government effort to enhance role of provinces in the overall collection, stringent measures are needed at provincial levels, especially in the form of Gross Asset Tax. Just as ever, the biggest chunk of current account is still occupied by debt servicing of which 90 per cent belongs to debt servicing on domestic financing.

Meanwhile, repayment of long-term foreign loans is estimated to rise to $2.7 billion. Subsidies are also projected to shrink envisaging reduction of power tariff differential. Financing of the deficit will take place almost entirely through domestic sources, which shows no significant change in the domestic interest rate scenario. With key macroeconomic targets missed in fiscal year 2010-11, the coming year is anticipated to bring recovery, at least to the extent of sectors like agriculture and construction. Inflation is also targeted to come down to 12 per cent, further supported by relief measures taken in the budget.

The Minister highlighted factors which adversely affected the economy since 2008. Government inherited fragile economy in 2008 and initiated the process of stabilisation. A number of exogenous shocks such as international oil prices, devastating floods and prevailing security situation contributed in adding pressure on the fiscal side and led to a slowdown in economic growth. The government slashed the current development expenditure to meet the needs of millions of flood victims. The political disagreement on Reformed General Sales Tax (RGST) to broaden the tax base for mobilisation of resources also perturbed Minister. He stressed the need for national unity on sustained fiscal side challenges which are haunting the nation for the last 25 years. Along with these, the external sector is showing encouraging developments with exports and remittances showing highest growth in the history of the country by reaching at $24 billion and $12 billion, respectively for the current fiscal year. The details of the budgets are:

Government plans to invest heavily in the mega projects under the Public Sector Development Program (PSDP). In this regard, Rs.1100 million has been allocated for New Gwadar International Airport during the year 2011-12.
 
The total budget outlay has been estimated at Rs 2,767 billion for the fiscal year 2011-12 showing an increase of 14.2 per cent over the estimates of the previous year. The amount includes the current expenditure of Rs 2,315 billion and the development of Rs 452 billion.  The current expenditure shows an increase of less than one per cent over the revised estimates of 2010-11 and development expenditure will increase by 64.4 per cent in 2011-12 over the revised estimates of 2010-11. The share of current expenditure in total budgetary outlay for 2011-12 is 83.7 per cent as compared to 89.7 per cent in revised estimates for 2010-11. The estimates show government’s resolve to contain non-development expenditure and increase development expenditure. The expenditure on General Public Services (inclusive of debt servicing transfer payments and superannuation allowance) is estimated at Rs 1,660 billion, which is 71.1 per cent of the current expenditure. The size of Public Sector Development Programme (PSDP) for 2011-12 is Rs 730 billion. While for other development expenditure an amount of Rs 97 billion has been allocated. The PSDP shows an increase of 58 per cent over the revised estimates of 2010-11. The provinces have been allocated an amount of Rs 430 billion for budget estimates 2011-12 in their PSDP as against Rs 373 billion in 2010-11. An amount of Rs 10 billion has been allocated to the Earthquake Reconstruction and Rehabilitation Authority (ERRA) in the PSDP 2011-12.The resource availability is estimated to the tune of Rs 2,463 billion during 2011-12. This includes the net revenue receipts of Rs 1,529 billion, 11 per cent higher than estimates for fiscal year 2010-11. Rs 1,203 billion were estimated as the provincial share in federal revenue receipts, which is 16.4 per cent higher than the estimates for 2010-11. The estimated capital receipts (net) for 2011-12 (Rs 396 billion) are 11 per cent higher than previous year estimates. Similarly the estimated external receipts (Rs 414 billion) are 7.1 per cent higher over the budget estimates for 2010-11.Dr Hafeez Sheikh projected a budget deficit of four per cent of the GDP in line with the IMF recommendations. This translates into a projected federal fiscal deficit of Rs 975 billion. Under the 7th NFC Award, the government plans to transfer a sum of Rs 1203 billion to the provinces as compared to Rs 998 billion (revised) during the current financial year. The higher revenue transfers to provinces through 7th NFC Award, a fiscal surplus of Rs 125 billion is expected from provinces. Overall fiscal deficit would be Rs 850 billion i.e. Four per cent of the GDP. Gross federal revenues (tax and non-tax) have been projected at Rs 2732 billion. The FBR collection is projected at Rs 1952 billion (FBR tax to GDP ratio would remain appallingly low at 9.3 per cent).
The independent review of the budget for the fiscal year 2011-12 indicates that it is an ambitious budget with many challenging targets. The revenue projections are too optimistic and government will have to not only put a lot of efforts to achieve them but also to restructure its tax departments.
 
The higher revenue collection is expected to be achieved by expanding the tax net. Dr Hafeez Sheikh promised to bring 700,000 rich people identified by NADRA into tax net in the coming three months to broaden the tax base and generate Rs 3 billion additional revenue. The minister said that after the 7th National Finance Commission Award (NFC), tax mobilisation is also the responsibility of the provincial governments which need to take effective measures in this regard.Dr Sheikh announced a reduction in the rate of general sales tax by one per cent – from existing 17 per cent to 16 per cent for 2011-12 – and proposed abolishment of Special Excise Duty (SED) and Regulatory Duty on 392 items out of 397 items and announced exclusion of 15 items out of total 46 items from the ambit of Federal Excise Duty (FED). The regulatory duty would be limited to luxury vehicles, cigarettes, arms ammunitions, betel nuts and sanitary-ware/tiles. The government also proposed a reduction of FED on per metric ton cement from Rs 700 to Rs 500 in the first phase and announced equal reduction of the balance of Rs 500/MT in the next two budgets; FED on beverages was reduced from existing 12 per cent to six per cent. Pledging to pursue tight fiscal policy to bring down inflation, reducing untargeted subsidies, providing relief to the poor through more allocation of funds to Utility Stores Corporation (USC) (though the budget documents revealed that allocation to USC will be slashed from Rs. 4.5 billion in the 2010-11 revised estimates to Rs. 2 billion next year).The minister said that the revenue loss on account of the above measures would be compensated by removal of selected exemptions and zero rating under GST, revision of federal excise structure on cigarettes, improving tax compliance and revision in the rate of tax in lieu of value added tax on commercial importers from two per cent to three per cent. The minister also announced one per cent reduction in the rate of withholding tax on cash withdrawal from existing three per cent to two per cent. He said the government has also decided to raise the income tax-free limit from Rs 300,000 to Rs 350,000 but incomes above Rs 300,000 would continue to be subjected to filing of returns. The minister said he was happy to announce that there would be no extension in the duration of the one-off flood tax levied due to floods namely the 15 per cent flood surcharge and 1.5 per cent increase in SED.Dr. Hafeez announced to increase salaries of government employees by 15 per cent and raise in pensions by 15 per cent to 20 per cent. In addition, the conveyance allowance of all government employees, civilian and armed forces – grades 1 to 15 are increased by 12 per cent. Moreover, he said all ad hoc allowances of the government employees would be merged with the basic scales of 2008 and new scales would be introduced.

Government plans to invest heavily in the mega projects under the Public Sector Development Programme (PSDP). In this regard, Rs. 1100 million has been allocated for New Gwadar International Airport during the year 2011-12. According to details, the total estimated cost of the project is Rs.7675 million which included Rs.1464 million of foreign loans. According to PSDP, a total of Rs.1470 million has been earmarked for difference ongoing schemes of Defence Division during the year 2011-12. The other major ongoing schemes included capacity building of Pakistan Meteorological Department of Islamabad, Establishment of Tropical Cyclone Warning Centre at Karachi, Construction of residential accommodation for operational staff at PMD Headquarters, Islamabad, Water Distribution Network Phase-III for RCB/CCB based on Khanpur Dam Water Source, Establishment of MSA Digitized Operation Room at New HQ MSA Building MSA, up-gradation of Pediatric, Cardiac, Surgical Facility in NIHD, AFIC and establishment of Pak-China Seismic Network in Pakistan.

The government allocated Rs 14 billion for Higher Education Commission (HEC) in PSDP for on-going and new projects. According to the budgetary document, an amount of Rs 679.895 million has been allocated for the six new schemes of HEC while an amount of Rs 13320.105 has been allocated for 166 ongoing schemes. Among the new schemes, Rs 300.000 million have been allocated for establishment of a university in Malakand/Swat, Rs. 200.000 million for indigenous PhD Fellowship for 5000 scholars (Phase-II), Rs. 60.000 million for establishment of a university at Turbat, Rs 50.000 million for National Defence University and Rs. 49.895 million for establishment of a university at Loralai. While among the ongoing schemes, Rs. 600.000 million have been allocated for strengthening of University of Engineering and Technology, Lahore, Rs. 600.000 million for PhD Fellowship for 5000 scholars, Rs. 450.000 million for infrastructure development of COMSATS Institute of Information Technology Islamabad Campus, Rs. 345.000 million for establishment of New Campus of Jalozai Khyber-Pukhtunkhwa University of Engineering and Technology, UET, Peshawar, and Rs. 350.000 million for strengthening of NED University of Engineering and Technology, Karachi.

An amount of Rs. 277.800 million has been allocated for strengthening and development of Mehran University of Engineering and Technology (MUET), Jamshoro, Rs. 270.000 million for establishment of Information Technology and Management Science and Telecommunication Institutes at NUST, Islamabad, Rs 250.000 million for Human Resource Development Initiative MS Leading to PhD Programme of Faculty Development for Engineering Universities (UESTPs), Rs.200.000 million for Foreign Faculty Hiring Programme and Rs 200.000 million for provision of higher education opportunities for students of Balochistan and FATA.

An amount of Rs. 160.000 million has been allocated for repair/rehabilitation/renovation of buildings of University of Balochistan, Quetta, Rs. 140.704 million for provision of essential facilities at COMSATS Institute of Information Technology (CIIT), Islamabad, Rs. 1800.000 million for Overseas Scholarships for Studies in General Comprehensive Medicine, Rs. 165.000 million for Overseas Scholarship Scheme for MS/M.Phil/Ph.D and Rs.150.000 million for the Post-Doctoral Fellowships Programme. The other ongoing projects include establishment of Karakuram International University, Gilgit, with an amount of Rs. 115.045 million, establishment of Medical College University of Sargodha with Rs. 125.000 million and Faculty Development and other basic requirements of Quaid-e-Awam University of Engineering and Technology (QUEST), Nawabshah, with Rs. 125.000 million.

The budget document reveals that the government will spend Rs1,034 billion or five per cent of GDP on retiring foreign loans and paying interest on domestic and foreign loans against last year’s payment of Rs 872 billion. Of this Rs 791 billion would go into interest payment while Rs 243 billion have been allocated for repayment of foreign loans whereas the government will also repay domestic loans of Rs 6,199 billion as against the last year’s repayment of Rs 4,157 billion. According to the document, public debt has increased by Rs1,162 billion in the first nine months of 2010-11 reaching a total outstanding amount of Rs10,020 billion while external debt has increased from $ 55.9 billion at the end of June 2010 to $59.5 billion by end March 2011 – an increase of $3.6 billion. Of $59.5 billion external debt, the debt owed to IMF stood at $8.9 billion (showing a growth of 10.7 per cent) at the end of March 2011, of which $1.97 billion accrued to the federal government while remaining is recorded on the State Bank of Pakistan books to strengthen the foreign exchange reserves of the country. The IMF also gave $452 million as Emergency and Natural Disaster Assistance (ENDA) for budgetary assistance.

The independent review of the budget for the fiscal year 2011-12 indicates that it is an ambitious budget with many challenging targets. The revenue projections are too optimistic and government will have to not only put a lot of efforts to achieve them but also to restructure its tax departments. The expenditures are also somewhat insufficient to meet the expenses. After transferring the provincial shares in the revenue, the federal government will be left with revenue not enough to cover for general public services, which include debt servicing, civil and military pensions and transfer payments and Defence expenditures. The fast expanding head of public order and safety and some others have not yet been counted. The point to note is that the federal revenue does not even pay for its current expenditure. As indicated earlier, the federal government plans to spend Rs 2,504 billion (including PSDP of 300 billion), i.e. Rs 975 billion more than its revenue. The federal government expects from provinces to generate a combined surplus of Rs125 billion. As a result, the overall fiscal deficit will come down to Rs 850, which is four per cent of GDP. Last year also, a fiscal deficit of four per cent was envisaged but government was unable to maintain that level and it had to drastically cut in development budget.  With no significant new tax measures and concessions on a number of existing taxes, the realisation of the target is largely left to the administrative efficiency of the FBR.

The provinces are unlikely to deliver the projected surplus and there is no reason why expenditure on defence and public order and security will not overshoot the projections again.
 
Further, the provinces are unlikely to deliver the projected surplus and there is no reason why expenditure on defence and public order and security will not overshoot the projections again. Finally, the projections also assume a disaster free fiscal year. The budget does not address the structural weakness of the economy and continue with the subsidies and other measures which will push economy into doldrums in the end. The solution lies in the expansion of the tax net and increasing tax-to-GDP ratio. Then government will be able to generating new jobs and reduce poverty. Government is focusing more on private sector to take lead in economic recovery and therefore offered five years of tax exemption for setting up new industries to contribute to economic growth and generate employment opportunities.

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