TAXATION
As with most of the world's economies, Pakistan has a progressive income tax system. This means that the more you earn, the more income tax you pay. In other words, the hardworking person who manages to make a success of himself by exploiting the common resources of the society, has to relinquish more than his lower-earning counterparts in the form of tax for the welfare of his fellow beings. The rich elite who fall into the upper wealth brackets are known as high net worth individuals (HNWIs).
Governments entrust people to pay tax on their taxable income voluntarily and honestly. Moreover, governments establish tax systems to levy and collect taxes from the people of the country to make it secure and liveable for all inhabitants. In Pakistan, the constitution obligates all resident Pakistanis to discharge their tax liability in accordance with the Income Tax Ordinance, 2001. Article 165A of the constitution of the Islamic Republic of Pakistan empowers the federal government to levy and collect tax on income.
Article 165A(1) states that “for the removal of doubt, it is hereby declared that Majlis-e-Shoora Parliament has, and shall be deemed always to have had, the power to make a law to provide for the levy and recovery of a tax on the income of a corporation, company or other body or institution established by or under a Federal law or a Provincial law or an existing law or a corporation, company or other body or institution owned or controlled, either directly or indirectly, by the Federal Government or a Provincial Government, regardless of the ultimate destination of such income.”
Nowadays, tax bureaucracies of almost all capitalist economies are devising strategies for effective taxation of high net worth individuals. The Federal Board of Revenue (FBR) – the revenue collecting authority of Pakistan that collects more than 90 percent of the country's total revenue – is also targeting high net worth individuals to increase revenue collection and to decrease the budget deficit.
The International Monetary Fund (IMF) asked economic managers in Pakistan in the “tenth review under the extended arrangement and request for modification of performance criteria” on April 10, 2016 to “accelerate the implementation of risk-based auditing, including the initiation of income tax audits for high net worth individuals.” Therefore, tax collectors working for the FBR are striving hard to impose and collect due taxes from high net worth individuals. However, like all other revenue collecting authorities of the developing world, the FBR is facing many challenges in accomplishing this herculean task.
The Securities and Exchange Commission of Pakistan (SECP) has made the formation of private limited corporations hassle-free to reduce the cost of doing business in Pakistan. Through the implementation of an online registration process, any person who desires to register a company may now complete the process in full without leaving his office. This new online process, while beneficial to entrepreneurs who want to start a business in the shortest possible time, is also open to exploitation by a large number of high net worth individuals who misuse the facility by registering multiple corporate concerns to deceive tax authorities. These companies make frequent related parties transactions that remain difficult for the taxman to trace. High net worth individuals change the capital structure and directors in their various corporate concerns to show them as different from one another. Moreover, these corporate concerns also facilitate their directors in business splitting to avoid taxes.
High net worth individuals running a single business may split it into many small segments on paper to deceive tax authorities. Thereafter, these small segments obtain National Tax Numbers (NTNs) by wrongly declaring themselves as independent businesses. They also file their income returns with different tax offices to split tax jurisdictions.
For example, a real estate tycoon operating different projects under a single brand name makes separate private limited companies for different inseparable projects. Then, these small companies obtain NTNs from different tax offices to understate their true tax liability. The splitting of a business in this way also reduces the probability of the whole business being selected for a tax audit.
Non Profit Organisations (NPOs) and trusts established under the trusts act, 1882 are also widely used by the rich for the purpose of money laundering and evasion of tax. In Pakistan, many NPOs and trusts exist in order that their filthy rich trustees may conceal their assets in the name of the trust. Not all, but a large number of high net worth individuals have formed NPOs and trusts with the aim of disguising their black money. These individuals purchase luxury vehicles and palatial houses in the name of NPOs and trusts and use these assets without fear of tax investigators.
Though clause 36 of Section 2 of the Income Tax Ordinance states that NPOs and trusts claiming tax exemption must obtain prior approval from the Commissioner Inland Revenue, it has been observed that NPOs and trusts operate honestly until approval has been obtained, but change their ways soon after receipt of their tax exemption certificates.
It is always hard to establish the beneficial owner of an asset in the absence of benami transactions law. This encourages high net worth individuals to keep their assets in the name of their relatives and employees to dodge tax collectors. High net worth individuals open bank accounts in the name of their poor employees and keep signed checks of these accounts with them.
Benami bank accounts are opened and closed frequently so they are not noticed by the FBR. The rich even make investments and pay expenses from benami accounts and hold their investments in the name of Benamidars to keep their black money hidden from the tax system.
In all capitalist economies, the capitalists enjoy unwritten powers in all spheres of life. High net worth individuals understand better than others that money makes the mare go. They own enough resources to operate offshore companies in tax havens; they often make their local companies into subsidiaries of their own offshore companies, which cannot easily be traced; and they also exploit tax relief schemes intended to promote business.
For example, in Pakistan, tax exemption is given to the export of software and information technology enabled services. A high net worth individual may operate a dummy IT firm, making exports to their own offshore companies and routing their taxable earnings to their tax exempt IT firm, thereby avoiding taxes. Moreover, high net worth individuals invest in bitcoins and other virtual currencies; make investments in those countries that have no Tax Information Exchange Treaties with Pakistan; choose cash transactions over banking channels; exploit the non-resident status of blood relatives; and claim undue tax benefits by threatening economic managers with capital flight etc; all with the sole aim of paying minimal tax on their taxable income.
Despite all of this, a good IT system, proper resource allocation, and intolerance to corruption and corrupt practices can help tax authorities to effectively deal with these deviant high earners. Recent changes in tax laws and steps taken by the FBR show that the government is committed to finding ways to effectively tax high net worth individuals. The end result will be a reduction in the tax burden on the lower classes of the society.
The writer belongs to the Inland Revenue Service
