Raising the tax-free ceiling in Bangladesh: A balancing act

Bangladesh's apex business body, the FBCCI (Federation of Bangladesh Chambers of Commerce & Industries), has recently proposed raising the tax-free income limit for individuals from Tk3.5 lakh to Tk4.5 lakh during the 44th NBR-FBCCI Consultative Committee Meeting on the budget for the next fiscal year (FY25). 

International Monetary Fund (IMF) has also advocated for increasing the tax-free income limit by Tk1.5 lakh to Tk5 lakh in a meeting with the NBR (National Board of Revenue).

These proposals stem from concerns about the rising inflation, which has eroded the purchasing power of many Bangladeshis. If implemented, such a move could have far-reaching consequences for the Bangladeshi economy, impacting everything from disposable income and consumer spending to government revenue and tax compliance. 

A shot in the arm  

"Raising the ceiling will benefit all taxpayers. As a whole, the tax structure will change. You won't have to pay income tax from Tk0 to the tax-free income limit, then gradually you will pay more and more tax, depending on your income. 

You will pay 5% on the next bracket, 10% on the one after and so forth. So yes, a move like this will benefit all taxpayers," explained Dr Zahid Hussain, former lead economist, at World Bank's Dhaka office.

The current tax-free income limit stands at Tk3.5 lakh. In the fiscal year 2023-24, the government raised the tax-free income limit by Tk50,000 from Tk3 lakh. 

Income tax rates currently stand at 5% for the next Tk1 lakh, 10% for the subsequent Tk3 lakh, 15% for the next Tk4 lakh, 20% for the following Tk5 lakh and 25% for the remainder of the income.

A higher tax-free ceiling translates to more money left in the pockets of individual taxpayers. This increased disposable income (income left after tax) could lead to a rise in consumer spending, stimulating economic activity across various sectors. 

Moreover, people with lower incomes would have more money to allocate towards essential goods and services, potentially improving their overall standard of living. 

Additionally, those in higher income brackets would have more to spend on discretionary products (luxury goods), which could benefit restaurants, retail stores, and the entertainment industry.

Experts also believe raising the tax-free ceiling will also put a lower tax burden on smaller income groups. There might also be less incentive for people to engage in informal or 'grey market' activities to avoid taxes.

What are others doing? 

Inflation is not a problem plaguing only Bangladesh. It is plaguing almost all economies. 

Neighbouring India has recently raised its tax-free income limit. Under the latest tax regime, the tax-free income ceiling in India is RS 3 lakh (around Tk4 lakh), which means the ceiling is higher than in Bangladesh at the moment. This was hiked from last year's RS 2.5 lakh by Rs 50,000. 

But people can still opt for the old tax regime in FY 2024-25 under which, for individuals below 60 years of age, the basic tax exemption limit is RS 2.5 lakh. 

At present, Bangladesh has six tax slabs while India's latest tax regime has five tax slabs (a slab is the range of income on which a specific tax rate is charged). 

In Pakistan, the tax-free income limit is Rp 6 lakh, which is less than Tk2.5 lakh, however, they have to pay income tax at a rate of 2.5% at this slab. They also have six tax slabs. 

In Sri Lanka, the tax-free allowance for an individual is LKR 500,000. The tax rates for income exceeding this limit range from 6% to 36% depending on the income bracket. The tax rates are structured in such a way that the first LKR 500,000 is taxed at 6%, the next LKR 500,000 at 12%, and so on.

For Nepal, the basic exemption limit is NPR 500,000 for an individual. For income exceeding this limit, the tax rates range from 1% to 36%. The first NPR 500,000 is taxed at 1%, the next NPR 200,000 at 10%, the next NPR 300,000 at 20%, and so on. 

There are also certain deductions available for individuals working in remote areas.

Meanwhile, any person earning gross income exceeding Nu. 300,000 per annum in Bhutan is liable to pay Personal Income Tax (PIT). The tax rates for income exceeding this limit range from 0% to 25% depending on the income bracket. The first Nu. 200,000 is not taxed while the next Nu. 50,000 is taxed at 10%, the next Nu. 250,000 at 15%, and so on.

Interestingly, any amount of income is taxable in Vietnam where you have to pay a tax rate of 5% in the lowest slab.

Question marks remain

However, the biggest concern surrounding this policy change is the potential decrease in government revenue. With a larger portion of income shielded from taxation, the government might collect less tax. "This move will lead to government revenue loss. Not only will fewer people pay tax but everyone from rich to poor will pay less tax," said Dr Hussain.

This could affect the government's ability to fund essential public services like education, healthcare and infrastructure development. 

The government would need to carefully analyse the potential revenue loss and weigh it against the anticipated economic benefits from increased consumption.

While the policy aims to offset inflation for individuals, an increase in disposable income could also lead to higher aggregate demand, potentially fueling inflationary pressures. 

"Lowering taxes will increase people's post-tax income. If income rises so will demand, and this rise in demand can put more inflationary pressure on the economy," said Dr Hussain. 

Therefore, the Bangladesh Bank would need to carefully monitor the situation and adjust the monetary policy if necessary.

How to make the most out of this policy? 

Streamlining the tax filing process, ensuring efficient tax collection from higher income brackets and effectively addressing potential tax evasion attempts will be crucial for the success of this policy change.

FBCCI has proposed the integration and automation of tax, VAT and customs administration as well as the formation of a separate Large Taxpayers Unit in Dhaka and Chattogram to streamline the tax collection process.  

Currently, there are over one crore TIN holders in the country, of which only 37 lakh filed returns last year. Experts largely blame it on the difficulties related to filing taxes.

FBCCI President Mahbubul Alam has proposed setting up tax offices at the upazila level to raise the number of taxpayers and thus increase revenues.

Dr Syed Md Aminul Karim, a former NBR member of the income tax policy, believes this can be solved by making taxpayers with high incomes pay taxes at a higher rate. 

"During our time, the maximum slab was 30%. But in the year of Covid-19 [2020], it was reduced to 25%; it should not have been done. It should be reverted to the previous rate," he said. 

Dr Zahid Hussain also thinks increasing tax rates at the higher slabs can be a good way to make up for the lost income. 

According to him, "These have two benefits. Firstly, the government's earnings from taxes will increase, given there is no impact on compliance. Because this can also lead to more people opting to avoid giving taxes."

"The second benefit is that this move can help close the income disparity as the rich will be taxed more. Introducing a new higher slab might be a possible way to do that," he added. 

But he also warned against overcomplicating the tax regime as it might give rise to governance issues and lead to corruption.

So, raising the tax-free income ceiling for individual taxpayers in Bangladesh will by no means be an easy solution, as it has both potential benefits and drawbacks. 

While it could boost disposable income, stimulate consumption and potentially improve tax compliance, it's essential to consider the potential impact on government revenue and inflationary pressure. 

Relevant authorities like the NBR will need to carefully analyse these implications and design a comprehensive strategy to ensure the success of this policy.