RECORDER REPORT

ISLAMABAD: The Federal Board of Revenue (FBR) Friday launched a national drive against manufacturers and suppliers of non-duty paid smuggled cigarettes and other tobacco products taking serious notice of dip in sales tax/Federal Excise Duty (FED) collection from the industry during July-December (2016-17) and raise in supplies of such items without payment of duties and taxes.

Data available with this scribe revealed that the illicit cigarette trade has reached an alarming 40.6 percent as of December 2016 as per independent research agency, Nielsen.

Sources in the FBR told Business Recorder here on Friday that the FBR has already expanded the scope of investigation against a Karachi-based cigarette manufacturing company, whose machines were found by the Directorate General (DG) Intelligence & Investigation Inland Revenue (IR). Both the Large Taxpayer Unit (LTU) Karachi and officials of the DG Intelligence & Investigation IR are investigating a case of unregistered cigarette manufacturing factory in small mountain valley of district Buner, Khyber Pakhtunkhawa (KP), using machines of a Karachi-based multinational cigarette manufacturing company.

Sources said that the FBR has noted with concern that the revenue from cigarette sector was not showing any improvement due to decrease in the production/sales of the formal sector of tobacco manufacturing/ trade. The FBR concluded that the reduction in revenue was mainly due to increase in the illicit manufacturing/trade of this sector.

The FBR’s “Cigarette /Tobacco Squad” in each RTO/ LTU would be equipped with necessary logistics/legal backing to effectively conduct inspection/raids on illicit cigarette production units, sources said.

The FBR has also noted the concerns of the Nielsen, an international research agency, raised about the increased volume of illicit trade of cigarettes in Pakistan.

When contacted, experts told this scribe that tax authorities had launched a nationwide crackdown against illicit trade of cigarettes in Pakistan, including a mass awareness campaign through advertisements in print and electronic media as well as consequent raids on the premises of those believed to be engaged in this crime. These raids are, however, intermittent and often unable to set a resounding precedent in the minds of wholesalers and retailers. 

To deal with these issues of pilferages and consequent revenue loss, the government needs to rethink its reactive strategy and move towards becoming a more proactive agent in affirming the nation’s fiscal stability. In so, it needs to demonstrate a strong political will and a clear direction to move in. The most impingent task is to build the capacity of the organisations responsible for curtailing the leakages. The government’s commitment to tackle these issues head-on will without doubt, serve to bring the nation all the more closer to achieving fiscal stability.

Furthermore, the illicit sector openly violates numerous regulatory requirements at well, such as advertising outdoors, using human and animal images, offering cash prizes, etc, to consumers. This attracts people towards their packs that are sold at much cheaper prices than the legitimate packets.

The bulk of the problem, i.e. Local tax Evaded (LTE) cigarettes, is manufactured in around 50 factories located either in Khyber Pakhtunkhawa or Azad Jammu and Kashmir, from where they are distributed nationwide and available in all major and small marketplaces. These manufacturers under-declare their production to avoid their actual tax liability. The lack of enforcement and the government’s inability to recognise the problem as an important issue may set a dangerous precedent for future investment. The message conveyed when such devious operations flourish without being reprimanded is that a tax compliant manufacturer will always be disadvantaged when competing with an illicit manufacturer as the writ of the government is not strong enough to deter the latter, they added.

In its report, KPMG, an international chartered accountant firm, conducted an econometric regression analysis to calculate the relationship between cigarette prices and duty paid cigarette sales volumes, allowing for all other possible influences on sales. It revealed that the price elasticity of demand for cigarettes in Pakistan has been increasing over time as the affordability of cigarettes has declined, driven by increasing prices and stagnant household incomes.

The report estimated that improvements in enforcement against illicit cigarette trade would have had a larger positive effect on tax revenues than further increases in cigarette tax rates.

The total taxes on the weighted average price cigarette increased between 2011 and December 2015 by Rs15 in real terms (ie inflation adjusted) per pack of 20 cigarettes. During this period, the pre tax price of cigarettes (ie the price excluding all duties and sales tax) increased by a smaller amount, by Rs10 per pack of 20 cigarettes in real terms. As a result, the average pack price increased from Rs43 to Rs68, in real terms, with taxes responsible for 62 percent of the retail price increase.

The combination of a decline in household income and rising duty paid cigarette prices made cigarettes 59 percent more expensive, relative to incomes, for consumers in December 2015 compared to 2011.

Between 2011 and 2015, duty paid cigarette sales volumes fell by 6% as duty paid cigarettes became less affordable for consumers.

The higher price of duty paid cigarettes relative to average household incomes increased the incentive for consumers to look for lower priced alternatives.

Between 2010/11 and 2015/16, illicit cigarette consumption, for example, increased by over 69 percent. An independent report by Euromonitor suggested that there are three main sources of illicit cigarettes in Pakistan. Firstly, local illicit cigarettes that are produced primarily by local manufacturers and do not pay any form of duty. Secondly, domestically manufactured counterfeit cigarettes, and thirdly cigarettes smuggled into Pakistan from neighbouring countries such as Iran and Afghanistan i.e. around 11% of total illicit cigarette consumption).

Had tax been collected on all illicit cigarettes consumed in the financial year 2010/11, tax revenues would have been 19% higher than they were. Had taxes been collected on all illicit cigarettes consumed in the 2014/15 financial year, this would have increased cigarette tax revenues by 29 percent, around Rs.30 billion, the report concluded.