ADAM Smith enunciated the principle of equality in taxation but this golden principle is missing in our tax system. Section 114 of the Income Tax Ordinance, 2001 specifies the persons required to file a return. Some of them are: (I) owner of immovable property with a land area of 250 sq yards or more, (ii) owner of a motor vehicle, (iii) subscriber of telephone including mobile phone and, (iv) one who has undertaken foreign travel in the tax year excluding travel for the purpose of the Haj, Umra; (v) a member of a club where the monthly subscription exceeds Rs500/- or the admission fee exceeds Rs5,000.

These persons whose taxable income for the tax year exceeds the maximum amount that is not chargeable to tax are required to file return under the ordinance. It will be observed that a owner of immovable property with a land area of 250 sq yards is required to file a return whereas feudal families owning hundred of farms are not required to file a return. The Chairman, Central Board of Revenue (CBR) Abdullah Yousuf says that agriculture constitutes 25 per cent of the economy but is outside the central tax net; whereas manufacturing is 18 per cent of the economy, it bears the biggest brunt of 60 per cent taxation. He also says that the returns filed last year were 14 million, of these 450,000 that is 40 per cent, were from the salary earners. It indicates that the tax base is very low which is vulnerable and has kept the tax-GDP ratio to the lowest in the region, even less than Sri Lanka with its ratio at 16 per cent.

The proposed exercise to hunt for non-filers through secondary sources would hit tax-payers or the persons of small means, the number of filers may increase but the prospective tax payers would remain outside the tax net.

In case of Sindh, tax on agricultural income shows declining trend at the rate 64 per cent for the last five years:

2000-01 2001-02 2002-03 2003-04 2004-05

444.77 397.02 251.03 201.12 163

(Rs in Million)

The tapedar or patwari of the Board of Revenue who is prone to pressure from the big landlords, works out tax on the income on crop projection and the estimated price thereof. Besides, skipping tax on their incomes, the big farmers do not pay full amount of the services they get. On the contrary, the urban population pay over a half dozen provincial taxes yet they are required to pay income tax as well. . Schedule II which contains a number of exemptions and tax concessions vitiates the principle of equality and creates disparities among the taxpayers. It has undesirably narrowed the tax base. These distortions are required to be removed from the tax statute in accordance with the principle of equality.

The tax base needs to be expanded to bring into tax net all sources of income irrespective of its nature and derived by any person with or without uniform treating all of them at par as a citizen of the country. In order to expand the tax net, some of the clauses from the long list of the said Schedule in respect of exemptions and tax concessions which need review to bring them into tax net are discussed as under.

Mutual Funds: Any income derived by an approved mutual fund of an investment company, ICP, income of a maharaja ,other than trading income, NIT (Unit) is exempt from tax provided they distribute not less than 90 per cent of income of the year among their certificate or units or shareholders. These exemptions were initially inserted in the Income Tax Ordinance, 1979 in the year 1996 and onward as incentives to give boost to the investment activities on the stock exchanges as capital markets which were in recession at that time. These exemptions and concessions are required to be reviewed and bring them at par in taxing their income with corporate sector and the stock market.

Capital gain from the sale of shares of a public company listed on stock exchange modaraba certificates, redeemable capital and PTCL vouchers is exempted until the tax year 2007.

The incentives of tax-free income of capital gain on share offered, has not any limitation as to the quantum of exemption of income from capital gain nor there is any restriction of holding the investment. Neither the distinction is made between retail investors who undertake trading of shares not as their vocation but as a side activity contrary to brokers who are big players and undertake trading in shares as their main business.

The recent crisis in the stock market which is the fourth in five years is a lesson for the country’s finance managers to learn to differentiate between speculative and genuine investment activity. The situation calls for determining as to who deserves the exemption of capital gain income from tax and those such income be brought into tax net.

It is true that capital formation is required for economic development but if the government does not share the cake, it results in misuse of the benefits in the stock market. The government is aware that extensive tax-free income is being generated on trading of shares and hence it proposed in the budget 2004-05 to levy capital value tax on purchase of shares at the rate of 0.1 per cent of the value of shares transacted. But the government later reduced it to a mere 0.01 per cent under the pressure of influential big players of the capital market. It is learnt that the Central Board of Revenue (CBR) is now considering levying central excise duty as service tax on commission earned by stock brokers of the stock exchanges.

The Finance Act 2004-05 has made stock exchanges responsible to collect tax from their members u/s 233A on purchase and sale value of shares traded and the finances amount of carryover through the members at 0.005 and 10 per cent respectively. Members collect such tax from investors who finally suffer the tax burden while members enjoy tax-free commission income.

Moreover members, the brokerage houses and mutual fund operators have obtained certificate of exemption from the commissioners. Thus the present mechanism of withholding tax on stock exchange members and the relevant field players is complicated.

The CBR may probe the matter to ascertain whether it provides vast opportunities of tax evasion which go unchecked but it will not be able to generate the desired tax revenue through these piece- meal fiscal measures. Instead it should withdraw exemption of capital gain income earned by stock brokers and mutual funds, abolishing the tax levied u/s 233A.

The exemption allowed u/c (110) of the Schedule II on capital gain arising out of sale of shares of public company, modaraba certificate and other instrument of redeemable capital and PTCL vouchers by a taxpayer up to tax year ending on June 30, 2007, be reviewed in the light of the scenario emerging at the stock market. Moreover the judicial pronouncements made by the learned courts also provide guidance to the tax authorities.

The exemption on capital gain income should be restricted for the retail investors who undertake sale of shares. The bubble gain recently created in stock business was diverted to real estate which resulted in abnormal rise in real estate prices. There is no capital gain on sale of immovable property. The IT Ordinance also treats the capital gain on immovable property as a distinct class of income u/s 37 and excludes it from the scope of taxable income as a capital gain.

However, two options are available regarding levying of tax on profit derived from sale of immovable property that the provincial legislature may impose tax on capital gain raised out of the sale of immovable property as it was levied by the West Pakistan Legislature but later was withdrawn.

Secondly, guidance may be availed from the decisions of the courts who have laid down principles that where transaction of sale of immovable property is found to be in nature of trade, such transaction may be treated as business income.

Similarly, the long lists of the exemptions allowed in the Second Schedule needs overhauling with objective analysis to broaden the tax base. Cut in tax rates: The other option available to enhance the tax net is to lower the tax rates that would boost economy’s growth.

The Finance Ordinance 2002 has provided for reduction in income tax rates in corporate sector effective from 2003 at the rate of three and two per cent in case of banking and private or public company not quoted on stock exchange, to bring the corporate tax rate at a single rate at 35 per cent by the tax year 2007.

There will be reduction in tax rate by 12 and eight per cent of banking and private or public non-quoted company respectively during five years. This reduction in tax rate for corporate sector will be a welcome step. But this gesture of the government is the outcome of the disclosure made by the Chairman of CBR that out of 45,373 companies registered with the Securities Exchange Commission of Pakistan (SECP) only 12,000 of them filed return. Further that 3500 of them paid some tax is very shocking. It would not yield the desired result unless the corporate sector reciprocate positively.

The SECP which is struggling for tax reduction for corporate sector should extend a helping hands to CBR in devising ways to ensure that any company registered with it should be registered with the tax authority. For instance, it should make it mandatory for companies to quote their as well as of their directors NTN on application for registration and subsequently on each form or return to be filed with it. This measure would go long way to bring the corporate sector into tax net.

Salaried class: On the contrary, the disclosure that out of total return filers of 1.14 million, 690 are salary earners which constituted 40 per cent of them. The individuals and the association of persons which make up bulk of taxpayers are taxed presently at the progressive rates ranging from 7.5 to 35 per cent of their income.

Further there are embargoes in case of salary class of taxpayers that in case if salary is Rs600,000 or more the perquisites allowed to them is restricted to house allowance only and further that u/s 21(k) amount of allowances paid to the employees is restricted to 50 per cent of the salary, the excess is disallowed in computing the income from business. Besides these restrictions for salaried individuals, the section 12(4) disallows deduction for any expenditure incurred by an employee in deriving salary income.

Considering the above legal position of taxation of the salaried class and keeping in view the inflation, their case deserves consideration for reduction in tax rates from 35 maximum to 25 per cent in addition to raise of ceiling of basic exemption of Rs100,000.