A Broken Taxation System

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However, taxing wealth is no simple task. So… how do we go about it?

2024-11-13T06:40:59+05:00 Shajee-Suhail-Farooqui

Taxing income progressively implies taxing efficiency. Taxing income regressively implies taxing poverty. Therefore, taxing income creates a double dilemma; instead, a wealth tax, as is being tabled for the world’s dollar billionaires to bridge the growing wealth inequality, needs to have a blanket imposition to create a fair, equitable, and sustainable fiscal policy.

As is the case for corporations, creating ‘slabs’ by imposing a super tax on certain wealthy ones as an equaliser creates anomalies within the taxation system. Certain businesses, like IT and IT-enabled services, are asset-light yet sustain a bottom line comparable to well-established, asset-intensive large-scale manufacturing industries such as cement, steel, and pharmaceuticals. This performance is owed to the investment that workers have made in themselves by acquiring expensive education and enduring extensive training programmes. However, a super tax that bifurcates companies based on a minimum income threshold has a major loophole: it disregards efficiency and fails to consider efficiency-linked financial ratios such as the asset turnover ratio.

When taxing income and consumer spending, the incidence of taxation falls on transactions—that is, the flow of the economy—and not the unproductive stock (inventories, receivables, circular debts, empty barren land, cash and cash equivalents, securities). This creates hindrances in economic flow, disrupting potential transactions, slowing the circulation of money, and gradually dragging the economy toward stagnation. Here we witness a subtle clash between two disciplines: accounting and economics. While the latter aims to satisfy wants, the former is focused on assessing an entity’s viability as a going concern. Modern economics suggests an eventual trend toward zero economic profit as industries mature, whereas accounting emphasises debt control.

The other three accounting heads—assets, liabilities, and equity—essentially the balance sheet side of the equation, remain insulated from the incidence of taxation. This is the root cause of the problem, as the system fosters inefficiency, encourages unbridled wealth accumulation, widens the gap between the wealthy and the marginalised, and penalises work ethic.

The impact of indirect taxation, such as the recent hike in Federal Excise Duty on cement from PKR 2 per kg to PKR 4 per kg, has led to a corresponding price increase, with the cost conveniently passed onto the end consumer. This affects the economy, as demand for cement has tapered, with domestic offtakes down 20% year-on-year in Q1 FY25, according to brokerage house Topline Securities Limited. This decline will ripple through construction-allied industries—a labour-intensive segment crucial for a country like Pakistan, with its youth bulge increasingly disillusioned by a lack of opportunities in a nation of 240 million. The same applies to POL products, where the cumulative impact of sales tax, duties, and petroleum development levies accounts for at least one-third of their retail prices. Once again, the burden falls on the end consumer. Such indirect taxes place an equal burden on all societal segments, overlooking the vast disparity in spending power between the wealthy and the impoverished. The disproportionate impact of these taxes leads to the conclusion that they are regressive by nature.

However, taxing wealth is no simple task. So… how do we go about it? In the first stage, this wealth tax does not need to be imposed on individuals. We can target the balance sheets of corporations by imposing a flat 2.5% tax on non-productive corporate assets, which means all items on the assets side of the balance sheet, barring property, plant, and equipment. To mitigate corporate resistance, we could simultaneously abolish the tax on corporate profits. This simple accounting paradigm shift could transform our PKR 48.339 trillion domestic debt (as of August 2024) and our PKR 2,897 billion circular debt, which includes PKR 814 billion in interest (according to the energy ministry), into a revenue source. These would become taxable at the rate of 2.5%, which either exceeds or matches the banking spreads typically charged over benchmark rates in Government securities auctions. But… who will dare to bell the cat!

Shajee-Suhail-Farooqui

However, taxing wealth is no simple task. So… how do we go about it?

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