Labourers work at a construction site of a road bridge in Lahore

Four ways in which technology and behavioural insights can improve tax collection in Pakistan

Blog Tax and Tax for Growth

Provincial taxes are a key source of government revenue and must be mobilised to finance growth. Leveraging digital transformation and behavioural insights can enhance tax administration, empower local governments, and promote voluntary compliance.

Despite being responsible for revenue collection, provinces in Pakistan rely heavily on federal transfers. Almost 85% of their revenue comes from the federal government. Provinces cover only about 16% of their expenditures with their own revenue collection. Provincial taxation can potentially reach 2-3% of GDP, but currently stands at less than 1%

Alongside improving performance, enforcement, and collection of key provincial taxes, emphasis must be placed on revitalising the social contract between citizens and the government for encouraging voluntary tax compliance. Enhancing unity of command within the tax administrative system and empowering provincial and local governments for tax collection are also key. Digital transformation and behavioural insights can further bolster domestic revenue mobilisation in Pakistan.

1: Use of technology can help align roles and responsibilities and empower local governments.

Despite the low tax-GDP ratio (hovering around 10%) and heavy dependence on federal transfers, there is an opportunity for sub-national governments to enhance their own revenue generation. Technology can be a crucial enabler in this transformation with the potential to empower local governments to fulfil their responsibilities transparently, based on evidence, rather than discretion. Provincial tax administration involves negotiations between the state and citizens. Tax collectors at the lower tiers have almost perfect information which they hold and manipulate to exercise discretion (in cadaster, assessment, collection, appeals, enforcement etc.). Technology can provide higher tiers visibility to data for better control and management and potentially alter these dynamics. In addition, improved and more structured access to data can enhance both valuation and collection. 

In Pakistan, even though property tax is a local government tax, its collection remains the responsibility of the provincial government. This leads to ownership disputes over this tax. However, capacity constraints are often cited as reasons hindering delegation of tax administration to local levels. Data and technology can bridge this capacity gap by providing tools for improved administration to local governments, and at the same time grant higher tiers better oversight of property tax, enhancing control and management. An IGC project in Khyber Pakhtunkhwa (KP) demonstrates how machine learning technology can improve property valuations using third party data and potentially enhance tax collection efforts by local governments. Implementing such changes necessitates policy and procedural reforms, as well as taxpayer education. 

Technology can also empower local governments by enhancing their perceived role as service providers, and thereby enabling them to collect taxes more effectively. Effectively use of data and technology can encourage a perception that the government is capable of detecting and penalising non-compliance. Research in Liberia by IGC found that a tax notice including the property owner's name, property photograph, and information on penalties for non-compliance can triple tax registration and payment compared to a plain notice.

2: Digital transformations and data integration is key to improving accuracy and efficiency of tax administration.

Digitising tax information can enhance accuracy and accountability while building datasets for research. It can streamline the tax process, leading to better documentation and transparency. Leveraging technology such as electronic fiscal devices, digital payments, and e-filing systems can reduce direct interaction between taxpayers and tax collectors. This efficiency not only enhances the taxpayer experience but also reduces opportunities for tax corruption by minimising interpersonal interactions. Finally, technology can democratise access to tax processes and data, making it more widely available to stakeholders beyond tax authorities. This democratisation fosters transparency and empowers citizens to engage more actively in tax-related matters. An IGC experiment in Ghana demonstrates how technology improves local tax collection by expanding the effective tax base and improving compliance. 

Punjab Revenue Authority (PRA) is already implementing initiatives to boost sales tax compliance, including an electronic invoice monitoring system, resulting in increased reported sales tax and tax liabilities. Expansion of electronic payments and Point of Sales (POS) systems facilitated greater inclusion of businesses in the tax net. Furthermore, Punjab's revenue from sales tax surged following a reduction in the tax rate (16 to 5%) for restaurant payments via debit or credit card, promoting transparency and curbing tax evasion in the sector.

Despite the potential benefits of digitisation, structural limitations persist, and provincial governments still heavily rely on voluntary compliance for tax payments. Challenges such as misinformation, mismanagement, and inadequate data integration hinder the effective implementation of automated tax systems. Moreover, expanding the capacity of the tax collectors, the technology can increase the bargaining power of tax collectors to extract more bribes from poorer households as observed in the Ghana project described above.

3: Strengthening social compact between citizens and the government can improve voluntary compliance. 

To motivate citizens to pay taxes, the federal and provincial governments could build local governments' capacity to address citizen needs through revenue mobilisation and expenditure. Utilising tax funds in the localities in which those funds are earned is crucial for revenue mobilisation. However, currently, Pakistani local authorities lack capacity to manage large-scale development funding effectively and therefore citizen’s do not clearly see the link between tax allocation and spending. 

Eliciting preferences through an IGC funded experiment revealed that allocating 35% of tax revenue to address public development demands increased voluntary tax compliance. Effective communication of government initiatives further enhances public trust in revenue collection and allocation, boosting compliance. Transparent allocation of revenue to democratically identified development demands encourage taxpayers to willingly pay taxes.

Ring fencing of taxes ensures that a portion of revenue collected by authorities is allocated to the municipality where it was collected. However, the potential for ring fencing exists across various authorities within provinces, allowing them to decide on revenue usage. Without empowering local governments to collect and administer taxes, beneficial taxation scope remains limited in Pakistan. In Khyber Pakhtunkhwa (KP), multiple authorities like KP Culture Tourism Authority, KP Revenue Authority, and Galiyat Development Authority collect taxes. These boards lack democratic accountability to municipalities, highlighting the need to empower local governments for tax collection and accountability.

4: Using behavioural insights can be a beneficial tool for improving tax compliance.

Behavioural insights in tax collection focus on understanding how human behaviour and psychology impact people's willingness to pay taxes. It's essential to target tax collectors, taxpayers, and service providers. Using IT, nudges, and insights can empower local governments, improve collection processes, and promote voluntary compliance especially in challenging environments. Policy interventions informed by behavioural insights can monitor citizen engagement and refine initiatives continuously. 

Using cost-effective, citizen-centric behavioural tools, KP has established MindLab, the first sub-national behavioural insights unit in developing countries, under the Finance Department in 2021. MindLab conducts randomised controlled trials to improve compliance and enforcement, drawing on successful approaches from countries like Bangladesh, India, and Sri Lanka. Initial experiments with text messages to encourage tax filing showed limited impact, possibly due to citizens' reliance on tax consultants. To enhance compliance, MindLab plans to implement reward and enforcement schemes, including cash prizes, receipt submission systems, and surveys, encouraging businesses to report sales transparently to the government. In addition, initiatives like FBR's publication of taxpayers' names can promote ethical duty and enhance taxpayers' reputation as responsible citizens, further encouraging compliance.

Informational nudges such as providing taxpayers with clear and understandable information about their tax obligations and tax systems can also increase compliance. This can include telling them about the legal consequences of non-payment and demonstrating how their taxes are utilised. To this end, tax authorities also need improved knowledge in management systems to measure non-compliance gaps effectively and allocate revenue based on evidence-based decision-making. Citizen’s understanding of tax systems is also important. A 2022 survey of 604 property taxpayers in Lahore found that taxpayers have a poor understanding of Punjab’s property tax system. More than 90% of respondents were unaware of the basis of valuation used to compute their taxes or whether it included land area, built area, or both. This lack of awareness underscores the need for policymakers to prioritise improving public knowledge of the tax system.

Behavioural insights can also optimise efficiency of tax collectors by altering their attitude. Performance-based incentives, such as performance pay and transfers/postings, have shown positive outcomes in improving tax collection. An IGC study found that using performance pay for tax collectors in Punjab increased tax revenue by enhancing their bargaining power. 

Leveraging digital transformation and behavioural insights offers a promising pathway to improve tax administration, empower local governments, and foster voluntary compliance. By combining technology with behavioural insights, policymakers can design more effective, citizen-centric tax policies that resonate with people's needs and motivations.

This article is published as part of the TRA-IGC-REPOA International Conference on Tax for Growth.