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The last financial year witnessed a record performance by the FBR (Federal Board of Revenue). Tax revenues increased by almost 30%. Consequently, the FBR tax-to-GDP ratio went up significantly from 8.5% of the GDP in 2020-21 to 9.2% of the GDP in 2021-22. Also, the annual target was exceeded by Rs 320 billion.

There is need to understand the reasons for this unprecedented upsurge in revenues. The major factor contributing to the rise in revenues was the extremely large increase in the value of imports in rupees of 59%, the biggest ever. This was due both to higher international commodity prices and significant depreciation in the value of the rupee. The result was a massive 53% increase in import-based tax revenues of FBR.

The year, 2022-23, has come with a similar expectation of good performance by FBR. The yearly growth target has been set at above 21%. However, the pattern of growth in revenues is expected to be very different from the previous year.

The focus is rightly on direct taxes in 2022-23. Income tax is expected to show very high growth of 33%, compared to 15% in indirect taxes. This reflects the enhancement in the tax rates of both the personal and corporate income taxes in the budget of 2022-23. Revenues from customs duty are expected to decline by 6% due to the targeted import compression to achieve a big reduction in the current account deficit.

There is a problem with the quarterly revenue targets for 2022-23 as shown in the IMF Staff Report of the 1st of September. Substantial variation has been shown in these targets. Revenues in the first quarter are expected to grow by only 12%, rising to 28% in the second quarter and be at 22% in the third and fourth quarters. There is no basis for this variation in quarterly revenue growth rates. In fact, in 2021-22 the fastest growth rate of over 39% was achieved in the first quarter.

The actual performance of FBR revenues in the first five months of 2022-23 has been somewhat disappointing. The overall revenue growth has been under 16%. In fact, the growth rate was higher in the first quarter at almost 17% which has come down to under 14% in the last two months of October and November.

The good news is that in line with expectations, revenues from the income tax have shown an extraordinary growth of 43% in the first five months of 2022-23. The progressive nature of the Federal budget is responsible for this success.

The overall shortfall in FBR revenues is attributable to the very limited growth in revenues from indirect taxes of 2%. Sales tax and customs duty revenues have increased by less than 2% and excise duty revenues have shown nominal growth.

The apparent explanation for this limited growth is the policy of severe import compression adopted by the SBP (State Bank of Pakistan) and the Ministry of Finance. However, in the presence of some depreciation of the rupee, there has still been double-digit growth in the rupee value of imports of 12% in the first five months of 2022-23.

Why have customs duty revenues increased then by under 2%? The four major items contributing to import duty revenues are POL products, vehicles, iron and steel and electrical equipment. The growth rate of rupee value of imports during July to October of these items is 36%, minus 28%, 5% and 33%, respectively. The combined growth in imports of these items is almost 18%. Therefore, import duty revenues should not have shown an increase of only 2%. The lack of growth in sales tax revenues is primarily attributable to the withdrawal of the sales tax on most POL products with a yield of as much as Rs 566 billion in 2021-22.

Excise duty revenues are expected to show buoyancy with a growth rate of 25% this year, especially after the quantum increase in the tax rate on tobacco in this year’s budget. However, revenues have increased only nominally due largely to a fall in output of the tobacco industry of 31% in the first quarter.

Overall, FBR has a major task for the remaining seven months of 2022-23. Revenues will have to show a growth of over 25% if the annual target is to be achieved. This will require a big acceleration in the growth rate from the 15% achieved in the first five months; otherwise, the shortfall could approach the Rs 375 billion mark.

There is apparently pressure from the IMF (International Monetary Fund) for substantial additional taxation through probably a mini-budget. The government has already made a commitment in the letter of intent to the IMF that in the event of a shortfall in FBR revenues, the sales tax on POL products will be reintroduced.

Fortunately, the price of crude oil in rupee terms has fallen by almost 28% since end-June 2022. Therefore, there appears to be space for reintroduction of the sales tax on petroleum products. This could yield an additional Rs 150 billion by end-June 2023 and make a significant contribution towards getting closer to the annual target.

There is need now to turn to other sources of revenue, especially the petroleum levy and provincial taxes. The former revenue source yielded only Rs 47 billion in the first quarter of 2022-23, as compared to the big annual revenue target of Rs 855 billion.

The petroleum levy has been enhanced to Rs 50 per liter on motor spirit and is expected to reach the same rate on HSD oil by March 2023. However, there has been a decline in consumption of petroleum products due particularly to the price hike of over 15%. There is the risk of a shortfall in achievement of the annual target for petroleum levy of between Rs 150 billion and Rs 200 billion.

Turning to provincial taxes, the target growth rate is 30% for 2022-23, as indicated in the IMF Staff Report. However, the performance in the first quarter has been very sluggish at only 10%. If this growth rate persists, then the shortfall will be of Rs 120 billion in 2022-23.

Overall, the outlook for revenues of the Federal and Provincial governments is not positive. Special efforts will have to be made to cover up the increasing shortfalls to prevent a substantial deviation from the annual budget deficit of 4.9% of the GDP. This failure to achieve revenue targets will also act as a major stumbling block to the successful completion of quarterly reviews by the IMF.

Copyright Business Recorder, 2022

Dr Hafiz A Pasha

The writer is Professor Emeritus at BNU and former Federal Minister

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