THE adviser for finance announced a few weeks ago that the National Finance Commission Award will be made well before the budget. However, the budget making exercise at the federal as well as provincial levels enters final stages in April / May each year. With the exact size of availability of resources mired in uncertainty, budget-making by provinces is simply elusive in this situation.
This underscores the necessity for making an award without further delay. However, there is an equal exigency for reviewing our fiscal policy and vesting the provinces with power to impose and collect taxes from the high yielding revenue bases.
One of such potential sources for raising revenue by the provinces was capital gain tax on immoveable property (land and houses). The World Bank Report titled “Pakistan reforming provincial finances in the context of devolution” laments: “Moreover, some of the provinces’ more buoyant revenue sources were abolished on policy grounds (capital gains tax) or for religious reasons (excise duty on liquor and opium”.
And the report goes on to comment that, “as a result of this highly skewed taxation system and related slow growth of the provinces’ own revenues, public finances in Pakistan are characterized by persistently large vertical fiscal imbalance between the federal and provincial governments”.
The issue is that the Constitution empowers the provinces to impose and collect capital gains tax on immoveable property but the federal government under its fiscal reform policy put an embargo on the provinces in early 1990s for levying the capital gains tax on immoveable property.
Reasons advanced for abolition of this source are: (a) it is difficult to administer (b) breeds corruption and, (c) being a direct tax on unearned income its imposition will reduce capital formation and investment in the housing sector which is one of the five priority sectors in our medium-term development framework.
The argument of difficulty in administration can hardly be upheld in view of the fact that difficulty in administration of a tax does not warrant scrapping of a potential source of revenue but underlines the necessity for reforming tax administration.
Similarly, the reason of corruption in our tax administration cannot be made a ground for discarding a high yielding revenue source which also redistributes income in favour of the poor provided the revenues raised are spent by the government on the needy and indigent population. The third reason that its imposition will drive away investors from housing sector is also untenable.
The withdrawal of capital gains tax on the ground that it will spur fixed investment is not supported by the data of gross fixed capital formation in the housing sector. This is set out in the table below:
Capital gain tax is an essential element in taxation policy of developed countries – be it France, Canada or the USA. However, recipe of fiscal reforms proposed and preached for developing world emphasizes tapering off direct taxation including capital gains tax.
In France, when selling a property one has to pay different capital gains tax, calculated on the basis of difference between the sale price and the revalue purchases price. This tax is also payable by non-residents on the property acquired.
Similarly, tax is leviable in Canada on capital property defined as any depreciable property of the tax payer as well as property (other than depreciable property) any gain or loss from the disposition of which would , if property were disposed of be a capital gain or a capital loss, as the case may be, of the tax payer. In the USA, the capital gains tax on immoveable property is leviable both at federal and state levels.
The capital gains tax on immoveable property was introduced as far back as in 1963 with the promulgation of West Pakistan Capital Gains Tax Act following passage of West Pakistan Finance Bill 1963 by the provincial Assembly of West Pakistan on June 29, 1963. The Act, inter alia, provided that, “ capital gains tax shall be levied on any profits or gains arising from the sale, exchange or transfer of immoveable property in the urban areas, effected after June 30,1963”.
Following break up of One Unit, the Act was adopted by the provinces with some modifications, carried out by the respective provinces. The Act and the West Pakistan Capital Gains Tax Rules, 1964 also modified by the respective provinces continue to be on statute books.
The funds made available to the sector under a “liberalized financial package” by the government during past few years have enabled the property dealers to push the prices of land to astronomical heights rather than boosting housing for shelter less population.
In the situation prevalent to-day, when immoveable property prices have skyrocketed to the benefit of a small section of property owners and dealers, the only way the trend can be arrested is by re-imposition of capital gains tax through Finance Bills for the year 2005-06 to be moved in the respective provincial assemblies in June,2005.
This measure will entail a number of benefits. Firstly, imposition of the tax will provide adequate revenues to the resource starved provincial governments.
Secondly, it will discourage unabated speculation in the land and property and make them affordable to common man in the short run.
Thirdly, it will re-distribute unearned income from richer class to poor segments through public sector expenditure on the welfare of 34 per cent of population which is living below poverty line. It is high time that there should be a rethinking on the neo- classical model of economy that we have chosen for us.
This model has simply facilitated transfer of income and wealth of the state to our rich population thereby, bringing a larger number of population in poverty trap.
Should we not reverse this trend by starting a new generation of reforms by allowing provinces the autonomy of taxing unearned income, accruing in the property sector and help re-distribute income which in every state is an essential element in the economic policy after macro-economic stabilization?
