How to harmonise provincial taxation?

The demand for harmonisation of GST on services (GST-S) collected by the provinces is growing. But are all those demands and the proposed solutions tenable?

In a seminar organised by Punjab Revenue Authority earlier this week, the business community and private sector tax consultants raised a host of concerns. Some of these pertained to operational and procedural affairs relating to, for instance, WHT-mode of collection (briefly touched upon in yesterday’s space). Others relate to definitional differences both within the provinces and among them. (See also ‘How to broaden provincial tax base’ published April 5, 2018)

There are risks of unnecessary litigation stemming from overlapping and omnibus clauses defining the services. For examples, the ambiguously wide scope of taxation under the tariff headings ‘maintenance services’, ‘business support services’, ‘contract execution of work’, ‘management consultant’, etc. creates immense confusions, thereby opening doors of litigation. In addition, there are practical issues about input-adjustments.

As Muhammad Awais, Partner of EY Ford Rhodes rightly said that classification rules play a vital role in application of different tax rates, claiming of exemptions, and determination of the period for which the tax is to be paid – aside from the documentary hassle of course. To that end, the provinces should harmonize their definitions.

But whether provinces should also have equal tax rates on various services, as is being demanded by certain quarters. The popular argument so goes that competition over tax rates among provinces to attract mobile tax bases should be avoided because it will be a race to the bottom. It is also believed that differences in tax rates will encourage relocation of business activities from one province to another.

That, however, should not be construed a foregone conclusion. The provincial disparity in public and private hard and soft infrastructure, human capital, law and order etc ensures that tax rates of GST-S is not the biggest determinant of business relocation.

Besides a big size of services are also closely tied with personal consumption (think eateries) and consumption by commodity sector - manufactured, processed or grown - and therefore it won’t make sense for service providers to move from one jurisdiction to another. Plus, there is the classic Laffer Curve argument. (See also Let provinces tax on their own, Jan 2, 2018)

Forcing uniformity of GST-S rates unless the provinces deem fit themselves would also be against the spirit of federalism. It would pertinent to bear in mind that unlike the case of India, it was the provincial governments that formed a federal government for the creation of Pakistan.

Ergo, the federalist nature of the state is more important; legal lacunas, operational knots, and macroeconomic hiccups can be fixed. These are clerical affairs. They can be streamlined. And if having one law and one tax rate across the country was really the panacea, then Pakistan before the devolution should have had been a wonderful place in terms of ease and cost of doing business.

Instead of asking for uniformity of policy and rates, it would more prudent to explore the possibility of having single national tax collection agency – with due representation of provinces and the centre. That agency can then collect taxes as per the policy and rates of various jurisdictions and scopes, and deposits them in their respective accounts. This model can help provinces maintain their fiscal autonomy by changing their rates, exemptions, refunds etc as they deem fit, and at the same time help resolve administrative and coordination issues that currently trouble the business community.