ISLAMABAD: The International Monetary Fund has asked Pakistan to introduce a full-fledged value-added tax (VAT), saying it “remains the first best option to raise tax revenue”.

“Pakistan’s tax-to-GDP (gross domestic product) ratio for 2012-13 was 9.7 per cent -- significantly less than 11.4pc of GDP in 2002-03. So fiscal consolidation will have to rely heavily on tax policy changes to broadening of tax base,” the IMF said in its report on policy discussions with Pakistan’s economic team.

The introduction of an integrated VAT in 2009-10 was resisted by major political parties, including the PML-N and the PPP, because of opposition from industrial and commercial lobbies. It led to half-way termination of $11.3 billion standby arrangement by the IMF.

Given the highly politicised nomenclature of VAT, the government, however, gave a commitment to the lending agency that it would take measures through tax policy decisions and move the existing general sales tax (GST) regime to a full-fledged integrated “VAT-style” modern indirect tax system.

“These steps will facilitate gradually moving the GST to a full-fledged integrated modern indirect tax system with a few exemptions and to an integrated income tax by 2016-17,” Finance Minister Ishaq Dar committed to the IMF in writing.

The IMF agreed that if VAT “remains politically unfeasible, other permanent tax policy measures could be considered to come closer to it by wholesale reductions in exemptions and concessions, by fully incorporating services into the tax net”.

The agreement, however, has a caveat. The two sides agreed that if policy adjustments failed to achieve quantitative benchmarks, including those relating to reducing fiscal deficit to 5.8pc of GDP, the government would advance policy measures like tax expansion, subsidy reductions and expenditure controls in the current fiscal year which were originally planned for the next two fiscal years. This includes a further increase in energy prices, over and above those envisaged for the current year, and more withdrawals of tax exemptions.

The government committed that besides these initiatives to widen the tax base, it would finalise a comprehensive plan to separate the existing statutory regulatory orders either by eliminating those granting exemptions or concessions through SROs by the end of this year.

“We will introduce the remaining (measures) in the 2014-15 finance bill,” the government said, adding that it had already stopped issuing any new tax concessions or exemptions, including customs tariff through SRO, except those protected by an act of parliament, and would also approve by the end of December 2015 legislation to permanently prohibit this practice.

The IMF insisted that continuation of the practice would lead to further degradation of the tax net. It advised that income tax should integrate income from all sources by eliminating concessions and exceptions. The IMF also advised that withholding tax be adjusted with the minimum tax on turnover remaining as a control for deductions.

On the income tax side, the authorities will focus on 300,000 potential taxpayers through the national data warehouse. In addition to the 100,000 notifications for late return filing under section 114 envisaged for the fiscal year 2013-14, the authorities will pursue additional 100,000 in each of the following two years.

If taxpayers fail to respond satisfactorily, these notifications will be followed by provisional assessment of income tax under section 122 which will become final if the taxpayers again fail to respond satisfactorily.