11th NFC: Hopes, Challenges & Solutions—II 

Huzaima Bukhari, Dr. Ikramul Haq & Abdul Rauf Shakoori

 

Since 1947, the Centre has been denying the provinces their legitimate right of sales tax on goods, while the Federal Board of Revenue (FBR) collects too little under this head to meet overall needs of the federation and federating units. At the time of independence sales tax on goods was a provincial subject that was on the Provincial Legislative List at Serial No.48 in the Government of India Act, 1935 and was described as “Taxes on the sale of goods and on advertising”.

In the Constitution, 1956, “tax on sales and purchases” was mentioned at Serial No.26 of the Federal Legislative List, thus for the first time it became a federal subject. The position was maintained in 1962 Constitution, which mentioned “tax on sales and purchases” on the Federal Legislative List as clause (j) at Serial No.43 in the Third Schedule.

In 1973 Constitution as originally adopted ‘tax on sales and purchases’ was kept on Federal Legislative List at Serial No.49 of Part I of the Federal Legislative List given in the Fourth Schedule to the Constitution. The item was, however, completely substituted by Constitution Fifth Amendment Act, 1976 with effect from September 13, 1976, to read “Taxes on sales and purchases of goods imported, exported, produced, manufactured or consumed”.

The second half of the amended entry (supra) appears to have been taken from the amendment made in Sales Tax Act, 1951 by Finance Ordinance, 1960. Through that amendment the words “consumption of goods” in the preamble were substituted by “importation, exportation, production, manufacture or consumption” [see details in WAPDA v. Collector of Central Excise and Sales Tax (2002 PTD 2077 and in Pakistan through Chairman FBR and others v Hazrat Hussain and others (2018) 118 Tax 260 (S.C. Pak)].

The size of the cake [Divisible Pool] is so small that it cannot help the country to come out of the debt trap and mobilize sufficient revenue to spend adequately for the welfare of the masses, no matter which part of the country they belong to. Under the given scenario, Pakistan will remain in debt prison, and more and more people will be pushed below the poverty line, especially due to oppressive indirect taxes. If we want to overcome it, the Parliament will have to reconsider the prevailing social contract between federation and the provinces.

Presently, all broad-based and buoyant sources of revenue are with the federal government. The   contribution of Rs. 978.6 billion by all provinces in total tax revenues of the country for fiscal year (FY) 2024-25 at Rs. 12.722 trillion was pathetically low, 0.9 % of GDP. It was merely 5.2% in overall national revenue base (tax and non-tax revenue) of Rs. 17997.45 billion [15.7% GDP] against the total national expenditure of Rs. 24494.3 billion [21.4% of GDP].

The share of provinces in national expenditure was  5.1% of GDP. All provinces together generated non-tax revenues of only Rs. 313.59 billion against the GDP of Rs.114,692 billion.

The federal government in FY 2024-25 spent Rs. 2193 billion on defence and Rs. 8887 billion on debt servicing and after transfer to provinces of Rs. 6854 billion under the 7th National Finance Commission Award (NFC), these two alone were Rs. 1134 billion higher than net revenue collection of the federal government. This is our real and perpetual fiscal dilemma.

Paradigm shift in tax policy and administration

The following measures/steps are necessary to fix the crumbling tax system and create a reliable national socio-economic registry:

• All adult individuals, whatever their level of income, should be facilitated to file simple and easy one-page income tax return made available in both English and Urdu—incentive for filing return should be Rs. 5,000 cash payback in the bank account/mobile wallet of the filer. It would enable the process of creating National Registry about households and their earning levels at national level.
• Individuals earning below Rs. 600,000 should be paid income support (negative tax) till the time the State provides them employment and not keep them beggars for life.
• For individuals, income tax rate exceeding income of Rs. 1.2 million should be 10% with alternate minimum progressive tax 1% to 2.5% of net wealth exceeding Rs. 20 million.
• Corporate income tax rate should be reduced to 20%.
• All citizens should be given a chance to pay any past unpaid liability due to non-reporting or under-reporting by just paying 10% tax latest by June 30, 2026. After the deadline, stringent action including confiscation and imprisonment should be provided.
• For the next three years, under a self-assessment scheme if any taxpayer pays more than 25% tax over the last year’s liability, no audit should be conducted. If definite information for underreporting or non-reporting of any income is received, the retrieval of tax should be made with penalty of 200% and minimum imprisonment of six months.
• Simplified and unified sales tax on goods and services at a low rate of 10% by making recourse to Article 144 of the Constitution. The collection should be through single national agency but provinces would get shares according to the provisions of the Constitution/NFC Award.
• Simplify Customs tariff with ‘One-Chapter One-rate’. Radiographic scanning of all inbound and outbound containers to plug revenue leakages.
• Effective mechanism to counter unfair practices on the part of tax administrators—subject to punitive actions and pecuniary damages after the final fact-finding authority adjudges their actions arbitrary, excessive and beyond their assigned powers. The Federal Tax Ombudsman should be given the statutory power of awarding damages in such instances.
• An efficient tax judiciary to help in removing impediments in the way of collection of genuine tax demands by the State and settling tax dispute within 12 months.
• After merging federal Appellate Tribunal Inland Revenue, Customs Tribunal and all provincial tax tribunals, the new entity should be named National Tax Court (NTC) that should be placed directly under the Supreme Court, as is the case with Federal Service Tribunal. After one intra-court right of appeal with the NTC, only the substantial questions of law should go to the Supreme Court by way of leave to appeal as provided in Article 185(3) or under Article 175F to the Federal Constitution Court, as the case may be. Members for NTC should be recruited in the same manner as judges of High Court. The pay, perquisites and salary structure of NTC members and staff should be at par with that of High Courts.
• Taxpayers’ rights must be safeguarded and strengthened by giving adequate rights under Taxpayers’ Bill of Rights ensuring quality of treatment, guaranteeing privacy and confidentiality of their declarations, providing right to assistance by the State in tax matters, ensuring unfettered right of appeal through an independent tax appellate system and providing facilities for independent review of disputes with tax authorities.
• In Pakistan under the repealed Income Tax Ordinance, 1979 (until assessment year 1995-1996), three specific characteristics were the hallmarks of advance tax, viz:

1. Advance tax was paid by the taxpayer on the basis of last declared/assessed/estimated income for that assessment year;
2. Credit for any advance tax collected for an assessment year was accounted for in that year and not the year of collection; and
3. 6% mark-up on the amount retained as advance tax was paid to the taxpayer at the time of assessment thereby compensating his cost of funds or opportunity cost for the period his money remained with the government.

The above should be revived by suitably amending section 147 of the Income Tax Ordinance, 2001 that will help in ascertaining collection for the current tax year without accumulation of refunds after abolishing all regressive withholding tax provisions.

• Recovery of tax demand should be made only after decision of National Tax Court.

The way forward to sustain fiscal consolidation is that centre and provinces should have shared right to levy sales tax on goods and services, as is the case in many federations like ours, under a Unified Sales Tax on Goods & Services Act. Unified sales tax on goods and services should be collected under federalized National Tax Authority, having representation of both federation and the federating units. It is also imperative that further amendments should be made in the Constitution after debate and consensus to assign right to levy tax on all kinds of income, including agricultural income, to the federal government so that it can tax the rich absentee landowner to improve infrastructure, retire debts and bridge fiscal deficit without sharing proceeds with provinces. This alone can eliminate/reduce fiscal deficit at the federal level and achieve fiscal stabilization in Pakistan.

Punjab receives the largest share under the population-based formula. However, a truly equitable federation requires that deprivation, revenue effort, need, and geographic constraints should be weighted more heavily, that provinces strengthen internal resource mobilization, and that distributive equity be treated as a constitutional obligation, not political charity.

Local governments—constitutionally recognised under Articles 7, 32, and 140A—remain fiscally starved. They lack meaningful taxation powers, cannot impose effective local taxes, depend entirely on provincial transfers, and fail to deliver essential municipal services. No modern federation can function when its grassroots tier remains financially crippled.

As per Article 161 of the Constitution, Balochistan should get full proceeds of federal excise on natural gas and Khyber Pakhtunkhwa on electricity. This can make them rich. Their present share in sales tax from Divisible Pool is as low as 9% and 15% respectively. They have rich natural resources and wealth of oil, gas and electricity but due to low population get a small share for goods they produce. The same is the case for Sindh in respect of gas it produces.

The Centre has been brazenly encroaching upon provincial rights by levying presumptive taxes on services under the Income Tax Ordinance, 2001, sales tax on gas, electricity and telephone services and Federal Excise Duty (FED) on a number of services. The Centre could have averted the present chaotic situation on fiscal front had it allowed provinces to generate their own resources through sales tax on goods.

As Pakistan moves toward debating and finalizing the 11th NFC Award by forming various committees, policymakers must recognize that transfers from Divisible Pool to provinces alone cannot strengthen, or even sustain in long-run fiscal federalism. The provinces must enhance their revenue mobilization, rationalize expenditures, and build credible fiscal discipline. At the same time, the federation must broaden the tax base to reduce enormous tax rate, end reliance on indirect taxation, and address structural debt vulnerabilities. Only then can Pakistan’s fiscal federalism evolve into a system that is equitable, sustainable, and true to constitutional federalism for national prosperity for all citizens through inclusive development.

Only an equitable, transparent, and reform-oriented NFC Award can reinforce provincial autonomy while safeguarding national stability. The numbers presented above—based on the government’s own fiscal data—illustrate both the scale of the challenge and the urgency of genuine reform. The 11th NFC must become a turning point, not another missed opportunity.

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Huzaima Bukhari & Dr. Ikramul Haq, lawyers and partners of Huzaima & Ikram, are Adjunct Faculty at Lahore University of Management Sciences (LUMS), members Advisory Board and Visiting Senior Fellows of Pakistan Institute of Development Economics (PIDE). Abdul Rauf Shakoori is a corporate lawyer. They have coauthored a book, Pakistan Tackling FATF: Challenges and Solutions