Reform General Sales Tax

Original GST implemented under the General Sales Tax Act 1990 was implemented in the VAT
mode. RGST is nothing but the reformation of the old GST.

The main objective of such taxation was to increase the documentation of the economy by
offering incentives to producers and service providers by allowing them to have their paid
refunds.

Who is involved?

The key players behind the proposed RGST are the International Monetary Fund (IMF), the
World Bank, United States Mission to the European Union (USEU) and other assorted donors
who are tired of paying their taxpayers money to cover up for the leaks in our taxation system.
But this is not to say that we do not need reforms in our taxation system. The International
Monetary Organisations might be the catalysts towards the reforms just now, but in all reality,
tax reforms have been long overdue.

The IMF advisors have been pressurising our finance managers to impose this tax on all
transactions of goods and services for quite some time. There was and still is a violent reaction to
the levy of VAT. But it seems that the government has finally bowed down to the IMF demands.

Although the RGST is being imposed under pressure, economic experts say that Pakistan was in
dire need of it. The new system of taxes will not only raise our revenue but also help in
documenting the economic growth.

RGST: Features
Pakistan is in dire need of increasing its tax revenues by implementing a broad-based modern
form of sales tax on goods and services. The Sales Tax Act, 1990, was originally designed on the
basis of accepted value added taxation doctrines but due to political compromises and revenue
exigencies, it increasingly became distorted and narrow-based because of ever-expanding
exemptions, special regimes, multiplicity of rates and several other deviations from international
best concepts and practices. Resultantly, not only the tax base of sales tax and income tax has
been eroded but also lack of documentation of the national economy has proved a big hindrance
in the development of effective tax policy options.

Under the existing constitutional framework, the Federal government can impose taxes on the
sales and purchases of goods imported, exported, produced, manufactured or consumed. The
Federal government has been levying excise duty on services. After passage of the 18th
Constitutional Amendment, taxation of services now wholly falls within the domain of
Provincial governments.

Presently, apart from sales tax on the supply and import of goods, Federal excise duty is
chargeable on communication (including telecom) services, certain categories of advertisements,
insurance services other than life, marine, health and crop, banking services, franchise services
and services provided by property developers/promoters, stockbrokers and port/terminal
operators. Besides, Provincial sales tax is chargeable on services provided by
hotels/clubs/caterers, custom agents, ship chandlers and stevedores, courier services and
advertisements on TV & radio. Except franchise services, Federal excise duty and Provincial
sales tax on all the aforesaid services is being collected under GST mode with backward and
forward cross-crediting (inter-tax adjustment) with Federal sales tax. 

Tax-to-GDP ratio on account of the said sales taxes has stagnated on lower side although
internationally, the standard rate of 17 percent sounds on higher side. The principal reason of
lower tax to GDP ratio of sales taxes has been widespread and unbridled concessions and
waivers on both local supply and import stages including zero-rating on several categories of
domestic supplies, besides non-coverage of the services sector in general.

The consultations with tax professional circles have over the passage of time convinced that
there is an overdue need to thoroughly reform and revamp the whole existing sales tax system to
bring it closer to international standards. The new GST system will change the mindset of the
public at large as well as of the tax machinery and will strengthen government’s efforts to
formally depart from excise-style of sales taxation on goods and services. 

The GST Bill, 2010 will replace the present Sales Tax Act, 1990. While the issues of collection
and administration of sales tax on services are being separately negotiated with the Provinces in
the light of recent NFC award, a provision has been included in the Federal Bill to integrate
Provincial sales tax on services with the Federal sales tax on goods as and when the Provinces
authorize FBR to collect and administer sales tax on services.  

Under the new GST law, exemptions have been kept intact in respect of basic food items
including wheat, rice, pulses, vegetables, fruits, live animals, meat and poultry etc. Edible oil
chargeable to Federal excise duty will remain exempt from GST as before. Exemptions earlier
available for philanthropic, charitable, educational, health or scientific research purposes or
under international commitments/agreements including grants-in-aid will also continue.
Moreover, life saving drugs, books and other printed materials including newspapers and
periodicals has been kept exempt. 

Local consumption of sectors like textile (including carpets), leather, surgical and sports goods
has however, been subjected to tax. Similarly, defence stores, stationary items, dairy products,
pharmaceuticals (other than lifesaving), agricultural inputs, agricultural machinery and
implements, aviation/navigation equipments including ships & aircrafts etc. have also been
proposed to be taxed. Acquisition of capital goods will be facilitated through expeditious
adjustment/refund of input tax involved therein.

GST will be chargeable only on value added component of each stage of the supply chain. Due
to the provision for set-off of the tax paid at earlier stages in the chain, net tax incidence remains
as a single stage levy. Due to automatic input tax adjustment facility, businesses are attracted
towards voluntary registration so that they may avail such adjustments and improve their cash
flows. For this reason, GST always promotes documentation and encourages self-compliance.

Other salient features of the new GST system are as follows:

 GST will replace the existing regimes of sales tax and excises on services.
 GST will apply on both at import and local supply stages.
 Standard rate of 15% has been proposed instead of the present rate of 17% or multiple
other rates going upto 25%.
 There shall be no fixed tax, reduced tax, enhanced tax, retail price-based tax or special
tax scheme under the new GST system. 
 A uniform enhanced annual exemption threshold of Rs.7.5 million (which is presently
Rs. 5 million) shall be applied to keep small businesses including small
traders/retailers/cottage industry out of mandatory tax compliance.
 All exports shall be zero-rated.
 Input tax adjustment of both direct and indirect constituents shall be allowed on “totals”
basis (excluding entertainment and non-business use passenger vehicles).
 Sales tax on goods and services where so authorized by the Provinces shall be mutually
adjustable so that double taxation does not occur.
 No general zero-rating shall be admissible on any commercial form of domestic supply or
on any local consumption.
 The GST system will work purely on “self-assessment and self-policing” basis.
 Cash flow of businesses shall be facilitated through expeditious centralized (Electronic)
refund payment system.
 Tax compliance shall be encouraged through transparent and fair audit system with
increased use of modern information technology.
 Adjudication, appeal and alternative dispute resolution (ADR) systems have been
provided as before.
 FBR will issue simplified rules to regulate the GST procedures and processes.
 The GST Bill 2010 shall take effect from such date as may be notified by the Federal
government.
 The new GST system will be applied in FATA/PATA, the Province of Gilgit-Baltistan
and AJ&K in due course.
The proposed GST system will certainly not generate any sudden increase in revenue yield. It
will however, increase the overall tax-to-GDP ratio from the present below 10% to about 12% in
next 3-5 years. Pakistan has a strong potential to implement such value added tax type sales tax
because of the reason that besides having a properly-reformed collection infrastructure, it has a
long-operating sales tax system and substantial hidden sales taxation on inputs of exempt outputs
(exempt supplies are input taxed) is already being borne in the aggregate national consumption. 

The proposed GST system is expected to operate without any serious inflationary impact. It will
rather promote economic equity and enable the country to direct national resources towards more
productive goals of national development. Reformed GST is also likely to progressively
minimize the grey component of the national economy and facilitate fair income redistribution. It
will eventually cast healthy impact on income tax receipts and enhance fool-proof tax culture in
the country.

RGST VS GST
RGST stands for 'Reformed Goods & Services Tax'. It is an improved version of GST which
stood for 'General Sales Tax'.  

 The primary difference is that whereas GST was applied only to the goods at the final
point of sale, RGST would also be applicable on services.

 The second difference is that RGST waives off exemptions from certain goods which had
hit her to been given in the GST regime. For instance computer hardware industry until 2
years before had been exempt from GST but was included in GST in 2008. Similarly
sports goods, textiles and leather goods etc which were hitherto exempted from GST
would now be subjected to 15% taxation. However, exemptions earlier available for
philanthropic, charitable, educational, health or scientific research purposes or under
international commitments /agreements including grants-in-aid will also continue.

 Thirdly there has been a rationalization of tax rates. Some products were being charged
higher rates (e.g. 19.5% on telecom calls), and some lower than usual (e.g. 8% on sugar),
in GST. Now all would be brought to 15% standard rate. This means while telecom
services would get cheaper, but sugar would be expensive.

RGST: Government Point of View

The agenda of the government behind the implementation of RGST is to generate the funds for
the restoration of flood victims. The standard rate of sales tax under the reformed general sales
tax (RGST) has been proposed as 17 percent to avoid any major revenue shortfall during the
remaining months of current fiscal (2010-11).

However, the decision about the higher rate of sales tax has yet to be taken by the government.
The higher rate of sales tax goes up to 26 percent, but it has yet not been finalised to bring down
these rates from 26 to 17 percent. The FBR will suffer around Rs 30 billion loss following one
percent reduction in sales tax from 17 to 16 percent. In the present circumstances due to
devastating floods, the government is not in a position to reduce sales tax rate from 17 to 15
percent. The accumulative impact of sales tax reduction on revenue collection would be around
Rs 60 billion in case rate would be reduced from 17 to 15 percent.

The Minister of Finance had said that the rate of sales tax under the 'reformed GST' (RGST)
could be higher than 15 percent in case the government needed more revenue for flood victims.
However, the rate of income tax surcharge would be very low as compared to the reported 10
percent. The Minister said that the base 'Reformed GST' rate would remain at 15 percent.

However, due to the flood needs the rate could be kept higher for some time. The government
had announced 15 percent rate of sales tax under the 'reformed GST'. If more revenue is needed
for flood victims, the government would make an upward adjustment in the rate of sales tax.

RGST: Opposition Point of View

Three important government political allies, various institutions and associations opposed the
motions seeking recommendations on the General Sales Tax Bill 2010 and Finance
(Amendment) Bill 2010.

RGST: Public Point of View

The opposition not supporting the new GST because of the fact that it will produce hyper
inflation in the economy, an increased burden of taxes and prices for the people of Pakistan.
Government is trying to impose new taxes on the people when they are already struggling for
survival amidst ever-increasing unemployment. Some of the reasons and drawbacks associated
with RGST are discussed below, due to which its not accepted by majority.

 RGST is directed towards strong section of traders and businessmen. This is because
previous GST was imposed on the final product, thus bypassing various stages through
which it is now supposed to be implemented. These stages include the whole production
and distribution system of the goods on which this tax is to impose. This means that
previously those industries which were out of tax documentation will come under tax net.

Industrialists include their taxes in the product costing. So, no matter how much taxes
they get to pay, they only increase the final costing of the product. Consumers pay the
retail price (that includes the taxes of the industrialists) for the product. So, in the end the
public ends up paying taxes for the product and the industrialist both.

 Karachi Income Tax Bar Association (KITBA), termed the implementation of Reformed
GST at proposed uniform rate of 15 percent as impracticable and unaffordable, saying
that it would convert the poor into barbarians. The proposed uniform rate of 15 percent
was not realistic, which would not only increase the inflation further but also force poor
to become ruthless against rich.

The withdrawal of zero rated exemptions in RGST regime would escalate the cost of
doing business, which would cause to shrink the country's export.

 If the RGST is imposed, the industry will come under great pressure by paying additional
tax approximately Rs 119 billion on this account. It is the need of the hour, the
Government should take stock of this alarming situation and get the industry rid from
heavy financial burden otherwise most of the manufacturing units will have to be closed
down.

 The implementation of RGST and flood surcharge will push up prices of all commodities,
create unemployment and increase crimes rate.

 The leather industry is already paying huge amounts of Rs 5-16 Billion on account of
various taxes to the government and added that if the RGST is imposed, the industry will
 come under great pressure by paying additional tax approximately Rs 119 billion on this
account.

Conclusion

One hand, the fiscal deficits and lack of revenues generation are the biggest problems facing with
Pakistan’s economy. The economy was in need of fund injection. Through International Monetary
Fund loan programme, government of Pakistan was expecting to receive the remaining amount of the
loan from $11.6 billion before the IMF set condition, the release of remaining tranches of the Standby loan
(SBA) will be made with the introduction of the Reformed General Sales Tax (RGST) and revamping of
the power sector by increasing electricity rates. Under such condition, RGST became necessary evil.

The main objective to implement Reform General Sales Tax was to increase the government
revenue by mean of increase the documentation of the economy by offering incentives to
producers and service providers by allowing them to have their paid refunds. Another purpose
behind the implementation of RGST is to generate the funds for the restoration of flood victims

Under RGST, tax is not applicable only to the goods at the final point of sale but also be
applicable on services. Thus, will not only cause inflationary increase on all products but also
lead to price hike in necessity products such as poultry and dairy products, drugs and medicines,
food items etc. The effect of RGST on consumer, business and economy will be as:

Effect on Consumer
Unlike the old GST, the RGST will not be imposed just on the final price of a product; rather, a
certain amount of tax will be added at each stage of production.

Those who will be affected in one way or other from RGST are the suppliers, the manufacturers
and the retailers who will all have to maintain and disclose proper sales and production records
and would thus find tax evasion pretty difficult. Of course, the real victims are the consumers
who would bear the burden of higher costs.

No matter how much taxes they get to pay, they only increase the final costing of the product.
Consumers pay the retail price (that includes the taxes of the industrialists) for the product. So, in
the end the public ends up paying taxes for the product.

Effects on Businesses
Cost of Doing Business: Maintenance and Filing of records by traders, increase in cost due to
inflationary adjustments and increase in Management Expenses of Trade and industry due to
increase in salaries and other related employees cost.
Increase in Mark-up Rate: Due to probable hefty increase in inflation, mark-up is bound to go up,
and due to stuck-up refunds more working capital will be required and consequently more mark-
up charges will occur.

Effects on Economy as a whole

Regressive Tax: It relies on end-user, hence it is regressive in nature, and every one pays at equal
rate, hence, poor to pay more as a percentage of their income then rich.

Cost Push Inflation: VAT will cause cost-push inflation.

Deadweight Loss: Duet to increase in price, government may be better off on short term basis
while it will leave less working capital for traders. The phenomenon is called “Deadweight
Loss”. This causes demand shift and eventually both government and businesses are losers.

Recommendations
 Imposition of RGST is a condition of IMF for releasing finances which have to be
fulfilled. Pakistan government must reduce it expenses instead of running after IMF and
World Bank for financial support.

 Instead of imposing taxes on number of items that we use daily, we should rather tax
unutilized property, uncultivated land and closed factories, capital gain tax, gold
sales/purchase tax (as it is out of reach of a common Pakistani now), sales/purchase of
bonds, shares and large properties, investment tax and such other things.

Here, the money gets jammed and stored up, stuck like a saving and becomes no good for
our economy. The government must keep the money in constant rotation without
burdening the backbone of the country. This is how the tax base should be broaden, by
increasing/implying taxes on things that are luxuries and not by putting a tax tag on bare
necessities.

 The private sector trade did not have a clear understanding of RGST, and even
government has not taken any initiative for creating positive awareness about it to let the
people know about collection mechanism of taxes under RGST.

 The government must motivate people to pay taxes now. By giving recognition and
facilities to the highest tax payers, government can kick start a competition, healthy for
public and the government both. Government can allow such tax payers personal and
 business loans on comfortable terms etc. All of such things where the government will
not have to spend even a penny and will encourage masses for paying their taxes.

 The government has to be extremely vigilant to ensure that producers do not use this as
an excuse for increasing the prices. Also there is need of prudent monetary policy such
that introduction of RGST does no increase the inflationary expectations. It is difficult to
introduce reforms measures when economy is in downturn but have to take painful
decision to regain macro stability which is vital for ensuring private sector revival and
growth in the economy.

 The government instead of safeguarding the interests of traders and exporters is fully
attentive to the directives of the IMF. It should have series of meetings with the trade
bodies across the country to discuss pros and cons of the RGST and its effects on the
general public.