Tariq Mahmood Awan
Despite Pakistan’s economy showing signs of stabilization, with many sectors witnessing improvement, the real estate market has remained largely stagnant. While a reduction in interest rates has fostered positive performance in several asset classes, the real estate sector has yet to experience a similar boom. This paradox raises questions, as conventional economic logic suggests that a stable and growing economy should catalyze activity in all markets, including real estate. However, the stagnation of the real estate market can be attributed to a combination of historical trends and the impact of heavy taxation and regulatory hurdles.
Historically, the Pakistani real estate market has been on an upward trajectory. While downturns do result in market stagnation, the trend has typically been towards long-term growth. During periods of stagnation, investors are reluctant to sell properties at a loss, which causes the market to remain dormant. However, the current lull goes beyond the natural ebb and flow of market conditions. A significant factor contributing to this stagnation is the imposition of higher transaction taxes, particularly withholding taxes (WHT) on buyers and sellers, as well as the Federal Excise Duty (FED).
The justification for imposing higher WHT stems from the fact that the real estate sector in Pakistan has historically operated informally. Property valuations at the provincial level, upon which taxes like stamp duty registration fees are based, are often much lower than the actual market value of properties. Meanwhile, the FBR (Federal Board of Revenue) valuation, which forms the basis for income tax withholding, is higher but still far from the true market value. This discrepancy between official valuations and actual transaction values has resulted in a grey market where even compliant taxpayers often report their property transactions at the lower FBR (or DC) rate. This practice effectively transforms legitimate income into undeclared, or “black,” money.
To avoid being caught in this web of under-reporting, property owners often find themselves in the uncomfortable position of either selling at a discount or buying at a premium. In both cases, most players choose to opt-out of the formal market altogether, exacerbating the informal nature of the sector. This, in turn, makes it difficult for the government to collect accurate taxes, perpetuating a cycle of inefficiency and underreporting.
In an attempt to address the issue of tax evasion, the government and the International Monetary Fund (IMF) have been pushing for a more aggressive approach to taxing the real estate sector. However, the current tax structure is problematic because it places a disproportionate burden on formal businesses and salaried individuals. Tax rates on these individuals are comparable to those in Scandinavian countries, but the services provided in return, such as healthcare, education, and security, are not at similar levels. This has fueled frustration among compliant taxpayers, and they are growing increasingly resentful of the government’s attempts to further tax the real estate sector.
Interestingly, discussions around reducing the tax burden on real estate, while simultaneously offering fiscal, regulatory, and monetary incentives to promote affordable housing, have emerged in recent months. The government’s goal is clear: increase economic activity, generate direct and indirect employment, and stimulate growth through the construction sector. A task force has even been established to tackle these issues, though its first meeting is still awaited.
However, the formal business community and certain media outlets have voiced strong opposition to the anticipated real estate package. These critics argue that reducing taxes for the real estate sector would be unfair, especially when the burden on salaried professionals and formal businesses is already so high. However, this opposition may be misdirected. Real estate is a legitimate industry, and some of the proposals from real estate stakeholders have merit. Such proposals could help to reignite activity in the market, which would, in turn, bolster the construction sector and contribute to the economy.
The root of the discontent among formal businesses and salaried individuals is not necessarily the real estate sector itself, but the perceived unfairness of the current taxation system. People in the formal sector feel that they are heavily taxed while competing with businesses operating informally and avoiding taxes. This sense of injustice is compounded by concerns about wealth erosion and declining purchasing power, both of which are tangible issues affecting the general populace.
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Before forming opinions on the real estate sector, it is crucial to examine these various factors in greater detail. While the withholding tax on transactions is indeed high, it can be adjusted against income, thus lessening its impact. On the other hand, the imposition of FED on real estate is unjustifiable. FED is typically applied to discourage consumption of goods like tobacco and alcohol, but applying it to real estate serves no economic purpose. This tax should be abolished, as it does not align with the intended purposes of excise duties.
Moreover, despite the increase in tax rates, the federal government has failed to meet its revenue targets. In fact, tax collections have declined since the implementation of higher rates. This suggests that raising taxes without addressing the underlying issues—such as the discrepancy between provincial and federal property valuations—will not achieve the intended results. Therefore, rationalizing tax rates and aligning valuations between federal and provincial authorities would benefit both the government and the real estate sector.
The FBR has reported a significant drop in property transactions and an increase in deals conducted through power of attorney. To counter this, the sale of properties via power of attorney should be banned, as this practice further undermines transparency in property transactions. However, the purchase of property through power of attorney should remain permissible to avoid unnecessary hardship for legitimate buyers.
Looking ahead to the upcoming budget, the real estate sector should be treated as an opportunity for documentation and transparency. The focus should be on digitizing the sector, ensuring that buyers’ sources of income are verifiable, and implementing measures to combat housing scams. Consumers need better protection, and intermediary investors should be taxed on capital gains, which would help eliminate the grey areas within the sector.
It is clear that reforming the real estate sector is not an easy task, but it is necessary. The sector must evolve to become more transparent and efficient, with taxation that is fair and aligned with actual market values. The time for meaningful reform is now, and if these issues are addressed thoughtfully and comprehensively, Pakistan’s real estate sector could once again become a significant driver of economic growth, providing both employment opportunities and much-needed housing for the population.
In conclusion, while Pakistan’s real estate sector has remained stagnant, there is still hope for revitalization. Tax reforms, greater transparency, and a more balanced approach to taxation are critical to bringing the sector back to life. With the right policy changes, real estate can once again become a driving force for the economy, benefiting businesses, consumers, and the government alike.
