Sep 282009


The much-feared United States Internal Revenue Service (IRS) is credited with fearlessly placing not only influential and wealthy tax evaders on the mat, but also dangerous criminals, inclusive of those engaged in the drug trade. The IRS is able to do so effectively because IRS auditors/officials have no fear of any reprisals, including job loss or transfer of the investigator to the boondocks.

However, to guarantee that the IRS officers are not tempted by those they investigate, their pay scales are competitive. In short, the IRS epitomises exactly how to run a tax department. That our own Federal Bureau of Revenue (FBR) does not even come close to performing its due role is fairly well acknowledged.

The FBR would no doubt aver that the IRS has to contend against a more honest tax payer who, however powerful in his own field of activity, is nonetheless powerless in front of a tax investigator, unlike in Pakistan. This contention has some validity considering Pakistan’s large parallel black economy, estimated at almost 50 percent of the legal economy, as well as the openly known fact that the country’s political leadership banks huge amounts of assets abroad, which are in offshore accounts and therefore not accessible to a Pakistani tax investigator until and unless the evader himself declares these assets. However, it must be acknowledged that tax evasion is not that uncommon in the West as well.

Offshore accounts that ensure that cash secreted away is out of the reach of national financial regulators have been the bane of many Western tax authorities. The Tax Justice Network, an independent London-based group, has estimated the income parked at tax havens at $11.5 trillion. And the U.S. Democratic Senator Carl Levin, who has introduced an anti-tax-haven bill in Congress, estimates that the U.S. government loses around $100 billion in revenue every year because of offshore tax dodges.

The International Monetary Fund (IMF) estimates that around $7 trillion, in financial assets of various kinds, are held offshore. Setting up a dummy company is easy and perfectly legitimate even in the US state of Delaware, where a limited-liability company can be established within 24 hours for a fee with anonymity assured. Given these ‘outs’ for the tax evader, Western tax authorities, like the FBR have periodically proposed an amnesty scheme: if the tax evader pays back all taxes due, as well as a penalty, then he/she will not have to undergo jail time.

Normally, in the United States around 100 people annually would take advantage of the amnesty scheme. The reason for this small number is: the penalty is prohibitive especially for those who have hidden accounts for a long period. This year, the number taking advantage of the amnesty scheme has escalated to 3000. The why is easy to understand: the IRS has revised the penalty payable drastically, and offered no jail time for the evader. Criminals are not eligible, but if the money was earned legally, tax evaders can avoid criminal prosecution.

In the past, several governments have been able to get some money back. According to Time magazine “UBS, Switzerland’s biggest bank, last month paid $780 million in fines and handed over the names of about 300 U.S. clients to American authorities after admitting that the Swiss bank helped customers evade tax. And data bought by the German authorities from a whistle-blower in Liechtenstein last year revealed hundreds of cases of suspected tax evasion. One of those caught out: former Deutsche Post boss Klaus Zumwinkel, who was convicted of tax evasion in January and received a suspended sentence and a $1.3 million fine.

However, global recession which accounts for huge bailouts by Western governments have shrunk total resources available for investments in critical sectors like schools and roads and housing and electricity. This shrinkage of resources led to the realisation by the G-20 countries that concerted action must be taken to end tax havens around the world. In this context, the recent decisions taken at an international level need to be highlighted.

Only very recently Switzerland was forced to relax its banking-secrecy laws. Brown, the British Prime Minister, euphoric over this development stated publicly: “That is a major step forward. This (is) the beginning of the end of tax havens.” Andorra, Austria, Liechtenstein and Luxembourg, considered tax havens by not only those who amassed wealth through legitimate means, but also those who accumulated wealth illegitimately including corruption, have promised to meet international standards of co-operation.

It is heartening that Singapore and Hong Kong have promised the same. While granted that there are still some countries that continue to offer benefits associated with ‘secrecy’ and some loopholes remain available to the unscrupulous, yet these are steps in the right direction which are being seized by tax authorities of not only the western world but also those of the developing countries struggling under resource constraints.

So what are the facts in Pakistan? The government offers periodic amnesty to those who want to whiten money. This offer is for both legal and illegal income earned. Thus corruption as well as drug money has also been eligible for whitening. This needs to end. Amnesty must not be extended to those who had been engaged in a blatantly illegal activity.

True that Rehman Malik began a crusade against ending the hundi system, however studies have shown that hundi will continue as long as there is a demand for it. And the demand is based on lack of trust with the official banking system, the delay in money transfer through legal channels and last but not least, the lower exchange rate given by banks relative to the open market. Unless the government can deal with these concerns, hundi will continue. Since the Interior Ministry is not involved with the economic aspects of the demand for hundi, Malik should instead focus his attention on assisting the FBR in cases where assets are banked abroad, for which no tax has been paid to the FBR.

How will he know who has how much abroad? He must investigate and request foreign banks for information. In Switzerland, tax fraud is considered a crime, but tax evasion is not. That means that bank secrecy can be waived in suspected cases of fraud but not in cases of suspected evasion. Thus Mr Malik must prepare cases of tax fraud.

To conclude, it is time that our amnesty programme is patterned on the US model. To implement it effectively and efficiently requires establishing a dedicated investigative branch in the FBR as well as the FIA that is capable of raising the tax to the GDP ratio to 10 percent. But as with other good policies adopted but not implemented in this country, it is doubtful if the country’s political leadership has the necessary will to pay back taxes it owes to the FBR.

Copyright Business Recorder, 2009

 Posted by at 7:19 pm

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