Business operations to become infeasible if higher FED rates continue: LUMS

05 Jun, 2024

ISLAMABAD: A new study by the Lahore University of Management Sciences (LUMS) cautioned that the business operations of the legitimate cigarette including key market players in Pakistan would become infeasible if higher Federal Excise Duty (FED) rates continued to be applied on cigarettes.

The LUMS’s study titled ‘Impact of Taxation on the Cigarette Sector in Pakistan’, has uncovered a pressing issue that demands immediate attention-the impact of tax policies, particularly Federal Excise Duty (FED) adjustments, on Pakistan’s cigarette industry which is causing more loss to government in revenues loss than in revenue collection.

The study revealed annual revenue loss of Rs300 billion is caused to the Federal Board of Revenue (FBR) due to illicit cigarettes brands including locally manufactured tax-evaded and smuggled products.

The report stated that it is critical to understand that the current tax regime even if it garners additional revenue for the government from the tobacco sector, might not be sustainable because of the long-term impact it has on the business outlook of the legitimate sector. If persistently higher FED rates exist, it not only erodes the brand value of legitimate brands, but eventually makes the operations infeasible for the market players complying with other governmental regulations.

The study, led by the experienced Dr Kashif Zaheer Malik, Associate Professor of Economics at LUMS, reveals that the frequent and substantial increases in FED have had a profound effect on the cigarette industry.

The LUMS study highlights the critical need for a balanced and effective tax policy that addresses tax evasion challenges and supports a level playing field for all manufacturers. The report underscores the importance of comprehensive enforcement, broader tax base expansion, and public awareness to mitigate the detrimental effects of illicit trade on Pakistan’s economy.

The report provides a detailed assessment of the revenue losses caused by the alarming trend of shifts from legitimate to illicit cigarette consumption following tax hikes. As per the report, a primary survey was also conducted to ascertain the on-ground situation. The primary research reveals that approximately 42% of sales are DP brands, while 58% comprise illicit brands, including locally manufactured tax-evaded and smuggled products. This translates to a potential tax evasion of Rs300 billion, posing a substantial challenge to tax enforcement.

The research further stated that the brunt of increased excise rates over the past 2 years have fallen solely on the legitimate companies which has caused their volumes to decline. Illicit cigarettes continue to sell in the market due to lower prices and uninterrupted availability due to lax enforcement by the government.

Malik said that the government has implemented various initiatives to address the extent of the illicit sector to bring more companies and the illicit sector under the tax net. These, however, have not been successful in reducing illicit trade in Pakistan.

The LUMS report said that the success of the Track and Trace System, for instance, hinges on a genuine, all-encompassing rollout across every industry, coupled with a unified and consistent enforcement campaign. Malik added this comprehensive approach, along with the government’s focus on expanding the tax base, could potentially reduce the prevalence of illicit trade and tax evasion, offering a brighter future for the industry.

In conclusion, the report recommended that based on the profound price sensitivity prevalent in the Pakistani market, as well as widespread availability of illicit brands in the market, the existing excise tiers must be reconsidered and re-evaluated to reel in the potential lost tax revenues. This approach often results in the substitution of higher priced legit brands to illicit brands selling at lower prices.

Copyright Business Recorder, 2024

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