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					 International Tax Dialogue (ITD) Global Conference on Effective
Micro and Small Business Compliance Management – Tax Policy and
                   Tax Administration Solutions
                Manila, Philippines, 2-5 March 2010

           Indirect Taxation of the Underground Economy
    The Potential and Limits of Withholding Taxes in Bangladesh

                              By
                    Nasiruddin Ahmed, PhD
              Chairman, National Board of Revenue
                              and
                        Aminur Rahman
                  Member ( Income Tax Policy)
                   National Board of Revenue
                       Dhaka, Bangladesh
   Objective and outline of presentation


Objective
     To explore the potential of withholding income tax for collecting
     taxes from the underground economy of Bangladesh.


 Outline
       • Introduction
       • The underground economy
       • Structure of taxation
       • Withholding taxes
       • Concluding remarks
                         1. Introduction

• Bangladesh is a low-income economy of South Asia
• With a territory of 147570 square km, it is inhabitated by about 150 million
people.
• In FY 2008-09, Bangladesh had a GDP of US$ 89.55 billion.
• The real GDP growth rate is 5.9 percent and per capita GNI is US$ 690.
• In recent years, Bangladesh has achieved significant gain in human
development.
• Bangladesh aspires to become a middle income economy by 2021
• The underground economy constitutes a sizeable portion of the economy .
     2. The underground economy

2.1 Dimensions of an underground economy


 Table 1: Dimensions of an underground economy

 Illegal economic activities   Legal but not reported in
                               national accounts

 bribery, gambling,            Tax evasion ,
 smuggling, extortion,         Tax avoidance, etc.
 drug dealing, black
 marketing, work done
 by illegal immigrants,
 etc
            2. The underground economy (cont.)
           2.2.Studies on the underground economy of
                            Bangladesh
               Table 2: Studies relating to Underground Economy of Bangladesh
Name of Author               Year               Estimates of the underground economy
Reza                         1989         Exceeded one third the country’s formal GDP in FY
                                          1985-86
Bartlett                     1990         Informal sector was 65% of labour force in Dhaka in
                                          late 1980s.
Hassan,                      1997         Average size of the underground economy of
                                          Bangladesh was about 23% of the formal GDP during
                                          1972-1995.
Asaduzzaman                  1998         Average size of the underground economy was 21.4%
                                          of GDP in FY 1989-90.
Hossain                      2003         Average size of the underground economy was 16.03%
                                          of GDP during 1974-75 to 1999-2000 and 25% of
                                          GDP in 1999-2000 (by survey method).
Austrian University          2003         Bangladesh’s informal sector reached 34.9% of official
                                          GDP in 2000-01

Park                         2005         Average size of the underground economy was around
                                          37% of official GDP during the beginning of 2000s.
    2. The underground economy ( cont…)
    2.3 Factors contributing to the underground

                            economy
•   Large number of taxpayers maintains no accounts or non-
     formal accounts.
• Large number of non-banking transactions (cash transaction or
  barter)
• Under reporting value of asset.
• Illegal income remained unreported for obvious reason.
• Weak enforcement of laws

• Agriculture sector basically remains outside the tax net.
      2. The underground economy ( cont..)
2.4 Bangladesh dealing with the underground economy


   National Board of Revenue (NBR) has taken measures to-
  •       Bring more persons under tax net (broadening the tax net);
  •       Collect tax from the underground economy;
  •       Investigate tax evasion cases.
            3. Structure of taxation
Tax-GDP ratio is the lowest in Bangladesh compared to its South Asian
neighbours. Tax-GDP ratio in Bangladesh is given in Table-3.

                       Table 3: Tax-GDP ratio
             Financial Year                 Tax: GDP ratio
                 2004-05                          8.60
                 2005-06                          8.70
                 2006-07                          8.30
                 2007-08                          8.89
                 2008-09                          9.00
      Source : Bangladesh Economic Review 2009, Ministry of
      Finance

The number of taxpayers is 1.65 million.
The indicators of tax-GDP ratio and number of taxpayers in
comparison to population shows existence of substantial
underground economy in Bangladesh.
  3. Structure of taxation (cont..)

The tax structure in Bangladesh shows the preponderance of
indirect taxes over direct taxes (Table-4).
                 Table 4: Tax structure in Bangladesh
                                                           (In billion taka)
    Financial Year      Direct Taxes      Indirect Taxes       Total

       2004-05         58.27 (19%)        240.77 (81%)        299.64


       2005-06         74.23 (22%)        265.80 (78 %)       340.02

       2006-07          90.50 (24%)       281.69 (76%)        372.19

       2007-08         121.80 ( 26%)      352.47 (74%)        474.36

       2008-09         142.73 (27%)       382.53 (73%)        525.26

   Source: Annual Report, National Board of Revenue
                  4. Withholding taxes

   4.1 Potentials of collecting tax from the

                  underground economy

4.1.       Potential:
       • any income earned is likely to be invested or saved
         in some form;
       •    in many cases invested amount            generate
             interest or return from assets;
       • most assets need registration for ownership;
       • tax can be effectively levied on return of assets or
         at the time of registration
                  4. Withholding taxes
       4.1 Potentials of collecting tax from the
            underground economy (cont..)

From tax administration perspective-
   •    It is an in-built machinery to collect tax where non-compliance is
        very high;
   •   Taxes are being collected from organized small number of
       tax-points through WIT, rather than from many informal
       taxpayers from diverse locations;
   •    Information regarding the parameters of income is also collected
        in the process for using in future assessment or audit;
   •     Government exchequer gets year-round revenue rather than
        seasonal revenue.
                  4. Withholding taxes
       4.1 Potentials of collecting tax from the
            underground economy (cont..)

From taxpayers perspective-
   •      Easy to pay as the taxpayers earn and avoid time-consuming
   tax deposit to selected banks or treasury;
   •      Less pressure on cash flow at the end of the year for reduced
   tax liability at the time of filing return; and
   •   Avoiding arbitrary estimate of income by tax administration.
                       4. Withholding taxes

                 4.2 Limits of withholding taxes


   Income of illegal economy remains outside the mainstream.

   Presence of informal accounting records

   Presence of cash basis of transaction

   Inadequate capacity building in tax department

   Lack of incentive of tax deducting authorities
                    4. Withholding taxes
                           (cont..)
4.3 Authorities responsible for tax withholding program :

 1.    Government
 2.    Director General, Bureau of Manpower, Employment and Training
 3.    Permitting authority (issuing any permission or renewal of
          permission for manufacture of bricks)
 4.    Registration authority (registering any document for transfer of any
         land or building or apartment)
 5.    City Corporation or Paurashava
 6.    Commissioner of Customs
 7.    Authorized authority (authority duly authorised for a particular
 purpose, say, for shipping business of a resident under section 53AA)
 8.   Chief Executive Officer of stock exchange
             4. Withholding taxes (cont..)
4.3 Authorities responsible for tax withholding program
(cont…):
       9.    Company or its principal officer
       10.   Bank or insurance company or cooperative bank
       11.   Issuers of securities (Government or companies)
       12.   Sellers of banderols to any manufacturer of cigarettes
       13.   Employer
       14.   NGO (non-government organization)
       15.   Film producer
       16.   Chief Executive of any trust
       17. University or medical college or dental college or engineering
       college
       18.   Auction seller
                      4. Withholding taxes (cont..)
      4.4 Heads of withholding income tax
                          Table 5 : Heads of withholding income tax
Sl.                  Heads of withholding income tax               Section/        Rate
                                                                    SRO
       1 Salaries                                                    50        10% to 25%
       2 Discount on the real value of Bangladesh Bank ( Central     50A      Individual-25%
         Bank ) bills                                                            Company-
                                                                                37.5/42.5%
       3 Interest on securities                                      51            10%
       4 Payment to contractors & sub-contractors                    52         1% to 4%
       5 Payment on indenting commission or shipping agency          52       Indenting- 3.5%
         commission                                                            Shipping- 5%
       6 Fees for Doctors                                          52A(1)          10%
       7 Royalty or technical know-how fee                         52A(2)          10%
       8 Fees for professional and technical services              52A(3)          10%
       9 Payment for certain services like stevedoring agency,      52AA          7.5%
         private security service
  10 Clearing and forwarding agents                                52AAA          7.5%
      11 Cigarette manufacturing                                     52B      6% on bandrols
                  4. Withholding taxes ( cont..)

4.4 Heads of withholding income tax ( cont..)

Sl.              Heads of withholding income tax                Section/      Rate
                                                                 SRO
  12 Compensation against acquisition of property                 52C          2%
  13 Interest on saving instruments                               52D         10%
  14 Brick Manufacturer                                           52F      Tk 10,000 to
                                                                            Tk 18,000
  15 Commission of letter of credit                               52I          5%
  16 Renewal of trade license by City Corporation or              52K        Tk 500
     Paurashava                                                             /License
  17 Trustee fees                                                 52L         10%
  18 Freight forward agency commission                           52M          7.5%
  19 Rental power company                                         52N          4%
  20 Foreign technician serving in diamond cutting industries    52 O          5%
  21 Importer                                                     53           3%
  22 House property                                               53A      3% and 5%
  23 Shipping business of a resident                             53AA      3% and 5%
          4. Withholding taxes ( cont…)
4.4 Heads of withholding income tax ( cont..)

Sl.      Heads of withholding income tax        Section    Rate
                                                 /SRO
  24 Export of manpower                          53B       10%
  25 Export of knit-wear and woven garments,     53BB     0.025%
     etc
  26 Member of Stock Exchanges                  53BBB     0.025%
  27 Export of any goods except certain items   53BBBB    0.25%
  28 Goods or property sold by public auction    53C       5%
  29 Courier business of a non-resident          53CC     7.5%
  30 Payment to actors and actresses             53D       5%
  31 Commission, discount or fees                53E      7.5%
  32 Commission or remuneration paid to agent    53EE      4%
     of foreign buyer
                      4. Withholding taxes (cont..)
4.4 Heads of withholding income tax ( cont..)
Sl.                 Heads of withholding income tax              Section         Rate
                                                                  /SRO
      33 Interest on saving deposits and fixed deposits           53F             10%
      34 Real estate or land development business                 53FF      Land-5% , 2% and
                                                                                  1%
                                                                           Apartment- 250/SM
      35 Insurance Commission                                     53G             3%
      36 Fees of surveyors of general insurance company          53GG            7.5%

      37 Transfer of property                                     53H        5%, 2% and 1%
      38 Interest on deposit of post office and saving bank       53 I           10%
         account
      39 Rental value of vacant land or plant or machinery         53J         3% to 5%

      40 Tax from advertising bill of newspaper or magazine or    53K             3%
         private television channel
      41 Dividends                                                 54       Company -20%
                                                                            Res. Indivi-10%
                                                                            Non-res Ind-25%
      42 Income from lottery and other windfall income             55             20%

      43 Income of non-residents                                   56             25%
              4. Withholding taxes (cont..)
      4.4 Heads of withholding income tax (cont…)


Sl.     Heads of withholding income tax      Section /SRO            Rate



44     Registration/fitness renewal       SRO no-187-       Tk 3,000 to Tk 8,000
       for motor vehicles plying for      Ain/2009, date-
       hire                               01.07.2009
45     Registration/fitness renewal       SRO no-171-       Tk. 2,500 to Tk.
       for personal motor vehicles        Ain/2009, date-   10,000
       not plying for hire                30.06.2009
46     Registration/fitness renewal       SRO no-173-       Tk 50 /per passenger
       for inland river vessels           Ain/2009, date-   Tk 70 /per ton capacity
                                          30.06.2009
      4. Withholding taxes (cont..)

    4.5           Ensuring tax withholding :
         To ensure functioning of tax withholding, the following
provisions have been incorporated in income tax code :-
•         The related expenditure is not admissible while
          determining its income if the deduction is not made or
          deducted amount is not deposited [ section 30];
•         The amount deductible plus interest @ 2% per month can
          be recovered from the paying/registering authority
          [ section 57 ]
•         Tax authority is empowered to audit tax deduction
          [ section 117A]
      4. Withholding taxes (cont..)

4.6 Contribution of withholding income tax in
   income tax revenue:
               Table 6: Contribution of income tax
                                             (Figures in billion taka)
  Financial     Withholding          Total tax              %
  Year          income tax           collected
  2004-05              33.5               55.8             60.04
  2005-06              40.1               71.6             56.01
  2006-07              51.6               87.2             59.17
  2007-08              61.8              117.4             52.64
  2008-09              86.7              138.6             62.55
  Source : Annual Report, National Board of Revenue
               5. Concluding remarks


Along with withholding taxes, the following policy recommendations are
made to tax the activities of the underground economy :
• Implementing the reform agenda initiated at the NBR
• Simplification and fully automating tax collection system under a central
database
• Launching continuous taxpayers’ awareness programs for broadening tax
net
      5.Concluding remarks (cont…)


• Enhancing the capability of the NBR officials for combating tax
evasion
•Rewarding the taxpayers who pay considerable amount of taxes so
that other people feel encouraged to pay taxes
•Establishing tax information management and research centre to
collect income related information of taxpayers from both primary
and secondary sources.

				
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