Public debt in the country has exceeded the subscribed limit of 60pc of GDP placed on it by the Fiscal Responsibility and Debt Limitation (FRDL) Act, 2005. It has happened because of excessive fiscal deficits in the past years. For instance, the fiscal deficit in 2012-13 was 8.2pc of GDP.
An immediate explanation for large fiscal deficits is inadequate tax revenue. As a percentage of GDP, tax collection for direct and indirect taxes is just 10pc that is considerably low from international standards. Among others, massive tax evasion is the main factor responsible for low tax yield. The Post Clearance Audit (PCA) has detected evasion of duty and taxes to the tune of Rs 1,287 million during 2014-15 — 333pc higher over the last year.
Frequent changes in the tax policy through SROs offer opportunities for tax evasion. Tax fraudsters misuse such SROs. For example, the Directorates Intelligence and Investigation (Inland Revenue) have detected massive sales tax fraud on account of misuse of SRO 1125 and SRO 283 by tax fraudsters across the country. The PCA has detected tax evasion of Rs 879 million owing to misuse of exemptions and SROs.
Similarly, misuse of self-assessment scheme while filing income tax declarations is rampant among both corporate and non-corporate taxpayers. Estimates indicate a bigger evasion on account of direct taxes rather than the indirect ones. In a number of cases, the Directorates Intelligence and Investigation (IR) have detected considerable suppression of supplies vis-à-vis self-assessed declarations.
It is worth mentioning that tax revenue of Rs 412 billion, including Rs 83.6 billion income tax revenue, Rs 225.4 billion sales tax and Rs 103 billion customs duty respectively, was forgone in 2014-15 because of tax expenditures (exemptions). The Independent Power Producers (IPPs) enjoyed income tax exemptions amounting to Rs 51.5 billion.
Other reasons for loss of tax revenue and tax evasion are under-valuation and non-application of valuation rulings (11.4 million), mis-declaration of description and tariff classification (395.5 million) and evasion of anti-dumping duty (1 million) respectively.
Undoubtedly, predominant part of Income Tax Ordinance consists of withholding provisions majority of which are presumptive in nature. Such a tax policy is adopted to counter widespread tax evasion. Empirically, it is established that despite such taxes prove to be economically counterproductive, they are greatly helpful to overcome tax evasion.
Tax evasion can also be seen from another angle of narrow tax base. Nearly one percent of country’s total population file income tax return. In spite of the fact that a large number of people earn income above taxable limit but conceal it to avoid tax registration and payment of the due tax thereupon. Similarly, many a person suppresses taxable supplies to avoid sales tax registration. Many other commit tax frauds as defined in the Sales Tax Act, 1990 either by issuing fake/flying invoices or misreporting and underreporting the tax liability. A noticeable tax fraud case is presentation of fake Cash Payment Receipts (CPRs) to the tax authorities without actual payment of taxes. Many such attempts have been foiled by the Directorates Intelligence & Investigation (IR).
Owing to massive tax evasion and rampant tax frauds, a major portion of tax revenue is collected through indirect taxes. Over-reliance on indirect taxes has given rise to severe repercussions for the economy as well as the society. Income inequality has deepened as the society is divided between the rich and the poor with middle class diminishing rapidly. In Pakistan, 63% of the people below poverty line are regularly poor, 32% are chronically poor and 5% are extremely poor.
Strengthening Intelligence & Investigation (Inland Revenue) in terms of manpower and resources is inevitable for capturing and prosecuting tax fraudsters, preventing commission of tax frauds, containing tax evasion and broadening the tax base.
Nevertheless, presently the Directorates Intelligence & Investigation are performing arduous task of investigation and prosecution with limited number of investigators and insufficient logistic support.
Increased litigation is another challenge being faced by the Directorates. The process of prosecution is slow and time-consuming. The tax fraudsters either secure pre-arrest bails or do not join investigations.
Needless to say, in order to promote self-assessment system without loss of revenue due to tax evasion and tax fraud, criminal investigation system must be strengthened. In advanced economies, the tax criminal investigation system is highly developed.
There is a need to develop tax criminal investigation system based on raids in view of massive under-declaration and non-declaration as is the case in Japan.
Core functions of Intelligence & Investigation (IR)
Broadening of tax base: broadening of tax base aimed at netting potential taxpayers
Access to major databases: linkages with all major national, provincial and regional databases
Cross matching of data with master index and tax profiles: cross matching for the purposes of countering non-reporting and under-reporting
Complaint handling: complaints relating to the above areas
Financial investigation: preliminary investigation so as to determine the possible loss of revenue or the real revenue potential in cases as identified by the organization
Economic & fiscal intelligence: discreet information-gathering on all tax-related issues, non-reporting, under-reporting, tax evasion, connivance between tax evaders and tax collectors, fiscal fraud and revenue leakages.