he persistent underperformance of Pakistan’s tax machinery highlights a deeper structural dysfunction that transcends mere numerical deficits. The entrenched culture of reactive fiscal management, excessive dependence on indirect taxation and the political dynamics surrounding tax exemptions signal an urgent need for institutional transformation.

The prevailing approach continues to reward informality at the expense of compliance, thereby eroding public confidence and compromising the legitimacy of the taxation system.

The federal government, as per media reports, has experienced a shocking setback by missing its annual tax collection target of nearly Rs 13 trillion by a record margin of Rs 1.2 trillion, despite imposing unprecedented fiscal burdens on the public. The Federal Board of Revenue collected Rs 11.73 trillion (provisional figures) during the fiscal year 2024-25, registering a shortfall that highlights the unrealistic nature of the original target.

The shortfall is even more striking given that tax collection increased by 26 percent or Rs 2.43 trillion compared to the previous year. The figure validates earlier warnings by independent economists that the ambitious (sic) tax target was unattainable without introducing a mini budget. The government had committed to increasing the tax-to-GDP ratio to 10.6 percent as part of its arrangement with the International Monetary Fund. The actual ratio is slightly above 10.2 percent, leaving a wide gap between fiscal ambition and economic performance.

The media said that the Rs 1.2 trillion deficit was not only unprecedented but also alarming given the record Rs 1.3 trillion additional taxes imposed. The earlier precedent for such a shortfall had occurred during the pandemic-stricken fiscal year 2019-20, where the tax target fell short by Rs 1.6 trillion. The government had acknowledged that even with aggressive measures, additional collections might not exceed Rs 650 billion due to declining economic activity and disinflationary trends.

The inflationary spiral had momentarily boosted nominal tax collections. With inflation easing to single digit and the economy faltering, the tax base contracted relative to expectations. The realistic projection of Rs 11.8 trillion in revenue now appears more credible than the ambitious target initially pursued.

The government, in an attempt to demonstrate fiscal rectitude, chose to heavily burden the salaried class and impose taxes on nearly every essential item, including milk, vegetables and stationery. The petroleum levy was increased to Rs 78 per litre, compared to Rs 60 at the start of the year, to compensate for the fiscal gap and fulfill the IMF’s budget surplus condition. Even these aggressive interventions failed to elevate revenue collection to the desired level.

The IMF had already reduced the annual tax target by Rs 640 billion in March. The government further adjusted it to Rs 11.9 trillion in June. The FBR was unable to meet even the recalibrated objective. The government introduced initiatives, such as digital tracking and targeted enforcement in evasion-prone sectors. Despite these endeavours, the institutional structure remained largely inefficient.

The federal government sanctioned enhanced fiscal incentives for revenue personnel and allocated Rs 55 billion for capacity development programmes, including digital enhancements and anti-smuggling infrastructure. However, these investments failed to yield immediate or adequate outcomes.

The widely publicised Tajir Dost Scheme, designed to mobilise Rs 50 billion in taxes from the retail sector, proved to be an unmitigated failure, generating less than Rs 50 million. The government has now fixed a Rs14.13 trillion revenue target for fiscal year 2025-26, necessitating a 20 percent increase in collections.

The composition of the tax revenue illustrates structural disparities. The FBR missed targets for sales tax, excise duty and customs duty. However, it surpassed the income tax objective, collecting Rs 5.8 trillion, primarily by overburdening the salaried and corporate segments, taking undue advances and blocking refunds of billions. Sales tax collections remained Rs 1.03 trillion below target despite an expanded tax net, reflecting underperformance in manufacturing and consumption. Excise duty collections were Rs 187 billion short, despite new levies on cement, sugar and fruit juices. Customs duties underperformed by Rs 315 billion due to lower import volumes.

The Constitution (Eighteenth Amendment) Act, 2010, [18th Amendment], effective from April 19, 2010, aimed at fiscal decentralisation, has created greater fiscal mismanagement. The provinces have demonstrated limited capacity to mobilise autonomous revenues and continue to depend heavily on federal transfers.

The divergence in tax structures across provinces has produced a disaggregated system, with differing rates, portals and procedural requirements. The consequence is a fragmented and costly tax regime that stifles business expansion and inter-provincial commerce.

The new provincial budgets have added additional layers of ambiguity. The Punjab, Sindh, the Khyber Pakhtunkhwa and Balochistan have adopted a negative-list framework for sales tax on services, under which all services are taxable unless explicitly exempted. The Punjab revised its statute to impose a 16 percent tax on commercial property rentals, while Sindh applied a 3 percent rate. These moves represent a marked departure from earlier legal interpretations.

The Sindh High Court had earlier held in the Young’s case that renting immovable property does not constitute an economic activity and, therefore, could not be taxed under the sales tax regime. The judgment emphasised that rental transactions lacked the characteristics of active service provision. However, Sindh revised the definition of “service” in Finance Act, 2025 to include the grant or surrender of any right, thereby incorporating rentals within the tax base. The Punjab followed suit with a similar legislative amendment.

The rental income is already subject to tax under the Income Tax Ordinance, 2001, at rates reaching 25 percent for individuals and 39 percent for corporations. The additional imposition of sales tax converts property rental into a heavily encumbered financial activity, dissuading investment in commercial infrastructure. The approach exemplifies a narrow fiscal vision centred on immediate revenue rather than long-term economic vitality.

The tendency to layer multiple taxes on the same income or transactional activities reveals an urgent imperative for structural realignment. The federal and provincial authorities have become excessively dependent on existing taxpayers while neglecting the vast informal economy. The consequence is a breakdown in trust and a growing sentiment that compliance is penalised rather than rewarded.

The SMEs, which constitute the foundation of Pakistan’s economic ecosystem, are particularly susceptible. The convoluted tax landscape, elevated compliance costs and regulatory ambiguities disincentivise formalisation and growth. Instead of fostering entrepreneurship, the current framework imposes punitive liabilities on those adhering to legal norms.

The resolution lies in a comprehensive reevaluation of the tax infrastructure. The government must prioritise the harmonisation of federal and provincial tax codes, establish a unified digital interface and eliminate redundant audits. The consolidation of tax jurisdictions and processes can substantially reduce operational friction and encourage compliance.

The emphasis must transition from revenue extraction to economic enablement. Tax incentives should be strategically aligned with goals such as capital formation, job creation and export diversification. The untaxed sectors - retail, real estate and agriculture - must be integrated through incentive-driven formalisation strategies.

The expansion of the tax base depends critically on rebuilding systemic credibility. The perception of procedural fairness, institutional transparency and legal consistency must be reinforced through uniform policy implementation and judicial adherence to taxpayer protections. The tax apparatus must regard businesses not as adversaries but as collaborators in national progress.

The current fiscal pathway is untenable. The recurrence of missed targets, growing dependence on regressive taxation and neglect of deep-rooted reforms will continue to erode macroeconomic stability. The government must seize this moment to reconstruct the tax regime as an instrument of equitable growth, national cohesionand sustainable prosperity.

The path forward necessitates determination, intergovernmental collaboration and unwavering commitment to institutional reform. The long-term viability of Pakistan’s economy hinges not on temporary fiscal adjustments, but on a transformative vision that integrates taxation with inclusive development, ensures procedural simplicity and reflects a unified national economic philosophy.

Dr Ikram-ul Haq, writer and an advocate of the Supreme Court, is an adjunct teacher at Lahore University of Management Sciences.

Abdul Rauf Shakoori is a corporate lawyer based in the USA.