The Chief Justice of Pakistan, while hearing a case on May 05, 2009, has aptly remarked that the people of Pakistan have lost faith in the Income Tax Department. The loss of faith pointed out by the Chief Justice is not limited to the tax department only, it is reflective of general trust deficit prevailing among the people against different government departments.Even judiciary is not immune from this deficit. Nizam-e-Adl Regulation, 2009 is manifestation of the same phenomenon. It is high time that all state departments take stock of the situation, so that hearts and minds of the people are won for strengthening the Federation of Pakistan.’Mistrust syndrome’ in case of the Federal Board of Revenue (FBR) manifests itself in different forms and is caused by mutually supporting factors. The main causes are ‘perception and reality of tax money being wasted by our ruling elite, complex and ambiguous tax law viewed as a trap and the working of the department itself. This article aims at providing some food for thought to improve the situation.USE OF TAX MONEY According to J. Holmes, “Taxation is the price we pay for civilisation”. People pay taxes in the hope of living in a welfare society peacefully. Tax culture can be developed if people are made to realise the nexus between taxes paid and what they get in return. They expect that the state will protect their lives and properties. It will provide roads, hospitals, utilities, etc.However, when the government collecting taxes is corrupt and there is bad governance, tax culture cannot be promoted. This explains why despite so many reforms tax to GDP ratio in Pakistan is one of the lowest in the world, and that in Scandinavian countries one of the highest. Rampant corruption in tax collecting and tax spending organs of the state erodes trust of the people.While the people hesitate to pay tax as they think they do not get any thing in return, the government states low tax collection as the main reason for non-development of the country. The vicious circle continues. Trust deficit and fiscal deficits are directly proportionate to each other.Reduction in one will reduce the other. Every government has a right to levy taxes through Parliament. But no Government can be allowed to cause misery and harassment to the taxpayer and the bitter feeling that the taxpayer has been made the victim of palpable injustice.Analysis of cases decided by different courts as reported in PTD of February 2009, indicates that 75% decisions of the higher appellate forums and of Federal Tax Ombudsman are against the department. The same trend can be observed in each month which needs no further comment on the poor quality of assessment orders and high handedness of the departmental officers.Late N.A. Palkhivala, eminent tax scholar of India, had once said that “Taxes are the life-blood of any government, but it cannot be over-emphasised that the blood is taken from the arteries of the taxpayers and, therefore, the transfusion has to be accomplished in accordance with the principles of justice and fair play.”DOES THE DEPARTMENT PROMOTE TAX EVASION? Unbelievable but true. Most of the time it may be unintentional collateral damage of some policy, but sometimes it seems due to criminal negligence or collusion.One recent example is Investment Tax Scheme, 2008 in which unexplained or under-assessed assets were allowed to be incorporated in the books by paying 2% tax only. Apparently it looked as if it would add at least something to the revenue and bring assets from black to regular economy. Unfortunately drafting was such that the department lost revenue more than it collected.It was due to availability of tax depreciation allowance on such assets in the tax year 2009 and onwards. Besides, date upto which assets created were covered under the scheme was faulty and assets created in the current tax year were also included in it. Later amendment of the date was too late to arrest the damage.Thus it acted as a tool for tax planning in which paying two rupees as tax under the scheme saved more than ten rupees in the same tax year besides enjoying immunity from tax of the previous years. Further, remaining value of the assets (WDV) shall be allowed as deduction over the years in the form of tax depreciation, thus giving more benefits to such tax evaders over the years. What was achieved? Nothing.The Task Force on Tax had warned against such schemes as they serve as an incentive for tax evasion and a disincentive for honest taxpayers. Nobody was taken to task for such a fiasco. Rather the persons who were movers and approvers of this scheme were given promotions and better postings, as reward for their ‘good’ work.A number of amendments are introduced in haste and in a haphazard manner which result in loss of revenue. This aspect needs more attention as has stressed by the Hon’ble Chief Justice of Pakistan. Amendments in the law should be made after comprehensive study and its impact on different other provisions of tax laws, other laws and businesses.It is suggested that the parliament should have a ‘Ways and Means Committee’ as it exists in the USA. Members of the committee should represent all provinces, all political parties in the Parliament. The Committee may also have non-voting co-members from the tax profession (including accountants, lawyers, economists, etc). The jurisdiction may include both expenditure and revenue measures.Judicious analysis at this level will help prevent unscrupulous expenditure as well as imprudent tax measures which currently get approved without much discussion in the Parliament.FBR will have to plead its case for each new tax provision/amendment with its full scientific analysis based on different parameters, keeping in view all the affected stakeholders.Such a committee or its sub-committee should be given the task of supervising subordinate legislation also.IMPROVING TAX LAW Currently the Income Tax Ordinance, 2001 is in practice. The earlier ones (Income Tax Act, 1922 and Income Tax Ordinance, 1979) have been repealed. In just 7 years, more than 1,000 amendments have been made and many more are being contemplated.In India, 3300 amendments were made in their Ordinance over a period of 30 years, we are at a greater pace in that direction and expect to beat that record in just 10-12 years. On account of these amendments, N.A. Palkhivala called their Ordinance a national disgrace. What word should we use for our nascent but badly mutilated tax ordinance?Taxation through an Ordinance ipso facto is a national disgrace in a democratic country. The Ordinance suffers from more deformities. Its diction is ambiguous; its impact is unfairness; its compliance is cumbersome; its discretion is awesome. Dilating upon its diction and structure, the Hon’ble Karachi High Court observed as under:”The Income Tax Ordinance, 2001 is a very badly drafted document and has in fact distorted the entire law and scheme of Income Tax in this country, which prior to the coming into force of Income Tax Ordinance, 2001 was very clear. The drafting of law contained in the Income Tax Ordinance, 1979 was much better and clear than the drafting of law contained in the Income Tax Ordinance, 2001.The scheme of law contained in the Income Tax Act, 1922 and Repealed Income Tax Ordinance, 1979 was clear and unambiguous while the provisions contained in the Income Tax Ordinance, 2001 are confusing on account of inaptness, lack of dexterity and lack of clarity on the part of draftsman.” [2006 PTD 734]ABSENCE OF FAIRNESS Income Tax is a tax on persons on the basis of their income. However, since 1991-92, there was started a new type of taxation called presumptive taxation on a large scale. In this case anything can be deemed as income and taxed. For example, all your supplies made to different companies shall be treated as ‘income’ without allowing any expenditure.Such taxation was challenged, but in the Elahi Cotton case, the Hon’ble Supreme Court of Pakistan, after discussing the then prevailing conditions of the country and general tax evasion, held such taxation to be constitutional on the principle of ‘the power of taxation rests on necessity’. The department took it as a free license. Now FBR is always on the hunt.It searches new avenues where it could impose a withholding tax responsibility on a person, then making it a final tax under the presumptive scheme. This taxation is unjust on many grounds. First of all it ignores the bottom line of profit or loss in the business.Secondly, such type of taxation is beneficial to the higher income groups and detrimental to the lower income groups creating socio economic distortions in the system, for redressal of which the income tax is supposed to play a part. This can be seen from the following examples:Further, this type of taxation has divested income tax of its ‘directness’ and the burden can usually be shifted, as indirect taxes, causing inflation in the economic system. Apart from other withholding tax provisions, Chapter XII, in original form, contained 3 types of advance tax. The aim was to do away with these taxes in first few years of the Ordinance.However, the department has managed to enhance the scope of these provisions from 3 items to 8 items. Further in many cases, tax deducted/collected has been converted from advance tax to final tax. Nothing can be more unfair than to deem tax collected on electricity bills as final tax where electricity bill is upto Rs 20,000 per month.Similarly, tax is collected from each mobile phone card even if it is used by a college student having no source of income is liable to tax. Such categories of taxpayers are loved by the FBR because tax is collected from them even when they do not have any taxable income and they do not dare to apply for refund, thanks to the fear the FBR has in the general public.Is it not moral duty of the department to pay a refund in all such cases suo moto? At present, it is wishful thinking, as tax refund is not paid in the majority of the cases, even on application for refund. You dare to apply and they come equipped with all possible provisions of law to deny it and unsettle your settled matters.It is therefore suggested that even if withholding tax provisions are essential, the concept of treating withheld tax as final tax be changed. Final tax liability of each person should be determined on the basis of income computed in accordance with the generally applicable principles of accounting with certain necessary adjustments as per tax law.UNDUE EXEMPTIONS IN TAX LAW In economies like ours, there is always a need to promote certain underdeveloped areas and sectors by giving tax incentives. However, tax exemptions and concessions contained in the Second Schedule to the Ordinance at the time are not for this purpose.They give exemptions to the already privileged classes. Elimination of exemptions contained in clauses (51), (52), (53), (55), (56) of Part I of the Second Schedule applicable to President, Generals, Governors, Ministers, Judges, etc is expected to build up the image of our tax law as a fair law.SIMPLIFICATION OF TAX LAWS Tax laws are complex and many. You have to consult a number of laws and regulations, etc before you reach a conclusion. These include the Income Tax Ordinance, 2001, Income Tax Rules, 2002, Circulars and SROs issued regularly, Advance Rulings, different treaties with other countries and judicial pronouncements, etc.The FBR tries to achieve what is not in the law through different SROs. Here is the authority to make or break a taxpayer depending upon how influential or weak a taxpayer is. FBR has made the life of taxpayers miserable by trapping them.For example, FBR has not come up with comprehensive withholding tax statements. Instead it prefers to send notices to the taxpayers a number of years later to reconcile the figures with those given in the tax return with the final accounts, as well as the withholding tax statements under Rule 44 of the Rules. This delayed approach of the department pays.It collects tax both from the payee and the payer of amounts liable to withholding tax illegally, when it is authorised to collect only from one such person under section 161 or 162. Unscrupulous elements in the department make use of this discretion to their own advantage also.Similarly, income tax return formats are not prepared with dexterity which makes their filling difficult for ordinary taxpayer increasing his cost of tax compliance. Tax Returns should be prepared comprehensively and once prepared should not be changed each year. If any change is necessary, it may be incorporated in a manner the previous return retains its format except this change, instead of changing the entire format.The returns for the tax year 2008 have been found so difficult to understand that the department itself has to suggest a provision authorising it to ask the taxpayers to provide a reconciliation statement showing how taxable income was arrived at from the accounting income.The department should be competent enough to extract all such reconciliations from the tax return. Lack of capability to design such a return, should not result in punishment of the taxpayers in the form of increased burden on compliance in such cases.Change management in the department is almost non-existent which has already caused loss of billions of rupees (from such acts like the destruction and misplacement of record during the process of structural transformation from the circle based system to the function-based system).Besides what is discussed above, the following few acts can be helpful in improving the performance of the department and better tax administration on the income tax side in FBR.i. There is need to seriously deliberate how tax cases can be disposed of within a reasonable period, otherwise our system would never acquire credibility. The ordinance has a number of provisions where no time frame is given. The departmental officers make use of this lacuna and issue notices at their pleasure and to their advantage. For example, they can issue notice of audit at any time in respect of a tax year.Notices of tax year 2006 are being served now in 2009. In the repealed Ordinance the limit was one year. There is no time limit to complete audit under section 177. The limit to issue order after completion of audit is not provided in the law. No time frame has been given to pass orders in respect of withholding tax default under section 161.ii. The tax authorities must announce a well considered long term tax policy for the next 5-10 years so that people can properly plan their businesses and FDI is also attracted.iii. Tax laws need to be rationalised and the provisions of the act be made simple and concise. There is need to revisit deeming provisions which are used to tax otherwise untaxable amounts of income.iv. Tax evaders should be punished strictly. That does not mean to cause undue inconvenience and harassment to honest taxpayers. Rather strictness should be focused on people who, despite having taxable income, are not taxpayers.v. Bona fide and genuine mistakes or lapses should not lead to penalties and prosecutions in case of existing taxpayers.vi. The tax authorities should not resort to court litigation indiscriminately.Restoring confidence of the tax machinery itself Tax machinery should have faith in the fact that it can deliver. It will deliver when there is cohesion in the work force and the work force is satisfied. Improvement in remuneration package was a step in the right direction.However, salary package alone is not enough. The FBR needs transparency in its internal management especially human resource management. At present, the situation is not enviable. Many lobbies and groups are working in the department. Creation of Inland Revenue Service without an Act of the Parliament has disturbed the people of the Customs, Sales Tax and Excise Group.On petition of the aggrieved parties, the Hon’ble Islamabad Hight Court was pleased to cancel the formation of this new service and issue status quo orders till finalisation of the case. At a critical juncture when the country demands concerted efforts to collect every single penny due from all tax payers, tax managers are fighting for their own perceived rights.The division does not stop there. There are groups in the income tax department itself. The perception that a particular group is being given important posts and promotions is wide spread in the department. There are rumours that a few officers were promoted even without meeting mandatory training requirements at NIPA/Staff College.While normally there are no transfers in the last quarter of the fiscal year, this year the circus is on without realising its adverse impact on revenue collection. The government had to accept an IMF loan with harsh conditionalities due to insufficient revenue generated by the tax and non-tax avenues, the target is not being focused on by the FBR. There is need to implement the policy of rewarding honest, capable and competent officers of the tax department.At present, it is exactly the opposite. Sycophancy is being treated as a virtue for posting and transfer. Those who caused the loss of millions of rupees by letting hundreds of cases going time barred in MTU Lahore are treated as heroes.FBR is still far from presenting a holistic picture of a taxpayer regarding his income, sales etc which could have been achieved by integrating the computer systems of all four taxes and duties. However, after spending millions of rupees on the project, it is still not ready to start.Now Mahasil is being tested at LTU, Lahore and the unofficial feedback of the users is discouraging due to defects in the system. It means that the taxpayers will have to suffer for internal intrigues and inefficiencies of the department.Those who failed complete such an important task in time need to be replaced with competent and focused persons. In the presence of a reputable company PRAL, the department should not have been struggling with Mahasil at this belated stage.The FBR needs to attend these matters, or clarify whether it is just grapevine propaganda so that tax officials work in tandem to perform their national duty of implementing the tax laws judiciously.

Rule of law and equality before law are hall marks of civilized societies. Laws in money matters are aimed at , inter alia, providing a fiscal balance in the society as well as funds for development of a nation as a whole. Tax laws should be effective to achieve these goals. And like all other laws what makes them effective is  the way in which people feel it runs with their interests and not against them.

In this article, as the title suggests, we would see why people do not file tax returns as required under the law. Are there lacunas in the law? Are laws irrational? Are they discriminatory? Do they promote inequality? Are they creating distortions in the system? Is it reflective of the general attitude of our society towards law of land? Or is trickle down effect of big-wigs’ flouting of the constitution of Pakistan? These and similar other questions are relevant to understand the behaviour of non-compliance of tax laws in general and non-filing of tax returns in particular. So in effect, it boils down to one question- is it worthwhile to file a tax return or is escape  the better strategy from the point of view of a (non-)filer of returns.

Who are required to file return of income tax?

According to the Income Tax Ordinance, 2001,  the following persons are  required to file tax returns.

 (a)       Every company irrespective of income earned.

 (b)        Every  person other than a company whose  taxable income for the tax year 

            exceeds Rs. 100,000/- 

(c)        Every person who was charged to tax in any of the two preceding tax years.

(d)      Every person who owns immovable property with a land area of two hundred

          and fifty square yards or more.

(e)     Every person who  owns any flat located in areas falling within the municipal 

         limits existing immediately before the commencement of Local Government laws

         in the provinces; or areas in a Cantonment; or the Islamabad Capital Territory.

(f)     Every person who wants to claim a loss for carry forward.

Prior to finance Act, 2005 the following persons were also required to file returns:

 (a)    Every person who was a subscriber to telephone whether mobile or landline.

 (b)    Every person who was an owner of a motor vehicle.

 (c)    A member of a club having either admission fee of Rs. 25,000 or monthly 

         subscription of Rs. 500/- 

(d)    Everyone who took foreign travel other than for Umrah, Hajj or Ziarat.

 Some of the criteria looked ridiculous, however they remained on statute book for a long time. If data of the CBR given in the Year Book 2004-05 is correct, then it is a cause for great concern. Total number of NTN holders in a population of 152.5 millions is only 2.28 million. Out of NTN holders, only 1.23 millions filed returns in 2004-05. Whereas return filers are only 1.23 million and details are given by the CBR as under:

 “Whereas the share of return filers to NTN holders has been around 54%, the share of the same to live cases has been 72.4%. Segregating this information into individuals and corporate categories it has been observed that within the former category (salaried and business persons and AOPs) having NTN, nearly 50% had filed their returns and within the corporate sector, the compliance rate has been around 55%. However, the compliance rate of private companies was at least five times superior to that of the public (listed) companies where it was in the range of only 10%. Incidentally, the compliance rate of the foreign companies has been extremely low at around 3%. Since this situation requires immediate correction through further research, CBR has already embarked upon an extensive effort to streamline the income tax base including the list of withholding agents.”  

 Whereas as per SECP total number of registered companies as on 31st December, 2004 was 45028, total returns from this sector during 2004-05 were only 12526 (27.8% of registered ones) which indicates the huge task CBR faces and requires skilled staff instead of wasting time in planning what to do about 11000 officials feared to be redundant as a result of so called reforms.

 CBR thinks further research is needed for correction of the situation as if it were not evident. CBR  keeps harping on the same string that tax base is small and it is trying to broaden the tax net. Far from truth. Pakistan has a very large tax base. Courtesy of the CBR’s policy of withholding and collecting taxes at source, almost everyone is now either tax payer or tax collector (Unpaid Tax Collectors). Even if sales tax is ignored, see the “net” of indirectly collected direct tax. The following data will indicate the number of taxpayers in Pakistan which denies claims of CBR.

 Total population                                                      152.5 Million

 Labour force                                                             45.76 Million

 Unemployed                                                               3.52 Million

 1/3rd labour force below poverty line                  15.00 Million

 If all the balance labour force is assumed to earn taxable income, it would be 27.24 Million. Now let us see how many tax payers are there in Pakistan on account of tax collection at source from 3 venues only.

 Profit and loss account holders/

 Fixed or Term deposits                                                       20.00  million

 Telephone subscribers  cell phone users                         23.20  million

 Commercial and industrial connection of

 electricity (KESC not counted)                                            2.20  million           

 Tax on cash withdrawals (all accounts)                            26.00 million

 Apart from it, tax is also collected/deducted at source on rent paid, value of imports and exports, payments made for supplies and services rendered, salaries, brokerage and commission, from motor vehicle owners, etc.

 In my humble view instead of broadening the tax base it is time to narrow the tax base. Instead emphasis should be on recovery of “due tax” from the persons who should pay tax as required under the law of land. Emphasis should be on getting returns filed where they are due.  Mindless imposition of withholding taxes is not panacea to broaden tax base. Why people do not file returns when tax is deducted at such a large scale? The possible explanations might be as under:

 2.      Many of them do not want to be in the “tax net” because they  understand their  actual tax liability would be much higher if caught in the “tax net.”  Such behaviour is not irrational even though it may seem unethical. 

3.     They believe the government is not worthy of more taxes as their money is          not spent on them. Corruption and leakages in the system, low priority to            social sectors , huge unproductive expenditure on large sized federal and   provincial governments and exemptions to vested classes of the society   subdue the pricks of ethics in the prospective tax payers.

 4.     The departmental officials do not see beyond return filers. Once you file a            return, the tax collector puts your name on tax rolls and your absence will   be noticed. But those who escape this tax roll, they remain unnoticed  (sometimes with the connivance of the tax officials) for years and years. Policies of the CBR reward non-filers and punish regular taxpayers. First  of all they seldom issue notices to people who are not on tax rolls. The much trumpeted survey conducted by spending millions of rupees failed to increase tax base. Rather it eroded whatever image CBR had in the eyes of people as an enforcement agency. Amnesty Schemes so often         offered in Pakistan give message to the tax evaders that they would get such chances in future too. So why pay taxes voluntarily now.

 5         Tax amnesties prove effective where laws are enforced with full vigour. It             gives tax evaders a window of opportunity to make their record clean.

 6.        CBR has not taken any action against persons who neither availed   amnesty nor paid taxes before or after this amnesty. In a culture of  immunities and impunities no one cares such amnesties.

 7.        Our tax law favours tax evaders and avoiders. Taxpayer and tax-evader     are two brothers. Taxpayer kept on paying income tax each year @ 35% of  his upper bracket income for 10 years. Tax-evader never filed return. After  10 years he was caught in “tax net”. Notice was issued. He files tax return showing below taxable income. When asked to explain from where he got money to purchase the plot he owned in defence, his explanation was that  he got a prize bond and he produces receipt of the same which is obtainable from the market by paying a little more than the prize money and tax deducted would be 10%. That is it. Instead of 35% he ends up with 10% or so and no hassle of filing return over the years. All money is white       now. Foreign remittance is perhaps the cheapest way to whiten your money earned in Pakistan but given flavour of foreign remittance.

 8.           You may purchase a plot for Rs. 15 million and CBR will ask you to explain only to the extent of DC rates of the property. So you plough back  your untaxed business profits into cash economy and at the end you will also enjoy legal cover as capital gains on immovable property is forbidden   tree for taxation.    

9.    It looks as if the government chooses to withhold/collect tax from such      sectors which it thinks would not file returns and not claim refund of taxes withheld as advance taxes. My this impression emerges from the     fact that tax on commercial electricity bills is collected without any lower   limit. Similar is the case with pre-paid cards. While capital gains on listed  shares is exempt, tax is withheld on transactions of such shares. 

Achieving tax revenue target should not be the only criteria to judge performance of the CBR. Ascertainment of actual potential of tax revenue, extent of realization of this potential, progressiveness of structure of taxation, its impact on the economy and extent of reducing income inequalities in the economic system are all relevant in evaluation of the performance. Promoting tax culture is as much need of the hour as controlling unwanted, useless, unproductive expenditure. There is a strong case for paradigm shift in attitude of CBR. The non-compliance gamble which at present swings heavily in favour of non-filers should be shifted against them. They should feel themselves at some disadvantage vis-à-vis  tax law compliant citizens of Pakistan. Only culture of fairness and equity can promote tax culture otherwise you may continue to achieve targets without achieving objectives of taxation.

( Published in the Business Recorder, May 26, 2006)