ELASTICITY AND BUOYANCY OF THE TAX SYSTEM IN PAKISTAN

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ELASTICITY AND MIRZA NAVEED BAIG OF BUOYANCY FROM: THE TAX SYSTEMID: 9953 IN PAKISTAN MBA-R

SEMINAR IN ECONOMIC POLICY 19/8/2011 TO: Mr. ASHRAF JANJUA FROM: SIDRAH SHAHID

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ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

ABSTRACT: FAIZ BILQUEES (2004) in her article ELASTICITY AND BUOYANCY OF TAX SYSTEM IN PAKISTAN measured the buoyancy and elasticity of tax revenue system in Pakistan over the period 1974 to 2003 by using the Divisia Index Approach and analyzed the factors responsible for the resulting size of elasticity coefficients. Her estimates of buoyancy suggested that tax changes did not lead to significant revenue augmentation. However high coefficient of sales tax with respect to GDP base reflected the inclusion of service sector and utilities in sales tax net, which has serious implications for poor. Following papers have also been reviewed in order to get in-depth knowledge of elasticity and buoyancy of tax system in Pakistan: Pakistan Tax Policy Report: Tapping Tax Bases for Development From this paper Short-Term Buoyancy and long-Term Buoyancy and Stability of FBR Taxes were taken into special considerations. (Report No. 50078-PK july 2009)

Determinant of Tax Buoyancy: Empirical Evidence from Developing Countries The purpose of this paper is to find the determinant of tax buoyancy of developing countries. We have used 25 countries cross section data for the year 1998 to 2008 and used pooled least square method for result analysis. by Qazi Masood Ahmed. European Journal of Social Sciences Volume 13, Number 3 (2010)

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

.Definition of TAX: To tax to impose a financial charge or other levy upon a taxpayer (an individual or legal entity) by a state or the functional equivalent of a state such that failure to pay is punishable by law. A tax may be defined as a "pecuniary burden laid upon individuals or property owners to support the government [...] a payment exacted by legislative authority."[1] A tax "is not a voluntary payment or donation, but an enforced contribution, exacted pursuant to legislative authority" and is "any contribution imposed by government [...] whether under the name of toll, tribute, tallage, gabel, impost, duty, custom, excise, subsidy, aid, supply, or other name."[1] Importance of tax Growing expenditure in a country is considered a prerequisite for economic growth, due to which in most of the developing countries expenditure growth rate commonly exceeds the rate of national income growth. On the other hand, economic growth increases the taxable capacity and enables , to obtain a larger share of national income in the form of tax revenues. Therefore, developing countries usually depend on their tax system to generate adequate revenues in order to finance their ever-expanding expenditures

fiscal problems occurs, when the tax responsiveness remains below than that of expenditures than efforts are needed in this area to analyse the sources of revenues and their responsiveness in order to maximize the revenues

DEFINITION OF TAX BUOYANCY

A measure of how rapidly the actual revenue from a tax rises (including that due to any change in the tax law) as the tax base rises. It is defined, like an elasticity, as %DR / %DB where R is the real revenue from the tax, B is the real tax base, and %D is percent change. It differs from tax elasticity in not holding the tax law constant.

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

DEFINITION OF TAX ELASTICITY

The elasticity of the real revenue from a tax with respect to the real tax base, for a given tax law.

TAX BUOYANCY IN DIFFERENT COUNTRIES

Ahmad and Mohammad (2010) examined the determinants of tax buoyancy of 25 developing countries by using the cross section data for the year 1998 to 2008 and pooled least square method for result analysis. For agriculture sector it showed insignificant effect and for services sector it showed positive and significant effect instead of past insignificant result of many researches. Monetization and budget deficit showed positive influence while growth in grants showed negative impact on tax buoyancy.

Source:

European Journal of Social Sciences Volume 13, Number 3 (2010)

Determinant of Tax Buoyancy: Empirical Evidence from Developing Countries by Qazi Masood Ahmed

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

EXPLAINATION:
Tax responsiveness to changes in income is a crucial variable in projecting the tax revenues, and is a basic criterion for a good tax system. This response is measured by two concepts: tax elasticity which measures the automatic response of revenue to income changes, net of discretionary changes; and tax buoyancy which measures the total response of tax revenue to changes in income. In developing countries generally, the major taxes tend to have low elasticity and sometimes even the buoyancy is low. This is mainly due to the inherent weaknesses in economic structure where a large majority remains out of the tax net due to low average income levels, and unorganised nature of most economic activities, which erode the income tax base. However, an equally important factor has been the provision of massive tax incentives and exemptions to the manufacturing sector over extended periods in most of these countries. As a result, the levels of budget deficits and borrowings, and/or aid requirements become unsustainable over time. Domestic resource mobilisation and reduction of budget deficits then become the major targets of the Structural Adjustment Programmes in the short run, and in many cases even in the long run. In the case of Pakistan, while the initial stages of rapid economic growth were characterised by massive tax concessions, the nationalisation in the 1970s resulted in a massive shift to the informal sector, which became synonymous with the parallel or underground economy in a very short period.1 The continued reduction in formal employment, as a policy measure since the 1990s, has further expedited the expansion of the informal sector. As compared to 20 percent in 1974, after the nationalisation in 1972, and to 25 percent in 1990-91, it accounted for 54 percent of the GDP in 1998 [see Kemal (2003)]. As a result of the distortions created in the economy over time, Pakistan has had a chain of stand-by and structural adjustment and stabilization programmes from 1973-74 until 2003. All the programmes had a special focus on tax reforms including improved tax governance, increasing the share of direct taxes, expanding the tax net, imposition of sales tax on a wider scale, and improving the tax elasticity and buoyancy. However, the implementation of the reforms particularly in the fiscal sector was visible only for the last programme of 2000-03. The expanded enforcement of the sales tax, rationalising the exercise of power by the tax officials, and some expansion in the tax net has been achieved. However, the overall tax revenues as a percentage of GDP still average less than 15 percent and the share of indirect taxes still exceeds 60 percent of total tax revenues. When the elasticity of major revenue sources remains low despite tax reforms either due to low base, or due to evasion or avoidance, the governments raise additional resources through discretionary measures. Then, the growth of tax revenues comes through high buoyancy rather than through elasticity. The objective of this paper is to measure the buoyancy and elasticity of the tax system in Pakistan over the period 1974-75 to 2002-03 by using the Divisia Index Approach, and analyse the factors responsible for the resulting size of elasticity coefficients. The coefficient of elasticity depends on the level of tax rates, the progressivity of the rate structure, and the responsiveness of the tax base to changes in income. This makes it possible to break up the value of elasticity into two
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ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

componentsthe response of the tax base to a change in income, and the response of the tax yield to a change in the tax base of individual taxes through decomposition of elasticities. The value of base to income elasticity does not depend on the progressivity of tax rates; it simply relates the responsiveness of the tax base to a change in income. The growth of the base depends on the way the structure of the economy changes with economic growth. The tax-to-base elasticity depends on the tax rates; if the rate structure is progressive or if there is an improvement in tax administration, the tax-to-base elasticity will be raised by preventing evasion. The decomposition of elasticity in this manner permits us to identify the source of growth of tax revenues.

TAXATION SYSTEM IN PAKISTAN

Taxation in Pakistan is a complex system of more than 70 unique taxes administered by at least 37 agencies of the Government of Pakistan.[ Federal taxes are administered by the Federal Board of Revenue. It collects both direct and indirect tax revenues. A broad description regarding the nature of administration of these taxes is explained below: DIRECT TAX: A government levy on the income, property, or wealth of people or companies. A direct tax is borne entirely by the entity that pays it, and cannot be passed on to another entity. Examples include corporation tax, income tax, and social security contributions. The direct taxes are important part of tax revenues. Besides being a major source of revenue generation for the government, it also has the characteristics to address the issues of income and wealth inequality. A higher income tax share in total taxes always remains a desired goal. In most of the advance countries, the share of direct taxes is higher than the indirect taxes. Whereas in Pakistan, only in the recent years, the share of direct taxes after hovering around 30% for decades, has jumped to 39.6%. The major components of direct taxes are: income and corporate taxes and workers welfare fund.

INCOME TAX (IT) In the direct taxes, main emphasis is given to income tax as its share is around 94.4% in the total direct tax receipts.

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

Under the Income Tax Ordinance, 2001 It is an annual charge on the taxable income for a tax year, if it exceeds the maximum amount that is not chargeable to tax Taxable Income means total income as reduced by deductible allowances on account of: Zakat paid under the Zakat and Ushr Ordinance, 1980, other than Zakat paid on a debt, the profit of which is chargeable to tax under the head Income from Other Sources. (such Zakat is an admissible deduction against the profit on debt); Workers Welfare Fund paid under the Workers Welfare Fund Ordinance, 1971; and Workers Participation Fund paid under the Companies Profit (Workers Participation) Act, 1968. Total Income is the aggregate of income under the following heads of income: Salary; Income from property; Income from business; Capital gains; and Income from other sources [like dividend, royalty, profit on debt, ground rent, rent from sub-lease of land or building, income from lease of any building together with plant or machinery, prize on bonds, winnings from a raffle, lottery or crossword puzzle, or a loan, advance, deposit or gift (subject to certain conditions).

WORKERS WELFARE FUND (WWF), Workers Welfare Fund (WWF) is levied @2% on the manufacturers having income of Rs 100,000 and above. Employees Old Age Benefit Scheme is financed through this fund.

WORKERS PROFIT PARTICIPATION FUND (WPPF)

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

Worker Profits Participation Fund (WPPF) is paid by the industrial undertaking having more than 10 workers @5% of their profits for distribution amongst workers. Any leftover amount after distribution amongst the workers is deposited with the government to become part of the WWF.

CAPITAL GAIN TAXES. Capital Value Tax (CVT) has been withdrawn and a new Capital Gain Tax has been imposed. On the other hand, indirect taxes include Sales Tax, Sales Tax is a tax levied by the Federal Government under the Sales Tax Act, 1990, on sale and supply of goods and services and on the goods imported into Pakistan. Goods Goods include every kind of movable property other than actionable claims, money, stocks, shares and securities. Services Sales tax is also leviable on rendering of certain services such as hotels, marriage halls, clubs, caterers, advertisements, custom agents, ship chandlers, stevedores, courier services, beauty parlors, beauty clinics and slimming clinics Supply Supply includes sale or other disposition of goods in furtherance of business carried out for consideration including putting to private, business or non business use of goods acquired, produced or manufactured in the course of business. Sales tax is liable on sales of taxable goods and services produced in the country excluding those exempted in the sixth schedule of Sales Tax Act 1990. Sales Tax is the leading source of federal tax revenue and has gained importance over time. The sales tax share in federal revenue has been recorded around 38.9% in collection during the FY: 2009-10. The sales tax collection during the FY: 2009-10 has been recorded around 14.3% up when compared with the collection of FY: 200809.

GST has been one of the major sources of federal tax revenues. During FY: 09-10, the gross and net collection of sales tax stood at Rs. 546.4 billion and Rs. 516.3 billion respectively, entailing growth of 14.1% and 14.3% over last year. The revised target of sales tax has been achieved to the extent of 95.6%. The share of sales tax in total tax collection remained 38.9% during FY: 2009-10. Reduction in GST rates of a few major revenue spinners of Sales Tax i.e., of Sugar from 16% to 8%
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and telecom sector from 21% to 19.5% has caused a significant decline in Sales Tax realization (FBR Quarterly Review April-June, 2010).

An overview of the sales tax (domestic) collection indicates that the tax base of GST remains highly concentrated as the top fifteen commodities have generated 86.8% of total domestic sales tax collection during the FY: 09-10. The performance of major revenue spinners of sales tax (Domestic) for the FY: 2009-10 with 2008-09 have been given below.

CUSTOMS DUTY Despite broad-based tariff reduction in one and a half decades, customs duty is still one of the important sources of tax collection of the federal government. It contributed 20.0% in the indirect taxes and 12.1% in total taxes collection during the FY: 2009-10 by FBR. The volume of customs duty collection contributes in forming the base for calculation of other taxes like sales tax on imports and Withholding Tax.

Around 40% of our imports are exempt from the customs duty therefore, 60% of imports are dutiable. A review of duty structure of dutiable imports during FY: 2009-10 indicates that major imports are made of 10% slab rate (32.6%), 5% slab (27%) and 20% slab (12%). The import of remaining slab structure remained less then double digit.

FEDERAL EXCISE DUTY.

Federal Excise Duties are levied on domestic production, imports and few services rendered in the country. The FED is an important component of indirect taxes. The major excisable commodities include cigarettes, cement, beverages, natural gas and POL products, whereas excisable services like Air Travel. The FED has been an important source of revenue generation. As early as 1948-49, its share was 14.5% in total federal taxes, and it touched the highest mark of 43.1However, its share decreases to 9.4% during FY: 2009-10. The major source of FED collection includes Cigarettes (35.9%), 1% Special Excise Duty (12.9%), Services (12.9%), Cement (12.6%), Beverages (9.1%), Natural Gas (5%) and POL Products (38%). Within the collection from 1% Special Excise Duty a major shift has been observed during FY: 2009-10 as 55.2% of 1% SED has been collected at domestic stage whereas last year its share was 43.5% only. Similarly, collection from Services is now dependent mainly on international travel as
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the heads of insurance and banking services has been shifted to Sales Tax regime during FY: 200910. The FBR collection from these taxes contributes around 84% of total federal taxes while remaining relates to surcharges which also are collected by FBR.

TRENDS IN DIRECT AND INDIRECT TAXES IN PAKISTAN:

Pakistans tax system in its ability to raise adequate tax revenues has not been any better than many other developing countries. It has not been able to generate more than 14 percent of tax revenues in relation to GDP. This lacklustre performance is largely attributed to three inherent weaknesses of Pakistans tax system, i.e., narrow and distorted tax base, over-reliance on indirect taxes, and weak tax administration. For example, in the case of personal income tax, the fringe benefits of the employees remained exempt for a very long period of time. Similarly, the exemptions from taxation of gross income have been quite generous, amounting to one hundred thousand rupees in the budget for 2003-04. The agriculture tax, mainly a provincial tax, has not been fully implemented due to the loopholes provided in the legislation for agriculture tax. On the other hand, the industrial sector and the external sector have enjoyed massive concessions and tax holidays in the 1960s and 1970s. A large number of commodities were exempted from customs and excise duties without adequate monitoring to prevent the abuse of this concession. The most important element in this exemption exercise has been the ad hocism of the policy measures. All these special departures result in the loss of revenue and reduce the elasticity of tax revenues in relation to GDP. Furthermore, taxes have failed to increase as a share of GDP as the widespread tax avoidance/evasionand the inability of the tax authorities to enforce tax lawshas undermined the confidence of the taxpayers in the efficacy of the tax system. The resulting inadequacy of revenues is reflected in Table 1, and total tax revenues average 13 percent of GDP over the period 1974-75 to 2002-03.3,4

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ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

Direct taxes comprise incomes of the non-corporate and the corporate sector including the withholding taxes.5 The share of direct taxes remained very low until late 1980s, averaging 2 percent of the GDP, largely due to the extended tax holidays and exemptions in the 1960s and early 1970s, but picked up in the early 1990s. These increased by more than 3 percent of the GDP in the early 1990s and averaged 3.5 percent of GDP between 1995 and 2003. The share of indirect taxes averaged between 11-12 percent from late 1970s to mid-1990s, and registered a decline thereafter to around 9 percent of GDP. However, over time, the shift in the shares of direct and indirect taxes as a percent of total taxes has been quite significant. The share of direct taxes increased from 13 percent in 1974-75 to 35 percent in 2001-02, but declined to 32.3 percent in 2002-03, while that of the indirect taxes declined from 86.8 percent to 68 percent over the same period. It is important to note that the increase in the share of direct taxes in the 1990s has come from the massive increase in the withholding taxes. In the late 1960s, withholding taxes were levied only on three sources of income: salaries, interest on securities, and payments to non-residents. Until 1979, six kinds of payments were subject to withholding tax, which increased to 19 in 1994-95 and to 25 in 199900 [CBR (March 2003)]. Among the indirect taxes, significant changes have been observed over time. Customs duties which formed the major chunk of tax revenues until early 1980s, have been rationalised from a maximum rate of around 125 percent in 1987-88 to 25 percent in 2002-03. Consequently, the
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share of customs duties in total indirect taxes has declined from 54 percent in 1990-91 to 19 percent in 2002-03. It has been decided that they will now be used only for protection purposes. However, the decline in the customs duties and the excise duties has been picked up by the sharp increase in the sales tax revenue on imports and domestic production. Until late 1980s, sales tax on domestic production and imports was administered in such a way that it was no different from excise duties on domestic production and customs duties on imports. As such, it served no useful propose but affected the distribution of tax revenues between the provinces and the federal government. The generalised sales tax was introduced very comprehensively in 1989-90 and its rates have been revised quite frequently to increase tax compliance by the unregistered taxpayers and to generate additional tax revenues. Between 1990-91 and 1998-99 general sales tax revenues increased from 1.65 percent of GDP in 1990-91 to 2.77 percent in 1994-95, but these declined to 2.33 percent in 1998-99. However, as a result of the increase in the sales tax base, by extending the sales tax net in 1999-00, sales tax revenues increased to 3.7 percent of GDP in that particular year. After averaging 4.6 percent in the following two years, sales tax revenues increased to 5.9 percent of GDP in 2002-03. The slow growth in sales tax revenues was due to the revisions in tax rates for some commodities. In the budget for 2003- 04, sales tax has been fixed at 12.5 percent for all entities.

Frequent revisions in the tax rates have been adopted as a measure of fiscal policy to increase revenues. The personal income tax rates for salaried and nonsalaried persons have been unified; the minimum threshold for income tax was raised from Rs 40,000 in 1988-89 to Rs 60,000 in 1998-99, and five tax rates ranging from 7.5 percent to 35 percent were introduced. In the budget for 2002-03 and 2003-04, the minimum thresholds were raised to 80,000 and 100,000 rupees with the objective to enhance revenue collection by lowering the taxable income levels. Similarly, in the corporate sector, the banking companys rates have been continuously slashed from 60 percent in 1992-93 to 50 percent in 2002-03. This decline at the rate of 3 percent per annum will continue until the reform target of 35 percent is achieved within a five-year period. In the late 1990s, a number of important tax reforms were announced, including the introduction of the book-keeping requirements into the Income tax Ordinance in February 2000, whereby 25 percent of the 1.2 to 1.5 million returns under the self-assessment schemes were to be subjected to random audit. The announcement of 25 percent random audit under self-assessment was meant to encourage the public at large to file their returns without fear of undue harassment by the tax officials. In the fiscal year 2002-03 only two percent of the returns were audited, and while the CBR said it was not a random audit, it did not specify any other basis for it. This was essential to mitigate the general complaint against the tax authoritiesthat they unnecessarily harassed the taxpayers in the private sector in the name of detailed scrutiny. In this regard, the powers of the tax inspectors were also severely curtailed; they are not allowed to open the returns filed. However, the elimination of various tax exemptions, such as the withdrawal of tax12

ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

whitener schemes that guaranteed immunity from tax probes, making the interest income of national saving certificates taxable, bringing in-kind benefits of the employees within the ambit of income tax, and measure taken to make agricultural income tax fully operational have helped improve tax collection and the tax structure to some extent. These measures, it is expected, would lead to an increase in the number of taxpayers in the coming years, provided, the continuity of the policies is maintained.

DATA AND METHODOLOGY

The relevant data for this study for the period 1974-75 to 2002-03 are taken from the Central Board of Revenue Yearbook and the Pakistan Economic Survey.

DIVISIA INDEX METHOD

The Divisia Index, derived from a weighted sum of growth rate of factor inputs, is an index of factor inputs, for the measurement of technical change. The index of technical change is the ratio of an index of total productivity to an index of factor productivity, the latter measured by the Divisia index. This measure implies that the percentage increase in total productivity caused by technical progress is equal to the percentage increase in output divided by the percentage increase in factor inputs. The appropriateness of this measure is based on its property of invariance, i.e., if there is no technical change, the growth in total productivity is entirely due to factor inputs. A change in the Divisia index, therefore, gives a measure of the change in total productivity that shifts the production function due to all sorts of factors that are jointly termed as technical change. A Divisia index of discretionary tax change, therefore, can be considered as analogous to the index of technical change. This index should be equal to the percentage increase in total tax yield divided by the percentage increase in total tax yield owing to the automatic increase in the bases. Similarly, like the index of technical change, a change in this index should reflect the overall revenue effects of discretionary tax measures trends inaggregate revenues can be written as a homogeneous function of GDP (x) T = ax When x rises over time, the tax ratio remains constant or rises as the value of (buoyancy) equals or exceeds unity

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Above Equation provides the estimate of the elasticity r from the unadjusted historical revenue data, subject to the limitations of over- or under-estimation.

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EMPIRICAL RESULTS: The main categories of federal tax and their revelant basis, besides the gdp are reported in table 2:

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consumption of other essential food items.

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DECOMPOSITION OF ELASTICITIES The process of decomposing of tax elasticities is helpful in identifying the dynamic and the lagging areas of the tax system. the governments can influence the tax to base component to improve the elasticity of a particular tax

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CURRENT TRENDS:
TABLE - 6

TAX - GDP RATIO

(Rs. Million) DIRECT TAXES INDIRECT TAXES SURCHARGES * TOTAL TAXES WITHOUT SURCHARGES TOTAL TAXES WITH SURCHARGES

YEARS

GDP *
(mp)

1997-98 2,677,656 1998-99 2,938,379 1999-00 3,826,111 2000-01 4,209,873 2001-02 4,452,654 2002-03 4,875,648 2003-04 5,640,580 2004-05 6,499,782 2005-06 7,623,205 2006-07 8,673,007 2007-08 10,242,799 2008-09 12,739,336 2009-10 14,668,428

Collection (Net) 3 103,182 110,207 112,950 124,585 142,505 151,898 165,079 183,372 224,988 333,737 387,861 443,548 525,977

Tax/GDP Ratio (%) 4 3.9 3.8 3.0 3.0 3.2 3.1 2.9 2.8 3.0 3.8 3.8 3.5

Collection (Net) 5 190,449 198,302 234,154 267,692 261,565 308,729 355,764 407,015 488,454 513,499 620,230 717,602

Tax/GDP Ratio (%) 6 7.1 6.7 6.1 6.4 5.9 6.3 6.3 6.3 6.4 5.9 6.1 5.6

Collection Tax/GDP (Net) Ratio (%) 7 8 42,911 1.6 61,927 38,912 30,200 54,854 68,230 61,400 26,769 50,800 18,071 18,071 18,071 2.1 1.0 0.7 1.2 1.4 1.1 0.4 0.7 0.2 0.2 0.1 0.1

Collection (Net) 9 293,631 308,509 347,104 392,277 404,070 460,627 520,843 590,387 713,442 847,236 1,008,091 1,161,150 1,327,382

Tax/GDP Ratio (%) 10 11.0 10.5 9.1 9.3 9.1 9.4 9.2 9.1 9.4 9.8 9.8 9.1 9.1

Collection (Net) 11 336,542 370,436 386,016 422,477 458,924 528,857 582,243 617,156 764,242 865,307 1,026,162 1,179,221 1,345,453

Tax/GDP Ratio (%) 12 12.6 12.6 10.1 10.0 10.3 10.8 10.3 9.5 10.0 10.0 10.0 9.3 9.2

3.6 801,405 5.5 18,071 * Source: Pakistan Economic Survey 2009-10

TABLE - 9

BUDGET ESTIMATES 1996-97 TO 2009-10

(Rs.in Million)
YEARS
1 1996-97 1997-98 1998-99 1999-00 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10

DIRECT TAXES INCOME OTHER TOTAL TAX D. TAXES D. TAXES

2 83,899 95,598 104,996 102,500 125,751 142,000 142,200 154,638 173,140 205,600 315,152 367,917 461,000 540,400 3 4,101 6,195 7,004 7,400 8,149 4,500 6,200 6,862 9,560 9,400 18,584 19,902 4 88,000 101,793 112,000 109,900 133,900 146,500 148,400 161,500 182,700 215,000 333,736 387,819 461,000 540,400

CUSTOMS
5 83,000 78,710 61,300 64,800 64,600 50,500 59,000 86,600 115,000 135,000 132,299 150,589 145,000 164,900

INDIRECT TAXES FEDERAL SALES EXCISE TAX

6 59,000 63,028 62,000 57,000 52,200 47,100 47,500 43,500 52,800 58,500 71,804 92,177 116,000 134,400 7 56,000 54,086 72,650 120,000 155,800 170,100 204,000 218,400 239,500 281,500 309,396 376,931 457,000 540,300

TOTAL IND. TAXES

8 198,000 195,824 195,950 241,800 272,600 267,700 310,500 348,500 407,300 475,000 513,499 619,697 718,000 839,600

TOTAL FEDERAL TAXES

9 286,000 297,617 307,950 351,700 406,500 414,200 458,900 510,000 590,000 690,000 847,235 1,007,516 1,179,000 1,380,000

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TODAYS NARROW TAX BASE IS THE RESULT OF THE LOW BUOYANCY OF PAKISTANS TAX SYSTEM OVER THE DECADES.

As the demand for public services tends to increase as per capita income rises, tax systems should be able to deliver over time automatic growth in fiscal revenues relative to the size of the economy. If the proportional change in tax revenues exceeds the proportional change in economic activity, then, everything else equal, the tax-to-GDP ratio would rise with per capita income. Unfortunately, measuring such tax elasticity is far from straightforward, as the observed changes in tax revenues are not just the result of changes in the tax base arising from changes in economic activity. Instead, they could also reflect changes in the structure of taxes, such as tax rates or the definition of the tax base, as well as changes in the tax administration, such as a stricter enforcement of the tax laws. Since it is difficult to disentangle these effects, analysts typically look at tax buoyancy, which measures the ratio of the proportional change in tax revenues to the proportional change in GDP. Figure 3.4 (left panel) looks at the average buoyancy measures over the last five decades, using a World Bank GDP series that adjusts for the periodic rebasing in national value added. The buoyancy measures are derived by regressing the natural logarithm of the tax revenue series on the natural logarithm of the GDP series. Buoyancy above unity indicates tax revenue growth in excess of GDP growth. The overall buoyancy of the FBR taxes declined from above unity in the 1960s and 1970s to below unity in the 1980s and 1990s, and increased above unity in the 2000s, although it remains below the levels of the 1960s and 1970s, and at 1.05 it remains rather low: a one percent increase in GDP implies an increase in the tax-to- GDP ratio of only 0.05 percent (that is 5 percent of 1 percent). There are distinct differences in the buoyancy of the four main taxes. Direct taxes outgrew GDP in the last two decades, and sales taxes in the last three decades, but not previously. Custom duties grew far slower than GDP during the trade liberalization of the 1990s, but not otherwise. Excises were by far the most buoyant revenue source in the 1960s, grew slower than GDP since the 1970s, and were the least buoyant revenue source in the 2000s.

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Source: Pakistan Tax Policy / Report Report No. 50078-PK / July 2009

LOW REVENUE STABILITY COMPOUNDS LOW BUOYANCY Tax revenues display a high degree of volatility. The coefficient of variation measured as standard deviation divided by the mean equals to 0.33 in the 2000s, just somewhat below the 0.39 in the 1960s (Figure 3.4, right panel). The tax-to-GDP ratio changed on average by 0.4 percentage points from one year to the next since 1959/60, and by 0.3 percentage points since 1999/2000. Such volatility makes it difficult to forecast tax revenue collection accurately and undermines budget planning. Recently, direct taxes, with their dependence on enterprise profitability, and custom duties, with their dependence on import volumes, were the most volatile revenue sources.

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Source: Pakistan Tax Policy Report( Report No. 50078-PK / July 2009)

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ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

The low elasticites of the tax system confirm the existence of continued exemptions, allowances, and loopholes for evasion. The reforms in the tax structure since late 1990sin terms of a relatively cleaner administration facilitating the tax-payersand the broadening of the sales tax base are visible Efforts to increase the share of direct taxes are extremely limited. o There is an artificial increase in the share of income tax, which has adverse implications for a genuine increase in income tax revenues Broadening of the sales tax base is a positive development The decline in the customs duty coefficients is picked up by the sales tax revenue from imports. The capital gains on equity remain exempted from tax while sales tax on petroleum products and utility prices has directly affected the common man with limited resources. Easy way to realize revenue is through imposing sales tax on petroleum products & a higher sales tax rate on luxury items which would prevent the taxation on essential items such as basic inputs to the production & distribution processes This would help increase production and hence employment High cost of production is factor inhibiting investment which calls for coordination between the revenue department, investment ministry.

Faiz bilquees.(2004) Elasticity and Buoyancy of the Tax System in Pakistan (The Pakistan Development Review 43 : 1 (Spring 2004) pp. 7393)
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ELASTICITY & BUOYANCY OF TAX SYSTEM IN PAKISTAN

Pakistan Tax Policy Report( Report No. 50078-PK / July 2009) Ahmed, Q.M. (2010). Determinants of Tax Buoancy: Empirical Evidence from Developing Countries. European Journal of Social Sciences. 13(3), 408-414

FBR YEAR BOOK 2009-2010 http://en.wikipedia.org/wiki/Tax http://www.economics-dictionary.com/definition/tax-buoyancy.html http://www.economics-dictionary.com/definition/tax-elasticity.html http://www.businessdictionary.com/definition/direct-tax.html http://www.defence.pk/forums/economy-development/22908-pakistan-tax-structure.html http://www.cbr.gov.pk http://en.wikipedia.org/wiki/Taxation_in_Pakistan http://aysps.gsu.edu/isp/files/pakpolicy2.pdf

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