Absence of and the Need to Develop a

Tax Culture Pakistan Experience

Taxation Sir Shariq Mahmood

By:
Ahmad Zafar
Aman Latif
Asad Khalid
Khawaja Faraz
Zunish Sultan
Contents
Introduction (Khwaja Faraz).....................................................................................................1
Taxation in Pakistan (Khwaja Faraz).....................................................................................1
Problem (Aman Latif)...............................................................................................................3
Tax culture in Pakistan and its effects (Aman Latif)............................................................3
Reasons for the current tax culture in Pakistan (Zunish Sultan)...........................................4
Why there is a need to develop a tax culture? (Zunish Sultan)..............................................5
Benefits (Asad Khalid)............................................................................................................6
Solutions (Asad Khalid)...........................................................................................................6
Practicality (Ahmad Zafar).......................................................................................................8
Conclusion (Ahmad Zafar).......................................................................................................9
References:................................................................................................................................10
Absence of and the Need to Develop a Tax Culture
1

Introduction
Taxation is defines as a system of raising money to finance government. Every government
requires payment of money taxes from its citizens. The revenue generated from taxes are used to
pay soldiers and police, to build dams and roads, to operate schools and hospitals, to provide
food to the poor and medical care to the elderly, and for hundreds of other purposes. Government
need tax funds to exist. Throughout history, people have debated the amount and kinds of taxes
that a government should impose, as well as how it should distribute the burden of those taxes
across society. Public protests, riots, and even revolutions have caused due to unpopular taxes.
Even some parties in political campaigns use their views on tax system to gain votes.

Taxation is considered to be the most important source of income for any government, typically
amounting for 90% or more of their income. The remainder of government revenue comes from
borrowing and from charging fees for services. In addition to using taxation to raise money,
government may raise or lower taxes to achieve social and economic objectives or to achieve
political popularity with certain groups. Taxation can redistribute a societys wealth by imposing
a heavier tax burden on one group in order to fund services for another. Taxation also maintains
the stability of a countrys economy.

Governments impose many types of taxes. In most developed countries, individual pay income
taxes when they earn money, consumption tax when they spend it, property taxes when they own
a home or land, and in some cases estate taxes when they die.

Taxation in Pakistan [8] [9]

Federal taxes in Pakistan like most of the taxation systems in the world are classified into two
broad categories, Direct and Indirect taxes. Direct Taxes primarily comprise income tax, along
with supplementary role of wealth tax. For the purposes of the charge of tax and the computation
of total income, all income is classified under the following heads:

1. Salaries
2. Income from property
3. Income from business or professions
4. Capital gains
5. Income from other sources
Absence of and the Need to Develop a Tax Culture
2

All individuals, unregistered firms, associations of persons, etc., are liable to tax, at the rate
ranging from 10 to 35 per cent. All public companies (other than banking companies)
incorporated in Pakistan are assessed for tax at corporate rate of 39%. However, the effective rate
is likely to differ on account of allowances and exemptions related to industry, location, exports,
etc. Tax on the dividends received by a public company from a Pakistan company is payable at
the rate of 5% and at the rate of 15% in case dividends are received by a foreign company. Inter-
corporate dividends declared or distributed by power generation companies is subject to reduced
rate of tax i.e., 7.5%. Other companies are taxed at the rate of 20%. Dividends paid to all non-
company shareholders by the companies are subject to withholding tax of 10% which is treated
as a full and final discharge of tax liability in respect of this source of income. A person resident
in Pakistan is entitled to a relief in tax on any income earned abroad, if such income has already
been subjected to tax outside Pakistan. Proportionate relief is allowed on such income at an
average rate of tax in Pakistan or abroad, whichever is lower. The Government of Pakistan has so
far signed agreements to avoid double taxation with 39 countries including almost all the
developed countries of the world. These agreements lay down the ceilings on tax rates applicable
to different types of income arising in Pakistan. They also lay down some basic principles of
taxation which cannot be modified unilaterally.

Goods imported and exported from Pakistan are liable to rates of Customs duties as prescribed in
Pakistan Customs Tariff. Customs duties in the form of import duties and export duties constitute
about 37% of the total tax receipts. The rate structure of customs duty is determined by a large
number of socio-economic factors. However, the general scheme envisages higher rates on
luxury items as well as on less essential goods. The import tariff has been given an industrial bias
by keeping the duties on industrial plants and machinery and raw material lower than those on
consumer goods.
Central Excise duties are levied on a limited number of goods produced or manufactured, and
services provided or rendered in Pakistan. On most of the items Central Excise duty is charged
on the basis of value or retail price. Some items are, however, chargeable to duty on the basis of
weight or quantity. Classification of goods is done in accordance with the Harmonized
Commodity Description and Coding system which is being used all over the world. All exports
are exempted from Central Excise Duty.
Absence of and the Need to Develop a Tax Culture
3

Sales tax is levied at various stages of economic activity at the rate of 15 per cent on:

- All goods imported into Pakistan, payable by the importers

- All supplies made in Pakistan by a registered person in the course of furtherance of any
business carried on by him
- There is an in-built system of input tax adjustment and a registered person can make
adjustment of tax paid at earlier stages against the tax payable by him on his supplies.
Thus the tax paid at any stage does not exceed 15% of the total sales price of the supplies

Problem [3]

Taxes are the price we pay for civilization, said legendary American Supreme Court Justice
Oliver Wendell Holmes. Indeed, without an effective and efficient system of taxation, the
creation of a civilized and developed society cannot materialize at all. Federal Board of Revenue
(FBR) Chairman Tariq Bajwa has pointed out a very bitter reality about tax collection in the
country, saying that there is no culture of tax compliance in Pakistan. Tax noncompliance, in the
form of tax avoidance and tax evasion, is the most common taxation problem. The absence of tax
courts plus the narrow and inequitable tax base is also a major issue.

Tax culture in Pakistan and its effects [4]

A tax culture, in its general sense, denotes the prevailing tax behavior and tax norms in a
particular country. The attitude and behavior of both taxpayers and tax-collectors form the
underlying basis for the tax culture. In Pakistan, both the governors and the governed seem
equally obsessed with the idea of creating a tax-free society. It is not only the business
community alone that thinks like this; every section of society in Pakistan has been quite inclined
to stay out of the tax net. The FBR was called one of the most corrupt departments in Pakistan
by Transparency International. Owing to obvious reasons, we have badly failed to evolve a
healthy tax culture in Pakistan leading to economic problems in Pakistan.

The tax-to-GDP ratio in Pakistan is one of the lowest in the world. It has been hovering around
just 9.5% since quite some time now. The tax gap or the difference between potential and actual
collection hovers around 60 per cent. As a result of low tax collection, the state funds
Absence of and the Need to Develop a Tax Culture
4

development and infrastructure projects through debt financing. Consequently, the major chunk
of state revenue is spent on paying these debts with costly interests levied by donors. Owing to
our poor taxation system, the government often fails to achieve even conservative revenue
targets. Consequently, the fiscal deficit has become a chronic macro-economic problem in
Pakistan. The rising tax burden on a narrow pool of large corporate taxpayers in the formal sector
is having a pernicious effect on economic growth and investment. This is also hurting the
creation of badly needed new jobs in a stagnant economy. Because of the narrow and inequitable
tax base, a large part of the population is denied access to a decent level of public services. The
current tax system perpetuates inequality in society. Despite massive capital gains in equities and
real estate in recent years, both these asset classes of the rich are sparingly taxed. This tax
treatment promotes tax-free asset accumulation by the richest, widening inequality further. The
tax system also works against the poor, vulnerable and less affluent in Pakistan in a myriad of
other potent ways, including via the imposition of an inflation tax. Inflation is caused both by
massive government borrowing to cover its budgetary shortfall, as well as by the increasing
reliance on indirect taxation of consumption, including by the poor.

Reasons for the current tax culture in Pakistan [10]

Pakistan, however, has been in the grip of a taxation crisis and the country lacks a proper tax
culture. Pakistans tax to GDP ratio is only 9.45 percent, one of the lowest in the region as only
0.3 percent of the total population pays direct taxes. Forty-five percent taxes are collected
through direct taxes and 70 percent of which is in the form of withholding tax. This is the uneven
collection of the revenue from the taxes. While indirect taxes affect the expenditure capacity of
everyone, including the poor, direct taxes is taken only from the rich and middle class, and is
used for general welfare and human development projects.

As a result of low tax collection, the state funds development and infrastructure projects through
debt financing. Consequently, the major chunk of state revenue is spent on paying these debts
with costly interests levied by donors.
Absence of and the Need to Develop a Tax Culture
5

Why there is a need to develop a tax culture? [11]

Our tax culture has certain features and without its proper understanding we cannot reach the
level of maximum revenue collection. It is also to be considered that while formulating the tax
code, the experts and the legislators either do not take into account the sensitivities of our
cultural norm or they ignore the aspect of social reality. And this is why the tax code cannot
understand the attitude and the behavior of the taxpayers and they intentionally or
unintentionally go on with ignoring the economic, political and socio-cultural realities of the land
and its populace.

There are certain features of the tax culture that is halting to build an improved tax system.
Firstly, it is the poor state of literacy in our country that the taxpayers are not equipped with
proper understandings and education of our tax code and with it we face the problem of
Complexities of the Tax code. Tax experts face difficulty for its comprehension so how the
commoner could have the grasp of it. There happens to be frequent and unsystematic changes in
the tax code of the country and this causes more difficulty for the tax paying community to
understand the continuous procedural and substantive changes.

Secondly, Pakistan is mostly dependent on foreign loans for the survival of the economy. The
donor states or the institutions lend out the loans with certain conditions attached to it and we
being the recipient country have to agree. This burden is then shifted to the already vulnerable
taxpayers. Furthermore, the tax system of Pakistan lacks the honest declaration of income
because the government in the current situation cannot reduce the tax rates and the taxpayers
then save themselves from the burden by not declaring the correct amount of income.

The tax institution is a part of and linked with many other institutions, it is not immune from the
negative effects of corruption. When the administrators of the country do not follow the tax
requirements then how do we expect the people to be fair. This leads to the feeling of mistrust
amongst the taxpaying community against the government as of the fact they feel the funds
generated through taxes are not properly used and rather they are mishandled.

The tax culture cannot change in a short span of time but at least we should trend on the right
path so that we do not move away from the objective of a prosperous future.
Absence of and the Need to Develop a Tax Culture
6

Benefits [2]

If a proper tax culture is implemented in Pakistan, there will be a lot of benefits, not only for the
government, but eventually for the people of Pakistan. Money provided by taxation will be used
on expenditures such as, economic infrastructure (roads, public transportation, sanitation, legal
systems, public safety, education, and health care systems), military, scientific research, culture
and the arts, public works, distribution, data collection and dissemination, public insurance, and
the operation of government itself.

Right now, a sizeable chunk of our budget is financed through debts (internal and external), with
a proper tax system in place, we will be able to generate the amount of funds required for these
expenditures.

Governments use taxes to fund welfare and public services. These services include education
systems, pensions for the elderly, unemployment benefits, and public transportation. Energy,
water and waste management systems are also common public utilities. One of the biggest issue
that Pakistan is currently facing is electricity shortage, with a better tax culture, we will be able
to upgrade our current system and overcome this shortfall. [2]

There will be economic growth, which will benefit the people of Pakistan. The standard of life
will get better, people will have more opportunities. When people will pay taxes, they will be
more involved as to where their money goes, and hence accountability of the government will
increase.

Solutions [1]
First, make clear, credible promises for improvements and increases in public goods and
services: infrastructure, public transportation, education, health, social security. If people
see improvements in their standard of living by paying taxes, theyll be more inclined to
pay. Governments should show people that if they pay more through taxation, then their
expenses will be reduced by the state, in some way, through cheaper education or
healthcare, for example. Hence, taxes wont simply be reducing the disposable incomes
of people, but also a way of increasing the disposable incomes, through a reduction in
Absence of and the Need to Develop a Tax Culture
7

expenditures on private purchases of traditionally public goods and services. This is

directly linked to the above point on higher, better provision of public goods and services.

Second, governments should be more transparent about how much tax is collected, from
whom it is collected (geography, profession wise), and where it is eventually spent. This
will instill greater confidence among the public in the governments initiatives, such as
the ones listed above. It can also be useful in ensuring greater equality in terms of the tax
burden, so that one powerful group does not evade taxation easily, while the less
resourceful continue to pay fully. For the case of tax collection, there is such a system in
place, and the common man has access to such figures through the FBR. The main issue
here is with the spending figures, which is different on ground, rather than what it says on
the sheets.

Third, ensure that filing in taxes is easy, and that help is available for those finding it
difficult, right now this isnt something that a common person can understand easily.
Make tax evasion hard in the first place. This can be done by ensuring crosschecks
between various data between agencies, and different levels of administrative (local,
provincial, federal, etc.). Penalties for tax evasion must be swiftly implemented without
fear or favour. An honest, competent bureaucracy, including the police service, would be
a great help here. Currently, the penalty for not paying tax is not high. Some groups
simply arent touched as they are seen as too close to those in power, and others as being
too powerful in themselves (some professional groups with strong unions, for example).
Otherwise, you simply pay a bribe to get out of paying taxes.

Fourth, reduce the tax burden on the lower and middle classes. This can obviously be
done by lowering the income tax rate, but also by shifting the focus of taxation from
indirect, consumption taxes to wealth taxes. Such a reduction, from a pure tax collection
perspective, can be beneficial by giving people a much greater incentive to pay tax,
instead of trying to evade it. Its very much possible that the government may collect
more tax revenue at lower rates but higher compliance, as compared to higher tax rates,
but higher evasion as well. If all imposed taxes are paid, the result will also be a more
Absence of and the Need to Develop a Tax Culture
8

equitable situation, as the resourceful wont be able to dodge the taxes at the expense of
the poor.

Fifth, increase the tax net to include untaxed and low taxed activity, such as agriculture.
After the 18th amendment, this authority has been transferred to the provincial
governments, but to date, none have imposed agricultural tax. Provincial governments are
mostly hesitant due to political factors, which need to be put aside for the betterment of
the system. This might create a bit more inflation and it can be dealt with by reducing
money printing through higher tax revenue and a reduction in borrowing needs. A major
problem of the government and the public will be solved this way. This will provide yet
another boost to the purses of ordinary Pakistanis.

These measures, if carefully, clearly and systematically implemented should most certainly
ensure that Pakistan collects more tax and governments are truly able to serve the people. It is
simply a matter of will.

Practicality
A major part of the recommendations are covered in the preceding section on solutions and some
aspect of practicality begs to be discussed, given the status quo of Pakistan. The current status of
Pakistan is such which has weak executive institutions, lots of tax evasion and a higher emphasis
on indirect taxes and, in effect, disproportionate taxes. The tax reforms discussed above will then
have little to no effect on the actual payment of taxes unless they are supplemented with large-
scale overhauls of the executive. Enforcers of the law will have to be made more powerful, so
that no one can avoid being taxed, given better training and their numbers will have to be
increased. This will lead to the allocation of these enforcers to ensuring tax collection not having
an effect on the areas where they are currently employed.

Fiscal tax policies and changes are one of the ways in which the tax culture can be changed, but
incentives to the general taxpayer to pay more taxes and to the non-taxpayer to become a
taxpayer could work wonderfully. This could then catalyze the shift towards a more wholesome
and effective tax culture in which all members, or the larger majority, are legal taxpayers. In the
situation that the executive is not improved and incentives are not created for the common man
Absence of and the Need to Develop a Tax Culture
9

to start paying taxes, it will be near-to-impossible to implement any tax reforms in Pakistan and
to change the culture of taxation that currently prevails.

Agriculture tax is widely viewed by experts on tax policy to be one of the most difficult
industries to tax and rank it as harder to tax than small businesses and services. The nature of the
industry and the products that it produces are such that tracking them and then implementing
adequate taxes on them is hard and highly costly. Not only is this a problem, but practices of
standard bookkeeping and accounts management are missing from the agriculture industry in
Pakistan. Despite these difficulties, agriculture could become a large contributor to the tax net
due to the large percentage that it constitutes in the GDP of Pakistan.

Conclusion
Pakistan has faced a large number of challenges over the years with regards to the tax collection
system that it has. More so than not, Pakistan has ended up with a tax deficit and then had to
resort to taking debt and loans in order to cover its expenditures. Although this solution itself
faces huge difficulties, but the only way to possibly overhaul the system, is to change the culture
of taxation in Pakistan.
Absence of and the Need to Develop a Tax Culture
10

References:
1. http://www.pakistantoday.com.pk/2012/01/08/business/dealing-with-pakistan
%E2%80%99s-tax-problem/
2. https://en.wikipedia.org/wiki/Tax
3. https://www.thenews.com.pk/print/61789-evolving-a-tax-culture
4. http://www.dailytimes.com.pk/opinion/13-Oct-2015/promoting-a-tax-culture-in-pakistan
5. http://www.dawn.com/news/1012383
6. http://www.dawn.com/news/1258002
7. http://www.customstoday.com.pk/absence-of-tax-culture/
8. http://taxation5.blogspot.com/2008/11/i-introduction-to-taxation.html
9. http://defence.pk/threads/pakistan-tax-structure.22908/
10. http://www.dailytimes.com.pk/opinion/13-Oct-2015/promoting-a-tax-culture-in-pakistan
11. https://www.thenews.com.pk/print/129632-Pakistan-lacks-culture-of-tax-compliance