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- a diagnostic evaluation. M Munir Qureshi Advisor to the Federal Tax Ombudsman, Pakistan.
1. Maladministration in the FBR and its’ field formations has had a close nexus with the type of tax law in force (tax statute) and the tax system in place in a particular time frame. In Pakistan we have had three direct tax statutes since 1947- the Income Tax Act 1922 (Act XI of 1947); the Income Tax Ordinance 1979 and the Income Tax Ordinance 2001. I have been associated with all three during my service career. 2. The Income Tax Act 1922 had universal assessment of all Returns filed as its’ outstanding feature. Limited self assessment was introduced in the later years but there was never any concept of across the board self assessment or even self assessment for a very large segment of the taxpayer population. There was no requirement for mandatory maintenance of records and accounts in the case of Individual taxpayers. Also, there was no system of tax withholding such as in place since the 1990’s. Only ‘Advance Tax’ paid was required to be ‘adjusted’ at the time of ‘assessment.’ Furthermore, a great deal of ‘authority’ was invested in the person of the ‘Income Tax Officer’- the first tier in the direct taxes departmental hierarchy. The assessing officer though powerful
was very poorly paid. Tax rates were very high- especially the highest marginal rate of tax, and the ‘zero bracket’ amount [exemption limit] was low. 3. The ‘tax system’ outlined above, based on the Income Tax act of 1922, adapted as it is, in 1947, had very close interaction between an all powerful assessing authority overseeing a relatively ‘harsh’ tax regime – in terms of liability created, especially in the higher tax brackets- and the tax paying public. Coupled with the fact that there was no rigorous system of accountability in place, this became an ideal environment for the arbitrary exercise of discretionary power by the assessing officer and a rapacious clerical bureaucracy linked with the office of the ITO and much of the maladministration in these years was relatable to this environment. Record keeping was on almost exactly the same lines as in pre-partition British India ie entirely ‘paper driven’ with no access to any technological innovation – other than the now archaic manual typewriter. Corruption was rampant but the taxpayers did not complain a great deal as they were generally ‘comfortable’ with the corrupt environment in which they ‘saved’ a great deal of income from taxation by paying what was generally perceived to be, a limited amount by way of a bribe. Taxpayers did their utmost to keep the ITO and his ‘staff’ – especially the Circle Inspector, the record clerk and the ‘assessment’ clerk happy as they knew they had a great deal of authority and a strict assessment invariably entailed a heavy tax liability because of the harsh tax rates in force – as high as a confiscatory 98% for the highest tax bracket in the early 1970’s. Many ‘Individual’ taxpayers were placed in the ‘no accounts’ category and did not produce any accounts before the assessing officer who
exercised his discretion while making assessment ‘leniently’ or ‘harshly’ depending upon the ‘arrangement’ with the taxpayer. 4. A system of universal assessment of all tax returns is bound also to lead to a great deal of litigation as obviously every assessment cannot possibly be a “compromise” assessment. The first appellate tier in the appellate fora set up for redressal of taxpayer grievance is the departmental forum of APPELLATE COMMISSIONER OF INCOME TAX. The appellate commissioner is a departmental officer and though exercising appellate authority is placed in the administrative control of the FBR (Member, Judicial). This mix up of executive and appellate authority has been the cause of much misgiving among taxpayers as there is a perception – not without justificationthat this first appellate tier was subject to a great deal of maladministration as appellate commissioners were loathe to rule against revenue even in deserving cases and as their periodic performance evaluation was to be made by departmental officers (the executive) the reluctance of the appellate commissioner of income tax to give ‘relief’ where due though not justified by any means is to a certain extent understandable. However more worrisome is the perception that in some cases where ‘appeals’ have been preferred against the orders of the assessing officer before the appellate commissioner ‘undue relief’ is given as a quid pro quo for illegal gratification. Obviously both the failure to give relief where due and the relief given consequent to receipt of illegal payment amounts to maladministration. 5. Maladministration in this ‘first phase’ associated with the Income Tax Act 1922 was thus manifested mainly with an explicit or implicit ‘threat’ to exercise discretionary power
connected with assessment of income and the adjudication of appeals filed against such assessment of income, arbitrarily. 6. The Income Tax Act 1922 was superseded by the Income Tax Act 1979. Tax rates had started coming down and self assessment of income was now in place for a much ‘enlarged’ taxpayer population but was still far from being ‘universal’ in scope especially with regard to corporate taxpayers who were not only denied the benefits of self assessment of income but continued to suffer from a discriminatory and harsh, three tiered tax rate regime. The ‘no account’ category of taxpayer was still there. This phase however saw the beginnings of workplace automation and the Personal Computer and the dot matrix printer enabled information to be stored on computer in digital format for the first time in tax offices. Also, mini main frame computers were put to use, again for the first time, for data entry related mainly to the storage and processing of tax collection challans. 7. One of the most significant changes brought about in this second phase that saw a new tax law in place (the Income Tax Ordinance 1979) was the introduction of tax withholding in many areas yielding ‘income’ to recipients. One ‘fall out’ of this new system of tax withholding was the emergence of ‘refunds’ in a relatively large number of income tax assessments as the quantum of tax withheld exceeded the total income assessed. This introduced a new area of ‘maladministration’ in the Income Tax Deptt. Officers and staff ‘processing’ the refund applications often faced allegations of wrong doing in so far as in many cases refund applications were not disposed of in time and in others were alleged to have been disposed of with alacrity only because extra legal ‘payment’ was involved. In
order to cope with this flood of complaints and allegations an innovation in tax law legislation was introduced, the so called, presumptive tax regime. Payments of tax to construction contractors and commercial importers, to begin with, were deemed to be ‘final discharge of tax liability’ requiring no further assessment of income of this category of recipient. This practically eliminated ‘refunds’ of income for taxpayers placed in the PTR. Gradually the scope of the presumptive tax regime was extended and the quantum of refunds has come down but obviously in a fairly extended system of tax withholding in which such withholding constitutes some 50% of over all tax collections there are bound to be areas in which tax withheld is “adjusted” against tax demand raised at the time of assessment as PTR cannot possibly cover all areas yielding income and refunds will arise in some of these cases where withheld tax is ‘adjusted.’ 8. Litigation though somewhat reduced than in the earlier phase nevertheless continued at a fairly high level and was again the cause of much misgiving both for taxpayers as well as tax administration. 9. This second phase that follows the promulgation of the Income Tax Ordinance of 1979 introduced another feature that has been the cause of a great deal of maladministration. This is the use of political power to settle scores with the ‘opposition.’ Both the major political parties when in ‘power’ lost little time in using their political clout to ensure that those in the ‘opposition’ had to face up to a rigorous tax regime that saddled them with huge liability. In the long run this was a futile exercise as the manner in which the tax demand was contrived was so outlandish that it was knocked down as soon
as the political power changed hands. In the bargain the tax functionaries under whose signatures the actions were taken often became scapegoats, accused of maladministration. 10. Apart from the feature of political excess it had become clear that the existing law was not able to satisfactorily deal with the changed requirements of the information age and maladministration had become increasingly associated with obsolete systems that made it possible for errant individuals to ‘exploit’ the system for their private benefit. 11. Business Process Re-engineering was now required to revamp the outmoded work procedures and authority was required to be dispersed and delegated on the basis of functional specialization to prevent its’ undue concentration in a few hands and in keeping with the modern, business management approach. Furthermore, to cope with the enhanced workload, induction of modern I.T. based data management technology had become imperative. 12. The Third Phase which began with the introduction of yet another tax law, the Income Tax Ordinance of 2001 now sought to re-cast the entire tax system. Starting with universal self assessment for the first time for all categories of taxpayers – ie including corporate taxpayers, authority was now delegated on functional lines “from the top down.” Whereas under the first two tax laws the income tax officer was all powerful, now, it was the Commissioner who was so empowered. However in order to achieve the given objectives he was expected to “delegate” authority down the line but this delegation was to be on purely functional lines. Thus an officer empowered to
conduct Audit would not be issuing refunds. He would not be in-charge of assessment records. And so on. 13. Universal Self Assessment has minimized departmental taxpayer interaction. Only a limited number of cases of taxpayers are picked up for Audit and the selection is required to be on parametric criteria. Coupled with changes in the manner in which authority has been dispersed rather than concentrated in a few hands, it is now much easier to get a grip on maladministration. Both the inefficient and the corrupt are now much more prominent than under the old dispensation. And this is true both on the assessment side (fewer cases picked up for audit) as well as on the appellate side (reduced institution of appeals, less litigation). 14. A much improved taxpayer environment has also followed in the wake of marked reduction in tax rates especially for the corporate sector where the three tier tax rate structure for private, public and banking companies has finally been done away with completely and a single rate prescribed for all corporate entities (35%). Similarly in the case of Individual taxpayers the highest marginal rate of tax is pitched at an all time low (25%). 15. As for political interference and settling scores with political opponents, thankfully, this is no longer the problem that it once was. This is one area in which there has been a clear improvement. 16. This is not to say ofcourse that maladministration has been eliminated because of a more salutary environment for taxpayers. In particular the maladministration that is linked to an adversarial relationship vis a vis the tax paying public
persists. However here too some improvement is certainly in evidence. Corruption is there but the avenues for corruption are much less. 17. A good deal of maladministration continues to be in the area of settlement of refund claims. Delay occurs mainly because of workforce apathy; claims are taken up only when a complaint is filed or someone in authority ‘puts in a word’ – or when a bribe speeds things up. 18. Additionally, delays in settlement of refund claims occur even when a claim is taken up for processing and it involves verifications of payments from withholding agents. In most cases departmental officials are content to send one letter to a withholding agent and then to forget about the matter. There s just no system in place to ensure that there is effective follow up action in case – as is usually the case- the withholding agent does not respond to the query addressed to him. The deptt has been facing this problem with refunds for a long time now and one would expect that an effective system of payment verification would be in place by now but unfortunately that is not so nothwithstanding repeated exhortation from the FTO’s office as well for remedial action in this area. 19. As regards the really large refund claims an important reason for delay in their settlement is that disbursement would affect the “budgetary position” of collections adversely. The deptt says that “budgetary targets” are no longer a criteria when evaluating performance of field officers but the actual position on the ground suggests otherwise.
20. In all advanced tax jurisdictions all refunds are received automatically through the post once they have been claimed
properly. Tax payers willingly deposit ‘extra tax’ over and above what is due from them as an insurance against any possible shortfall in payment in the certain knowledge that the extra payment made will be refunded automatically – within a short time span. 21. The system of income tax withholding introduced in the 1990’s has, as stated supra, a lot to do with the emergence of income tax refunds. This system was put in place when the Income Tax Ordinance 1979 was in place. Today a new tax law is in place (the Ordinance of 2001) but the tax withholding system continues, the old system having been ‘saved’ in the new Income Tax statute. However there is a change in that reliance on withholding taxation is being reduced gradually. However this is not to say that there is an intention to do away with tax withholding completely as this has shown its’ usefulness and some form of income tax withholding is present in most tax jurisdictions. But the dependence on withholding as a source of revenue mobilization will undoubtedly have to be reduced and that would be a step in the right direction. If we retain tax withholding in certain specified areas only then this would definitely have a salutary effect on the emergence of refunds as well. 22. Of great concern also is the maladministration that results from deficient technical expertise. “Harsh assessments” are often a symptom of deficient technical expertise. Baseless additions to declared income cannot stand the test of appeal and only create hardship for the taxpayer as he endeavors to get relief from the regular appellate fora or alternate dispute resolution systems. The generation of bogus tax demand might serve to create an illusory perception of workplace efficiency
but in actual fact such action only alienates taxpayers and reduces voluntary tax compliance. The burgeoning size of the informal sector – variously estimated at anywhere between 50% to 100% of regular GDP- and the abysmal tax to GDP ratio is proof positive that voluntary tax compliance has not really improved over time and the increase in GDP is not being translated into increased revenue. Unless this be remedied urgently, the improvement in revenue mobilization that is the hallmark of an effective system of taxation will continue to remain an elusive ideal. 23. Apart from moral concerns therefore, maladministration causes revenue leakage and loss both through corruption and inefficiency. Maladministration also impacts directly on tax compliance and in the long run improved tax compliance is the only way that tax revenues can be increased significantly. 24. Successful tax jurisdictions throughout the world have dealt with the problem of maladministration because of corruption by addressing the root causes of corruption. Corruption has often been linked to poor compensation, lax accountability and complex and confusing tax laws. The common sense approach would therefore be to deal with these areas directly. As explained above, the latest tax law in force in Pakistan does seek to simplify and rationalize the tax system. An effort has also been made to improve the compensation package for FBR officers and support staff – to the great irritation and annoyance of other service groups. Accountability however remains an area of weakness. The outlandish lifestyles of corrupt officials have failed to invite the kind of swift and severe punitive action that has been very effective in many tax jurisdictions. We need to monitor lifestyle of tax officials much
more closely. There is also a pressing need to nab corrupt officials in the act – red handed. This has been achieved in many tax jurisdictions by the use of “sting” operations and we could emulate them in Pakistan too. 25. While on the subject of corruption we have to keep in mind that corrupt officials often jockey for key positions in the tax establishment and they are able to do so because of their linkages within the system. These key positions are those where there is maximum scope for the arbitrary exercise of discretionary power. Successfully vying for such positions means that in many cases this is a ‘group’ rather an individual effort. This is the basis for a pernicious system of ‘patronage’ that plagues the Pakistan tax system. Dealing with such a ‘wolf pack’ system of corruption is much more complex than getting hold of the corrupt individual making a ‘solo’ effort. 26. As regards enhancing technical, workplace efficiency by detecting tax evasion and bringing the same to tax, a better training regimen would appear to be the obvious solution. Less obvious is a change in the system of recruitment of tax officials. Many countries – Malaysia for example- have stopped recruiting tax personnel through a general, public service exam. Such a system selects “generalists” and many so selected have neither the academic background nor the aptitude for tax work. Training ‘generalists’ and transforming them into ‘specialists’ has been found to be time consuming, difficult and expensive. A more practical approach therefore would be to recruit persons with a sound background in accounting, economics, business management, law and commercial practices. Training them as tax specialists would be much easier and much more effective.
27. The need for technical proficiency in tax functionaries of a high order is heightened by the fact that in Pakistan 75% of income tax revenue emanates from the corporate sector and 100- 125 large corporate entities in the corporate sector make this contribution. Each one of these entities understates due tax liability and each is advised by a battery of extremely proficient tax counsel. Needless to say, an assessing officer with less than adequate proficiency will never be able to make any headway in peeling away the layers of very complex arrangements made to reduce tax liability. 28. Even in areas other than corporate, technical expertise is necessary because tax evasion in Pakistan is endemic and therefore deeply entrenched and many of these non corporate entities are no less powerful in terms of the financial resources that they deploy than their corporate counterparts. Many have established close links with the informal sector, dealing openly in smuggled and counterfeit goods such as business entities in the wholesale and retail trade area. The scale of tax evasion that they practice is evident from the fact that their share in GDP is close to 20% while their share in tax revenue is less than 5%. 29. The technical efficiency of tax functionaries is enhanced manifold by the use of modern, I.T. based, automated systems that can revolutionize record keeping, data storage, retrieval and collation. These are ‘force multipliers’ put to use routinely by many of the most successful tax jurisdictions in the world. In Pakistan efforts are certainly being made to modernize and automate the workplace and several systems are already in place but a great deal more needs to be done especially with regard to ‘integration’ of diverse systems.
30. A spin off of work place automation is that it creates an enabling environment for efficient, error free discharge of duties. Maladministration is bound to be greatly reduced when it becomes very difficult to exercise discretionary power arbitrarily. 31. Institutions like that of the Federal Tax Ombudsman can play a vital role in revamping tax administration by focusing closely on maladministration within the federal tax establishment. Since its’ inception in 2000 the FTO has highlighted hundreds of cases of maladministration. However the response from the FBR has been lukewarm at best. In fact there is a strong tendency to simply deny any wrong doing by tax officials who routinely delay dealing with pending cases of different types. The FBR mindset will have to change if FBR is to evolve into a dynamic organization able to make a quantum jump in revenue generation capability. 32. Improvements have been made in the tax system in Pakistan but we need to aggressively continue to keep on making improvements so that key criteria show that things are indeed better: a) An improved tax to gdp ratio. b) An improved gini index placement for Pakistan to show that the progressive tax rates in place are actually reducing inequalities in income distribution. c) An enlargement of the tax base. Less than 2% Income Tax Return filers when the population is 170 million is a national disgrace. It shows that tax compliance is extremely poor.
d) A drastic reduction in the size of the informal sector. A huge informal sector – such as that in Pakistan – means that huge revenues are being lost and the rule of law of law is being undermined. 33. Reduced maladministration in the tax establishment would mean that more tax officials are working efficiently and honestly and when that becomes a reality most of our problems with revenue mobilization will stand resolved.
(MUHAMMAD MUNIR QURESHI)