Dr. Ikramul Haq
There is a general consensus that Pakistan needs full throttled reforms in all areas of governance and institutions if it has to achieve high, equitable and sustainable growth of seven percent and above assuring prosperity for all citizens—PIDE Reform Agenda for Accelerated and Sustained Growth (Pakistan Institute of Development Economics (PIDE), April 2021). This level of growth is, however, not possible unless fundamental reforms are made in the existing tax structure as highlighted in Towards Broad, Flat, Low-rate, and Predictable Taxes (PRIME Institute, Islamabad, Third Edition, November 2024).
There are a number of studies and models presented by local economists, authors and researchers for tax reforms facilitating higher growth, but successive governments considered none. Reliance on International Monetary Fund (IMF) and prescriptions by World Bank and others for reforming the outdated and oppressive tax system have failed to yield desired results as highlighted in Tax Reforms in Pakistan: Historic & Critical View (PIDE, 2020).
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.
While the federal government is accumulating debts, the provinces are heavily dependent on transfer from NFC Award. What makes the situation more disturbing is the fact that right of provinces to levy sales tax on services is encroached by federal government through levy of presumptive/minimum taxes on services under the Income Tax Ordinance, 2001, sales tax on gas, electricity and telephone services and excise duty on a number of services. In 2025, the provinces encroached upon the right of Parliament by imposing sales tax on rent!
Before independence, the provinces had the exclusive right to levy sales tax on goods and services within their respective physical boundaries. The subject of sales tax was on the Provincial Legislative List at Serial No.48 in the Government of India Act, 1935 and was described as “Taxes on 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, and therefore, for the first time it became a federal subject.
The position was maintained in 1962 Constitution, which mentioned “tax on sales and purchases” in 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. The item was, however, completely substituted by Constitutional Fifth Amendment Act, 1976 with effect from September 13, 1976 that read, “Taxes on sales and purchases of goods imported, exported, produced, manufactured or consumed”.
The second half of the amended entry 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 also in Pakistan through Chairman FBR and others v Hazrat Hussain and others (2018) 118 Tax 260 (S.C. Pak)].
The best solution to revamp the prevalent fragmented sales tax structure is to move towards unified sales tax on goods and services. The total collection by imposing unified sales tax on goods and services can reach around Rs. 9000 billion as against collection of Rs. 3901 billion by the Federal Board of Revenue (FBR) in FY 2024-25 through sales tax on goods and provinces cumulatively of Rs. 612 billion through sales tax on services. The additional revenue collection of little over Rs. 5000 billion will not only give fiscal space to the federal government to narrow down fiscal deficit but would also enhance distribution amount to the provinces. Distribution would be strictly as per Constitution of the Islamic Republic of Pakistan [“the Constitution”].
The retail sector alone has potential of nearly US$ 15 billion, if not more. In Retail Sector $15 billion Tax Potential [Friday Times, May 25, 2025], it is shown how low-rate retail sales tax on retailers with fool-proof point-of-sale (POS) connectivity can bring prices down, yield higher revenues. It has potential to accelerate growth if fundamental structural reforms are made and taxation rights between the federation and its units are reconsidered to make Pakistan a self-reliant entity.
The potential of retail sector is yet not fully tapped by FBR through POS connectivity as target to register all the outlets is still a far cry as admitted at page 19 of its Annual Performance Report 2023-24. The idea of harnessing Retail Sector $15 billion Tax Potential, as a pilot project, was elaborated in detail along with other tax policy and administrative reforms in Towards Broad, Flat, Low-rate, and Predictable Taxes (PRIME Institute, Islamabad, Third Edition, November 2024) but none paid heed. Thus, revenue generation at federal level remains short of annual current expenditure what to speak of meeting development outlays. Provinces are also not meeting their constitutional obligations towards the citizens even after getting larger shares under the NFC Award—courtesy improvement in the collection of FBR.
Pakistan has been facing grim challenges on the fiscal front as Summary of Consolidated Federal and Provincial Fiscal Operations, 2024-25 (Provisional), available on the website of Ministry of Finance (MoF), for July 2024 to June 2025, shows that even part of defence spending is now funded by borrowing. It is more than a fiscal fiasco—a serious cause for concern threatening economic viability and national security of the country.
The negative impact of mindless and costly borrowing, both external and internal, resulted in debt servicing of Rs. 8887 billion with fiscal deficit reaching Rs 6.16 trillion. In the wake of devastating floods of 2025, it is bound to increase.
It is worth mentioning that planning, in the period following Constitution (Eighteenth Amendment) Act, 2010 [commonly called the 18th Amendment], received assent of President on April 20, 2010, should have been federalised rather than centralised. But even after a lapse of 15 years, nobody has raised this issue, what to speak of implementing it in letter and spirit.
The 18th Amendment redefined National Economic Council (NEC) on the pattern of Council of Economic Interests (CCI). NEC forms part of Chapter 3 of the Constitution entitled ‘Special Provisions’. In view of Article 167(4), the role of NEC has become very important though it has yet not been realized by the centre and provinces.
Debts needed by provinces and their servicing plus repayment should be borne by provinces to relieve the federal government of the enormous amount that takes away of tax revenues and non-tax revenues. Article 167 of the Constitution after addition of clause (4) by the 18th Amendment reads as under:
Borrowing by Provincial Government
- (1) Subject to the provisions of this Article, the executive authority of a Province extends to borrowing upon the security of the Provincial Consolidated Fund within such limits, if any, as may from time to time be fixed by Act of the Provincial Assembly, and to the giving of guarantees within such limits, if any, as may be so fixed.
(2) The Federal Government may, subject to such conditions, if any, as it may think fit to impose, make loans to, or so long as any limits fixed under Article 166 are not exceeded give guarantees in respect of loans raised by, any Province, and any sums required for the purpose of making loans to a Province shall be charged upon the Federal Consolidated Fund.
(3) A Province may not, without the consent of the Federal Government, raise any loan if there is still outstanding any part of a loan made to the Province by the Federal Government, or in respect of which guarantee has been given by the Federal Government; and consent under this clause may be granted subject to such conditions, if any, as the Federal Government may think fit to impose.
(4) A Province may raise domestic or international loan, or give guarantees on the security of the Provincial Consolidated Fund within such limits and subject to such conditions as may be specified by the National Economic Council.
[bold and underlined by us for emphasis]
The 18th Amendment gives provinces equal rights over their natural resources. Article 172(3) confers 50% ownership of hydrocarbon petroleum resources to the provinces. The subject was earlier held by the federal government. There still exist legal and administrative bottlenecks for implementing this provision.
Presently, many economists and politicians are arguing that 7th NFC Award and 18th Amendment are harming fiscal stability of federation. Their argument needs consideration. The issue of NFC Award vis-à-vis provisions of 18th Amendment must be examined holistically.
The performance of provinces in collecting taxes from the rich and mighty e.g. agricultural income tax from the affluent absentee landowners is extremely appalling. This is a common issue both at federal and provincial levels arising from absence of political will to collect income tax from the rich—the meagre collection of agricultural income tax—less than Rs. 5 billion by all provinces and federal government in fiscal year 2024-25 is lamentable.
It is imperative that right to collect tax on income, including agricultural income, should be given to the Centre through dialogue and in a democratic way under Article 144 of the Constitution which says:
Power of Majlis-e-Shoora (Parliament) to legislate for one or more Provinces by consent
- (1) If one or more Provincial Assemblies pass resolutions to the effect that Majlis-e-Shoora (Parliament) may by law regulate any matter not enumerated in the Federal Legislative List in the Fourth Schedule, it shall be lawful for Majlis-e-Shoora (Parliament) to pass an Act for regulating that matter accordingly, but any act so passed may, as respects any Province to which it applies, be amended or repealed by Act of the Assembly of that Province”.
In the same manner, the Centre and provinces should levy unified sales tax on goods and services. The distribution of taxes should be strictly according to formula agreed under Article 160 of the Constitution. It will ensure that collection becomes efficient, and citizens/taxpayers have a single-window facility to pay their due taxes. This will help the State to collect taxes of Rs. 34 trillion as per actual potential—details are available in Towards Broad, Flat, Low-rate, and Predictable Taxes. This is the only way to meet the emergent economic challenges faced by the State. It will also ensure durable fiscal stabilization in Pakistan, without disturbing the 18th Constitutional Amendment and achieve the cherished goal of self-sustainability.
____________________________________________________________
Dr. Ikramul Haq, Advocate Supreme Court, is Adjunct Faculty at Lahore University of Management Sciences (LUMS), member Advisory Board and Visiting Senior Fellow of Pakistan Institute of Development Economics (PIDE).