Is tax evasion always bad for economic growth?
Tax evasion is a big problem in Pakistan. Owing to the less-than-adequate revenue collection, as evident from the tax-to-gross domestic product (GDP) ratio of only 12.4 per cent, the fiscal deficit was 6.8pc in 2017-18.
In fact, the tax-to-GDP ratio remains within a narrow band of 9.8pc (2012-13) and 12.4pc (2016-17). The ratio of non-tax revenue to GDP has also decreased from 3.5pc in 2012-13 to 3pc in 2016-17. In view of the extremely low and dwindling non-tax revenue, tax revenue remains the leading source of funds for the government to balance the budget.
The tax-to-GDP ratio remains low despite an increase in real GDP growth in recent years mainly because of a wide tax gap, which is as large as 9.8pc of GDP or almost Rs3.2 trillion. In other words, potential tax revenue is much more than the actual tax collection. Given the same level of tax enforcement, the tax gap will be further enlarged in coming years due to a substantial increase in the income tax exemption threshold for individuals, including salaries persons, from Rs400,000 to Rs1.2 million effective from July.
A benign attitude towards tax evasion may be warranted if it results in greater economic growth
With this enhanced threshold, about 521,597 income tax return filers will be out of the tax net in the current tax year. That will also cause a reduction of revenue by Rs35.2 billion. Furthermore, a reduction in corporate income tax rates will further decrease tax collection. The income tax rate for companies, excluding banking and small companies, for tax year 2019 has been reduced to 29pc from 30pc. This will be further reduced by one percentage point for each of the following years until tax year 2023.
In view of the increasing trend in the fiscal deficit, it is inevitable to mobilise additional tax revenue. This is possible by reducing the tax gap, which is the difference between anticipated and actual tax revenue. For bridging the tax gap, strict enforcement through audits and penalties is being recommended.