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Fiscal devolution

Provincial autonomy and local self-governance without taxation rights and equitable distribution of income and wealth is meaningless

Fiscal devolution

Fiscal devolution involving the transfer of taxing and spending powers to sub-national levels of government is totally non-existent in Pakistan despite clear command contained in Article 140A of the Constitution of Islamic Republic of Pakistan. Pakistan is in dire need of fiscal devolution — presently major fiscal powers are concentrated in the hands of federal government. Even the Constitution denies the provinces right to levy sales tax on goods within their respective territories.

The provinces have also shown apathy to devolve administrative and fiscal powers to local governments. Since all broad-based and buoyant sources of revenue are with the federal government, contribution of provinces in total tax revenues is only six per cent and in overall national revenue base (tax and non-tax revenue) just around eight per cent. This has made them totally dependent on the Centre for transfers from divisible pool.

What makes the situation more disturbing is the fact that right of provinces to levy sales tax on services is encroached by the federal government through levy of presumptive taxes on services under the Income Tax Ordinance, 2001, sales tax on gas, electricity and telephone services and excise duty on a number of other services.

Like other federations — notably India, USA, Canada — in Pakistan the provinces should have the exclusive right to levy indirect taxes on goods and services within their respective physical boundaries. Right to levy any tax on goods should be restored to the provinces as was the case at the time of independence. Despite levying of taxes by the federal government that should have been the provinces’ right, Centre has miserably failed to reduce the burgeoning fiscal deficit that is reaching a horrifying mark of Rs1.8 trillion this year. Had provinces been allowed to generate their own resources, the present chaotic situation could have been averted.

Centre has been claiming that provinces lack infrastructure to efficiently collect sales tax. This has been proved wrong as Sindh and Punjab collected much more sales tax on services than the Federal Board of Revenue (FBR) after establishing their own tax apparatuses in 2011 and 2012 respectively. In 2013, Khyber-Pakhtunkhwa also followed in their footsteps.

We need amendments in Constitution to ensure judicious distribution of taxation rights between the federation and its units. Unless it is done, the provinces will continue to remain hugely dependent upon federal transfers. Transferring of indirect taxes on consumption of goods to the provinces will empower the federating units and raise tax-to-GDP ratio considerably. Sindh Revenue Board (SRB) and Punjab Revenue Authority (PRA) are confirming this point. Collection of SRB in 2011-12 and 2012-13 at Rs25 and Rs33.7 billion respectively is impressive as compared to what Sindh used to get from the FBR — never more than Rs12 billion. PRA in its very first year (2012-13) collected Rs37 billion compared to Rs26 billion that was received from the FBR in 2011-12.

The provincial performance in the case of sales tax on services completely belies the impression that they do not have the capacity to generate taxes. If sales tax on goods is given back to provinces, as was the case under the Government India Act of 1935, they will certainly perform much better than their federal counterpart as evident from the management of sales tax on services.

However, the performance of provinces in collecting agricultural income tax is extremely poor. This is a common issue both at federal and provincial level arising from absence of will to collect income tax from the rich and mighty — the meagre collection of agricultural income tax, less than Rs2.5 billion by all provinces and Centre — should be a serious cause for concern. It is imperative that right to levy tax on income, including agricultural income, should be with the Centre. In return, the Centre should hand over sales tax on goods to the provinces.

For the current fiscal year, the FBR is required to collect Rs2475 billion. The federal government’s total revenues (both tax and non-tax) are estimated at Rs3420 billion, out of which share of provinces is Rs1502 billion. The federal expenditure under debt servicing is Rs1154 billion, defence affairs & services is Rs627 and running of civil government is Rs275 billion. After charge of these four items, there is deficit of Rs138 billion — implying more borrowings!

While the provinces have not been allowed to levy and collect indirect taxes on goods within their geographical boundaries, the federal government has utterly failed to tap the real revenue potential. Failure of the FBR to tap real tax potential adversely affects the provinces. In fiscal year 2012-13 due to massive revenue shortfall of over Rs400 billion on the part of the FBR, all the four provinces could not get the promised amounts from NFC. Any shortfall in the FBR’s revenues or exemptions through statutory regulatory orders (SROs) jeopardises projection of revenue collection and fiscal deficit.

The FBR has persistently been failing to meet budgetary targets for the last many years what to speak of realising the real revenue potential, which is not less than Rs8 trillion. In 2012-13, it even failed to collect Rs2000 billion. This year’s target is less than Rs2500 billion. The failure to tap the real tax potential is the real dilemma of Pakistan. Poor performance of the FBR adversely affects the provinces as they are wholly dependent on what the Centre collects and transfers to them from the divisible pool.

Centre is unwilling to grant the provinces their legitimate taxation rights while it collects too little to meet their overall financial demands. The size of the cake — divisible pool — is so small that nothing substantial can be done to come out of debt enslavement and to spend adequately for the welfare of the people, no matter in which part of the country they live.

Track record of the FBR shows remote possibility of collecting even Rs6 trillion in the next three years to give enough fiscal space both to the Centre and the provinces to come out of the present economic mess, thus providing some relief to the poor as well as trade and industry. Under the given scenario, federation-provinces tax tangle will continue unchecked and further taxation through local governments, when elected, would not serve any useful purpose — there will be no relief to the people, rather tax burden will increase manifold.

Pakistan will remain in debt enslavement and more and more people will be pushed below the poverty line. If we want to come out of this crisis, the parliament will have to reconsider the prevailing social contract between the federation and the provinces. Provincial autonomy and local self-governance without taxation rights and equitable distribution of income and wealth is meaningless. We cannot overcome perpetual economic and political crises unless the provinces are given true autonomy; ownership of all resources; generation of own revenue and exclusive right to utilise it for the welfare of their denizens.

The provincial parliaments in Pakistan should be pressurised by civil society to enact laws for establishment of local governments as ordained under Article 140A of the Constitution on the basis of social policy — they have so far just copied the previous outdated ones with patchwork here and there. The ruling classes do not want to empower people through self-governance. They want to enjoy total control over resources. The local governments will not be meaningful unless entitled, within national economic policy, to have adequate financial resources of their own, of which they may dispose freely within the framework of their powers and for public welfare.

In a nutshell, for achieving the goal of fiscal devolution, local governments’ financial resources must be commensurate with the responsibilities provided for by the constitution and the law to ensure welfare of the people and ensure sustainable growth at grassroots level. Part of the financial resources of local authorities shall derive from local taxes and spent for providing universal entitlements and development. Pakistan must follow the model of welfare states where resources available to local governments are based on a sufficiently diversified and buoyant nature to enable them to keep pace with the real evolution of the cost of carrying out their tasks.

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