The International Monetary Fund (IMF) has asked the Federal Board of Revenue (FBR) to repeal discretionary powers of the Board and the cabinet to award tax incentives and bring changes in tax laws of NGOs and charitable organisations as well as taxed pensioners.
On pensions, the IMF recommends that either pension contributions or benefits be taxed. To this end, the global lender wants to eliminate the benefit of deduction of voluntary payments to workers’ participation funds and eliminate exemption of pensions and tax them by applying one of the alternatives described.
Pakistan and the IMF are all set to kick-start critical deliberations this week starting from today (Monday). Pakistan has made a formal request for a fresh bailout package of $6-$8 billion under the Extended Fund Facility (EFF) with the possibility to be augmented through climate finance.
The IMF’s wish list or menu is on the table for tax incentives. It wants the tax incentives should be limited to cases where their economic benefits, in the form of employment and value addition in the economy, exceed the cost to the budget.
“In the current dire fiscal situation few, if any, existing incentives would meet that test. Any remaining incentives should be well-designed and cost-based rather than profit-based,” the IMF told the FBR.
It added that cost-based incentives, such as accelerated depreciation and special tax deduction or credits relating to investment expenses, are designed to lower the cost of capital at the outset of the investment period, in order to make projects more profitable at the margin and promote new investment that would not otherwise have been made.
In contrast, profit-based incentives, such as tax holidays and preferential tax rates, are less effective in encouraging investments if profitability is low or only substantial in later stages of the project, and often only increase profits of already profitable projects at the cost of foregone government revenue.
Moreover, the effectiveness of profit-based tax incentives is likely to be attenuated with the implementation of the global minimum tax under pillar two.
“Distortions, complexities, and inequities caused by the special tax regimes for the construction sector are particularly harmful and reduce the tax effort of a highly buoyant sector,” the IMF says and added that the special treatment of the construction sector for both sales tax and income tax purposes should therefore be removed.
