Pakistan has constantly been grappling with the daunting task of raising revenues to overcome budgetary gap, which is going to cross Rs one trillion mark this year. The collection of taxes due from the rich and mighty is going to determine whether we will survive as a viable economic entity or not. The ever-increasing fiscal deficit, coupled with mounting debt servicing, is now posing a serious threat to the country's economic revival.
The economic managers have failed miserably to increase the revenues to a satisfactory level - our tax-to-GDP ratio is just 9.5%, whereas it should be at least 25% keeping in view the real tax potential of the country. Paradoxically, their pre-occupation with more and more revenue collection have made them neglect the infrastructure required to administer these very taxes. They are caught in a dilemma; on the one hand there is mounting pressure from IMF and other foreign institutions to lower the fiscal deficit and on the other, all attempts to increase revenues from the existing and potential taxpayers is proving detrimental to the already ailing economy.
Pakistan needs to learn from the experience of many developing countries of the world that have successfully collected revenues by improving their tax administrations. In 1992, Richard M. Bird and Milka Casanegra de Jantscher presented a marvellous book Improving Tax Administrations in Developing Countries (interestingly this was an IMF publication, based on papers read at a conference held in Spain in 1991). Since 1992, there has been growing awareness that more efforts are required to improving existing tax administration if a developing country is keen to explore new sources of revenue.
The old saying "tax policy is only as good as its administration" is outdated. Today's consensus is that "tax administration is tax policy. This was elaborated by Stanley S. Surrey in his article, "Tax Administration in underdeveloped countries", published in University of Miami Law Review, xii (winter 1958) at pages 158-88. At that time, Stanley S. Surrey was the professor of law and international programme in taxation, Harvard Law School. Anyone who has worked in the tax administration of a developing country like us can vouch for that. Many well-intentioned laws have been laid to rest by inefficient (which also include indifferent, corrupt and incompetent) tax administrations. Pakistan is one such classic example. The Federal Board of Revenue (FBR), apex administrative body for federal taxes, most aptly depicts an indifferent (though highly oppressive and inefficient) tax administration.
Taxation requires pragmatic thinking and is most effective when developed with the practical and possible agenda for building a sound tax administration. For effective management, Tax Intelligence System (TIS) is a prerequisite. The widest possible taxpayer base has to be identified for any tax to be equitably spread across the whole taxpayer population. Even a small tax at a lower rate spread over a wide taxpayer base would invariably yield more revenue than a higher tax on a narrow base. The levy of General Sales Tax (GST) at 17% in Pakistan has failed to bring the desired results as it is a higher tax on a narrow base. Had it been a 6% to 8% levy across the board, it could have been acceptable as well as successful in terms of yielding more revenue being a low rate tax spread on a wider taxpayer base.
How can Pakistan succeed in improving revenue collection when it has no information/intelligence system/unit to maintain the taxpayers' roll? The efforts made in the past through National Document Survey to build a taxpayers' roll were theoretically sound, but the strategy to implement them were totally illogical and not in conformity with the ground realities of Pakistan.
In the initial days of the World Bank funded Tax Administration Reforms Programme (TARP), the software developed by Pakistan Revenue Automation Limited (PRAL), jointly with a company owned by the son of an ex-chairman of the FBR (we Pakistanis cannot live without nepotism!) to document the data collected during the survey was highly unreliable and prone to duplications/errors. We, at that time expressed strong apprehensions that the database management through the faulty software would be an utter disaster, but nobody listened to us. The result, as feared, was a total disaster.
The tax intelligence system should be given top priority in improving tax collection and removing corruption and discretion in tax administration. As far back as 1958, Professor Stanley S. Surrey of the Harvard Law School had pointed out the advantages of building up a comprehensive taxpayers' roll:
"The beginning of tax administration lies in seeing that the taxpayers are on the tax rolls. Unless the tax authorities know who are the individuals or units subject to the tax, the whole machinery of administration must necessarily function with incomplete coverage of the taxable area .... The important tasks are to select among the various sources, only those which promise to be productive of names likely to be taxpayers under the tax in question (thus in some places, telephone books may be very useful, while elsewhere, these lists may contain only more non-taxpayers than taxpayers); to gather only so much information as can be efficiently processed; and to devise an efficient system for correlating the selected information in a continuously current form usable for enforcement purposes".
The FBR, responsible for the collection of federal taxes, has miserably failed to introduce any computerised Tax Intelligent System, despite the fact that it has a market wage-oriented company, PRAL, at its disposal, to monitor the economic activities of the corporate/business sectors.
The tax intelligence system has been proved useful in a number of countries as it:
-- Monitors the "large taxpayers" ie all companies registered by the SECP.
-- Identifies the most productive centres of information from which significant data can be extracted.
-- Uses simple computer applications that are user-friendly [so far the FBR and PRAL have made every effort to make it complicated and difficult to work].
-- Avoids any tax specific and can be adapted to any type of tax.
-- Can easily be extendable to all types of taxpayers.
The tax intelligence system is not a new idea. It was implemented in countries like Botswana way back in the 1980s and helped in its rapid increase of diamond revenue as well as proved extremely beneficial in simultaneous expansion of other areas of the economy (Botswana's New Corporate Tax Intelligence System by K.L. De Silva, Bulletin, official Journal of the International Fiscal Association, Volume 53, Number 7, 1999 (page 302)). The Tax Intelligence System concentrates on third-party information that continuously originates from different areas of the government and quasi-governmental institutions to the tax department. The Tax Department of Botswana in 1983, on the advice of IMF, revived its investigation division and the Intelligence Unit that specialised in gathering information on corporate activity. Previously, all information received was maintained manually in the form of registers. The problem faced by the Tax Department of Botswana was the same as is now faced by FBR; the flood of information it was trying to process was too great and the system became to slow, prone to errors. They found an efficient way to handle it through computerisation. Did the IMF forget its advice to Botswana in the 1980s while dealing with Pakistan since the last many years? We have better human resources in Information Technology and yet could not even achieve what a small African State managed as early as in 1985! It is indeed shameful and an eye-opener for the FBR stalwarts and wizards sitting in the Ministry of Finance.
There is an urgent need to set up a tax intelligence system in Pakistan to maximise the scope of revenue collection. Its salient features inter alia would cater for:
1. A computer network for intelligence work. It should be able to record and process a large volume of information.
2. Dramatic increase in the number of new persons that would be registered as active taxpayers and who start filing tax returns and paying taxes.
3. Exposing registered taxpayers who need to be investigated.
4. Increased amount of taxes collected.
However, it should be kept in mind that the introduction of computers ipso facto cannot change the efficacy of the tax system - in Pakistan it has failed to bring more revenues and also working of the field formations has deteriorated. The computer system merely imitates the manual system. The FBR is claiming before foreign donors that a paperless regime has been attained whereas in reality, largely records are still maintained manually. This is mainly due to the fact that the programmes developed "in-house" by PRAL for computerisation of record are either faulty or cannot be implemented by the field staff due to their absence of skills in this area. The FBR never paid attention to devising an integrated programme for computerisation in the tax departments.
To exploit the capabilities of the computer network fully, a completely fresh conceptualisation is required in the FBR and preferably not by the tax officials, but by professional system analysts. Knowledge of the tax officials with respect to user requirements needs to be successfully fused with the skills of the computer programmers. Independent professional programmers should be contacted and given the task of building a relational database, ie a database in which the data relationships could be established electronically.
Tax officials should be assigned with the task of defining the scope of the project and method of selecting, collecting and processing the data. The main purpose of the project should be of creating a database that could record and process significant information in respect of taxpayers, both existing and prospective. It is necessary to determine what is significant and to devise a selective basis for gathering data. This approach would make the work of FBR proactive, rather than reactive.
The problem encountered by the FBR is not how to gather information or the lack of it, but its abundance. Information can be gathered from many sources, eg the telephone directory, the list of electricity consumers, the government gazette and endless other sources including the internet.
The question is: How useful are these sources? The mere fact that a person has a telephone or pays the electricity bill or has been issued with a trading licence does not in itself determine whether that person may eventually become a taxpayer. Information should be processed on the basis of its usefulness.
The information collected through withholding tax statements can be useful if processed intelligently-for example persons paying Rs, 30,000 or more annually to mobile users should be issued National tax Numbers and notices for filing of returns should be issued. Presently the data that is lying in the computers is nothing but trash serving no useful purpose. Therefore, several factors, including the following, should be considered. Information would be most useful if:
-- It relates directly to expenditure or income.
-- It relates to the ownership of commercial property, like farms, commercial vehicles, etc, there has to be an expectation that these assets would eventually produce assessable income.
-- The time lag is short between its receipt and the consequential registration of the new taxpayer. Statutory provisions place time limits on the power of the assessing/tax officials to impose additional liabilities on taxpayers and this means that old information soon loses its significance.
Information collected also needs to have at least the following components:
-- name (and if possible the address) of a person;
-- description of the type of transaction, ie whether it is purchase or sale or a record of the ownership of property;
-- date of the transaction;
-- description of the property or the service that was transacted eg, house property, contract payments;
-- monetary value above a stipulated threshold, depending on the type of property or service.
The objectives in setting up the database should be to:
-- record the "significant" financial transactions that are entered into by companies during a tax year;
-- consolidate into one record all the information from different sources relating to one taxpayer/person according to tax years;
-- send a consolidated report to the field officer in the tax division at the end of the tax year or during the relevant period.
-- provide to senior managers (eg commissioners/collectors) quarterly and annual reports of the data recorded and processed;
-- be flexible enough to provide special reports on an ad hoc basis.
The use of "ex-income" flows
Concept of expenditure-income ("exincome") flows (see Table A) should be developed to create a system that can collect and process information needed by field formations rather than work with what they passively receive. The concept of flows of income, capital, goods, services, etc within an economy is common in economic theory. It is the basis of the value added tax system, whereas in Pakistan we have been trying to implement it without the support of any reliable Tax Intelligence System. Goods and services are monitored as they flow from one person to another and one person's expenditure becomes another's income. This concept is at the core of building a tax intelligence system.
For intelligence purposes, whether the expenditure or income (exincome) is of a revenue or a capital nature, is not significant. What is important is the ability to trace one person's income from another's expenditure or vice versa, by identifying both sides of a financial transaction. These flows could be recorded by monitoring streams of activity like that which cascades from governmental capital expenditure down to private contractors, subcontractors, employees, wholesalers, importers and finally out of the country to foreign suppliers. Once the main flows of ex-income in the economy are identified, it is possible to select points at which the information relating to persons and their transactions in that flow could be gathered.
In Pakistan the major flows are relatively easy to map, as its main source of economic activity is "imports". The flow of "imports" can be monitored through computerisation of all points of customs where "imports" are handled. Once the ex-income stream reaches the contractors, it becomes a little more difficult to trace. It spreads out through many channels in a wide delta of economic activity. The tax intelligence system should be able to track some sections of this flow by examining the records of government departments and other large institutions, for which statutory amendments are required in various laws, especially the Protection of Economic Reforms Act 1992 and many Banking Laws protecting even criminal financial transactions.
From the Department of Customs, it is possible to monitor the imports of goods that enter the country and travel up this delta to the wholesalers and retailers that service the large pool of householders and others that are active in the economy. Intangible imports such as management or professional services by offshore companies can also be traced independently through bank records wherever necessary.
Income flowing into the hands of employees can be recorded through the Tax Withholding System. Other centres of information like that of the Registrar of Motor Vehicles, the Registrar of Deeds, and various agricultural authorities and boards set up by government, can provide information to track rental, transport or agricultural exincome that are not part of the major flows. Information in respect of off-shore transactions and suppliers could be accessed using double tax agreements where possible and appropriate.
One important feature of the Tax Intelligence System should be its recognition of exincome flows. Under the existing system, each piece of information received is followed up without checking whether the data is significant. This is a reactive approach that leads to an enormous amount of unsolicited, uncontrollable and unmanageable work. Once the main sources of exincome are identified, the scarce resources of the FBR can be deployed fruitfully in areas that have the greatest chance of producing positive results. For example, tax frauds by big multinational companies in Pakistan could be detected by using 'transfer pricing' mechanism that could yield tax worth billions of rupees.
The FBR is only chasing small traders and has neither the will nor the expertise to unearth such sophisticated tax fraud cases. The IMF also does not seem very keen to help Pakistan in exposing their favourite transnational companies (TNCs), which are inflicting colossal revenue loss to Pakistan. The IMF wizards keep on suggesting an increase in POL prices to force our domestic industry to close or become uncompetitive in export markets. This is a conspiracy against Pakistan.
The tax department is not willing to expose tax fraud committed by such TNCs. Indians have done it in recent years and recovered tax worth billions of rupees. In Pakistan a similar exercise can lead to recoupment of tax avoided by TNCs. The second neglected area is non-taxation of beneficiaries of loan write-offs. Since the government is not inclined to tax the big fish and plunderers of national wealth, Pakistan is bleeding financially. The tax evaders and looters of national wealth are enjoying political positions and are bent upon destroying national resources.
The forces of status quo - unholy anti-people alliance of indomitable civil-military bureaucracy, corrupt politicians and greedy businessmen - are the main stumbling blocks for the establishment of a tax culture. Are tax measures meant only for burdening the poor and the helpless masses? Why have the mighty people in the civil-military bureaucracy, influential politician-cum-businessmen and big absentee landlords not been brought into the tax net for their enormous incomes and wealth?
Data types:
Under the Tax Intelligence System two types of data are to be recognised:
-- Permanent or core data that describe the taxpayer and its activities, for example the name of the company and its business, the address, the type of business licence held etc.
-- Periodically recurrent data in respect of the transactions of a company and other classes of taxpayers in terms of income earned, assets acquired and expenditure or liability incurred.
This information, when correlated annually, can give a clearer picture as to whether the person should be registered as a taxpayer or be investigated for any tax fraud.
The functional design:
The new database should have a very simple functional design. The system must be designed around the following two major files:
The core file:
The core information regarding a company or a business extracted from the Registrar of Companies of Firms should be maintained in a database in which all information is entered only once. Any subsequent changes that need to be made can only be done so through approved procedures. This database must contain permanent information such as the name, incorporation and tax numbers, and address of the company/business.
The transaction file:
The other file should be the transaction file, which captures the constant flow of information that is received in respect of the activities of the companies/business. The transaction file must relate to the company/business file through a business or an incorporation number. Details of all transactions that can be captured through generic fields common to all sources of information eg the monetary value, whether it is a purchase or sale, the date of the transaction, the type of property, and the exact description of the property. Each source of information from which this data emanates should be coded so that the transactions can be traced to the original source. For example, different codes can be used to distinguish information from the Registrar of Lands or from that of the Registrar of Motor Vehicles.
The advantages of the tax intelligence system can be:
-- Simple to use. Once the major flows of exincome in the economy have been identified and the information centers/sources selected, then the main task is to see.
-- That all the information is in fact transmitted from the different sources of information and is entered in the transaction file.
-- The company and business files are kept updated.
-- New sources of information can be easily added on to the system.
-- "Referencing" and cross-verification can be done electronically.
-- Information can be recorded and processed quickly. One of the problems of the FBR is that by the time information reaches the assessing/tax officer and is acted upon, the business has often closed down or the owners have sold up and left the country or the year of assessment has become statute barred. The speed of Tax Intelligence System can make it possible to track non-filers while they are still actively engaged in business.
-- Data capture errors are minimised. The fact that the core information is entered only once minimises input errors, especially duplications; there are fewer chances for data corruption.
-- The system is developed for a network. More staff can be engaged to enter data simultaneously thus speeding up the process; unlike the manual system in which only one person could use a register or the master taxpayer index at any given time.
-- Officers can be trained to use the system in a relatively short period of time.
-- It increases the skill levels of officers and so their efficiency. Junior officers can attain high skill levels that not only enable them to track non-filers but also to identify taxpayers that merit investigation or audit.
-- A variety of reports can be obtained on a periodic as well as on an ad hoc basis to reflect the amount of data recorded and processed. Reports can also be obtained to monitor the extra tax collected as a result of the information that has been processed, eg the amount of tax that the new taxpayers will be paying in their first year of registration.
-- The cost of setting up the system is comparatively low while the cost benefit ratio is high. The entire development can be accomplished with local funds without requesting aid from donor agencies.
Conclusion:
Carlos A. Silvani in his famous book Improving Tax Compliance in Improving Tax Administration in Developing Countries, edited by Richard M. Bird and Milka Casanegra de Jantscher, (1992) at page 274, has identified four key groups which cause shortfalls in tax administrations.
1.Unregistered taxpayers - The gap between the potential taxpayers and the registered taxpayers.
2.Stopfiling taxpayers - The difference between registered taxpayers and those who file returns.
3.Tax evaders - The difference between the tax reported by the taxpayers and the potential tax according to the law.
4.Delinquent taxpayers - The difference between the taxes assessed and the taxes paid.
The Tax Intelligence System can be used by FBR to alleviate some of the problems associated with revenue shortfalls in Pakistan due to the above mentioned reasons.
Unregistered taxpayers could easily be located and those most likely to become regular taxpayers can be selected and followed up. Stopfilers can be encouraged to file returns by issuing or threatening to issue fairly accurate estimated assessments on their income based on reliable information available in the database. Estimated assessments can often be wild "top of the hat" estimates that are not taken seriously by the taxpayers. If the estimates are too high the taxpayer is too overwhelmed to respond. If they are too low the taxpayer would rather pay the tax than file returns. Near accurate estimates send a clear message to taxpayers that the tax department has reliable information on their activities and could take sterner action if the default continues. In Pakistan, our tax officials are doing just the opposite thus discrediting the entire tax system.
Tax evaders can be quickly detected if investigation division is able to assess and collect large amounts of additional taxes by detecting:
-- Companies and other persons engaged in land sale; and
-- Companies that are overpricing imports.
Tax Intelligence System can come in useful when delinquent taxpayers do not pay their taxes. The availability of current up-to-date information can assist seizure of assets or income in extreme cases of default.
Investment in microcomputers is extremely cost-effective. In the first year of operation the cost could be recovered. Increase in taxes from new taxpayers and from new investigation cases would justify the initial investment. There is no doubt that recent innovations in microcomputer technology have made the goal of achieving reasonably effective tax administrations attainable in developing countries, like Pakistan. However, a word of caution is necessary. Current and accurate third party information is a powerful tool in the hands of the tax administration, yet in the final analysis even the best of tools are only as effective as the person who uses them. Once computer systems are introduced, sufficient resources would be needed in training the officers who are expected to use them. The potential of new computer-based Tax Intelligence System can only be fully exploited when motivated and trained staff uses it. The FBR must, therefore, prepare an integrated system and not piecemeal efforts here and there, which are being done these days by the so-called foreign consultants, retired IMF, World Bank people, who have neither competence in taxation nor insight into our mundane realities to suggest any workable solutions.