ISLAMABAD (July 02 2009): The Federal Board of Revenue (FBR) has failed to achieve the policy objective of sales tax zero-rating for the textile sector, as the amount of refund claimed by this sector is still very high. The FBR has admitted this fact in the Third Quarterly Review issued here on Wednesday, reflecting non-compliance and low tax contribution by the textile sector due to non-existent audit. The level of compliance is evident from the fact that 65 percent textile units, who declared nil income during \'Tax Year 2008\', have claimed refund to the extent of Rs 430 million. The FBR further admitted that the zero-rating of textile sector has broken the VAT chain and eroded the tax base. Unfortunately, the decision of zero-rating seems to be ineffective. The FBR paper strongly recommended creation of \'Textiles Industry Group\', including stakeholders like taxpayers and representatives of government to prevent tax evasion and improve compliance. The report highlighted serious tax gaps in the biggest sector with huge contribution in exports. It is hard to believe that the industry with huge investment contributes negatively. It said that the sector is paying nothing, instead getting back billion of rupees every year in the shape of refund/rebate. According to the report, zero-rating of textile sector was a stopgap arrangement till the System of STARR/STREAM was overhauled to ensure transparency in refund claims and disposal. It is apprehended that if zero-rating is done away with, the system will revert (back) to the position of 2004-05 and 2005-06 when ginned cotton and textile sector were zero rated respectively, on the plea that the FBR was unable to check fake invoicing, over-invoicing and delayed disposal of refunds, etc. Instead of getting tax revenue from the textile sector, the FBR is paying much more higher in the shape of refund/rebate to the sector. The extent of negative collection was Rs 25.9 billion in 2004-05, which has now reduced to Rs (-) 1.1 billion in 2007-08. However, the provisional figures up to March 2008-09 indicate that the negative collection has again jumped to Rs 5.5 billion. The net revenue loss will be much higher if the refunds claimed under the head of income tax are included. The compliance by the textile sector is evident from the return filing. The returns of the textile sector have been investigated by FBR with respect to those tax filers who have declared business income or losses or those lodged nil claims. Interestingly, only 268 (15 percent) of the return filers of this sector have declared business income in their returns, while 359 (20 percent) have shown business losses, and 1155 (65 percent) have submitted nil statements. Thus, it is safe to assert that out of 1782 return filers only 268, or 15 percent of them, have paid income tax and the rest 85 percent taxpayers have either declared business losses or there is nil income to declare. More ironically, the 65 percent taxpayers who declared nil income during Tax Year 2008 have claimed refund to the extent of Rs 430 million. Out of 1782 returns filed during tax year 2008, the returns of top 20 taxpayers have been further examined and found that 13 (65 percent) filers have not declared their gross tax and all of them have left the column "net tax payable" as blank. The contribution of textile sector in GDP is 8.5 percent--highest contributor in the manufacturing sector--whereas its share in tax revenue is negative for the last many years. It is hard to believe that the industry with huge investment contributes negatively. Notwithstanding positive collection (though a meager amount) on account of income tax and customs duty, the overall collection turned into negative, mainly because of huge refund payments. This situation is alarming as the government is facing revenue shortages which lead to budget deficit and low tax-to-GDP ratio. However, there are other non-tax issues confronted by the industry which need attention. These include the increasing interest rates as compares to the regional countries, non-guaranteed energy supplies, lack of R&D, and reduction in cotton production have had a negative impact on the industry\'s competitiveness internationally. In order to sustain the textile industry, there is a need to implement a suitable long-term strategy that would provide level playing field against their regional competitors. The report has recommended that the zero-rating, or exemptions, should be for a shorter and specified period of time: longer period of zero-rating creates greater inequalities in treatment of different taxpayers. To block the revenue losses the emergency measure would be to exempt the sector from the entire indirect taxes so that no refund claims are generated. The suggestion may be administratively viable but economically more dangerous for the economy as whole. The best way is to do away with the exemption/zero-rating and to develop a mechanised refund settlement system. In order to ensure voluntary compliance, strict punitive action needs to be introduced together with incentives to the compliant taxpayers. A Textiles Industry Group should be created. Such a group would include taxpayers and representatives of government. The group would identify the main problems (non-compliance from the standpoint of government, but also burdens of compliance from the standpoint of taxpayer) and solutions that aim at prevention of tax evasion, etc. They would also have to look at end-markets, and determine what the impact on demand would be with changes to tax administration. The arrangement may also help in creating business-friendly environment and harmony between industry and tax administration, the report said.