WHT on banking transactions

This newspaper has been advocating that banking system should not be used to achieve fiscal policy objectives of any government. The consequences could be dire if such a strategy is allowed to exist as a government's preferred policy tool. However, the government seems determined to charge a higher rate of withholding tax on cash withdrawals from the banks from the non-filers to induce the potential taxpayers to come into the tax net and mobilise higher tax revenues. Looking at the recent data, such a policy may have been somewhat conducive to revenue growth but has caused a decline in bank deposits, accelerated the growth in currency in circulation, and gave rise to out-of-bank settlements. And this has been happening despite a substantial rise in money supply (M2). Growth in demand deposits declined from 13.7 percent in 2014-15 to 10.8 percent in FY16 while aggregate deposits fell by 4.3 percent in 2015-16 compared to the rise of 7.0 percent a year earlier. The increase in currency in circulation was as much as 30.5 percent; a kind of growth which was last seen in the aftermath of the Dhaka fall. Growth in deposits held by businesses has also been on the decline since 2012-13. In 2015-16, corporate deposits grew only by 1.2 percent as against a 13.7 percent growth in M2.
The SBP has been quite clear on the subject. In its latest annual report, it has plausibly argued that the government policy of broadening the tax base through this measure has bearings on financial inclusion. The imposition of the transaction tax on the withdrawals of more than Rs 50,000 per day from bank accounts, even on branchless banking, had provided the incentive to the agents either to refuse customers once they reach the threshold of Rs 50,000 per day, or pass on this additional tax to their customers. The central bank has advised that "early resolution of such conflicts is needed to promote financial services in the country". Another complication for monetary management was a sharp slowdown in deposit mobilisation, in spite of acceleration in the pace of money creation and shift of public preference in favour of currency. The SBP says that "the year (FY16) closed with the highest ever annual growth in currency in circulation, with a currency to deposit ratio that is unprecedented since FY03." It also makes no bones about the fact that one reason for low preference of bank deposits was the imposition of withholding tax of 0.4 percent on non-cash bank transactions (cross-cheques, demand drafts, pay orders, etc.) undertaken by non-filers. Further, the business community had serious apprehensions over this measure and had repeatedly requested for its withdrawal.
While the business community had its own reasons to oppose the measure, the imposition of withholding tax on cash withdrawals is certain to have a negative impact on financial intermediation, damage SBP's policy of financial deepening and retard the country's growth rate by reducing the flow of bank credit to productive sectors of the economy due to the scarcity of loanable resources. In other words, while the government has the noble objective of forcing the non-filers to file their tax returns in mind, the policy could prove to be counter-productive by reducing business activity and the number of potential taxpayers. The use of hard cash in out-of-bank transactions could also lead to robberies and other deceptive practices in society. The use of bank lockers to stash away cash instead of depositing in accounts to avoid withholding tax would lead to other complications. The measure could also increase demand for foreign currencies and have a negative impact on the value of the rupee. Another major fault with the policy measure is clear violation of the basic canon of taxation of preferring equity in taxation to the ease of tax collection. The government must force the potential taxpayers to pay their due taxes without any discrimination with regard to the source of income or category of the taxpayers to increase its revenue resources to meet its expenditure needs. It may be pointed out that the business community had protested across the country over the withholding tax but the Finance Minister had refused to withdraw this tax. Since the SBP has also shown a similar concern on the issue, the government needs to reconsider the matter and make necessary amends as the continuation of this policy would strain the banking industry further and put a needless pressure on growth prospects of the country.