Establishing a tax compliance covenant

The National Board of Revenue (NBR), the apex body responsible for the collection of tax revenue, has announced that it would organise 'Revenue Dialogue' with different segments of its stakeholders with a view to 'helping make people aware about the tax-related issues and encouraging them to pay taxes'. According to newspaper reports, the NBR has been working with '5 Ps' - public, private, partnership, planning and performance-to achieve revenue target. This appears to be a timely move to establish a tax compliance covenant which most developing countries like Bangladesh lack.

But what is more interesting about the approach is the potential of revenue dialogue to evolve into tax/revenue bargain that sees taxation not only as a tool for revenue but also as a tool through which taxpayers can demand transparency, accountability and responsiveness from the state.

Raising revenue to finance government expenditure is the traditional function of taxation which has been defined in a variety of ways by different scholars. The generally acceptable definition of tax is that it is a compulsory contribution by the people to government in order to raise revenue to finance public expenditure. While some consider it to be  'unrequited, compulsory payments collected primarily by central governments' ( World Bank), others, for example, Grapperhaus, maintain that  'an individual sacrifice for collective goal may well be the shortest way of defining taxation'. The ancient Indian epic poet Kalidasa touches upon the reciprocity of the relationship that taxes entail when he mentions that 'the king receives taxes from his subjects only for promotion of their welfare as the sun draws moisture from the earth to return it a thousand-fold in the shape of rain'.

 Our responses to taxes hinge to a great extent on our attitude towards tax. This attitude is somewhat manifest in the statistics of tax-GDP ratio in different countries.  

Tax-GDP (gross domestic product) ratio in Bangladesh is one of the lowest in the world and the lowest among the South Asian countries. While average tax to GDP ratio in OECD (Organisation for Economic Co-operation and Development) countries is 34.1 per cent and that of developing countries is around 15 per cent in 2012,   the tax-GDP ratio in Bangladesh is currently only 8.64 per cent. The government envisions to increase the current tax-GDP ratio to 11.35 per cent by FY2018.  It has been admitted in the official document that "while Bangladesh's legal tax rates are not low by the regional and international standards, because of inefficiencies in tax administration and inadequate coverage, the tax-to-GDP ratio has remained virtually stuck at below 10 per cent level over many years" (Source: Sixth Five Year Plan FY 2011-FY2015: Accelerating Growth and Reducing Poverty. Ministry of Planning).We will try to elaborate in a while whether these are the only causes for the poor tax-to-GDP ratio.

The government has attached strong emphasis to resource mobilisation through buoyancy of tax revenue. Enhancing voluntary compliance and combating tax evasion have been rightly targeted for increasing tax-GDP ratio in Bangladesh. In this context, engaging the stakeholders in a revenue dialogue 'to achieve revenue target' is quite justified. Though the scope of this approach appears to be narrower than its potential, the recent NBR approach can be seen as a prequel to establishing a tax bargain which is essential in order for a tax system to evolve as an effective process to ensure revenue, redistribution of income and representation simultaneously. To be more precise, the combination of duty on the part of taxpayers and reciprocity in response to the fulfillment of that duty forms the new paradigm on which rests the core of tax bargain.

Before we go on to elaborate the concept of tax bargain and its potential in Bangladesh, let us first briefly look into the factors responsible for poor tax-GDP ratio. Poor tax-to-GDP ratio is a common characteristic of most developing countries. Researchers have identified a number of factors that affect efficiency of a tax system. Some of these factors are as follows: structure of the economy, institutional capacity and tax efforts, and tax morale or tax culture.

STRUCTURE OF ECONOMY: Studies show that share of agriculture and size of shadow economy as percentage of GDP negatively affect tax potential of a developing country like Bangladesh. In Bangladesh, agriculture is the third largest (12.64 per cent) contributor to GDP in 2013-14, the first two contributors being manufacturing (19.45 per cent) and wholesale and retail trade (14.08 per cent) respectively. Higher level of share of agriculture in the national income denotes a larger subsistence sector, less industrialisation and hence, lesser opportunity to collect taxes. Against this backdrop, the size of shadow economy which is assumed to be quite huge in countries like Bangladesh also poses significant threat to tax collection.   

INSTITUTIONAL CAPACITY AND TAX EFFORTS: Tax administrations in most developing countries are not efficient enough to apply their full tax efforts to harness the tax potential. Loopholes and complexities in tax laws generally negatively affect tax collection. But what is a matter of bigger concern is the lack of enforcement of the existing rules and regulations that strains tax collection. This institutional weakness is aggravated by the tax structure which is generally characterised by a heavy reliance on indirect taxes with a narrow tax base, multiple rates, numerous exemptions and presumptive taxation.

TAX MORAL AND TAX CULTURE: Taxation provides fungible resources to the state as well as establishes one of the most widely and persistently experienced relationships that individuals have with their government. The degree of tax compliance is directly related to maximisation of revenue. The compliance covenant is characterised by reciprocal transparency, understanding and trust in the relationship between taxpayer and the tax administration. Developing countries like Bangladesh typically lack a satisfactory compliance covenant. Here posits the role that tax or revenue bargain can play.

In this article we will focus our attention to the last factor and explore the possibilities of revenue bargain and the dividends it could pay off in Bangladesh. We have already mentioned that raising revenue to finance government expenditure is the traditional function of taxation; it also plays an important role in the distribution of income and wealth and economic stabilisation by checking business cycles. Yet another equally important but often overlooked function of taxation is representation. Economic goal of tax revenue has been weighed against the challenge of the socio-political goal of representation. In contrast to its traditional role of revenue which has dominated the tax literature until 1980s, the role of taxation in state-building has recently captured the attention of some analysts who consider taxation as a political process through which citizens can demand accountability and good governance. They argue that taxation holds potentials to generate 'governance dividend' in the form of improved accountability, responsiveness and state capacity.

Known as the new fiscal sociological approach, it sees taxation as a binding contract between the state and its citizens and engaging the latter in a revenue bargain. In such a bargain, the citizens accept and comply with taxes in exchange for influence on public policy, effective provision of services and enhanced accountability, among others. The bargain is mutually beneficial as the citizens receive improved services and governance while the government receives larger, more predictable and easily collected revenue. Since this bargain entails principles of good governance such as participation, transparency and accountability required improving mutual trust between taxpayers and the government, taxation and governance play a complementary role.

But whatever good things taxation may provide or however it may be exploited for noble causes, a universal fact is that tax has remained an ever-present subject in the relations between the state and its citizens throughout civilisation spanning from the Egyptian, the Greek and Roman eras through the British Civil War and the American and French Revolutions to the modern day. The relations are more of conflict than of cooperation. The inherent conflict that taxation entails becomes obvious as we look into the history of human civilisation which shows that numerous conflicts have been centred on taxation. Why is it so? Because, there is always a collective action problem centring taxation. Taxation involves collective action problem because of the paradox of purposes ingrained in it:  rulers try to maximise revenue while the ruled try to minimise it.

Depending on how a tax is devised and managed, it can be used for good or for evil. This prompted Charles Adams to comment, "When we tax we are dealing with fire, and without proper controls and care, we can easily burn down everything we have built, and our hopes for a better world can go up in smoke." This note of caution was quite unmistakable in the widely quoted saying of the 17th century French finance minister, Jean-Baptiste Colbert: "The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing."

Writing more than two thousand years before Hume, Smith, Ricardo  and J. S. Mill, Kautilya voiced the same notion: "Just as fruits are gathered from a garden as often as they became ripe, so revenue shall be collected as often as it becomes ripe. Collection of revenue or of fruits, when unripe shall never be carried out lest their source may be injured, causing immense trouble." Those who take their clue from the wisdom of Kautilya, Colbert and others attach importance to the two contradictory aspects - coercion and consent - involved in the tax continuum and look for ways to converge them into a desired outcome for both tax collectors and taxpayers.

The writer has done doctoral research on the relationship between taxation and governance. This article has been drawn from his thesis.  

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