World Bank Sees Limited Progress On Tax Reform In Pakistan

by Mary Swire, Tax-News.com, Hong Kong

03 November 2009

The World Bank Economic Policy Team's latest economic report on Pakistan shows that the government’s fiscal targets will be difficult to meet, particularly as there has been limited progress on necessary tax reforms, such as the introduction of value-added tax (VAT).

Firstly, the World Bank noted that fiscal problems continued during 2008/09 with the fiscal deficit amounting to 5.2% of gross domestic product (GDP). Overall tax revenues fell substantially short of the target - by 1% of GDP – primarily due to a drop in collections in the economic slowdown.

Federal Board of Revenue (FBR) tax revenues declined from 9.8% to 8.8% of GDP, the World Bank document further revealed.

In the absence of additional tax policy measures introduced during the year, the report said that the government had compensated for the rising shortfall in FBR revenues by increasing the petroleum development levy during the second half of the fiscal year instead of passing on the international price decreases to consumers. However, even that was not enough to close the revenue gap.

It went on to suggest that based on the evidence of the first two months of 2009/10, the World Bank expects that fiscal instability will continue, and the first quarter fiscal deficit target is likely to be missed. Tax revenues have continued to underperform, according to the report, with FBR tax collection increasing by only 3.6% of GDP, compared to the 19.5% required to reach the annual target.

While direct and sales taxes grew by 2.9% and 9.7% respectively in those two months, excise and custom duties collection contracted by 4.3% and 14% respectively, compared to the corresponding period last year.

In addition, the report stated that provincial governments have continued spending at high levels, and that power and agricultural subsidies have remained largely unaddressed by the federal government.

Finally, the federal scheme of providing loans for small business start-ups is also likely to have a significant impact on the country's fiscal situation.

In conclusion, the report suggested that failure to raise domestic revenue going forward would further heighten Pakistan’s vulnerability to shocks, and jeopardize development efforts by limiting resources available for planned investments.

While the government’s macroeconomic framework targets a decline in the fiscal deficit from 4.9% of GDP in 2009/10 to 3% of GDP in 2012/13, the report noted that the cornerstone of that outlook is a significant increase in tax revenues, which are projected by the goverment to rise to 12.7% of GDP by 2012/13.

To meet these ambitious revenue targets, the authorities have committed to implement comprehensive tax policy and administration reforms. However, the report considered that progress with revenue reforms in the past months had been weak.

In particular, as part of the 2009/10 budget, government was to adopt significant legal changes to the current general sales tax, moving it closer to a VAT by minimizing exemptions and zero-ratings over services and a large percentage of goods - thereby broadening the tax base and revenues.

VAT is planned to be rolled-out by July 2010, but the report argued that significant steps towards its implementation have yet to be taken.

Further, the report noticed that the expected restructuring of the FBR, which was launched at the beginning of 2009, was reversed in May owing to a court case opposing the reform. After a delay, the restructuring process was re-launched in July, however.

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