Pakistan’s Tax Base: Small, Fragmented, and Stagnant
Pakistan’s tax‑to‑GDP ratio has long remained stuck at roughly 8–10 percent, far below the Asia‑Pacific average (~19.3 percent) and OECD average (~34 percent). In FY 2023–24, the Federal Board of Revenue (FBR) achieved about 9.0 percent tax‑to‑GDP, with a modest upswing from prior years, but still well short of the desired 13 percent-plus benchmark.
Despite collecting nearly PKR 9.3 trillion in FY 2023–24 (a 29.8 percent increase over FY 2022–23), growth in absolute revenue has not translated into a significantly higher share of GDP. Most tax revenue is drawn from direct and indirect taxes on industry and services, whereas agriculture, 24 percent of GDP and employing nearly half the labor force, contributes barely 0.6 percent of revenue. This distortion reflects wide exemptions and ineffective collection mechanisms that disproportionately burden the salaried and documented taxpayers.
Challenges in Broadening the Tax Base
Informal Economy & Non‑filers
Millions of small traders, self‑employed individuals, and rural actors remain outside the formal tax net. Estimates suggest around 900,000 identified non‑filers, who if brought into the system could raise about 0.5 percent of GDP (PKR 500 billion) annually in income tax revenue.
Agricultural Income Tax Weaknesses
Agriculture income tax (AIT), a provincial responsibility, remains highly under‑utilized. Elite landowners pay negligible tax despite huge incomes: in 2022, the richest 1 percent of landowners earning PKR 2,800 billion paid only PKR 2 billion in tax. Provinces lack robust data, and tax regimes rely on presumptive land levies rather than genuine income assessment.
Tax Expenditures, Complexity, and Evasion
An estimated 4–5 percent of GDP is lost annually due to tax exemptions, waivers, and distortions, many politically motivated (e.g. real estate, large firms). Tax policy is fragmented, with different rules for income, sales tax (federal vs provincial), customs, wealth, capital gains, etc. hindering compliance and enabling avoidance.
Weak Tax Administration / Digitization Gaps
Digitization efforts such as the IRIS e‑filing system and POS integration have low coverage: fewer than 35,000 retail outlets integrated out of an estimated 2.2 million. Further, lack of data linkage across NADRA, FBR, land registries, banks, etc., makes risk‑based audits and tax tracking ineffective compared to best practices in India or Vietnam.
Tax Policy Equity: Who Pays and Who Doesn’t?
Pakistan’s tax system is widely seen as regressive and inequitable. Poorer taxpayers often pay a larger proportion of income than richer citizens once indirect taxes are included, due to exemptions and preferential tax treatment for powerful sectors. Direct taxes primarily come from a narrow base: in FY 2018, just 2.74 million individuals filed income tax returns, 1.3 percent of population, with only few earning significant tax revenue.
Meanwhile, corporate and large-scale manufacturing sectors face multiple taxes and end up over‑taxed relative to their GDP share (industry contributes 18 percent of GDP but over 70 percent of federal tax revenue) while services (58 percent of GDP) contribute only 29 percent.
Fiscal Federalism: The NFC Award and Resource Sharing
Origins and Evolution
The National Finance Commission (NFC) Award, established in the constitution, governs the sharing of revenue between federal and provincial governments. Over time, multiple NFC rounds have adjusted sharing formulas based on population, poverty, and other factors.
The 7th NFC Award (2009) shifted the provinces’ share of the divisible pool up dramatically from ~36 percent to 57.5 percent, with Punjab receiving ~51.7 percent, Sindh ~24.6 percent, KP ~14.6 percent, and Balochistan ~9.1 percent based on performance and need‐based indicators.
Inconclusive Recent Awards
The 8th and 9th NFC rounds failed to reach consensus. The 10th NFC, constituted in May 2020, held its inaugural meeting in February 2021, but no final award has been approved or implemented yet, leaving the 7th award de‑facto in force. This prolongs governance friction and uncertainty, with the IMF also raising concerns about provincial underperformance in collecting agriculture income tax, thereby weakening equitable revenue sharing.
Source: The Friday Times
Challenges in Equitable Distribution
Fiscal federalism relies on provinces contributing to the joint pool, especially via AIT, but provinces collect little. This reduces the size of the divisible pool, limiting transfers and undermining equity. Meanwhile, the federal government collects some taxes outside the NFC (e.g. petroleum levy), bypassing provincial entitlement. Weak coordination between federal and provincial tax administrations, and data fragmentation, further impedes fair-sharing and resource mobilization.
Government Reforms & IMF‑Backed Budget Measures
The FY 2025‑26 federal budget, part of a $7 billion IMF programme, aims to raise revenue by over 14–18 percent, cut deficit, and boost growth to 4.2 percent (from ~2.7 percent in FY 2025). Reuters.
Key reform pledges include:
- Taxing agriculture, real estate, and retail sectors,
- Enhancing enforcement and widening the tax net with digital measures, POS‑based retail reporting, and minimum tax regimes,
- Eliminating distortionary exemptions and modernizing tax codes,
- Reforming the Federal Board of Revenue by creating a Tax Policy Office (TPO) with strong analytical capability and data modelling to support sustainable revenue forecasting.
Still, experts remain skeptical, citing deep structural problems and the political difficulty of taxing powerful elites in agriculture and real estate.
Path Forward: Key Recommendations
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Institutionalize NFC Award Negotiations
Renew the NFC process, moving toward a formal 10th NFC Award, with modern formula that rewards provincial tax performance (especially agriculture income tax) and human development indicators, ensuring compliance with Article 160(3A) of the Constitution.
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Strengthen Agriculture Taxation
Modernize land records, digitize AIT assessment, and eliminate exemptions for rich landowners. Provinces must build capacity to collect based on income rather than land area alone.
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Expand Formalization & Digitization
Scale up POS integration and IRIS e‑filing. Build interoperable systems linking NADRA, banks, registries to enable risk‑based audits and lifestyle checks. This unlocks revenue from informal retail and service sectors.
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Rationalize Exemptions & Modernize Policy
Phase out arbitrary tax expenditures, unify sales tax regimes, and reform withholding regimes. Introduce progressive personal and corporate income tax structures to distribute tax burden fairly.
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Strengthen Federal‑Provincial Coordination
Establish better data sharing and joint compliance mechanisms between FBR and provincial revenue bodies. Institutionalize joint audits and shared enforcement protocols.
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Build Public Trust & Tax Morale
Increase transparency in how collected revenues are used—back social spending, health, education, and infrastructure. This builds tax morale and justifies broader enforcement.
Conclusion
Unlocking Pakistan’s tax potential (estimated at ~22–25 percent of GDP) requires bold political will. Taxing the informal sector, reforming agriculture income tax, repairing federal‑provincial fiscal relations, modernizing tax policy, and building digital tax administration. Only then can Pakistan move from narrow, regressive tax structures toward equitable, efficient revenue systems capable of financing inclusive growth and sustainable development.
