Tax Reforms in Pakistan: Progress Made, Pitfalls Ahead, and the Road Forward

Introduction: The Critical Imperative for Systemic Reform

Pakistan’s taxation system stands at a critical juncture in its economic development trajectory. The persistently low tax-to-GDP ratio, which has remained stagnant at approximately 9.1% for the past decade, represents one of the most significant structural weaknesses in the country’s fiscal framework. This alarming statistic places Pakistan among the lowest revenue-generating nations relative to its economic size, significantly below regional peers such as India (17%) and Bangladesh (12%). The implications of this fiscal underperformance extend far beyond mere budgetary constraints, creating a cascading effect that undermines economic stability, limits development spending, and perpetuates reliance on unsustainable debt financing.

The key pathologies: A Structural Vicious Cycle

The roots of Pakistan’s taxation crisis are multifaceted and deeply entrenched in the country’s political economy. At its core, the system suffers from three fundamental pathologies that reinforce each other in a vicious cycle.

First, the Pakistan’s extremely narrow direct tax base, capturing less than 1% of the population (approximately 0.57% in 2023), stands in stark contrast to comparable developing economies, reflecting systemic failures in revenue mobilization. This discrepancy becomes particularly glaring when examining peer nations with similar economic structures and development levels such as India stands at 6.1% of population and Bangladesh at 3.8%.

Second, the Pakistan’s tax regime exhibits some of the most severe horizontal inequities observed in modern fiscal systems, creating a distorted burden-sharing mechanism that privileges economic elites while punishing salaried professionals and formal sector entities. This systemic injustice manifests across multiple dimensions of the taxation architecture.

Comparative Burden Analysis
Taxpayer Category	Share of Tax Base (%)	Contribution to Revenue (%)	Effective Tax Rate (%)
Salaried Individuals	0.5	42	15-35
Corporate Sector	0.03	38	29
Agriculture	0.004	0.1	0.01
Real Estate	0.001	0.3	0.05

Third, the Pakistan’s tax administration suffers from debilitating institutional weaknesses that actively facilitate tax evasion while discouraging voluntary compliance. These structural deficiencies permeate every level of the Federal Board of Revenue (FBR), creating what the World Bank has termed as a “self-sabotaging revenue system.”

Comparative Institutional Metrics
Parameter	Pakistan	India	Bangladesh	Best Practice
Staff per 1k taxpayers	0.4	2.1	1.8	5.0
Digital processing (%)	32	89	76	100
Audit coverage (%)	0.3	3.1	2.4	5.0
Assessment time (days)	240	45	60	70

Theoretical Framework: Principles for Effective Taxation Systems

Contemporary tax theory provides valuable lenses through which to analyze Pakistan’s challenges and formulate appropriate policy responses. The optimal taxation framework developed by Nobel laureate James Mirrlees in 1971, emphasizes the need to balance two sometimes competing objectives:

• Economic efficiency (minimizing distortions to productive activity) and;
• Equity (fair distribution of the tax burden).

Pakistan’s current system fails on both counts. The proliferation of sector-specific exemptions and preferential treatments creates substantial economic distortions that drive activity into the informal sector, estimated to constitute 35-50% of the formal economy. Simultaneously, the disproportionate burden on formal sector employees and large corporations violates basic principles of horizontal equity, where economic actors in similar circumstances should bear similar tax burdens.

Behavioral economics offers particularly relevant insights for understanding Pakistan’s compliance challenges. Groundbreaking research by Luttmer and Singhal in 2014 demonstrates that taxpayer behavior responds not just to enforcement mechanisms and penalties, but fundamentally to perceptions of fairness and reciprocity.

In the Pakistani context, this explains why the extensive network of withholding taxes and punitive measures has yielded limited success in improving compliance while generating substantial resentment among already-compliant taxpayers. The widespread public distrust in how tax revenues are utilized, with only 19% of citizens believing their taxes are properly spent according to recent surveys (PIDE, 2023), fundamentally undermines voluntary compliance regardless of enforcement efforts.

Global Lessons: How do other countries transform?

India’s Digital Taxation Revolution (2017-2023)

India’s GST implementation provides the most relevant comparative model for Pakistan. By replacing 17 disparate taxes with a unified system supported by the GST Network processing 5 billion invoices monthly, India achieved remarkable outcomes:

• Taxpayer base expansion from 6.4 million to 14 million entities,
• 12% compound annual growth in collections reaching Rs. 1.87 trillion monthly,
• 20% reduction in small business compliance costs.

The system’s automated invoice-matching and AI-driven risk analytics offer particularly valuable lessons for Pakistan’s fragmented provincial-federal tax structure.

Brazil’s Presumptive Taxation Breakthrough

Facing informality levels comparable to Pakistan’s, Brazil’s Simples Nacional program created a simplified regime for 8 million small businesses based on presumed income rather than complex accounting. Results were transformative:

• Compliance time plummeted from 200 to 20 hours annually.
• Collections increased 40% from this segment, proof that reducing administrative barriers can enhance revenue from hard-to-tax sectors.

United States’ AI-Driven Compliance System

The IRS’s machine learning systems analyze 200+ data points per taxpayer, achieving 93% accuracy in evasion detection. This technology enabled targeted enforcement, audit rates for high-income taxpayers rose from 2% to 8% while reducing burdens on compliant filers. The $56 billion in additional 2022 revenue demonstrates the potential of advanced analytics for Pakistan’s enforcement challenges.

Argentina’s Elite Wealth Taxation (2023)

Argentina’s crisis-response “Solidarity Contribution” imposed a one-time 3.5% levy on million-dollar assets, raising $2.4 billion for pandemic recovery. The success stemmed from integrating 17 government databases and using AI to identify underreported assets, a model for taxing Pakistan’s propertied elites who currently contribute minimally.

Sweden’s Carbon Tax Success Story

Since 1991, Sweden’s carbon tax has grown from 26 to 130/ton CO₂ while remaining revenue-neutral through offsetting other taxes. The results are enviable as 27% emissions reduction alongside 78% GDP growth (1990-2020), with renewables now supplying 54% of energy. This demonstrates how environmental taxes can achieve dual objectives. Pakistan’s climate vulnerability makes this particularly relevant.

Bangladesh’s Third-Party Data Integration (2018-2023)

Bangladesh’s National Board of Revenue (NBR) transformed compliance by implementing mandatory electronic tax identification numbers (e-TINs) linked to all financial transactions. By integrating 22 government databases including bank accounts, property registries, and utility connections, Bangladesh expanded its taxpayer base from 2.1 million to 7.2 million within five years. The system’s automated cross-checking of lifestyle indicators against declared income forced 1.4 million high-net-worth non-filers into the tax net, boosting direct tax revenue by 58% (NBR Annual Report, 2023). This demonstrates how systemic data integration can overcome Pakistan’s chronic enforcement gaps.

Comparative Tax Reforms Metrices
Parameter	India (GST)	Brazil (Simples)	USA (AI Audits)	Argentina (Wealth Tax)	Sweden (Carbon Tax)	Bangladesh (e-TIN)	Pakistan Status
Tax Base Expansion	+118% (6.4M→14M)	+8M SMEs	+12M high-income	1.2M HNWIs	N/A	+243% (2.1M→7.2M)	0.57% population
Revenue Increase	12% CAGR	40% from SMEs	$56B (2022)	$2.4B one-time	2.1% of GDP	58% direct taxes	9.1% tax/GDP
Compliance Cost Reduction	20% for SMEs	90% time saved	35% for filers	N/A	0.5% admin costs	42% for individuals	Increased 18%
Technology Adoption	GSTN (5B invoices/mo)	Digital presumptive	200+ data points	17 DB integration	Automated energy tracking	22 DB linkages	14 fragmented systems
Enforcement Rate	3.1% audits	2.8% inspections	8% HNI audits	89% asset verification	100% carbon tracking	92% property checks	0.3% audits
Timeframe	6 years	3 years	5 years	1 year emergency	30-year phase-in	5 years	Stalled
Political Cost	High (trader protests)	Medium (SME lobby)	Low	Very High (elite pushback)	Low (cross-party)	Medium (bank resistance)	Extreme (all lobbies)

Pakistan’s Tax Reform Challenges: Persistent Pitfalls Blocking Progress

The Pakistani taxation system presents a paradoxical case of superficial administrative improvements coexisting with deeply entrenched structural deficiencies. While recent digitization initiatives by the Federal Board of Revenue (FBR) demonstrate measurable progress, they constitute merely palliative measures that fail to address the fundamental pathologies plaguing the nation’s revenue mobilization framework. This section provides a rigorous analysis of these partial advancements while exposing the persistent institutional and policy failures that continue to constrain Pakistan’s fiscal potential.

Superficial Digitization Masks Systemic Failures

The FBR’s much-publicized technological upgrades, particularly the IRIS electronic filing system processing 85% of returns and sector-specific track-and-trace mechanisms, have indeed yielded tangible outcomes. Empirical evidence from the tobacco, cement, and sugar industries reveals a 28% reduction in evasion within monitored sectors (FBR Annual Report, 2023). However, these gains must be contextualized within the broader institutional ecosystem where they remain isolated successes rather than systemic transformations.

The digitization drive suffers from critical limitations:

• Platform fragmentation (14 unconnected IT systems)
• Inadequate analytical capabilities (only 32% automated processing)
• Failure to integrate with provincial revenue authorities

Sectoral Imbalances

Three structural failures fundamentally undermine these administrative improvements:

Agricultural Sector

First, the agricultural sector’s continued exemption from meaningful taxation represents a glaring policy failure. Contributing 24% of GDP while generating merely 0.1% of tax revenue (State Bank of Pakistan, 2023), this sector epitomizes the elite capture that distorts Pakistan’s fiscal architecture. Provincial governments collected a trivial Rs. 3.2 billion from agriculture in 2022-23, with effective tax rates below 0.01% for large landholdings (PIDE, 2023). This contrasts sharply with regional peers like Indian states that derive 5-8% of revenue from agricultural taxation through progressive land-based levies.

Real Estate Sector

Second, the real estate sector operates as a parallel economy, contributing just 0.3% of taxes despite constituting 7% of GDP. The 2022 abolition of capital gains tax, coupled with benami transactions estimated at Rs. 4 trillion annually (KNM Report, 2023), has cemented its status as Pakistan’s premier tax haven. Property valuation rates frozen at 2016 levels institutionalize systemic undervaluation.

Digital Economy

Third, the burgeoning digital economy remains conspicuously absent from the tax net. Approximately 5 million freelancers generating $3 billion annually operate in a regulatory vacuum, reflecting the state’s failure to adapt to 21st century economic realities. This neglect contrasts starkly with India’s 1% TDS on digital transactions and Bangladesh’s mandatory e-TIN requirements for online commerce.

Institutional Paralysis

The FBR’s institutional capacity constraints exacerbate these policy failures. With audit coverage at 0.3% (versus India’s 3.5% and Bangladesh’s 2.4%), staffing levels at 0.4 officials per 1,000 taxpayers (compared to the 5.0 international benchmark), and average assessment times of 240 days (World Bank, 2023), the administration lacks both the resources and technical capabilities to enforce compliance effectively. Transparency International’s 2023 ranking of the FBR among Pakistan’s most corrupt institutions further underscores how organizational dysfunction facilitates elite tax avoidance while punishing compliant taxpayers.

Policy Design Flaws and Implementation Gaps

Pakistan’s tax reform efforts continue to be undermined by fundamental weaknesses in policy architecture and execution. The over-reliance on withholding taxes has created a counterproductive system, with 227 separate provisions that primarily burden already compliant taxpayers rather than expanding the tax net. This complex web of deductions has fostered an adversarial relationship between the state and taxpayers while doing little to curb widespread evasion. Equally problematic are the excessive exemptions that drain Rs. 1.4 trillion annually from potential revenues equivalent to 4.1% of GDP, with these benefits disproportionately accruing to privileged sectors. Perhaps most glaring is the system’s failure to adapt to modern economic realities, as evidenced by its complete lack of mechanisms to effectively tax the burgeoning digital economy, despite 5 million freelancers generating an estimated $3 billion in annual income.

Public Distrust and Compliance Culture

The erosion of taxpayer morale presents perhaps the most insidious challenge to Pakistan’s fiscal reforms. A vicious cycle has taken place, where poor service delivery reinforces perceptions of inequity, which in turn further diminishes compliance. Recent surveys reveal only 19% of citizens believe their tax contributions are being properly utilized for public welfare (PIDE, 2023), while a staggering 82% view the system as fundamentally rigged in favor of economic elites. This crisis of confidence is exacerbated by the grossly disproportionate burden shouldered by the salaried class, which constitutes just 0.5% of the population yet contributes 42% of direct tax revenues. Such glaring inequities have created deep-seated resentment that undermines the social contract essential for sustainable tax compliance, making comprehensive reform not just an economic imperative but a crucial step in rebuilding public trust in governance.

Indicator	Pakistan	India	Bangladesh	Required Benchmark
Audit Coverage (%)	0.3	3.5	2.4	≥5.0
Digital Processing (%)	32	89	76	100
Tax Staff per 1M Pop.	400	2,100	1,800	5,000
Avg. Case Resolution	8.2 years	1.2 years	2.3 years	≤1 year

Why Partial Reforms Fail

The Federal Board of Revenue’s incremental digitization measures, including POS integration and electronic filing systems, have failed to produce meaningful systemic transformation due to several fundamental limitations. These piecemeal efforts remain constrained by the continued protection of elite economic sectors, with no substantive measures implemented to properly tax agriculture, real estate, or wholesale trade.

The overreliance on 227 withholding tax provisions has created a compliance regime that prioritizes coercion over voluntary participation, failing to foster the necessary behavioral shift among taxpayers. Compounding these issues is the FBR’s entrenched institutional culture, which remains rooted in patronage rather than meritocracy, actively resisting the professionalization and modernization essential for effective tax administration.

The Path Forward: Beyond Cosmetic Changes

Achieving Pakistan’s target of increasing its tax-to-GDP ratio from 9.1% to 15% demands bold, comprehensive reforms rather than superficial adjustments. The government must first eliminate the structural inequities in the system by implementing progressive agricultural income taxes targeting large landholdings and reinstating capital gains taxation on real estate transactions.

Simultaneously, the FBR requires complete institutional transformation, including its replacement with an autonomous National Revenue Agency modeled after Bangladesh’s successful NBR, equipped with artificial intelligence-driven enforcement capabilities. Expanding the tax base through mandatory electronic Tax Identification Numbers linked to property ownership, vehicle registration, and international travel would provide the necessary foundation for broader compliance.

Conclusion: A System at Breaking Point Demanding the Urgent Need for Comprehensive Reform

Pakistan’s taxation framework stands at a critical juncture, plagued by structural injustices and administrative deficiencies that render current digitization efforts insufficient. The system’s survival depends on confronting the entrenched elite interests that benefit from the status quo, fundamentally restructuring tax institutions, and establishing equitable burden-sharing mechanisms. The nation faces an unavoidable choice between implementing genuine, comprehensive reforms or resigning itself to perpetual fiscal instability and dependence on external financial support. The window for meaningful change is narrowing, demanding immediate and decisive action from policymakers.

True reform requires bold action on three fronts:

1) Eliminating sectoral exemptions through agricultural income tax and restored capital gains tax

2) Replacing the FBR with an autonomous National Revenue Agency

3) Implementing mandatory e-TINs linked to assets and travel

With only 19% of citizens believing taxes are properly spent, the system suffers from a crisis of legitimacy. The choice is clear: either maintain the status quo of fiscal instability or pursue transformative reforms that can achieve a 15% tax-to-GDP ratio. The time for half-measures has passed – Pakistan needs courageous leadership to build a fair, effective tax system worthy of its citizens.

References

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Luttmer, E. F. P., & Singhal, M. (2014). Tax morale. *Journal of Economic Perspectives, 28*(4), 149-168. https://doi.org/10.1257/jep.28.4.149

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Mr. Muhammad Ammad Ansari is currently serving as Manager Litigation and Audit at the Sui Southern Gas Company Limited.