Loopholes in tax laws and ways to improve the tax system

Al Mustashim Nobi Niku: Taxes are an economy’s highest source of internal resources to meet a country’s revenue and development expenditure. Taxes are imposed to achieve certain economic and social objectives such as redistribution of income, elimination of economic inequality, price stability, prevention of public profligacy, and bringing about social cohesion. Over the years, fiscal policy has been used to distribute the tax burden among individuals or organizations involved in taxable activities, encourage private savings, reduce income and wealth inequality, and promote investment in specific priority areas and sectors.

Etymologically, the word ‘tax’ comes from the French word ‘taxe’ or the Latin word ‘taxare’ which means ‘to charge’. It is a non-punitive but compulsory and contingent transfer of assets from the private to the public sector, levied on the basis of predetermined criteria. Economists unanimously maintain the view that a tax is an obligatory contribution made by taxpayers to the government without the expectation of some specific return.

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The revenue structure of Bangladesh was mainly burdened by indirect sources, especially import and excise duties. But as a result of the process of global economic integration, tax revenue through foreign trade has gradually declined. Due to these and other factors (ie, changes in fiscal policy), the income tax ratio has been increasing since the last decade.

It has become preferable for the government to collect more money from income tax which shares almost all the revenue coming through direct sources. Bangladesh, like other developing countries, is facing some serious problems in income tax management. Reforms in the tax system still remain very challenging due to non-compliance and non-implementation of tax regulations. Against this backdrop, it is appropriate to explore the dynamics of income tax and the compliance status of income tax regulations in Bangladesh.

There are several common types of taxes:

• Income Tax – A percentage of the income generated that is remitted to the state government.
• Payroll tax—a percentage withheld from an employee’s pay by an employer who pays the government on the employee’s behalf to fund Medicare and Social Security programs.
• Corporate Tax- A percentage of corporate profits taken as a tax by the government to finance federal programs.
• Sales Tax – Tax levied on certain goods and services; Varies by jurisdiction.
• Property Tax—Based on the value of land and property.
• Tariff – the tax on imported goods; Imposed to strengthen domestic business.

It is well known that very few people pay income tax in Bangladesh. Out of a population of 160 million, the number of registered taxpayers is only 3.0 million (which is less than 2% of the total population) and the actual taxpayers paying income tax is about 02 million or 1.20% of the total population. In 1999 only 0.54% of the population was in the tax net and in 1977 the proportion was 0.25%. In 2002, the number of taxpayers increased to 0.94 percent, and in 2009-10 it increased to 1.87%. This indicates a slow growth in the tax net till 2002 and the growth was slightly faster between 2002 and 2010. As will be discussed below, various factors are responsible for such eccentric and illogical allocation of the income tax burden.

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The existing revenue system in Bangladesh does not provide adequate legal, institutional, and economic incentives for taxpayers to pay tax dues to the government. As a result, the country failed to raise sufficient tax revenue and the tax-GDP ratio never reached its desired level. These are mainly due to a lack of good governance, concentration of wealth to few individuals and corporations, ineffective regulatory enforcement, and weakness of existing legal and regulatory frameworks. The significant shortcomings of the income tax system of Bangladesh can be categorized as follows:

i) Low level of revenue collection,

ii) Regressive nature of corporate tax rate,

iii) Low or narrow tax base,

iv) High levels of tax evasion,

v) limited or inadequate administrative powers,

vi) Resource constraints (human and logistics),

vii) Inadequacy of laws and complicated legal process.

In the subsequent analysis, this paper will try to identify the main shortcomings of income tax administration in order to propose innovative and effective ways (legal, administrative, or fiscal reforms).

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Over the past two decades, many developing countries and transition economies have undergone significant changes in their tax systems, mainly to meet the growing public expenditure financing and investment needs. However, there are various fiscal objectives for tax reform (their application may vary from country to country and the thrust of the reform may vary from time to time) such as:

i) Increase in public revenue,

ii) Increase in private savings and investment,

iii) Effects of wealth transfer from private to public sector,

iv) Achieving a desired state of redistribution of wealth,

v) Lowering the marginal tax rate for a broad-based revenue system,

vi) Maintaining the progression of tax rates and reducing tax exemptions and exemptions without inducing evasion,

vii) Rationalization and simplification of the taxation system (laws and procedures) and thus improving economic efficiency,

viii) Develop a tax system to meet the requirements of a market economy (to ensure international competition).

After exploring the paradigms of tax reform, it appears that the ‘horizontal equity’ approach as opposed to ‘vertical equity’ can be helpful in developing a comprehensive, comprehensive, simple, transparent, and pro-people tax system. The underlying objective of this approach is to increase the revenue productivity of the tax system while reducing relative price distortions and marginal tax rates.

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Achieving an optimal income tax system is a daunting task, although it is important for the expected economic growth of the country. Like many other developing countries, the income tax system in Bangladesh is characterized as poorly administered, poorly enforced, and prone to corruption. Its tax revenue to GDP ratio is still low compared to South Asian countries. It found that the country’s direct taxes were heavily skewed against the wage earners and the corporate sector. Income from small businesses, services, and farms can easily slip through the tax net.

Establishing a digitized information management system, qualitative and quantitative improvement of taxpayer services, carrying out meaningful public relations activities (tax consultation) and establishing a simple and broad based tax system are climacteric for the development of a better tax administration. The findings and recommendations of the article will increase transparency in income tax administration, increase revenue, improve tax compliance and thus accelerate tax to GDP ratio in Bangladesh. I agree with the proposition that any tax reform must go hand in hand with prevention of fiscal obsolescence (reducing tax compliance costs and tax expenditures).

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Governments must be very careful in taxing the people – ‘as bees extract honey from flowers without harming them’. Despite all the flaws in the revenue system, the level of income tax collection in Bangladesh has increased over the years. Several reformative and remedial measures taken by various governments to create a people-friendly tax structure are on the horizon. Hopefully, a new direct tax code can be introduced in the fiscal jurisdiction of Bangladesh to replace the existing flawed ordinance. The proposed code seeks to simplify and streamline tax laws, reduce scope for disputes and litigation, and address all weaknesses in the existing system to develop a rational and equitable tax structure.

Author is an Advocate, Judge Court, Dhaka