A Federal Board of Revenue (FBR) clarification, categorically refuting criticism against its existing structure that is heavily tilted in favour of indirect taxes, whose incidence on the poor is greater than on the rich, instead of direct taxes based on the ability to pay principle, disturbingly fails to provide any substantiating evidence. FBR in its clarification notes that “FBR does not agree with the notion that withholding taxes are collected in indirect mode,” however, irrespective of whether FBR agrees or disagrees with this notion the fact remains that a withholding tax on income alone - be it from rent, royalties, interest, dividends - can be defined as a direct tax but if it is imposed on goods and/or services (including banking services) then the tax is not considered a direct tax because it is not on the income but on the service provided; and in some instances may imply additional taxation. In addition, the decision taken by the Pakistan Muslim League-Nawaz (PML-N) government during its previous tenure; notably, to allow a filer to pay a lower tax rate on some purchases of items/services relative to a non-filer can also be defined as withholding tax imposed in the sales tax mode and even more disturbingly providing legitimacy to the non-filers.

The Auditor General of Pakistan’s (AGP’s) report, which audited from 8 to 10 percent of FBR accounts, highlighted malfeasance of 418.4 billion rupees – an amount that is 58.4 billion rupees more than the Benazir Income Support Programme budgeted for the current year. And for the first time the AGP report issued an appropriate policy guideline to FBR to add the collections that are imposed in the sales tax mode under indirect taxes rather than under direct taxes as is the current practice, which would reveal the extent of regressive versus progressive taxes collected by FBR – a refinement that would indicate the extent of elite capture in our tax system.

The clarification argues that the withholding component in direct taxes has declined to 65.8 percent in the first four months of the current year compared to 67.15 percent in the comparable period of last year. One would have to wait till the end of the year for a more accurate comparison as the FBR’s failure to meet the revenue target last month may trigger the contingency plan agreed with the IMF (International Monetary Fund), which envisages sales tax on petrol and products up to 17 percent, standard sales tax on sugary drinks and sales tax on cigarettes – all indirect taxes. The government has also failed to implement the personal income tax reforms agreed with the IMF which noted in its seventh/eighth review documents that these reforms can be “achieved by reducing the number of rates and income tax brackets (slabs) in a way that increases the progressivity of this tax, and by removing exemptions to rationalise the taxation of pensions.”

What is even more ominous about the clarification is its timing. During the audit the AGP provides an opportunity to the relevant department being audited to explain and clarify its position; however, to wait till the media highlights the AGP report and then to issue a clarification that is not backed by evidence but merely by statements shows a mindset that appears resistant to improvement. The AGP report was issued recently but as per practice one would assume that FBR was contacted while it was being compiled for clarifications. Clearly, the AGP’s request was not dealt with at an appropriate time which was the right forum for clarifying its position.