Taxation of SMEs and small traders needs focus

Last June, my college alumnus, currently a Commissioner of Taxes, came to see me on a social call. During our brief chat, I learnt that he is in charge of a greater district, while two other districts are also under his command in the same zone. I innocently asked him about tax collection. His answer was frustrating and surprising. He said that in 92 percent of files and tax returns, there were no tax payments, while only 8 percent paid nominal taxes.

I occasionally visit markets and shopping malls and, while talking to shop owners as a potential customer, ask how they pay taxes. Most say they are not fully aware of the process, but a middleman or consultant handles it as a package deal, as has been done for years. They do not know how much of the money goes towards tax, incidental expenses or the consultant’s fee. Other small traders and businesses follow similar practices, except some chain shops and businesses managed centrally.

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Small businesses should gradually be encouraged to avoid cash transactions and become tax compliant. Otherwise, our goal of raising the tax-to-GDP ratio to a reasonable level will remain unfulfilled.

SMEs formally contribute 25 percent to 35 percent of GDP and informally much more in Bangladesh. The expansion of the trade sector is visible in cities and upcountry areas. The financial condition of people outside the tax net has improved considerably. Rents, salaries and utility bills are high, while the decoration of shops and outlets, particularly in malls and shopping arcades, is often luxurious and attractive. Yet tax collection from these areas remains low because of widespread tax evasion.

Inadequate records of business transactions and financial statements, a lack of transparency, and collusion between tax inspectors, assessing officers and businessmen have kept these areas out of focus. As a result, little tax is collected from them. Similar situations exist in districts and upcountry areas. Usually, a nominal lump sum without any clear basis, plus a bribe disguised as incidental expenses, is the normal way of settling tax.

There is apparently no research on how these growing businesses and SMEs pay taxes or the level of tax evasion. The focus is instead on large businesses, foreign companies and multinationals that maintain proper books and records, have their financial statements audited by credible chartered accountants, and are often pressured to pay additional tax.

SMEs and small traders pay high rents and utility bills and, in some cases, salaries and large rent advances. Tax withholding does not apply to them, and landlords also evade tax in many cases. Although rent can be collected through a dedicated bank account using account-payee cheques, most is paid in cash, keeping it outside the tax net or resulting in only nominal tax payments.

In a society where tax evasion has become common practice, it is difficult to bring people into the tax net overnight. To my surprise, even many affluent people tacitly support this practice. Unless transactions are fully digitalised, SMEs and small traders are unlikely to declare sales or turnover correctly. Given the peculiarities of Bangladesh and people’s apathy towards paying taxes, most transactions are still conducted in cash. In these circumstances, I recommend that SMEs and traders be taxed based on a percentage of rent, salaries and utilities as a basis for minimum tax. This would vary from area to area and could help determine the appropriate tax level. Those who regularly pay reasonable taxes and maintain reliable financial records should be given due credit and kept outside this proposed system.

SMEs and small traders should also gradually be encouraged to avoid cash transactions and become tax compliant. Otherwise, our goal of raising the tax-to-GDP ratio to a reasonable level will remain unfulfilled.

The writer is a senior partner of Hoda Vasi Chowdhury & Co and past president of ICAB