Introduction

Taxation one of the major sources of public revenue to meet a country's

revenue and development expenditures with a view to accomplishing
some economic and social objectives, such as redistribution of income,
price stabilization and discouraging harmful consumption. It supplements
other sources of public finance such as issuance of currency notes and
coins, charging for public goods and services and borrowings. The term
'tax' has been derived from the French word taxe and etymologically, the
Latin word taxare is related to the term 'tax', which means 'to charge'. Tax
is 'a contribution exacted by the state'. It is a nonpenal but compulsory
and unrequited transfer of resources from the private to the public sector,
levied on the basis of predetermined criteria.
Background of the Report
This report entitled Value Added Tax in Bangladesh is a fundamental
requirement for the completion of the 2 nd Year Honors in Accounting. The
main purpose of this report is to extract the information of the Value
Added Tax practiced in Bangladesh.
Objective
The general objective of this report is to provide a synopsis of how Value
Added Tax is practiced in our country and related consequences. It is also
required for the completion of this course. Beside the general objective,
the objectives behind this report are given below:
Primary Objective
The primary objective of the report is
To analyze on the issue The Impact Study of VAT in Bangladesh.
To disclose the precise scenario of the The Impact Study of VAT in
Bangladesh.
To analyze and recommend on the mentioned issues.
Secondary Objective
The secondary objective to prepare this report is
To fulfill the requirements of our course FRL-403.
To have a clear understanding about the activity of specific
descriptive research technique that is personal interview.
To gather experience and knowledge of doing a professional report.
Scope of the Study
This research study will cover the topic The Impact Study of VAT in
Bangladesh and its related issues. It also includes recommendations
against the selected issues. This report can be used as a secondary source
for further purposes.
Sources of Information
To fulfill the objective of this report collection of relevant, accurate,
standardized and needful information was required. To make this report
reliable we have collected data from both primary sources and secondary
sources. Special consideration was given so that chances of biasness
could not arise. The sources used were:
Primary Sources
1

Primary data is defined as data, which originates as a result of that

particular investigation. We have collected primary data through depth
Inter with various people. The primary data related to The Impact Study
of VAT in Bangladesh was collected from the audiences by the method of
personal interview that we conducted. Both structured and unstructured
questions were constructed to extract the primary data.
Secondary Sources
Secondary data represents the data which are made by others but it is
useful for another purpose or research. As a part of collecting data from
secondary sources, we have referred different books of Tax and VAT. We
collected our data from the magazine, news paper, libraries and also from
the websites.
Limitations
No study is beyond any limitations. While doing this research study we
had to face some difficulties. The limitations of the research activities are
as follows
We did not have so much experience for conducting research and
preparing the report very frequently, though we are in learning position.
In depth interview some participants were unenthusiastic to provide
enough information.
There was no current information related to Bangladesh on the
Website.
There was lack of precise information; both primary and secondary.
There was not enough time to analyze the selected issues.
Our resources (such as, human resource, financial resource, etc)
were limited. So it was hard for us to prepare a professional report with
our limited resources.
Methodology
This report covers the different aspects and activities that are required for
the collection of VAT by the Govt. However, the report is prepared based
upon the information collected from several persons and organizations
who are involved in the relevant business like dealing with VATable goods
and services, the researchers own judgments and also from the Internet.
Some surveys have been conducted and some interviews were taken. The
findings are strictly structured upon information provided by these sources
and some secondary sources. The focus here is on presentation of facts as
discovered.

CHAPTER ONE VALUE ADDED TAX

Introduction
Value Added Tax is emerging as an effective tool of taxation in the hands
of Governments internationally. In fact more than 100 countries around
the world have accepted this as a way of taxation on commercial
activities. Our neighboring countries like India, Bhutan, Nepal and Pakistan
have already recognized VAT. Developed countries including Australia,
United States, USSR, and UK have already introduced VAT successfully.
The origin of Value Added Tax (VAT) can be traced as far back as the
writings of F Von Siemens, who proposed it in 1918 as a substitute for the
then newly established German turnover tax. Since then numerous
economists have recommended it in different contexts. Also, various
committees have examined the tax in great detail. However, for its
rejuvenation, the tax owes much to Maurice Faure and Carl Shoup. The
recent evolution of VAT can be considered as the most important fiscal
innovation of the present century1. VAT was first introduced in France in
1954. With the imposition of Taxe sur la Valeur Adjoutee, France become
the first European country to implement VAT on an extensive scale. It was
not, however, at first a complete system of VAT, since it applied only to
transactions entered into by manufacturers and wholesalers. It was
supplemented by a separate tax on services (Tax sur les Prestations de
Services). In addition, there were special excises (Taxes uniques) which
were levied on services and distribution in lieu of the taxes sur les
presentations de services.
Value Added Tax (VAT)
Value Added Tax, or VAT, is levied on top of the cost of a product or service
and generates revenue for a government. Value Added Tax, popularly
known as VAT, is a special type of indirect tax in which a sum of money is
levied at a particular stage in the sale of a product or service.
In 1954, the value added tax system was initiated by the then joint
director of the tax authority of France, Maurice Laure. VAT came into effect
for the first time on 10th April, 1954. From its inception, the value added
tax system was imposed on all major sectors of a country. Once instituted,
it was immediately clear that revenues collected from the VAT system
constituted a substantial share of the governments revenue in the
economy. Not surprisingly, due to the ease of payment and ready
comprehensibility, the value added tax system has been adopted by
different nations across the world.

Value Added Tax (VAT) a percentage tax on the value added of a

commodity or service as each constituent stage of its production and
distribution is completed. VAT may be classified in three ways:
(i)
On the basis of coverage of stages - throughout the production
and distribution stages, or confined to limited stages - manufacturing plus
wholesale, or wholesale plus retail;
(ii)
On the basis of the method of calculation - tax credit method,
subtraction method, and addition method; and
(iii)
On the basis of tax treatment of final-product capital goods such
as machinery, equipment, and supplies - the consumption form, the
income form, and the product variety.
Thus the three broad types of VAT are the gross national product (GNP)
type, income type and consumption type. A consumption type VAT is an
indirect tax. An income type or a GNP type VAT might be considered as a
direct tax but a commodity tax cannot be considered so. Consumption
type VAT is also considered as an alternative form of 'sales tax'.
VAT is intended to be levied or charged whenever there is some value
addition to raw material. The taxpayers on the other hand, will get credit
for the amount of tax paid off at the stages of procurement. The value
added tax system has proven to be effective in avoiding problems that
normally might arise out of the double taxation of goods and services. The
value added tax system is designed to address various problems
associated with the conventional sales tax system. In sales tax, there is no
provision for input tax credit, which means that the end consumer may
pay tax on an input that has already been taxed previously. This is known
as cascading and leads to increases consumer tax and price levels, which
increases the rate of evasion and can be detrimental to economic growth.
The value added tax system deals with these problems quite efficiently. As
VAT is imposed on value addition at every single stage there is no
incidence of cascading. In this way, the final consumers bear the burden
of paying value added tax. This system involves absolute transparency at
every stage of taxation, thereby making the tax system quite
comprehensible and simple.
The value added tax system allows for input tax credit, or ITC, on the
amount of tax levied at the preceding stage of the value addition chain.
The allowance for ITC is normally appropriated from the value added tax
liability imposed on the following stage of the sale of the product.
VAT in Bangladesh
The main components of indirect tax in Bangladesh are Value Added Tax
(VAT), Supplementary Duty and Excise Duty. VAT is imposed on producer,
manufacturer, importer, exporter or service render under the Value Added
Tax Act, 1991, on goods or specified services, at the rate of 15% at every
stage of transfer. VAT paid against the input is adjustable against the VAT
on output to be collected from the buyers and the net sum stands payable
on delivery of goods or specified services to the VAT authority. Exemption
is allowed to certain goods or service or certain taxpayers. All cottage
industries, except those producing particular products, are exempted from
VAT. But, manufacturer, producer or service render (other than cottage
4

entrepreneurs), whose annual turnover does not exceed Taka 1.5 million
are required to pay Turnover Tax at the rate of 2.5 per cent in lieu of 15
per cent VAT. This limit is too low for small industries.
As a result, small industries are subjected to the same 15 per cent VAT as
their large-scale counterparts. In addition, supplementary duty is imposed
at variable rates on certain categories of consumption goods across all
size categories. Finally, excise duty applies to a limited number of items
irrespective of size classification.
National Board of Revenue (NBR): The Tax Central Collection
Authority
The National Board of Revenue (NBR) is the central authority for tax
administration in Bangladesh. It was established by President's Order No.
76 of 1972. Administratively, it is under the Internal Resources Division
(IRD) of the Ministry of Finance (MoF). MoF has 3 Divisions, headed by 3
permanent Secretaries to the Government, namely, the Finance Division
the Internal Resources Division (IRD) and the Economic Relations Division
(ERD). The Secretary, IRD is the ex-officio Chairman of NBR.
NBR is responsible for formulation and continuous re-appraisal of taxpolicies and tax-laws, negotiating tax treaties with foreign governments
and participating in inter-ministerial deliberations on economic issues
having a bearing on fiscal policies and tax administration. The main
responsibility of NBR is to collect domestic revenue primarily, Import
Duties and Taxes, VAT and Income Tax for the government. Other
responsibilities include administration of all matters related to taxes,
duties and other revenue producing fees. Under the overall control of IRD,
NBR administers the Excise, VAT, Customs and Income-Tax services
consisting of 3434 officers of various grades and 10195 supporting staff
positions (Approved set up as on 09 Feb., 2000 AD).
National Board of Revenue (NBR) is the apex authority of the government
responsible for collecting tax revenue, administering taxation
administration and framing taxation policies and laws for the government.
The main responsibility of NBR is to mobilize domestic resources through
collection of Import Duties, VAT, Excise and Income Tax for the
Government. NBR through its different taxation sources collects more than
95% of the tax revenue for the government.
NBR was created by a Presidential Order in the year 1972 and placed
under Internal Resource Division (IRD) of Ministry of Finance. Secretary of
IRD acts as the Chairman of NBR. Four Members (top position of the
hierarchy) of NBR from Direct Tax wing and four Members from Indirect
taxation wing assist the chairman in executive, legislative and policy
matters.

Introduction of VAT in Bangladesh

In April 1979, the Taxation Enquiry Commission (TEC) officially took up the
issue of introducing VAT in Bangladesh as an alternate to sales tax. Until
1982, sales tax was being collected under the Sales Tax Act 1951, which
was replaced by the Sales Tax Ordinance 1982 with effect from 1 July
1982. The World Bank played the pioneering role in introduction of VAT in
Bangladesh. A World Bank Mission visited Bangladesh for preparing an
agenda for tax reform in Bangladesh in December 1986. The mission
submitted its final report on 15 October 1989. The report recommended
the introduction of a manufacturing-cum-import stage VAT at a single
standard rate within three years. Thereafter, a Bangladesh Tax Mission
visited India, Indonesia, the Philippines and Thailand during 13 November
- 04 December 1989. The Mission submitted its report in January 1990.
The government discussed the issues relating to introduction of VAT with
all related private and public agencies including the various leading
Chambers of Commerce and Industry from time to time. The government
prepared the Value Added Tax Act 1990 (Draft) in June 1990.
Final version of the Value Added Tax Act was promulgated 31 May 1991 as
a Presidential Ordinance with eight sections (relating to registration under
VAT system and the appointment and powers of VAT authorities). It was
made effective from 2 June 1991. The Value Added Tax Bill 1991 was
introduced in the Parliament on 1 July 1991 and the Parliament passed it
on 9 July 1991. With the Presidential assent to the bill on the next day it
came into effect as The Value Added Tax Act 1991. The VAT Act 1991
replaced the Business Turnover Tax Ordinance 1982 and the Sales Tax
Ordinance 1982 with effect from 1 July 1991. It imposed VAT @ 15% on
importer or supplier (producer) of taxable goods and provider of taxable
services having annual turnover of Tk 1.5 million or more. It imposed
6

Turnover Tax (TT) @ 2% (currently 4%) on supplier of taxable goods and

provider of taxable services having annual turnover of less than Tk 1.5
million (Tk 2 million at present). The new law imposed VAT at zero-rate on
export sales of any goods and services, brought excise duties on most
goods under the VAT net, and imposed Supplementary Duty (SD) @ 10%
to 85% on goods and services which are luxurious and non-essential and
are socially undesirable.
The objectives behind introducing VAT in Bangladesh were to(a)
Bring transparency in the taxation system;
(b)
Prohibit cascading taxation at different stages of production;
(c)
Consolidate the tax administration;
(d)
Activate the overall economy by mobilizing more internal resources;
and
(e)
Bring a consistency in the tax-GDP ratio.
VAT introduced in Bangladesh in its initial form was a sort of consumption
tax (by allowing purchase of capital goods as input), which extended its
coverage up to the level of import, production or manufacture and
service-rendering but not to export (which is zero-rated), wholesale or
retail level. Since the financial year 1996-97, VAT in Bangladesh has
become a broad-based consumption expenditure tax by covering the
wholesale and retail levels. VAT is imposed on the following goods and
services: all goods imported in Bangladesh except those mentioned in the
First Schedule of the VAT Act; all goods supplied except those mentioned
in the First Schedule of the VAT Act; and all services provided in
Bangladesh except those mentioned in the Second Schedule of the VAT
Act.
The standard tax rate for VAT has been fixed all along at 15% (for taxable
goods and services). The adoption of truncated value-bases caused
multiplicity of practical tax rates, but VAT rate is a single, flat or uniform
one. The rate of turnover tax (TT) is also uniform at 4% (2% up to 11 June
1997). But the rates of supplementary duty (SD) are multiple. At the
beginning (FY 1991-92), there were five different rates which ranged from
10% to 85%. Next rates were eleven in number and ranged from 5% to
350%. For FY 2000-01, there are 31 different rates that ranged from 2.5%
as on coffee to 350% as on cigarettes.
The computation of actual value-addition requires detailed recording of
payments for goods/services bought, which is not properly done in
Bangladesh. To ease the administrative steps for taxation of services, in
specified cases, a 'truncated value-base' was fixed with the option of
waiving 'input tax credit'. Under the VAT system, tax points depend on the
stage of production and distribution. For goods imported by any importer,
VAT is to be paid at the time of paying import duty under the Customs Act
1969.
For goods produced or manufactured or imported, purchased, acquired, or
otherwise collected by any registered persons in the course of business
operation or expansion, VAT is to be paid at the time of one of the
following activities whichever occurs first:
(a)
when the goods are delivered or supplied;
(b)
when an invoice relating to the supply of goods is given;
(c)
When any goods are used personally or given for use to another
person; and
7

(d)
When the price is received in part or full.
For services rendered by any registered persons in the course of business
operation or expansion, VAT is to be paid at the time of one of the
following activities whichever occurs first:
(a) When the services are rendered;
(b) When an invoice relating to the rendering of service is given; and
(c) When the price is received in part or full. For goods or class of goods
for which the NBR has ordered through the official Gazette notification to
use stamp or banderole or special sign or mark having security system of
specified value on package or carrier or container of the goods, VAT is to
be considered as paid equivalent to the value of the stamp or banderole
or special sign or mark used.
For services rendered by construction firms, indenting firms, travel
agencies, motor garages and workshops, and dockyards and other
services determined by the official Gazette notification, VAT is to be paid
as withholding tax and VAT is collected, deducted and deposited by the
receiver of the services or the persons paying the price or commission as
the case may be. For any other goods and class of goods or services, VAT
is to be paid at the time as indicated in the NBR rule.
Taxation remains a poor tool of government revenue collection in
Bangladesh. Taxes to GDP (gross domestic ratio) ratios are usually not
high in South Asia. But in case of Bangladesh the figure is alarmingly low only a little higher than 9%, while the average for South Asian countries is
11%, the developing countries more than 15%, the industrialized
countries 30%, and high income countries 24%. The introduction of VAT
contributed significantly to raise the tax revenue collection in Bangladesh.
The joint contribution of sales tax and excise duty to in the increase of
total tax was Tk 696.9 million (28.8% of total increase) in 1979-80 and Tk
3.9 billion (44.8% of total increase) in 1989-90. In absolute volume, the
annual increase in revenue from VAT and excise duty is more than the
previous annual increase in revenue from sales tax and excise duty.
However, in relative term, the share of sales tax and excise duty in total
tax in the 1980s was almost similar to the share of VAT and excise duties
in that under the VAT regime. The share of VAT as a per cent of different
indicators (internal trade tax, external trade tax, indirect tax, total tax,
total GDP and non-agricultural GDP) has usually an increasing trend and
the shares are significant. On an average, around 75% of total tax come
from indirect taxes, and more than a half of the indirect taxes is collected
in the form of VAT. The scope of VAT mainly covers the 'non-agricultural
sector' but with a standard tax rate of 15% the share of VAT as a percent
of 'non-agricultural GDP' is only 3% to 4%.
VAT was introduced in Bangladesh as a consumption tax and allowed the
full deduction of 'machinery' as an input from the 'output value' (sale
proceeds of taxable goods and services) to compute the tax-base (i.e.,
value added). Although the initial coverage was up to import and
production stages, the VAT-net is now expanded to wholesale and retail
stages. Initially, the number of VAT taxable services were 25 (under 21
Heading numbers), but now the number is theoretically unlimited,
although for practical purposes this number is kept limited to 70 services
under 57 heading numbers for which the scope is defined. Goods other
than primary unprocessed agricultural products and food items listed in
8

the First Schedule of the VAT Act (live animals or poultry, human or animal
hair, parts of animal body or animal products, parts of plant, green or
dried vegetables, fruits, unprocessed spices, food items, oil seeds, natural
gums or like products, wood, uncared wool or cotton, and raw jute, etc)
are subject to VAT. Thus almost the whole economy falls under the VAT-net
and as a consumption tax, VAT is supposed to streamline the economic
activities with corrective measures by applying supplementary duty.
VAT & Its Necessity
VAT is a multi-point tax system but without the effect of double taxation.
Tax is chargeable at rate prescribed at each point of sale. In Valued Added
Taxation system, the tax is calculated at different points of production and
distribution of a commodity. It is collected in installment on the basis of
value added at each point of production and distribution. Since an input is
taxed only once VAT avoids the cascading effect, which is the chief demirt
of a generalized system of taxation i.e. excise and sales tax.
There are several objectives associated with VAT, foremost being its
revenue raising quality, due to inclusion of items such as wages, interest,
profits etc. in its base. It shall also bring in more discipline in the indirect
tax regime. It is also imperative that VAT will take care of the demerits of
the existing system.

Value Added Tax Features in Bangladesh

The main features of VAT in Bangladesh are as follows:
9

1.
VAT is imposed on goods and services at import stage,
manufacturing, wholesale and retails levels;
2.
A uniform VAT rate of 15 percent is applicable for both goods and
services;
3.
15 percent VAT is applicable for all business or industrial units with
an annual turnover of Taka 2 million and above;
4.
Turnover tax at the rate of 4 percent is leviable where annual
turnover is less than Taka 2 million;
5.
VAT is applicable to all domestic products and services with some
exemptions;
6.
VAT is payable at the time of supply of goods and services;
7.
Tax paid on inputs is creditable/adjustable against output tax;
8.
Export is exempt;
9.
Cottage industries (defined as a unit with an annual turnover of less
than Taka 2 million and with a capital machinery valued up to Taka
3,00,000) are exempt from VAT;
10. Tax returns are to be submitted on monthly or quarterly or half
yearly basis as notified by the Government.
11. Supplementary Duty (SD) is imposed at local and import stage
under the VAT Act, 1991. Existing statutory SD rates are as follows:
A. On goods: 20%, 35%, 65%, 100%, 250% & 350%
B. On services: 10%, 15% & 35%.
Cigarettes, natural gas and petroleum products which were the major
sources of excise duties, initially were kept beyond VAT net work. In 199293 these items were brought under VAT. It may be mentioned that at
present manually made cigarettes (known as Biri), part of textile items &
services rendered by commercial banks are still under excise system. The
primary requirement under VAT system in Bangladesh is to have
registration numbers by all taxable persons from the local VAT authorities.
Such registrations are compulsory for each location of a business. The
taxable persons are to apply in a specific form to the VAT authority if their
annual turnover exceeds 1.5 million taka. The taxpayers are given a
registration number through a specific certificate. The registration
certificate contains along with other information the activity codes in
which the person is related.
The registration numbers are used by the taxpayers in their business
transactions. Registrations are done free of cost and are not subject to
renewal. Any person whose annual turnover is less than 1.5 million taka or
any person outside VAT may also apply for registration voluntarily. Any
registration may be cancelled if the person discontinues his business or if
his annual turnover is found to be less than 1.5 million taka.
Under the VAT system in Bangladesh all tax payers are required to
maintain books of accounts regarding purchases, sales, raw materials,
finished products etc. They are also to maintain an account current book
to help them to determine the amount of VAT due and the amount actually
paid for taxable goods. Payments of taxes are made through adjustments
in the account current book. Credit available for input taxes and refund
against export can be used to settle the liability for output tax.
The value of imported goods for levy and collection of VAT is considered to
be the assessable value for levy of custom duties plus other duties and
taxes. While for domestic goods, this value is consideration (the money
10

value) at which the goods are supplied by the manufacturer, this value
includes all costs, charges, commission, duties and taxes except the VAT
amount. On the other hand, the gross receipts are considered to be the
basis for determining the VAT liability for services in general. But in special
cases, some narrow base values instead of gross value are taken into
account for VAT calculation. Again in some cases, tariff values are fixed as
base value for determining VAT.
Each tax payer is required to issue a tax invoice, as proof of payment of
VAT, for each supply of goods or services. However, the importers are not
required to issue any tax invoice. But when importers sell their goods they
may issue a supplementary tax invoice to a VAT registered person. VAT on
imported goods is to be paid by the importers at the time when the
customs duties on it are paid. In other words, VAT at import stage is paid
before clearance of goods. But for the local manufactured goods VAT is
payable at the time of supply of goods and services. Each registered
supplier of goods or services is eligible to take instant credit of the VAT
paid on inputs. The payments of VAT for goods (output tax) are made
through adjustment in the account current book.
Taxpayers are to keep sufficient balance in their credit in the current
account book either through deposition of money to the Govt. treasury or
through their input tax credit. System have also been introduced to collect
taxes on certain services like Construction, Motor Garages & Workshops,
Printing, Indentors, etc. at the source point of payment. Each taxpayer is
to submit a tax return for each tax period (each calendar month) within 20
days of a month following the tax period. The VAT authorities examine the
returns, and enter the data into the computer. All exports of goods &
services are zero rated under VAT system. Moreover, all input taxes (VAT,
Customs duty, Excise duty etc) paid on the inputs used for manufacturing
the exported goods is refundable. Such input taxes against export are
refunded either in actual or on a flat rate basis. Refund claims of input
taxes are dealt with by a Duty Exemption and Drawback Office (DEDO).
Value added tax system in Bangladesh gives special treatment to the
small firms. Under the system, small manufacturers and services whose
annual turnover is less than 1.5 million taka is exempt from VAT but they
are to pay turnover tax @ 2 per cent. Such turnover tax can be paid either
at a time or on quarterly basis. But they are not entitled to get credit
benefit of their input taxes.
Moreover, a small firm whose annual turnover is less than 1.5 million taka
and whose investment in capital machineries only during a particular year
does not exceed 300,000 taka are treated as a cottage industry and is
fully exempt from VAT or turn over tax. They are also free from VAT
formalities. It is easy to have the benefits of VAT in an economy where it is
implemented in a comprehensive form covering all tiers of production and
distribution as well as to all economic activities.
The single stage VAT in Bangladesh has undoubtedly widened the tax
base as compared to excise or sales tax system and has brought a
favorable result in collection of taxes but it had limited further results due
to some limitation and distortion in its application.
Value Added Tax (VAT) Wing
11

Value Added Tax (VAT) was first introduced in Bangladesh in the year 1991
by partially replacing the Excise Duty and wholly the sales tax at the
import stage. In Bangladesh, only a single rate of VAT 15% is prevailing.
However in some cases base value for VAT is truncated.

VAT Administration
VAT administration is one of the three wings of National Board of Revenue
(NBR). Under the direct supervision and control of the Chairman NBR,
Member (VAT) of NBR works as the head of operational and administrative
activities of VAT administration. At present there are eight VAT
Commissionerates all over Bangladesh each headed by a Commissioner of
VAT.

The Commissionerates are Dhaka (south), Dhaka (North), Rajshahi,

Jessore, Khulna, Sylhet Chittagong, and VAT Large Taxpayers Unit (LTU).
Each VAT Commissionerates has five to eight divisions which are headed
by Divisional Officers who may be Deputy Commissioners or Assistant
Commissioners. Under each VAT Division there are two to five circles
which are headed by Superintendents. These circles are the basic building
block of VAT administration. However, the head of each VAT division plays
the most significant role for VAT collection and administration in the field
level. Commissioners, Additional Commissioners, Joint Commissioners
usually monitor and supervise the functions of VAT circles.
VAT Mechanism
12

VAT system in Bangladesh operates under the legal framework of Value

Added Tax Act 1991 and Value Added Tax Rules 1991 made under Value
Added Tax Act 1991. As per VAT Act at a flat rate of 15% is chargeable on
all goods and services imported in Bangladesh and on all goods and
services produced in Bangladesh at every stage when the title of the
goods and services of the concerned transaction is transferred. However
there is exception for certain the goods and services listed in the first
schedule and second schedule of VAT act 1991 respectively. The
exempted items are basic agricultural products, live animals and animal
products, education, books, magazines, newspapers, postal services and
passengers and goods transportation services etc.
Besides, according to the law, any person engaged in the business of
goods and services subject to VAT having yearly sale of less than Taka two
million has to pay Turn-over Tax (TT) instead of VAT, at the rate of 4% on
the amount of the yearly sale. Any person doing the business in goods
and services subject to VAT has to pay VAT under self clearance
procedure.
The person is required to comply with following procedures prior to
clearing goods and services from taxpayers premises:
Get registered with VAT authority, collect Business Identification
Number (BIN) which is referred in all matters relating to VAT.
Submit value declaration the basis for imposing VAT i.e. price per unit
on which rate of VAT to be charged- and get it approved of VAT authority
(basically Divisional Officer).
Maintain prescribed books and record.
VAT Collection Trends
VAT at this moment, is the most dominating revenue sources of the government. In FY2005,
VAT revenues constituted 36% of the total tax revenue and 27% of the total revenue
collection, making it to be the largest piece of the tax revenue pie. VAT collection is growing
very rapidly over the last decade. In FY 2005 VAT achieved an impressive 23.7% growth.
Table 1: VAT Collection Scenario
(Figures: Billion Taka and Percentile)
FY200 FY200 FY200 FY200 FY200
1
2
3
4
5
VAT Collection
61.32 69.6
80.71 85.75 106.0
5
Growth in VAT Collection
13.6
13.5
16.0
6.2
23.7
VAT
collection
as 25.4
25.2
25.9
24.2
27.1
percentile of total revenue
Total revenue receipt
241.7 276.7 311.1 354
392
9

13

CHAPTER TWO TAX EXPENDITURES IN BANGLADESH

Introduction
In recent years, the study of tax expenditures has gained increased
importance in the literature of public policy, particularly in developing and
transition economies. Such studies are primarily concerned with reduction
in tax liabilities resulting from various tax preferences such as preferential
tax rates, exemptions, deductions, rebates, deferrals, credits, etc. These
measures are often used as part of an efficient tax policy in order to
achieve certain fiscal/social objectives, e.g., generating revenue at socially
efficient and equitable level that minimizes its disincentive effects on
economic activities, reducing pressure on public sector borrowing and
substituting direct government expenditures (Cavalcanti and Li, 2000;
Tanzi and Zee, 2000). These incentives may also be viewed as subsidy
payments or government spending towards preferred taxpayers
channeled through the existing tax system, besides direct expenditures of
the government. Thus, it is necessary for a government to analyze tax
expenditure accounting on a regular basis for maintaining efficiency,
accountability and fiscal transparency of the country.
Tax expenditure measures are tax provisions, liabilities or concessions that
fall outside a benchmark tax system. Tax expenditures may take a variety
of forms such as tax exemptions, deductions, exclusions, allowances,
credits, deferrals, relief, etc (OECD, 1996 and WB, 2003).
Tax holidays and tax free zones are also examples of tax expenditures
subject to specific periods and geographical areas (Swift 2006).
Technically, tax expenditures may be defined as the gap between
potential tax revenue, which does not contain tax provisions, and net tax
revenue and tax revenue received. However, application of the definitions
of tax expenditures differs among countries.
The establishment of an efficient and effective tax system by giving
special attention to tax preferences plays an important role for a
developing economy like Bangladesh, which faces constraints to requisite
revenue generation due to lower domestic tax bases and increased
integration with the world economy. The analysis of tax expenditure
14

accounting is necessary broadly from two perspectives: first, it gives an

indication about potential areas for further revenue generation; and
second, it gives additional information about actual budget expenditures
of the government that is not reflected in spending program of the budget
documents. This policy note attempts to analyze the concept and size of
tax expenditures in the context of Bangladesh with special references to
India and Pakistan for FY05. It also finds the necessity to re-examine a
few existing tax expenditure measures in Bangladesh.
Existing Tax Expenditure Measures in Bangladesh
The tax system of Bangladesh includes several tax expenditure measures
under the broad headings of direct taxes and indirect taxes. These
provisions, introduced with the enactment of the tax law, have been
subject to changes from time to time. The major policy objectives behind
the tax expenditure measures in Bangladesh are to accelerate the process
of industrialization, to attract foreign currency through increasing exports
and foreign direct investment (FDI) and to ensure social security and
welfare of low and modest income groups.
Tax expenditure measures exist in sectors such as Public Services,
Agriculture,
Labour
and
Employment
Affairs,
Transport
and
Communication and Social Security and Welfare, etc.
Tax Expenditure Measures under Direct Taxes
Various tax expenditure measures exist for corporate and personal income
taxpayers under the existing income tax law. These are summarized
below.
Corporate Income Tax
Tax holiday facility is allowed to newly set-up industrial undertakings,
physical infrastructure facilities and tourism industry subject to certain
specified conditions in order to promote industrialization and employment
generation. Exemptions and deductions are applicable to incomes from
firms in Export Processing Zone (EPZ), 50 per cent of income for export
earnings, power generation companies, computer software businesses,
agriculture-related industry, micro credit for NGOs, local government,
welfare activities, etc. In particular, concessionary rate is allowed at the
rate 20 per cent for those who do not enjoy tax holiday or accelerated
depreciation, 15 per cent for textile and jute industries and 25 per cent for
local authority, etc. Accelerated depreciation is allowed at the rate 100
per cent for new firms.
Personal Income Tax
Exemptions and deductions are admissible to individual incomes from
agriculture-related activities, income of foreign technicians in EPZs,
remuneration of diplomats and foreign employees of an embassy, income
of an indigenous person of Hill Tracts region as individuals, income from
specified savings instruments, etc. In addition, 15 per cent tax rebate is
allowed on investment in provident fund, Deposit Pension Scheme (DPS),
insurance, shares, bonds, etc.
15

Tax Expenditure Measures in Indirect Taxes

Under the various acts of indirect taxes, exemptions and deductions are
given in the area of customs duty, supplementary duty and Value-Added
Tax (VAT).
Customs and Supplementary Duty
Exemptions are granted to local industrial units of a few specific sectors,
viz. EPZ enterprises, power generation companies, poultry and dairy
farms, etc. Concessionary rates are applicable to agro-processing, textile
and leather industry, educational institutions, hospitals, privileged
persons, etc. Incentives are also given to those sectors, which are
complying with the international and bilateral agreements and
conventions.
ValueAdded Tax
Goods and services exempted from VAT include food and agricultural
products, animal products, poultry sector, agriculture inputs, basic
services for living, social welfare services, culture related services, finance
and financial activities related services, transport services, personal
services, etc.
CHAPTER THREE VAT SYSTEM IN BANGLADESH

As mentioned earlier, Bangladesh introduced the VAT as a radical reform

in the indirect tax system. The then government tried to familiarize people
with this new tax system and to make the reform successful. Before
judging the success of this reform, some important issues should be
discussed.
Revenue Structure
Total internal resource generation of a country consists of tax and non-tax
revenues. National performance, therefore, regarding mobilization of
internal resources may be assed by relating the overall tax and non-tax
revenue to national income and comparing these ratios over time. Table 2
gives a picture of the revenue structure of the country.
Table 2
Revenue Structure of Bangladesh, 1972/73 1990/91 (per cent)
Year
Total Revenue /
Tax Revenue / Total
GDP
Revenue
72/73 74/75
5.2
83.0
75/76 79/80
8.8
85.3
80/81 84/85
9.2
84.0
85/86 87/88
9.0
83.9
88/89 90/91*
9.3
83.3

16

As indicated, the revenue GDP ratio rose from a low of 5.2 per cent in the
early seventies to 8.8 per cent in the late seventies and then increased
only marginally and remained at less than 10 per cent even in 1988/89
1990/91. Also tax receipts accounted, as table 2 shows, for more than
eighty per cent of the total revenue earning of the country during this
period. Thus, it is evident that the internal resources generation effort of
the country is low and the loans share of it is borne by the tax revenue.
Tax Revenue
National Board of Revenue (NBR), under Ministry of Finance is the apex
authority of the government for collecting tax revenue. In FY 2005
government collected 77.8% of revenue through NBR sources. Import duty
together with supplementary duty is still cater the largest share of tax
revenue for the government. Value Added Tax (VAT) is second largest
source followed by Income Tax. In FY 2005 VAT accounted for 36% of total
NBR tax revenue where share of Income Tax was only 19%. These figures
reveal the fact that government is largely dependant on indirect tax
sources.

Government also collects tax, duty and fees through different central government and local
government organizations. Non judicial stamps, interest, dividends, profits, are few other
major sources of government revenue.
Table 3: Tax and Non Tax Revenue Collection by Major Heads
Billion Taka
NBR Tax Revenue
FY2001 FY200 FY200 FY200 FY2005
2
3
4
Income tax
36.0
41.0
47.9
52.7
58.5
VAT
61.3
69.6
80.7
85.8
106.1
Import duty
47.7
53.5
58.8
73.0
80.0
Excise duty
2.8
3.0
3.1
1.7
1.5
Supplementary tax
33.6
38.5
43.9
54.3
56.0
Other tax and duty
1.6
1.7
3.2
3.1
3.0
17

Total NBR tax

183.0
Non NBR tax Revenue
Narcotics duty
0.40
Vehicle tax
1.44
Land revenue
2.14
Non judicial stamp
7.92
Total Non NBR tax 11.90
revenue
Non Tax Revenue
Dividend and Profits
7.74
Interest
5.50
Administrative fees
10.22
Service fees
2.56
Non commercial sales 2.13
Railroads
-1.34
Telegraph
and 12.60
Telephone board
Other
non
tax 7.42
revenue
Total
non
tax 46.83
receipts
Total
revenue 241.73
receipt

207.3

237.5

270.5

305.0

0.30
1.45
2.14
8.11
12.00

0.35
2.25
2.06
7.34
12.00

0.40
2.41
2.59
7.10
12.50

0.45
2.67
3.26
8.12
14.50

11.62
4.49
8.72
2.74
2.52
3.90
16.03

8.32
7.25
7.79
4.72
2.96
4.15
16.00

10.54
7.50
9.64
4.82
3.10
4.53
17.02

11.65
6.36
9.88
4.33
2.64
4.79
16.50

7.38

10.51

13.85

16.35

57.40

61.70

71.00

72.50

276.7
0

311.19 354.00

18

392.00

Government Receipts
Tax revenue is the main source of the government revenue. Tax revenue
accounts for about 80 percent of total government revenue. In FY 199697, revenue/GDP ratio was 9.62 percent, which rose to 10.21 percent in
FY2001-02. In FY 2006-07 the revenue/GDP rose to 10.58 percent. Table 4
shows tax and non-tax revenue receipts and tax-GDP ratio during the
period from FY1996-97 to FY2006-07.
Table 4: Revenue Receipts
(In crore Tk.)
Particula
rs

199
6199
7
Total
173
Revenue
85
Tax
142
Revenue
61
Non-tax
312
Revenue
4
As percentage of
Total
9.62
Revenue
Tax
7.89
Revenue
Non-tax
1.73
Revenue

199
7199
8
190
20
153
90
363
0
Gross
9.5

200
3200
4
354
00
283
00
710
0

200
4200
5
392
00
319
50
725
0

200
5200
6
448
68
361
75
869
3

200
6200
7
4947
2
3924
7
1022
5

7.69

199
199
200
200
200
89012199
200
200
200
200
9
0
1
2
3
197
200
243
278
311
67
74
42
93
20
161
160
197
213
249
67
79
78
32
50
360
399
456
656
617
0
5
4
1
0
Domestic Products (GDP)
9.0
8.47 9.6
10.2 10.3
1
5
7.36 6.78 7.8
7.81 8.30

10.6
3
8.5

10.5
7
8.62

10.7
9
8.70

10.5
8
8.40

1.81

1.64

2.13

1.96

2.09

2.19

1.69

1.8

2.4

2.05

Source: National Board of Revenue, Finance Division and BBS. Figures are
based on revised budget.
Tax Management
Determination of tax policy of the government and its implementation are
reposed on the National Board of Revenue (NBR). During FY 2006-07,
various steps were taken to rationalize direct and indirect taxes to achieve
accelerated economic growth aimed at reducing poverty, infusing more
dynamism in the agriculture sector, expansion of export-oriented
industries and exports, development of domestic industries, enhancing
industrial productivity and creation of employment opportunities.
Measures under Direct and Indirect Tax System for FY 2006-07
Measures under Direct Tax system
Limit for tax exempt-income for individual assesses has been
increased from Tk. 1,20,000.00 to 1,50,000.00
For self occupied housing property, interest expense against house
building loan up to Tk. 20,00,000.00 is to be treated as deductible
expenses
Collection of Advance Income Tax (AIT) from credit card bill abolished
Introduction of Universal Self-Assessment System
Deduction of the amount of penalty for non-submission of income tax
return.
Income tax investment rebate for non-resident Bangladeshis
introduced
Deadline for depositing of AIT extended from I week to 3 weeks
19

Like woven and knit garments, collection of AIT at the rate of 0.25%
from the sale proceeds of any good or commodity exported at source
level
Tax exemption on Zero Coupon Bonds
Abolition of upfront AIT from the Treasury bill and Treasury bond issued
by the government
Threshold limit for paying AIT increased from Tk. 2,00,000.00 to
3,00,000.00
Deduction of AIT at the rate of 10% from trustee fee and deduction of
AIT at the rate of 7.5% from freight forward agency commission
Tax Holiday for Solar Energy Plants
Tax exemption period for agricultural industries extended up to 30 June
2008
Exemption facilities for inward remittances in Bangladesh for foreign
nationals withdrawn
In case of jute and textile industries rebated tax at the rate of 15%
extended up to 30 June 2008
Special tax rate of 15% for diamond cutting & polishing industries
introduced
Transfer of capital for new assesses availing and self-assessment
system restricted to prevent tax evasion
10% tax rebate allowed in case of assesses paying tax at the highest
rate of 25% and showing 10% higher income than the previous year
Minimum tax rate for companies introduced by inserting a new section
16cc
New sections of laws introduced for courier services, cash incentives
for exports and credit card
Bangladesh has so far signed agreements with 25 countries to avoid
double taxation
Measures under Indirect Tax System
Customs Duty
Four tier duty structure and the highest duty rate of 25% of last fiscal
year (FY06) remained unchanged in fiscal year 2006-07. However,
customs duty on intermediate goods and basic raw materials reduced
from 13% to 12% and from 6% to 5% in fiscal year 2006-07
Six-tier supplementary duty rates of 20%, 35%, 65%, 100%, 250% and
350% prevailing in the last fiscal year reviewed. Number of tiers remained
unchanged, while two slabs @ 20% and 35% reduced to 15% and 25%
respectively
Tax incidence on sugar in FY2006-07 reduced. Specific duty at the rate
of Tk. 2250.00/MT imposed on raw-sugar, while Tk. 5000.00/MT imposed
on refined sugar in FY 2006-07
Specific duty on mobile phone reduced from Tk. 300.00 to Tk. 200.00
per set
Import duty and taxes exempted from capital machinery and raw
materials for poultry industries
Customs duty rate reduced in some raw materials for plastic,
melamine and electronics industries in FY 2006-07
Some reforms initiated in the Customs Act to mitigate container
congestion at port
20

Value Added Tax (VAT)

(a) In order to ensure quicker disposal of appeal cases, the time limit
reduced from one year to
nine months for Commissioner, Customs,
Excise & VAT (Appeal) and VAT Appellate Tribunal
(b) A provision introduced for taxpayers to get any VAT documents by
providing certain fees
(c) The time limit for submitting challan/invoice (musuk- 11) extended
from 72 hours to 3 (three)
working days.
(d) In the VAT Act, there is a provision for imposition of a minimum fine
ranging from an amount equal to the amount of tax evaded to a
maximum of two and a half times of tax evaded. It is binding for VAT
officials to impose a minimum penalty equal to the amount of tax evaded
even for minor offences. In order to remove this inconsistency, the
amount of fine and penalty reduced in FY2006-07 to a minimum of half
and maximum of the twice evaded tax. On the other hand, in case of
relative minor irregularities the amount of fine and penalty reduced to a
minimum of Tk. 5,000 from Tk. 10,000 and for minor offences to Tk.
20,000.00 from Tk. 25,000.00
VAT exempted on some new items at import and production stages.
The items include sugar, petroleum bitumen (in drum and bulk), waste
paper, synthetic staple fiber, synthetic filament tow at the import stage
and chimney for using kerosene lantern at the production stage
With a view to increasing domestic revenue, VAT network expanded in
FY2006-07 by introducing some new goods and services under the VAT.
These are as follows:
(a) VAT on smart card and infusion set at import stage withdrawn
(b) VAT exemption on land development agencies withdrawn and imposed
@1.5%
VAT imposed on some services for expanding VAT base. These are:
(1) black and white photo studios,
(2) graphic designers,
(3) cellular fixed wireless telephone (a portable telephone set with
antenna, which can be connected with mobile and land telephone
system)
To encourage the development of telecommunication sector, tax
reduced from Tk 900 to Tk 800 for each cellular mobile phone connection
to ensure availability of telecommunication facilities to the people at an
affordable price
To encourage the development of local dairy industries, supplementary
duty withdrawn from local production on packed powder milk sold in
packs of 2.5kg and over
To remove distortion and to ensure equity among taxpayers,
exemptions were withdrawn from turnover tax on some services, such
as,- residential hotel, decorator and caterer, community center, beauty
parlour, shipping agent, air-conditioned bus and railway service and
transmitting advertisement through satellite channels under VAT system
Source: NBR
Revenue Collection Activities
21

Analysis of revenue collection activities for FY2006-07 by categories

shows that the bulk of revenue collection comes from value added tax
(VAT). Income tax occupies the second place in the row. Next positions are
held by import duties, supplementary duty, other taxes and excise duty.
Overall, the share of VAT in the total revenue collection is gradually
increasing. It may be mention that for the first time, income occupies
second position over import duties.
In FY 2004-05, the total revenue collection under NBR amounted to Tk.
29988.66 crore. The collection was Tk. 3795.76 crore higher than that of
the previous fiscal year showing 14.49 percent growth. In FY 2005-06,
total revenue collection stood at Tk.33987.04 crore, which was Tk.
3998.38 crore or 13.33 percent higher than that of the previous year. In FY
2006-07, total revenue collection stood at Tk. 37030.79 crore, which was
Tk. 3043.75 crore or 8.96 percent higher than the collection of the
previous year. Item-wise tax collection from FY2004-05 to FY 2006-07 is
presented in Table 5.
Table 5: Item wise Revenue Collection
(In crore Taka)
Items of Revenue Collection
FY 2004FY 2005FY 200605
06
07
Import Duty
7910.04
7825.43
8161.02
VAT (at import level)
5347.06
5885.65
6292.65
Supplementary Duty (at import 1853.50
1563.42
1188
level)
Total
15110.60
15274.50
15641.67
Excise Duty
143.91
161.15
183.78
VAT (Local)
5106.35
6472.52
7445.83
Supplementary Duty (Local)
3702.94
4665.77
4775.58
Total
8953.20
11299.44
12405.19
Income Tax
5672.30
7141.56
8668.91
Other taxes and duties
252.56
271.54
315.02
Grand Total
29988.66
33987.04
37030.79
Source: National Board of Revenue (NBR).
Table 6: Item-wise Revenue Collection for FY 2006-07
Supplementary Duty
16.1%
Excise Duty
0.5%
VAT
37.1%
Other taxes and duties
0.9%
Import Duty
22.0%
Income Tax
23.4%

22

Tax Structure
The tax structure in the country consists of both direct (income tax, gift
tax, land development tax, non-judicial stamp, registration, immovable
property tax, etc) and indirect (customs duty, excise duty, motor vehicle
tax, narcotics and liquor duty, VAT, SD, foreign travel tax, TT, electricity
duty, advertisement tax, etc) taxes. Since direct taxes represent only
about 19% of total taxes, tax-structure is heavily dependent on indirect
taxes, which are usually of regressive nature. Of the direct taxes, around
69% come from income tax, 19% from non-judicial stamp, 5.7% from land
revenue, 5.6% from registration and balance from gift tax and other direct
taxes.
Indirect taxes (representing 81% of total taxes), on the other hand, are
mainly import-dependent. Around 67% of indirect taxes are collected at
import stage by customs authorities as customs duty (38.0% of indirect
tax or 30.7% of total tax), VAT (24.3% of indirect tax or 19.6% of total
tax), and SD (4.7% of indirect tax or 3.8% of total tax). Balance of indirect
taxes (representing around 26.64% of total taxes) include taxes collected
on domestic production, consumption or transactions such as VAT
(11.4%), SD (11.6%), excise duty (1.5%), foreign travel tax (0.7%),
electricity duty (0.6%), motor vehicle tax (0.7%), narcotics duty (0.2%), TT
(0.03%), air ticket tax (0.01%) and advertisement tax (0.001%). Public
revenue also comes from non-tax receipts such as surplus of sector
corporations, financial institutions, railways, postal department, telegraph
and telephone, judicial stamp, etc, and these non-tax revenues represent
around 19% of total revenues.
Direct Taxes
Income Taxes
Other direct taxes
Indirect Taxes
Taxes on foreign trade
i) Import Duty
ii) Export Duty
iii) Sales (import) Taxes
iv) Other Customs Taxes
23

Taxes on domestic goods and services

i) Taxes on domestic goods
ia) Excise Duties
ib) Sales(domestic)tax
ii) Tax on domestic services
a) Direct Tax
Direct tax in Bangladesh comprises taxes on income and taxes on
property. Table 7shows that the percentage of direct tax in total tax
revenue increased from 16.5 per cent in the early seventies to 22.70 per
cent in 1988/89 90/91.
Table: 7
Tax Structure of Bangladesh, 1972/73 1990/91
(Percentage of total tax)
Tax Head / Period
72/73 75/76 80/81 85/86 88/89

74/75 79/80 84/85 87/88 90/91

1. Direct Tax
16.5
18.0
19.7
22.3
22.70
a. Income Tax
7.6
12.6
13.7
15.0
----b. Other Direct Tax
8.9
5.4
6.0
7.3
----2. Indirect Tax
83.5
82.0
80.0
77.7
77.30
a. Foreign Trade Taxes
43.8
55.9
56.0
52.1
----(i) Import Duty
32.8
37.4
38.9
38.2
----(ii) Export Duty
0.6
2.2
1.0
0.0
----(iii) Sales Tax
9.6
15.9
15.5
13.2
11.86
(iv) Other Customs Tax
0.8
0.4
0.6
0.7
----b. Taxes on Domestic
39.6
25.5
24.0
25.6
----Goods & Services
I. Taxes in Domestic 36.5
24.2
23.5
25.1
----Goods
Ia. Exercise Tax
31.8
22.2
23.2
25.1
----Ib. Sales/ Domestic Tax
4.7
2.0
0.3
0.0
----II. Taxes on Domestic
3.2
1.2
0.5
0.5
----Services
Therefore, revenue earnings from the individual income tax have been
very low. The major reason for such a low tax collection from individual
income tax is the very narrow tax base. Less than 0.5 per cent of the
population is covered in the tax net.
b) Indirect Tax
Although the contribution of indirect taxes as a proportion of total tax
yield has been declining over the years. It still bears the lions share in
overall tax receipts of the country by accounting for more than three
quarters of the overall tax yield. Indirect taxes may broadly be divided
into taxes on domestic goods and services and taxes on foreign trade.
c) Taxes on Domestic Goods and Services
24

Table shows that the share of the taxes on domestic goods and services
remained stable at around a quarter of total tax revenue after falling from
a high of 39.6 per cent in the early seventies. The sales tax on domestic
goods does not exist any more. In fact, as table 2 shows, excise taxes
accounted for almost the entire revenue yield form this source which
stands at a quarter of total tax receipts of the country.
Another interesting feature of taxes on domestic goods and services is
that only a few items generate the total tax yield for excise taxes. In fact,
only four items namely- tobacco, petroleum, petroleum gas and jute
manufacture accounted for more than 70 per cent of total excise tax yield
of Bangladesh in 1984/85. These findings thus clearly indicate that taxes
on domestic goods and services are low and the base is also very narrow.
d) Taxes on Foreign Trade
Foreign trade tax has continued to play a dominant role in the tax
structure of Bangladesh over the years. Table shows that it has accounted
for more than 50 per cent of the total tax yield of the country in recent
years.
e) Others
Excise Duty
Excise duty is currently imposed in Bangladesh under the Excise and Salt
Act 1944 introduced to levy and collect duties of excise on domestically
manufactured goods and also to salt. Before introducing VAT since July
1991, the excise constituted the second largest source of revenue for the
government (about 22% of total revenue), but out of 99 excisable items,
74 were shifted under VAT in 1991-92. The goods and services subject to
excise duty are listed with the tax rates in the First Schedule of the Excise
and Salt Act 1944, which now include BIDI, cloth and cloth goods, and bank
services. Narcotics duty continued to be collected from all kinds of
produced alcohol at rates specified in the Second Schedule of the
Narcotics Control Act 1990 and alcohol products are not subject to excise
duty or VAT.
Sales Tax
The first sales tax was introduced in the former Central Provinces of India
in 1938. In Bengal, sales tax was adopted in 1941. In 1948, sales tax was
transferred as a central tax under the General Sales Tax Act of 1948. The
Sales Tax Act 1951 came into force on 1 July 1951 by repealing the
Pakistan General Sales Tax Act of 1948. Until 1982, sales tax was being
collected under the 1951 Act, which was replaced by the Sales Tax
Ordinance 1982.
The VAT law was promulgated by repealing the Business Turnover Tax
Ordinance 1982 and the Sales Tax Ordinance 1982 with effect from 1 July
1991 by imposing three types of taxes, viz, VAT, SD and TT. Now VAT is
being imposed at 15% on 'value added' at import and all production and
distribution stages of taxable goods and services and collected from VATregistered persons having annual turnover of Tk 2 million or more. In case
of annual turnover of less than Tk 2 million, TT is imposed at 4% on gross
turnover.
Goods and services, which are luxurious, non-essential and socially
undesirable, are subject to SD at rates ranging from 2.5% to 350%.
25

Exports are subject to imposition of VAT at zero-rated, ie, VAT paid at preexport stages is refunded to the exporters. The VAT authority has also
been collecting another tax called 'infrastructure development surcharge'
at the rate of 2.5% since 1997-98 on the value of goods produced in
Bangladesh as specified by the government in this regard.
Income Tax
Income tax was first introduced in the subcontinent by the British in 1860
to make up the revenue deficit caused by the SEPOY REVOLT, 1857. After
independence of Bangladesh, income tax was made effective under the
Income Tax Act 1922 passed on the basis of the recommendations of the
All-India Income Tax Committee appointed in 1921. Currently, income tax
has been imposed under the Income Tax Ordinance 1984 (ITO)
promulgated on the basis of recommendations of the Final Report of the
Taxation Enquiry Commission submitted in April 1979. Income taxpayers
(assessees) are classified as individuals, partnership firms, Hindu
undivided families (HUF), associations of persons (AOP), companies
(publicly traded and private), local authorities, and other artificial juridical
persons. Tax rates and scope of taxable income differ on the basis of
residential status of an assessee (resident or non-resident).
Tax Return
Taxpayers can submit tax return under 'self-assessment' or 'normal'
scheme. In the classified income tax return, an assesses has to show
his/her total taxable income under 9 heads of domestic income and 1
head of foreign income. Individuals having limited income from salary,
wages and/or self-employment can use a one-page tax return to be
submitted only under 'self-assessment' scheme, where only 3 heads of
income are to be shown - 2 heads for domestic 'salary' income (gross and
taxable) and other head for all other domestic/foreign incomes. Tax-base
for income taxation is 'annual total income' computed with consideration
of a number of 'exclusions' provided in Part-A, Sixth Schedule of the ITO.
Corporate Tax
Corporate tax rates for industrial companies whose shares are publicly
traded is 35% and the rate of those whose shares are not publicly traded
is 40%
Deduction of VAT at Source
The authority for deducting VAT at source has been given to the
Government, Semi-Government, Autonomous Organizations, NonGovernment Organization (NGOs), Bank, Insurance or Limited Company.
The services on which deduction at source applicable are listed in the
following page:
Head #

Service Code
#

Service Provider

26

Rate
of
Deduction
(%)

S 003

S
S
S
S

S 004
S 007

S
S
S
S
S
S
S

S
S
S
S

008
020
032
033
034
037
048

S
S
S
S
S
S
S

049
053
060
065

S
S
S
S

S 066

003.10
003.20
004.00
007.00

008.10
020.00
032.00
033.00
034.00
037.00
048.00

049.00
053.00
060.00
065.00

S 066.00

Garage and workshop of motor car

Dockyard
Construction Contactor/Sangstha
Advertisement Organization: Government,
Semi-Government,
Autonomous
Body,
Nationalized Bank and Insurance Sector
Private
Organization,
Non-Government
Sangstha
(NGO),
Private
Bank
&
Insurance,
Limited
Company,
Any
Sangstha or Person
Others
Printing firm/organizations
Survey Sangstha
Consultancy and Supervisory Firm
Lessee
Audit and Accounting Firm
Procurement Service Provider
Transport Contactor:
For carrying Petrol and Petroleum goods
Others
Transport rent provided
Participants of Board Meeting
Buyer of Auction Goods
House
clearing
and
maintenance
organization
Lottery ticket seller

4.5%
4.5%
4.5%
4.5%

9%

15%
4.5%
15%
4.5%
15%
4.5%
2.25%
2.25%
4.5%
4.5%
15%
1.5%
2.25%
15%

The Tax Structure for Individual Tax Payers

If an individual has been in Bangladesh for a period/period totaling 182
days or more in the income year, he/she is considered a resident. In case
an individual has been in the country for 90 days in the income year and
365 days in four years proceeding this year, he/she will also be considered
a resident.
Each individual is entitled to an investment tax credit of 15 percent of the
total income or Tk 100,000 whichever is less. Incomes from small and
cottage industries are entitled to a 5 to 10 per cent tax rebate depending
on the production volume.
On
On
On
On
On

the
the
the
the
the

first Tk. 165,000.00 of total income - no tax obligation

next Tk. 275,000.00 of total income - 10%
next Tk. 325,000.00 of total income - 15%
next Tk. 375,000.00 of total income - 20%
balance of total income - 25%

Tax Holiday
Tax holiday is allowed to industries subject to the relevant rules and
procedures set by the National board of Revenue (NBR) for the following
period according to the location of the establishment.
27

In Dhaka and Chittagong Divisions (excluding 3 hill districts): 5 years. In

other divisions (including 3 hill districts of Chittagong Division): 7 years.
The period of such tax holiday will be calculated from the month of
commencement of commercial production. The eligibility of tax holiday to
be determined by the NBR and the time of the commencement of
commercial production is certified by the respective sponsoring agencies.
The industrial establishment should be registered under the companies
Act. 1994.
Tax holiday facility can be availed by industries coming into commercial
production within 30 June 2000 A.D.
Other Tax Incentives in Bangladesh
Other tax incentives:
Exemption of tax on interest of foreign loan.
Exemption of tax on Royalty/Technical know-how.
Tax exemption on capital gains. Avoidance of double taxation.
Liberal investment allowance for tax assessment.
An accelerated depreciation instead of a tax holiday of a tax holiday is
allowed at the rate of 80 per cent of the actual cost of the machinery or
plant from the year the plant starts production and 20 per cent for the
following year provided the industry is located within a "developed area".
The depreciation is 10 per cent if the industry is set up in a location
considered less than a "developed area".
Tax Rates on Other Companies
Tax rates on income of all other companies including banks, financial
institutions, insurance companies and local authorities are 45%.
Investment requirement by companies enjoying tax holiday: Companies
enjoying tax holidays are required to invest only 25% to 30% of their
income in other activities as per rule of N.B.R.
Turnover Tax
Persons other than those specified by National Board of Revenue (NBR)
through official gazette notification, who produce taxable goods or provide
taxable services but not required to register under section 15 of the Value
Added Tax Act, 1991, and having annual turnover of less than Tk. 20 lacs
shall have to enlist with the superintendent and to pay 4% as turnover tax
in advance.
Following restrictions apply to persons enlisted for turnover tax payments:
a)
Persons enlisted for turnover tax cannot pay tax on the basis of tariff
or truncated value
b)
They cannot obtain input rebate and VAT registered persons
purchasing from turnover taxed persons on the basis of tax challan cannot
also obtain input rebate.
28

An application for enlisting has to be made to the superintendent of

concerned local VAT office, in form Mushak-6. The superintendent is
satisfied on the turnover declared by the applicant shall issue an
enlistment certificate in form Mushak-8.
Records to be maintained
Persons enlisted shall maintain accounts of daily buy-sale transactions in
formMushak-17A and shall also preserve number wise sale cash memo
including enlistment number. Further, declaration of turnover, challan of
treasury deposit, returns etc. shall have to be preserved for at least 4
years.
Deduction of Turnover Tax
Turnover tax can not be deducted at source against supply of goods or
services. However, it is to be ensured through presentation of treasury
challan and certificate about deposit of due tax in advance for the
concerned tax period.
Tax Period for Turnover Tax
Tax period can be annual, quarterly, or monthly. It fully depends on the
convenience of the Turnover tax enlisted person to choose his tax period
and mention the same while declaring annual turnover in form Mushak2B on the basis of his own selection, enlisted person shall have to submit
return to the concerned circle.
Payment of Turnover Tax
In the case of annual declaration, within 30 days of declaration of turnover
and for quarterly or monthly declaration within 15 days of such
declaration tax calculated @4% on the turnover declared, shall have to
deposited to the treasury and the return together with the main copy of
treasury challan have to be submitted to the concerned circle in form
Mushal-3. Tax is payable from the date of enlistment and in absence of
any transaction in any tax period for any reason, tax has to be paid.
Turnover tax is payable in advance within certain days of the
commencement of tax period. Default to pay in due time may attract a
penalty not exceeding Tk. 5000 and 2% of additional tax for each month
as additional tax.
Claming of Drawback
Any registered or enlisted person is entitled to drawback against export
from duty exemption and drawback office (DEDO).
Tax Structure: Institutions and the Reality
Internal resource is the key for sustenance and development for a nation.
Revenue collection scenario in Bangladesh is not yet reached to any
impressive stature. For very poor Tax-GDP ratio, government has to
finance growing budget deficit through substantive amount of foreign
loans and public debts. In FY 2005, Tax GDP ratio was 8.7, while Revenue
GDP ratio stood at 10.64. These figures indicate the poorest performance
29

even among the South East Asian subcontinent countries. However, for
substantive growth in tax revenue collections, in the recent years, TaxGDP ratio is increasing steadily.
Table 8: Revenue-GDP Ratio
FY2001
FY
FY
FY
FY
2002
2003
2004
2005
Revenue
as 9.6
10.21
10.35
10.63
10.64
percentage of GDP
Tax
revenue
as 7.8
7.8
8.3
8.5
8.7
percentage of GDP

Tax revenue constitutes more than 80% of government revenue receipts.

National Board of Revenue (NBR), the authority for collecting tax
revenues, registered impressive tax collection growth during the recent
years. Over the last few years tax revenue form NBR grew steadily, while
growth in non tax revenue sources remained stagnant.

Necessity of Tax Reform in Bangladesh

For socio-economic and infrastructural development in Bangladesh, the
importance of an increase in domestic revenue is well recognized. Since
30

more than 80 per cent of total revenue comes from taxes, restructuring
the tax system by introducing the VAT was thus critical.
Bangladesh relies on heavily on trade taxes. But studies of the tax
structure of certain developing countries suggest that the economic cost
of trade taxes is much higher than domestic consumption taxes. The trade
taxes lead to the creation of inefficient domestic industries by penalizing
exports.
The tax structure (before introducing the VAT) was inelastic, unresponsive
to the growth in overall economic activity. Taxes on agricultural income
and property incomes are negligible and poorly administered.
Therefore, in order to ensure self reliant growth and reduce external
dependence, the domestic resource mobilization efforts in Bangladesh
have to be graded up. Although tax revenues account for more than 80
per cent of total revenue in Bangladesh, the tax efforts i.e. tax-GDP ratio
in Bangladesh was only 7.2 per cent in 1985/86 which is far from
satisfactory, from the point of view of tax collection, even by an Asian
Standard.
So to keep pace with the ever growing public expenditure (which is
required to meet public needs) and make the resources available for
development efforts, there is no substitute for a comprehensive tax
reform. Such a reform should aim at raising revenue as well as eliminating
the tax induced distortions in the structure of the economy. The
introduction of the VAT is the center-piece of this reform effort.
Why the VAT is Preferred for Bangladesh
The reasons for preferences of the VAT for Bangladesh are: it has more
advantages than disadvantages compared to other taxes. Moreover, the
tax structure prior to July 1991. In Bangladesh was highly defective which
is, more or less, discussed above. Tax evasion was widespread particularly
among the rich. The tax structure was also discriminatory against export
and biased towards inefficiency. The tax system was also inequitable and
there were large scale allegation of corruption.
Moreover, there was more than one rate in the tax system which would
result in economic inefficiency and administrative complicacy. The
cascading effect of the indirect taxes would increase the production costs,
induce the producers to evade taxes and generate some problems which
have been discussed earlier. It would also reduce the consumers welfare
through the price-rise.
Therefore, due to intrinsic problems of the indirect tax system, revenue
collection of the government was never satisfactory. To overcome this
deficiency and to make the indirect tax system more dynamic and fruitful,
the VAT has been introduced.

31

CHAPTER FOUR
BANGLADESH

THE

SALIENT

FEATURES

OF

THE

VAT

IN

Policy Issue
Consumption Type, Destination Principle and Invoice Method.
The VAT that has been introduced in Bangladesh is of the consumption
type (as opposed to the income or gross product type) under which the
VAT shall amount to a tax on the consumer goods only leaving out capital
goods. This has been done to ensure neutrality with regard to the choice
of techniques. With regard to the regime for international trade, the
destination principle (as opposed to the origin principle) has been
adopted, under which a VAT taxes all value added, at home and abroad, in
relation to goods that have as their destination the consumers of
Bangladesh. Under this system exports are zero rated and imports are
subject to VAT. The destination principle is compatible with the
consumption type of VAT. The other reasons for adopting the destination
principle are that it emphasizes employment more than consumption and
ensures neutral treatment of imported and domestic goods by taxing
imports and domestic goods going into domestic consumption at the same
rate. In a country like Bangladesh where the exchange rate does not
adjust quickly and the factor prices are also not flexible, the destination
principle has to be favored. In respect of the method by which a tax
paying firm may compute its tax liability, the invoice or tax credit method
(as opposed to the account based method) has been adopted in
Bangladesh in view of its compatibility with a consumption destination
type of VAT. The tax credit method avoids the direct calculation of value
added, instead, the tax rate is applied to a component of value added
(output and inputs) and the resultant tax liabilities are subtracted to get
the final net tax payable. Its other advantages are that the tax liability is
attached to the transaction and the invoice becomes the crucial
documentary evidence and that it creates a good audit trail. Further, any
tax period (monthly or quarterly) can be used under this method, while
the account based VAT would focus on the annual profit and loss account.
Import-cum Manufacturing and Services
With regard to the tax on goods, the VAT in Bangladesh was restricted to
the import and manufacturing stage since the accounting system at the
other levels of operation is weak. Certain selected services (mentioned in
the 2nd schedule to the VAT Act, 1991 where financial services are not
included) have also been brought under the VAT system. This would mean
relatively few registered traders, clearly identifiable taxable commodities
and a less complex administration. The disadvantages here are that the
revenue base is relatively small implying a higher rate of tax and those
firms in collusion with wholesalers or retailers might understate the true
value of sales and thus cause erosion of VAT revenue. In 1996-97 fiscal
budget measures retail level has come under VAT and now only nine
32

groups of goods are VATable at retail sale. In future the retail level VAT will
be expanding.
Single Rate
The standard rate of value added tax (VAT) is 15 percent. However, taxpayers whose annual turnover is lower than taka 2000,000 pay a turnover
tax at 4 per cent instead of a VAT at 15 per cent. In addition,
supplementary duty at 10 per cent to 85 per cent is imposed on specific
luxuries, unnecessary and socially undesirable goods and services. It is
zero rated for goods exported. In addition, all input taxes, if inputs are
used for exported commodities, would be rebated. There are reduced
rates of nine percent, five percent, 4.5 percent, 2.25 percent, 1.5 percent
and zero percent which apply to, for example, certain categories of
advertisement (nine percent), the supply of electricity (five percent),
engineering services, security services, services rendered by construction
contractors, audit and accounting firms, consultants, printing press,
architects, interior and graphic designers (4.5 percent), supplies of goods
and services through participation in a tender/quotation and for
pathological laboratory work, supplies of goods and services by hospitals
and petroleum carriers, maintenance and cleaning of building
floors/premises (2.25 percent), trading services, land development and
construction of apartments, retail sales of furniture (1.5 percent) and
exports of goods and services (zero percent). Supplies of certain goods
and services are exempt from VAT, for example, certain food items (such
as meat, fish, potatoes, vegetable and fruits), jute and jute goods and
social welfare, cultural, training, rehabilitation services and agricultural
development.
Exemptions and Exclusions
Some imported commodities, specific excisable goods and services,
agricultural insecticides and pesticides, books, newspapers, journals,
periodicals, yarn and textiles, educational items, scientific equipment
imported by educational institutions, aluminum utensils, primary
agricultural produce and milling of rice, wheat and pulses are exempt from
the VAT. To derive the maximum benefits from VAT as non-cascading,
efficient and buoyant revenue raising tax system, exemptions and
exclusions should be kept at the minimum. Exemptions not only cause
erosion of the tax base requiring imposition of higher rate to generate a
given amount of revenue, they introduce cascading by bringing about
breaks in the credit chains something the VAT is designed precisely to
avoid. Exemptions necessitate extra record keeping to separate the
taxable from the exempt sales. Further, the distinction between what is
exempt and what is taxed is often tenors or arbitrary. The use of
exemptions can introduce ambiguity into the structure of tax rates by
making the effective tax rate on a commodity a function of the structure
of production, rendering the rate irrelevant. As a matter of principle,
exemptions under VAT are not justified except on overriding administrative
33

expediency or equity grounds. In fact distributive goals would be better

achieved if there exists necessary capacity to administer a comprehensive
transfer system.
Treatment of Small Firms
In Bangladesh, for administrative and record keeping reasons, small forms
have been kept outside the purview of the VAT. Specific industries with
installed capital machinery valued at Taka 300,000 or below are exempt
from the VAT. For administrative and record keeping reasons, small firms
have been kept outside the purview of the VAT in Bangladesh. There are
two bases for exempting the small firms. Specified industries with
installed capital machinery valued below Taka three lacs and with annual
turnover below Taka fifteen lacs, are exempt from VAT. Secondly, all
manufacturers or services renderers having turnover below Taka fifteen
lacs are exempt from VAT. This way of exempting economic activities from
the purview of VAT is not however free from problems. There is the
potential danger of under reporting sales or understating the value of
capital machineries. The borderline cases are also hard to deal with. This
also creates competitive imbalance, since the exempted firms have
artificial price advantage over the taxable firms leading to market
distortions.
Service
Certain selected services were brought under the VAT system in
Bangladesh during the introduction of the system in 1991. A few more
services have also been added to the list in 1992 and in 1996. Since
organized manufacturing accounts for only 15 percent of value added in
Bangladesh, in order to have a meaningfully broad based VAT, it is
essential to expand the VAT system to cover as large an area of services
as possible. But although the total value added by services is quite high in
Bangladesh (about 40 percent) only a small proportion of this value added
could come under the potential VAT base.
Services like education, public administration, and health would certainly
remain outside the tax net leaving only 15-20 percent of total value added
in service sectors that could be covered under VAT. The services however
belong to the difficult tax area. It is difficult to define the service sector
precisely and to measure its output. The location or time of supply or
consumption of services is often elusive or even meaningless. Since the
service sector is characterized by high value added than in the stage of
production, it is immediately susceptible to evasion as well. Again, the
predominance of labor intensive production in service limits economies of
scale thus leading to the creation of a large number of difficult to tax small
service renderers. Nevertheless, for distributional, efficiency and welfare
reasons services should be brought under the VAT net as far as possible.
Further efforts in base expansion would therefore lie principally in this
direction.

34

Broader Coverage
The VAT in Bangladesh has a broader coverage compared with the bases
of taxes it has replaced. All goods except those mentioned in the First
Schedule to the VAT Act 1991 are subject to VAT (some more items have,
however, been declared exempt by specific notifications). Theoretically, a
tax that has consumption as its base has the desired property of being
elastic. Since consumption is the largest component of GDP or value
added, increase in revenue is expected to keep pace with the GDP growth.
With regard to the services also, the VAT base is larger than the excise
base it has replaced.
Treatment of Export
Exports are zero rated under the VAT system in Bangladesh. This implies
that there would be no VAT on exports. In addition, all input taxes (VAT,
customs duty, excise duty etc.) would be rebated. Under the VAT system,
it would be possible to determine the hidden taxes with more confidence.
As such, the rebate procedure would be more efficient and the amount
rebated would approximate the actual input tax content of any export
consignment.
Operational Issues
Taxability
Except those goods and services specifically exempted by notification, all
imported or domestic goods and all services are subject to the VAT. In the
case of imports, the importer and in the case of domestic supply, the
manufacturer supplier is liable to pay the VAT. In case of a service, it is
the service supplier who is liable to pay the VAT (VAT Act 1991).
Time and Manner of Payment
At the import stage, the VAT is leviable and payable before the clearance
of the imported goods from customs. In the case of domestic supply,
although the payment of the VAT takes place at the time of clearance of
the goods from the production premises (Rules 23 of the VAT Rules 1991),
the liability could be born earlier [section 6(2) of the VAT Act, 1991].
Similarly, although the liability is generated earlier [section 6(3) of the VAT
Act 1991], the VAT on services can be deposited into the treasury any
time before the submission of the monthly return.
Input Tax Credit
A registered tax-payer is eligible to take instant credit of the VAT paid on
inputs against the VAT payable on outputs (section 9 of the VAT Act 1991).
For access to the credit against the VAT on domestic supplies or services,
one needs to have in his possession the VAT paid invoice in the case of
domestically produced intermediate inputs / raw materials and the Bill of
entry in the case of imported inputs (Rule 20 of the VAT Rules 1991).
Registration
35

For the ease of administrating all procedure or suppliers of vatable goods

or services or traders or importers of goods or exporters of goods or
services shall have to be registered with the concerned divisional VAT
office. The office allocates a particular number to each of the procedures,
suppliers, importers or exporters or traders to identify as a VAT payer and
this is registration. The certificate in which it is communicated (Mushak-8)
is called registration certificate.
Compulsory Registration
Concerned divisional VAT office can register and inform a person under
section 15(4), when he does not apply for registration though required by
law to do so. He shall be deemed to be registered from the day condition
for his registration becomes apparent. In orther words, he would be liable
to pay output VAT after allowable adjustment of input tax not from the day
of actual registration, but from the day he fulfills the condition for
compulsory registration.
Importers or exporters of any goods (other than listed for turnover tax and
within the scope of cottage industry) producers, traders and suppliers of
vatable goods or services must be registered as a compulsory
requirement.
Only one registration is necessary when more than one taxable goods are
supplied or services provided or imported or exported from the place of
production of vatable goods or supply of services.
Self- Registration
For producers or suppliers of vatable goods or services with annual
turnover below Tk. 20 lacs, and for those within the scope of cottage
industry, registration is not a lawful requirement. Even then some of them
want to register, they can and this is called self- registration. The only
advantage of registration, whether self or legally imposed, is that the
registered producer, supplier or trader can adjust input tax against output
tax which can have a significant role in pricing and selling the goods or
services.
Requirement for Registration
Application in form Mushak-6 shall have to be filed with concerned
divisional VAT officer for registration, Name and address of the
organization, taxpayers class, name of goods produced or procured, trade
license No., TIN, if available IRC / ERC No. (where applicable) shall have t
be mentioned in the application. Following documents shall be enclosed
with the application:Trade License
TIN Certificate (if available)
IRC / ERC Certificate (where applicable)
List of all sale center when applied for central registration.
A declaration in form Mushak-7 regarding place of production or
purchase sale or stock of goods and its inputs.

36

Central Registration
When supply of vatable goods or services or export-import business is
conducted from more than one place but the accounts are centrally
maintained, NBR can, by a special or general order direct to register only
the head office of business. It is known as central registration. Thus, NBR
through SRO No. 167-local/95/119-Mushak directed for registration of
head offices of insurance companies when accounts and records are
centrally maintained.
Necessity of Registration
When the annual turnover or sale of producer or trader of vatable goods
or supplier of vatable services exceeds Tk. 20 lacs registration is a legal
necessity. Turnover of any person, registered under turnover tax, when
exceeds in any continuous 12 months Tk. 20 lac, he shall have to apply to
the divisional VAT officer for registration within 30 days after the end of
the tax period. In the case of a person carrying on his business where VAT
has been newly imposed, he shall be required to be registered from the
day of such imposition.
Following service providers and suppliers of goods are required to be
registered for VAT even when annual turnover is less than Tk. 20 lacs.
(SRO No. 172-Law/2003/380-Mushak).
Suppliers of Goods
Cigarette containing tobacco manufactured mechanically or manually.
Suppliers of Services
Motor garage and Workshop
Film Studio
Dockyard
Survey Firm
Construction Firm
37

Sales Centers of Furniture

Advertising firm
Gold Smith and Silver Smith, shop owner and gold refiner
Printing Press
Medical Center
Architecture Firm
Pathological Laboratory
Indenting Firm
Consultancy and Supervisory Firm
Freight Forwarder
Lease holder
Clearing & Forwarding Firm
Banking Service Provider
Audit and Accounting Firm
Electricity distributor
AC launch service
Glass Cutting Firm
Procurement Provider
Buyer of Auction Goods
Satellite Cable operator
Organizing issuing credit card
Security Service
Money changer
Transport Contractor
Tailoring shop and Tailor
Lessor of transport vehicle
Architect, Interior designer or decorator
Person joining the board meeting

38

CHAPTER FIVE ADVANTAGES OF VAT

The rise of the value added tax (VAT) is a spectacular fiscal phenomenon.
Within a rather short span, this tax has exploded from its rudimentary
form to become the state-of-the-art tax on goods and services all around
the globe. Today the VAT has come to be acclaimed more and more as the
most efficient, broad based and revenue-productive system of indirect
taxation. In recent times VAT has been increasingly adopted by many
developing countries around the world that share with Bangladesh the
same policy objectives of development and socio-economic stability and
are subject to the same constraints that may affect the efficiency of the
tax administration. VAT is a tax on the value added by a firm to the goods
and services it buys from other firms. Operationally, the taxpayer adds
VAT at a given rate to its sales and then deducts the amount already paid
as VAT on its purchases before paying the net amount to the tax
department. VAT thus avoids the taxation of inputs and its base is the final
goods.
Neutrality
The greatest advantage of the system is that it does not interfere in the
choice of decision for purchases. This is because the system has anticascading effect. How much value is added and at what stage it is added
in the system of production or distribution is of no consequence. The
system is neutral with regard to choice of production techniques, as well
as business organization. All other things remaining the same, the issue of
tax liability does not vary the decision about the source of purchase. VAT
facilitates precise identification and rebate of the tax on purchases and
thus ensures that there is no cascading effect of tax. In short, the
allocation of resources is left to be decided by the free play of market
forces and competition. A significant factor in the importance attached to
VAT in the EU countries is its ability to treat intra-commmunity trade as
also trade with other countries with complete neutrality, that too without
any distortion by taxation. This is possible when the VAT is applied where
the goods are consumed and not at a place where goods are produced.
39

Certainty and Transparency

The VAT is a system based simply on transactions. Thus there is no need
to go through complicated definitions like sales, sales price, turnover of
purchases and turnover of sales. The tax is also broad-based and
applicable to all sales in business, thus there is little room for different
interpretations. Similarly, due to the basic feature that it gives credit of
tax paid on earlier stage, the buyer will always ask for invoice. Thus the
scope of tax avoidance or evasion will be much less. The disputes will also
be fewer. This system brings certainty to a great extent. So also, the buyer
knows, out of the total consideration paid for material, what is tax
component. Thus, the system ensures transparency also.
In Widespread Use
VAT is in use in well over sixty countries throughout the world. In its usual
form, it is a transaction-based consumer tax applicable to both goods and
services, with the invoice (on which the VAT liability may be shown
separately) acting as the basic evidential document. It is neutral in effect,
the tax liability on sales (outputs) being offset by the tax paid on
purchases (inputs). It thus avoids "cascading"; tax being paid again on
goods which have already borne tax, which frequently occurs in the case
of general sales taxes.
Harmonized System of Taxation
Vat became popular because of its built-in advantage of harmonizing the
tax structure. It leaves very small room for interpretation. Even the entries
prone to varied interpretations, under VAT, do not make any difference
either to dealers or the Government. Ideally under VAT, there should be
only one basic rate. In any case, typically, VAT involves lowering the
number of tax slabs/rates resulting in reduction of litigation.
Better Revenue Collection and Stability
The Government will receive its due tax on the final consumer/retail sale
price. There will be a minimum possibility of revenue leakage, since the
tax credit will be given only if the proof of tax paid at an earlier stage is
produced. This means that if the tax is evaded at one stage, full tax will be
recovered from the person at the subsequent stage or from a person
unable to produce to proof of such tax payment. Thus, in particular, an
invoice of VAT will be self enforcing and will induce business to demand
invoices from the suppliers. Another attribute of VAT is that it is an
exceptionally stable and flexible source of government revenue. The
stability of VAT as a revenue source stems from the fact that if
consumption is less volatile the income system provides a flexible
instrument of taxation, since it is collected on a current basis. The
40

decision about revenue can also be taken correctly as variance in rate of

tax has directed relation with revenue collection.
Exports
VAT frees exports from the burden of tax in that the tax paid on inputs can
be identified and recovered by the exporter. Consequently, goods enter
into international trade on an equal footing in this respect with those from
other countries.
VAT as an Aid to Tax Reform
A full VAT paid on importations and extending throughout manufacturing,
wholesale/distribution and retail businesses - and including services provides a wide tax base and, depending on the state of the economy, a
buoyant source of revenue. Because of this revenue-generating capability,
the introduction of a VAT can be used to reform or modify other taxation
structures. For example, high customs tariffs may be lowered, a complex
series of excise-type rates of tax simplified, or an unsatisfactory sales tax
removed.
Planning Skills
In order to produce good results, the introduction of a VAT, whether a full
or partial ("credit") system, needs to be carefully planned. This requires
the setting up of a team dedicated to the work and allows new skills to be
developed, possibly with the assistance of consultants who have been
involved in such projects in other countries.
Increased Administrative Capabilities
The introduction of a VAT will require the drafting of new law and new
regulations. For the administration, this will involve the setting up of new
organizational structures, the designing of new procedures and forms,
writing of new instructions, arranging for the provision of better
management information and statistics, etc. This gives the administration
the opportunity to develop new skills and abilities which can subsequently
be deployed right across the tax systems. A necessary feature of a VAT is
the introduction of computer systems or the enhancement of those
currently in operation. In country experience may be limited in this area of
work and the gradual approach to the taxation system can be of real
benefit here.
New Relationship with Taxpayers
In some developing countries, contacts between the administration and
the taxpayers are limited to routine control duties and to enforcement and
audit activities. Introducing a new tax allows a fresh approach to be made.
41

Publicity campaigns can be designed with a view to improving the

taxpayer's view of officialdom. Simple explanations as to why a new tax is
required and how it will work may improve the image of the taxation
authorities. Different approaches to the education of taxpayers can be
adopted, and the use of explanatory leaflets in easily understood
language and in eye-catching layout can help. Many steps can be taken to
improve the administrator/taxpayer relationship which may lead in the
longer term to improved trader compliance.
Better Record Keeping by the Business Community
The control of VAT rests on the use of invoices and the keeping of records
by the taxpayers. Larger companies in most countries generally keep
adequate records, usually held on computers. Often it is the small
companies, frequently sole proprietorships that are not keeping proper
records. It is these people that are the most difficult to control effectively
for the purposes of taxation. In this connection, much will depend on the
level of turnover at which businesses are required to register for tax. If the
level is set too low, the cost of adequate control may become excessive.
Good publicity aimed at the education of taxpayers in the requirements of
the tax will facilitate its administration and can lead, in time, to a general
improvement in business procedures.
Use of Unique Numeric Identifiers
For a VAT it is essential that each business registered for the tax is
identified by means of an identification number unique to that business.
Where a suitable system of numbering already exists, it should be used
for the VAT. Where it does not, a system of unique numbers (incorporating
check digits) will have to be developed. Once established the VAT system
of unique numbers can be extended to other tax and associated areas.
This can lead to each business using one number for most of its
transactions with government.
Training: An Essential Element of Progress
A neglected area in many administrations is training. Good training is
expensive to design and carry into effect, but the rewards are great. Work
is done better and complaints are fewer; there is greater flexibility in the
use of staff whose morale and motivation are improved. As a result, costs
are reduced. To introduce a new tax with any degree of success, staff at all
levels must be well trained - from junior clerks to top management. This
provides a further opportunity to improve on past performance. In the
case of VAT, experience is gained in such matters as reviewing and redesigning training organizations, obtaining accommodation where this is
currently inadequate, obtaining modern training equipment, preparing
new course material, examining and improving training methods. Careful
selection of a central core of trainers is essential since they will be
42

responsible for training the staff, and some expert assistance may be
necessary. Here again, much of the training experience and the strategies
adopted for VAT can be used, after any necessary adaptation, to improve
the situation in regard to other taxes.
Other Benefits of VAT
The VAT avoids most of the negative features of the sales tax and excise
taxes. It removes cascading, allowing the tax content of any product to be
known with greater degree of certainty and thus leading to better
resource allocation decisions as the investment decisions can be taken
independent of the tax policies. The self policing and cross checking
properties of VAT as well as its collection in stages, leave less incentive for
evasion. There is no frequent change in tax policies allowing investors to
operate in a certain and stable tax environment. VAT simplifies tax
administration and increases efficiency in resource allocation.
CHAPTER SIX DISADVANTAGES OF VAT

Despite having the advantages, the VAT is not free from its limitations. It
has the following limitations:
Price Effect of VAT on Retail Price
A persistent criticism of the VAT form has been that since the tax is
payable on the final sale price, the VAT usually increases the price of the
goods. However, there appears to be an intrinsic reason as to why should
have any inflationary impact if it merely replaces the existing equal yield
tax. It is possible that the final price under the VAT system may not be
more than the price under the sales tax system. A survey of the price
effect of introducing in more than 130 countries resulted in a conclusion
that in more than 80% countries it did not alter the rate of inflation. It may
also be pointed out that with the introduction of VAT; the tax impact of
raw material is to be totally eliminated.
Cost of Administration to State
Another point which needs consideration is the question of the cost of
administration to the state. Because of introduction of VAT, the
administration cost to the state can increase significantly as the number
of dealers to be administered will g up significantly. However, this increase
is required to be evaluated against the likely gains under the VAT.
Compliance cost to the Dealers
43

It is argued that for compliance with the VAT provision, the accounting
cost will increase. The burden of this increase may not be commensurate
with the benefit to traders and small firms. Though under sales-tax laws, it
may be stated that a transaction of sale is liable to tax, but for the
purpose of the liability, the purchase nucleus is required to be found out. If
the purchases are from a registered dealer, it will be a resale., if purchases
are from outside the state, the sale will be a first sale. Therefore, even
without the introduction of VAT, for taxation of a sale transaction, the
source of purchase has to be considered. Under the VAT also, a closed
account of the purchase will have to be maintained.
Increase in Working Capital Requirement
Another possible weak point in the introduction of VAT, which will have an
adverse impact on it is that, since the tax is to be imposed or paid at
various stage and not on last stage, it would increase the working capital
requirements and the interest burden on the same.
Regressive
Opponents of the VAT argue that the VAT, like ant other consumption
based-revenue source, is inherently regressive. Those least able to pay
face the highest overall burdens. Because it is believed that the VAT is a
broad based tax levied on essential goods and as such must be
regressive.
Other demerits of VAT system areThe VAT needs a formal economy where all economic units from importers
to retailers document their transactions, and maintain accurate records.
However in developing countries, the informal economy covers substantial
trading which is not documented and registered. Moreover, the low
literacy rate may result in poor compliance of the VAT Act and Rules.
Therefore, the VAT in such countries may fail to achieve its objectives.
From the perspective of equity and justice, necessities and small units are
exempted from the VAT. Although this reduces administration costs of the
government, and the burden of compliance on the small units, such
exemption narrows the tax base, distorts the system and limits its
success.

44

CHAPTER SEVEN ECONOMIC EFFECTS OF THE VAT

The performance of the old tax system was not at all satisfactory from the
revenue point of view. While increased revenue is ever demanding for
infrustructural, social and institutional development for this poor country,
the tax-GDP ratio is only half of our neghbouring countries (In India,
Pakistan, and Srilanka the tax-GDP ratio is 17, 14 and 15 percent
respectively). So, though the purpose of introducing the VAT is overall
reform of indirect taxation, the main objective of the government is to
raise the revenue maintaining possible equity and efficiency of the
taxation. The various effects of the VAT are discussed below.
Price Effects of VAT
The most sensitive aspect of VAT introduction is its effect on prices. It is
because of this, the policy makers of different countries are often
reluctant to introduce VAT in their countries. This fear is essentially
groundless. VAT can lead to a once-for-all increase in prices if more
revenues are desired. But there is nothing inherently inflationary about
VAT. A study on international experience involving thirty nine countries
shows that there was no price increase in twenty two countries. In the rest
of the countries, there were one time price increases. Since VAT is a very
big structural change, it often creates uncertainties in the minds of the
businessmen and the consumers the consumers anticipate inevitable
price increase, while the businessmen use the across the board tax
increase to widen profits. Prices could rise for reasons other than VAT as
well, depending on the timing of VAT introduction. Although price
increases were also apprehended in Bangladesh, the experience suggest
that there has not been any significant rise in prices that could be
attributed to VAT.
The Vat can lead to a once and for all increases in prices and if more
revenues are desired but there is nothing inherently inflationary about the
45

VAT. A study on international experience conducted by Alan Tait of the IMF

shows that out of 31 countries there is no price increase at all in 21
countries. In the rest of the countries, there were one time price increases.
It is very difficult to find out how much price has incresed in Bangladesh
due to the VAT. An in-depth study required for this purpose. However, 5
percent and 4.5 percent inflation rates in 1991-92 and 1992-93
respectively in Dhaka city compared to 9.3 percent and 6.3 percent in
1989-90 and 1990-91 respective indicate no adverse effect of the VAT on
domestic price level.
Another way of finding the effects VAT on price level is to compare the
consumer price indices (CPI) before and after the introduction of VAT. For
this purpose, CPI of middle income group of Dhaka city and CPI for rural
families at Dhaka are taken into consideration.
Table 9
Annual Average consumer price indices for
Middle Income Group in Dhaka City
Year

Food

Rate of
Increas
e

98-99
99-00
00-01
01-02
02-03
03-04

566
606
648
684
676
679

--7.07
6.93
5.56
-1.17
0.44

Clothing
and
Footwea
r
348
374
399
410
422
431

Rate of
Increas
e

General
Index

Rate of
Increas
e

--7.47
6.68
2.76
2.93
2.13

579
633
689
724
734
747

--9.33
8.85
5.08
1.38
1.77

Table 10
Consumer Price Index for Rural Familities at Dhaka
Year
Food
Rate of Clothing Rate of General Rate of
Increas
and
Increas
Index
Increas
e
Footwea
e
e
r
98-99
449
--830
--480
--99-00
463
3.12
936
12.77
510
6.25
00-01
493
6.48
1025
9.51
556
9.02
01-02
526
6.69
1082
5.56
591
6.29
02-03
516
-1.90
1120
3.51
593
0.34
03-04
526
1.94
1151
2.77
606
2.19
Both the Tables show the rates of increase of CPI are much lower in post
VAT periods compared to pre-VAT periods. To examine the price effects VAT
from the point of view of groups of commodities, indices of wholesale of
agricultural and industrial products have been considered. Table 11 gives
the picture.
Table 11
Indices of wholesale of agricultural and industrial products in
Bangladesh
46

Year

Agrl.
Rate of
Indust.
Rate of
All
Rate of
Product Increas Products Increas Groups Increas
s
e
e
e
98-99
1175
--1034
--1129
--99-00
1276
8.60
1118
8.12
1225
8.5
00-01
1297
1.65
1233
10.29
1276
4.16
01-02
1333
2.77
1303
5.68
1323
3.68
02-03
1353
1.50
1331
2.15
1346
1.74
03-04
1437
6.21
1361
2.25
1413
4.98
Table 11 also shows that the rate of increase of indices of wholesale price
of industrial products is lower in podt-VAT periods though it shows slightly
different picture in 1993-94. The rate of increase of indices of wholesale
price of agricultural products of post-VAT periods show inconclusive trend.
This may be due to the fact that agricultural commodities have been kept
outside the purview of VAT. However, it is noticed that price could rise for
reasons other than the VAT as well. For example, exppansionary wage and
credit policies are often associated with a prise rise.
Distribution Effects
It is usually argued that VAT is a regressive tax, as it is applied at uniform
rate and there are few exemptions. But it can be made progressive if the
items consumed by the rich are taxed more. In fact, the taxes replaced by
the VAT were no less regressive. VAT is not designed to correct inequities.
It is a part of the overall tax system in the country and as such the impact
of VAT should be considered in the context of the overall tax system. In
fact, tax system is not an efficient instrument for ensuring equity. If more
revenues are available to the government, equity aspect could be better
taken care of by increasing the supply of government services targeted to
the poor better housing, improved medical care and better education.
Revenue Effects
In the developing countries, VAT has been acclaimed as a money machine.
In India, revenue growth was twenty eight percent, in the first year of the
introduction of MOD VAT compared with twelve percent in the year before.
In Indonesia, revenue collection just doubled during the first year of
introduction of the VAT. In Argentina, Chile, Costa Rica and Korea, the ratio
of revenue to GDP grew by fifty percent during the first three years
compared with revenue from indirect taxes replaced by the VAT.
In Bangladesh, VAT has been found to be moderately revenue augmenting
during the first years of introduction. In terms of complexity of
development, demand for human resources and the impact it will have
the society, the implementation of VAT in Bangladesh will rank as one of
the most significant development projects ever undertaken in this country.
The introduction of VAT in any country poses a gigantic management
problem. The transitional issues need special attention which often span
over 3-4 years. Once the transitional phase is over, and the base is
47

consolidated, then the benefits of the system come into full play. It is,
therefore, imperative to strive hard to lay the system firmly in place,
initiate related changes and integrate the same into socio-economic
mosaic of the country as surely and as smoothly as possible so that the
tax induced and related distortions are removed, paving the way for
industrial expansion along economically justified lines and at the same
time enough revenues are generated to reduce external dependence and
contribute to the building of a self-reliant Bangladesh.
The Vat has been acclaimed as the money machine. Most of the countries
introducing the VAT have achieved remarkable success in internal
resource mobilization. In India, revenue growth was 28.5 percent in the
first year of the introduction of MODVAT compared with 12 percent in the
year before. In Indonesia, revenue collection was just doubled during the
first year of the introduction of the VAT. In Argentina, Chile, Costarica and
Korea, the revenue of ratio to GDP grew by at least 50 percent during the
first three years of the Vat adoption, compared with revenue from the
indirect taxes replaced by the VAT. The VAT was in UK rasing by 19 percent
of central government revenue from taxation. An al pervasive tax base
and efficient system of administration and direction helped to increase
revenue substantially.
In Bangladesh, VAT is also proved to be augmenting. The following table
gives a clear picture:
Table 12
Revenue from sales tax / VAT (in million taka)
Head
19979899000102030498
99
00
01
02
03
04
05
Sales
5359
5059 5318 1014 1116 2866 4065 43900
tax/VAT
1
5
1
0
i) On
5359
5059 5318 1014
--------imports
1
/exports
ii) Locally
--------2002 8987 1035 11400
manufactur
0
ing
iii) Import
--------7892 1532 1740 18250
VAT
8
0
iv) supple
--------1271 4364 1290 14250
mentary
0
duty
The table 12 shows that tax revenue has increased about 3 times in 199293 and 4 times in 1993-94 compared to 1990-91. The VAT on imports as
well as local manufacturing is increasing every year at respectable rate.
Effects on Equity, Efficiency and Neutrality
As mentioned earlier, VAT is a proportional tax to lifetime income. Even if
it considered as regressive, this regressive effects can be reduced by
applying a zero rate to products with a higher weight in the consumption
basket of the low income groups. Equity can be maintained by exempting
48

necessities and small units from the VAT. In Bangladesh, for example,
wholesalers, retailers, and the firms whose annual sale is less than Taka
1.5 million are exempt from the VAT. For egalitarian reason,
supplementary duties at different rates are imposed on luxuries in
addition to the VAT.
Equity of VAT can also examined by comparing the tren of CPI of ruralurban population after the introduction of VAT. Table 4 and table 5 show
that the rate of increase of CPI of middle income group at Dhaka city and
that of rural families at Dhaka have the similar trends in post-Vat periods
in Bangladesh. So the VAT in Bangladesh does not adversely affect the
consumption pattern of any particular group and hence, it is equitable.
However, equity of Vat from the point of view of vertical income groups
could not be examined due to data limitation.
The VAT in Bangladsh is levied at a uniform rate of 15 percent. Although, a
few goods and services are exempted from the VAT for equity reasons, it
could be argued that VAT in Bangladsh generallybears high marks of
neutrality.
Effects on the Balance of Trade
A destination based VAT requires a border tax adjustment, which levies
the VAT on imports and rebats the VAT on exports. This border tax
adjustment is commonly perceived as providing a trade advantage, but
this adjustment does not improve the balance of trade.
Apparently, it seems that taxing imports and exempting exports would
create a cost advantage for domestic industries that would in turn
improve the balance of trade. However, this apparent cost advantage
resulting from border tax adjustments would be quickly offset by an
adjustment in exchange rate if the changes in other macroeconomic
policies do not occur.
The balance of trade in Bangladesh has been shown in table 13. The table
shows that the balance of trade does not differ significantly before and
after the introduction of VAT, though it is slightly better in 2000-01, 01-02,
and 02-03 compared to 1999-2000. This suggest that appropriate changes
in macroeconomic policies are required to have the benefit on the balance
of trade from VAT and for this purpose, further research is essential.
Table 13
Balance of Trade of Bangladesh (Crore Taka)
Year
Export
Import
Balance
98-99
4268.6
9507.5
-5238.9
99-00
5141.5
11330.5
-6189.0
00-01
6027.2
11187.7
-5160.5
01-02
7419.8
13275.6
-5855.8
02-03
8821.5
13819.8
-4998.3
Effects on Investment and Economic Growth

49

The VAT has increased revenue in Bangladesh and this increased revenue
could be used to reduce the fiscal deficit, reduce the public sector
borrowing requirement, allow interest rate to fall and thus stimulate
investment. Investment will be further increased as capital goods are
exempted from the VAT in Bangladesh. This resulting increase in
investment wil in turn accelerate economic growth. Table 14 shows
investment stimulation in Bangladesh.
Table 14
Investment in Bangladesh (million Taka)
99-00 00-01 01-02 02-03 03-04 04-05 05-06
Investm 94427 95955 109851 13521 15893 19465 22120
ent
4
7
1
0
a)
Pri 47275 48562
60063
74406 80676 11017 13934
vate
2
3
b) Public 47152 47393
49788
60808 78261 84479 81857
It is observed from the table 14 that investment in Bangladesh is
increasing over the years, and the rate of increase is higher in the postVAT periods than pre-VAT periods. For example, the rate of increase of
investment was only 1.6 percent in 2000-01 against 23.0 percent in 200203 and 22.5percent in 2004-05. However, the VAT is not the only
contributor to this increased investment. There are many factors like
interest rate, govt. policies etc., which work behind this success. A detail
study is certainly needed to see the net effect of VAT on investment.
Nevertheless this study finds a positive correlation between VAT and
investment.

CHAPTER EIGHT TAX REFORM

Tax Reform
Introduction of value added tax (VAT) in July 1991 replacing sales tax on
imports and many domestic excises, at a rate of 15 percent of the
manufacturing-cum-import stage is a major tax reform in the country. It is
argued that among others it will raise revenue yield by increasing the tax
base and improving the elasticity of the tax structure of the country. Sales
tax on import covered under VAT accounted for about 12.2 percent of the
total tax estimates for 1991/92 and the commodities previously under
excise coming under VAT, accounted for about 8.1 percent of the total tax
yield.
The major contributor to the excise taxes (about 70 percent), namely,
tobacco, natural gas and petroleum were initially left out of the VAT net.
Thus 60 percent of the VAT tax yield came from sales tax on import which
was already the most efficient tax head since, once the import duty is
paid, one cannot avoid paying sales tax. Given the tax rate, tax yield
under this head will be similar by whatever name it is collected. VAT
50

replacing excises show that it still accounts for only around 8 percent of
the total tax yield and as such the tax base remains very narrow. Unless
VAT net is comprehensive it cannot achieve among other, the objectives of
being a general tax covering, as far as practicable, all goods and services
and be levied on all stages of production and distribution including the
retail stage.
A piece meal introduction of VAT negates its theoretical superiority over
other tax handles because effect of an exemption prior to final stage is
accumulation of tax caused by including previously paid VAT in the base
upon which a later VAT is applied. Thus the cascading effect, which VAT
was supposed to have avoided, is reintroduced. In fact, almost all the
attributes to VAT such as being neutral, non-discriminatory between
products etc. on which it is theoretically justified to be superior to other
tax systems are completely destroyed unless it is a comprehensive one.
Theoretically there is no reason as to why the tax structure of Bangladesh
should not be elastic. Direct tax rates are very progressive while ad
valorem tax rates imply proportional tax rates for indirect taxes.
Therefore, as national income increases, yield from direct taxes should
increase at a faster rate since higher proportion of increased income
would be paid in taxes. Elasticity of tax bases should determine the
overall income elasticity of indirect taxes. We have noted that all the
major tax bases of indirect taxes are elastic. Hence there is no reason as
to why even overall indirect tax yield should be inelastic. The problem was
identified to lie primarily on administrative capability. The success of VAT,
on the other hand, crucially depends on efficient administration and
developed accounting system. One need not argue about the state of
accounts keeping in ordinary transactions in Bangladesh while poor
administration is the major weakness of our tax system. Thus poor tax
administration and narrow tax base remain to be the crucial stumbling
blocks in improving our tax revenue and elasticity of the tax structure.
Composition of indirect tax yield, on the other hand, still remains similar
to what it was before the tax reform. Excise taxes still accounted for about
a quarter of total tax revenue in 1991/92 and about 70 percent of it was
contributed by tobacco, natural gas and petroleum which were left out of
VAT net. VAT replacing excise show that it still accounts for only around 8
percent of total tax yield implying that the tax base under this head is still
very narrow.
To get full advantage of VAT it should be comprehensive covering both the
production and distribution and unto the retail stage. The elasticity of the
tax system can be ensured only if it covers all sales. If the tax is truly
general, no matter what part of the economy is expanding, the VAT will
respond at once to that activity. During a transitional period, such as the
one Bangladesh is passing through now, a zero rate of tax at the retail
stage or to goods and services that are to be exempted from paying taxes
may be imposed. This is a technical device to operate a complete VAT
structure while still exempting some commodities entirely from tax. The
zero rates is an actual tax rate of the VAT, the same as 15 percent, 10
percent etc. Thus, the credit offset on purchases can be claimed against
the liability i.e., zero. On the other hand, a good which is exempt cannot
claim any credit and has no tax liability against which to offset it and
thereby pays tax on input which must be wholly passed on or absorbed.
51

In this way, the zero rates allows consumers complete exemption

because, for instance, the retailer can claim full amount of tax he has paid
on his input and, therefore, pays no tax, while all the previous stages have
passed their tax liability fully forward. Initially it will involve the required
cost of administration without yielding any revenue. But this will bring all
economic activities under the VAT system which will help achieving the
ultimate objective of having an elastic tax system for the country.
Inevitability of the imports as a tax base was reinforced when value added
tax (VAT) was introduced in the country. In relation to the domestic
production, excises, and in relation to the imports, sales tax and
development surcharge were replaced by a very simple form of Value
Added Taxes in 1991. Introduction of VAT was the result of global
popularity of the system as a modern tax and the increasingly felt need
for harmonization of the tax systems across the world. It is interesting to
note that the replacement of the sales taxes and the DSC at the import
stage by the VAT resulted in a higher effective rate of duty, but went
rather unnoticed for obvious reasons. However, the single flat rate of VAT
is ideally simple in nature, but inconsistent with the broader policy of
differential treatment of different commodities for obtaining non-revenue
socio-economic goals of the nation. VAT at the import stage confirms the
inescapability from the foreign trade bias of the prevailing tax-structure.
Starting with Caves who analyzed Canadas Tariff structure from a political
decision making perspective, various alternative tax reform models have
been developed for explaining the existing tax structures. On the face of
it, the reform activities in Bangladesh illustrates an environmental
dependency model where the changes occur in response to the political
and economic environment in the context of which the tax policy makers
operate. But a deeper analysis reveals a Niskanian rational model where
the individual bureaucrat is assumed to be rational actor seeking to
maximize personal gain and self-interest in course of day to day activities.
In this light, tax reform in Bangladesh, appears of to be mainly the product
of bureaucratic polity who seeks to protect their position by minimizing
the political cost of tax program while preventing a budget short-fall. They
are constrained by the nexus of the political-government and the incomeearners cum consumers as the interest groups. Any substantial reform
would that the political government affords to break this nexus and comes
forward with reform package purported to make a breakthrough in
revenue mobilization. In a variant of this model, it has been suggested
that minimization of political cost may be considered an objective function
of the governments. Political cost in essence is the untoward possibility of
displacement from authority. Any political regime coming to power
through an illegitimate way is destined to face significant level of threat.
Given that the power regime is aware of it, it has been asserted that some
political behavior organized around the goal of risk reduction is quite likely
to take place. In the prevailing circumstances, the foremost target of any
revenue augmenting reform would be to set up a long run pattern of
revenue growth which is not lower than the growth of national income and
in addition, commensurate with the annual growth of the expenditure
budget. The long run trend should be at such a level that any minor
fluctuation would not threaten with a budget deficit and would not call for
52

ad hoc fiscal measures. This would require a linkage of the tax to its base
and choosing a base which is well linked to the growth of national income.
After a successful linking of the taxation mechanism with the growth of
income, comes the second target of harmonizing the tax program with the
broader socio-economic objectives of the country. Operationally this would
require comprehensive rationalization of the tax structure in conformity
with the national plans for growth and development. This would demand
an integration of the tax planning with the tax policy making. This
integration would be required at the official level and would call for reorganization of the entire tax policy sector. Unless such steps are taken, it
is feared that the formulation of reform oriented tax policy would continue
in the traditional incremental pattern and the source of the problem would
continue to exist. Finally, any major revenue augmenting tax reform is
expected to raise the tax liability of the people in direct or indirect way.
This would, therefore, require political will and capability of a stature that
transcends the capacity of the bureaucratic polity. Consequently, unless
there is a political leadership of the reform movement, it is unlikely that
any worthwhile reform program will materialize.
Why VAT?
A striking feature of recent tax reforms world-wide has been the steadily
growing number of countries adopting the Value Added Tax (VAT). Since
the 1960s, more than 60 industrial and developing countries have
embraced the VAT and it has become the main consumption tax across
the globe. Although the specific reasons for adopting the VAT differ from
one country to another, the main argument is that properly designed VAT
raises more revenue with less administrative and economic cost than
other broadly based taxes. VAT does not influence the methods of doing
business, it ensures neutrality in international trade by freeing exports of
tax, treats import and domestic goods the same, and is much harder to
evade in comparison to other consumption taxes. There can be no doubt
about the significant advantages to be gained from the introduction of
VAT. This is borne out by many of the studies carried out in countries
which have introduced it, showing a growth in revenue yield and
stimulation of the economy. If a developing country needs to review its
taxation strategy, the use of a VAT as a first step should be given serious
consideration. The widespread use of this tax in highly industrialized and
developing nations alike indicates that it has a basic effectiveness that
cannot be ignored. However, it is not a simple tax, and needs care in its
introduction and administration. There is much to be said for making a
virtue of necessity, and if it is decided to adopt a VAT then the opportunity
should be taken to upgrade the government department which is being
made responsible for its administration. The benefits of all the
introductory work (improved procedures, forms design, computer systems,
training, publicity campaigns, etc.) can then not only produce a better
performance of the tax itself, but can also serve as a valuable guide and
example to be used to carry out improvements in the working
arrangements of other taxation regimes in force in the country.
Furthermore, an effective VAT can, in time, lead to improvements in record
53

keeping and reporting by businesses which benefits the whole of the

trading community. In introducing a VAT many countries have encountered
serious difficulties due to two main causes. The first is that the basic tax
structure has been made too complex, e.g. too many rates of tax, too
many exemptions from tax, etc. The second is that the administration
has found itself unequal to the task of making the tax operate with a
reasonable degree of success.
VAT AS AN INSTRUMENT OF TAXATION POLICY
Taxation forms only one part of the economy of a country, and the
proportion of gross domestic product (GDP) it absorbs will vary according
to the requirements and dictates of the state. What is certain, however, is
that an adequate and assured flow of revenue is essential to any
government. This is perhaps particularly true in those cases where
industrialization remains limited, domestic savings are too small to
provide sufficient investment for economic growth, and terms of trade are
adverse with balance-of-payments difficulties arising. Such problems are
often of concern to developing countries, and therein we examine the
position of Value Added Tax (VAT) as a factor in their taxation strategies.

A GRADUAL APPROACH TO CHANGES IN TAXATION

STRUCTURE
It would be inappropriate to review one tax in isolation,. An initial review
of the total taxation structure (direct and indirect taxes, including customs
tariffs and any relevant local or state taxes) is advisable. This does not
mean, however, that action should be taken to change all the taxation
regimes at the same time. A step by step approach is both safer and more
certain of achieving the desired end result of improved revenue yield from
an increasingly compliant taxpaying fraternity.

THE ADVANTAGES FOR DEVELOPING COUNTRIES

In the case of developing countries, the approach recommended has
many advantages. The likely outcome of the exercise can be more
accurately assessed and, because the number of potential VAT taxpayers
is likely to be fewer, the workload imposed on the administration is much
reduced. As an introductory measure, the adoption of a VAT can be
extremely valuable in carrying through subsequent changes in other areas
of taxation.
VAT and the Tax Yield
VAT AS A PROPORTION OF TOTAL TAXATION
The revenues arising from the imposition of VAT can be considerable and,
in those countries in which it has been introduced, it has provided a large
proportion of the total tax yield. In the case of the European Community
(EC), the percentage of total revenue provided by VAT in 1988 varied
between member states from over 14% to over 24%. The tax also formed
a considerable proportion of GDP, between over 5% and over 9% (ignoring
54

Portugal and the Netherlands). In Bangladesh VAT (local and import stage
including supplementary duty) constituted about 44% of total tax revenue
in 1995-96.
THE IMPORTANCE OF INDIRECT TAXATION
The position of VAT in the taxation systems of developing countries is not
so clear, as separate figures for that tax are not readily available.
Nevertheless, figures available, related to domestic taxes on goods and
services, and taxes on general sales or on turnover, or VAT show wide
variations, but clearly emphasize the importance of indirect taxation in
the economies of developing nations. The indications are that the
adopting of VAT could, in some instances, facilitate revision of certain
excise-type taxes and also those imposed on particular types of services.
Obstacles and the Objectives
OBSTACLES FACING THE REVENUE ADMINISTRATIONS
inefficient management and organizational systems;
weaknesses in revenue collection procedures;
un-consolidated or inconsistent legislation;
evasion and corruption;
information systems handling risk profiling;
inadequacy of staff incentives, and
Shortage of skills and training.
OBJECTIVES
strengthening the organization and administration management;
improving duties and tax collection;
introducing information technology solutions;
drafting laws and regulations;
improving staff terms and condition, and
Facilitating the movement of goods.
Revenue Administration Modernization and Reform Program.
Effectiveness of a revenue collection system is achieved by a clear
understanding of, as well as, a consistent interpretation of the appropriate
legislation. Proper legislation and legal drafting is necessary to ensure that
revenue collection and enforcement officers have the necessary powers to
perform their functions effectively. It is essential to have an
implementation plan to improve the effectiveness and efficiency of a tax
collection procedure. It is important to review and prepare administration,
management and human resource strategies. Taxes and duty evasion,
corruption and noncompliance severely reduce potential revenue yield
and weaken the ability of governments to carry out their functions
efficiently. To deal with such problems, and to strengthen enforcement and
investigation measures following steps can be useful:
introducing new administrative, supervisory and auditing procedures;
introducing risk analysis and profiling techniques;
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improving the co-ordination and exchange of information, both incountry and internationally;
improving the quality of recruitment, remuneration packages,
promotion and personnel practices;
introducing improved collection systems;
enhancing detection and investigative system and procedures, and
designing and delivering appropriate training programs.
Training
Training is a fundamental component of capacity building, being a
mechanism by which knowledge, experience, skills and technology is
transferred; creating indigenous ability to take control and continue to
develop functions independent of external help. For this reason a strong
training component embracing a variety of techniques from seminars,
classroom learning, and distance learning packages, through to on-the-job
training by the utilization of counterpart staff during all stages of
development is necessary.
Legislation
To ensure that the revenue collection and administration legislation is
adequate to enable the Income Tax, Sales Tax/Value Added Tax, and
Customs and Excise Departments to undertake their delegated
responsibilities effectively, and prepare amendments where shortcomings
exist.
Development Planning
To define an administrative and operational framework for the
organization around which the program of reform and modernization will
develop.
Prganization & Structure
An analysis and where necessary, modification of the structure and
prganization to ensure that it can meet the requirements placed upon it.
Business Process Re-engineering/Personnel/Instructional Manuals
A thorough review of all operational and administrative issues designed to
reflect the objectives of the Revenue Department to enable change to
take place efficiently, effectively and with the support of staff at all levels
within the organization.
Automation
Design, development and implementation of a program of automation
that will optimise the efficiency of the organization and ensure that all
relevant information is captured and utilized effectively.
Anti Corruption Activities
Implementation of specialist teams with the objective of targeting areas of
abuse and ensuring that corrective action is implemented, and that
revenue collection is enhanced in the short term.
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Investigation
Development of an effective Investigation Division to operate within the
organizational framework of the Revenue Department.
Enforcement
Implementation of effective enforcement procedures throughout the
organization.
Publicity
Development and implementation of publicity program designed to
inform, educate and demonstrate the transparency of the organization.
Internal Audit
Creation and training of an Internal Audit Department designed to ensure
that all procedures and controls are properly and correctly applied by all
staff in the organization.
The VAT Modules
The basic modules comprise:
Registration and De-registration
Return Processing
Automatic processing of Penalties, Assessment and interest
Trade Accounting
Visits to Traders
Control and Verification
General Equilibrium Formulation of the VAT System
The theory of value added tax (VAT) suggests three broad types of value
added taxes which differ in their treatment of capital goods and
depreciation of the capital stock in calculating respective tax bases (Ferh
et al, 1994 and Shoup, 1990). These are consumption, income, and gross
product type VAT. For instance, under the consumption type, each firm
computes its tax base by subtracting all its purchases of intermediate and
capital goods and depreciation of the capital stock from its total sales.
The tax base for an income type VAT is calculated by deducting purchases
of intermediate inputs and depreciation of the capital stock from total
sales. The gross product type VAT base is computed by subtracting only
the purchases of intermediate inputs from total sales. The purchases of
capital goods and depreciation are not subtracted. Thus the difference
between the three types of value-added tax bases is in their treatment of
capital goods and depreciation of the capital stock.
Under the
consumption type VAT, both purchases of capital goods and depreciation
are deductible. In the case of income VAT, only the depreciation of the
stock is subtracted. The deduction of purchases of capital goods or
depreciation is not allowed under the gross product type VAT.
Sullivan (1965) argues that three concepts of national income accounts
are related to the three bases suggested for the value-added tax. These
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are: personal consumption expenditures; national income proper; and

gross national product.
The corresponding tax bases are the
consumption-type, income-type and gross product-type respectively. To
show the linkages between national income accounts and the tax bases,
Ferh et al (1994) consider a closed economy at an aggregate or macro
level.
At an aggregate level, total sales minus total outlays on
intermediate inputs yields the gross national product. Purchases of
capital goods are equal to gross investment expenditures (net investment
and depreciation).
When gross investment is deducted from gross
national product, one obtains aggregate consumption as the aggregate
tax base. Under the income VAT, only the depreciation is subtracted from
gross national product. In this case, the aggregate tax base equals
aggregate net value added or national product. In the case of gross
product type VAT, gross investment is not deductible from gross national
product. The aggregate tax base, therefore, equals the gross national
product.
With respect to international trade taxation, two distinct principles are in
operation (Ferh et al, 1994 and Shoup, 1990). Under the 'destination
principle', exports leave a country free of any VAT, while imported
commodities are subject to (import) VAT at the rate applied to comparable
domestic goods. The 'destination principle' ensures that commodities are
taxed in a country where they are consumed (the country of destination),
regardless of the country where they are produced. Exports are zero
rated under this principle. This means that no VAT is charged on export
sales, and that VAT on all inputs used in the production of exports is
rebated. In contrast, under the 'origin principle' there is no rebate for VAT
on exports, and imports are not taxed in the importing countries. If this
principle is applied, commodities are taxed in the country where there are
produced, regardless of the country where they are consumed. There are
three methods by which a taxpaying firm can assess its tax liability. These
are subtraction, tax credit and addition. However, tax credit method is
widely used as it is compatible with consumption VAT system. Almost all
countries that have introduced the value-added tax system, adopt the
consumption-type VAT because it is easier to compute and all purchases
including purchase of capital goods from other firms are deductible from a
firm's sale (Shoup, 1990). However, certain countries such as Argentina,
Peru and Turkey have adopted the income type VAT. On the other hand
Finland, Morocco and Senegal have employed a gross product type VAT.
The gross product VAT, as it does not allow deduction of both purchases of
capital goods and depreciation, discriminates against the use of capital
goods which perhaps explain its restricted use (Shoup, 1990). The
developed and semi-industrialised economies mostly use the VAT system
in its comprehensive form. A comprehensive VAT refers to a system that
includes producers, wholesaler and retailers.
The Government of Bangladesh introduced the value added tax (VAT) in
1991. Like many developing economies, the VAT is restricted to domestic
manufacturing activities and imports. The VAT system introduced in
Bangladesh is of the consumption type and is based on the destinationprinciple. Thus, all imports and domestic production, excluding primary
agriculture type products and most services, intended for final
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consumption, are subject to VAT. In accordance to the destinationprinciple, exports are zero-rated. This means that no VAT is charged on
export sales, and that VAT and other indirect tax on all inputs used in the
production of export goods is rebated. The VAT is consumption-type since
all VAT paid on intermediate inputs and capital machinery is creditable
against VAT payable on the sale of domestic output.
To incorporate the VAT system in the model, we start with revenue
specification of the VAT system. Under the VAT formulation, the excise
duty on domestic manufacturing activities and sales taxes on import are
replaced by VAT, and the VAT paid on intermediate and capital goods are
credited to the domestic manufacturers as offset against the VAT on
domestic output. Thus, only the domestic sales are subject to the VAT and
there is no VAT on intermediate and capital inputs. In a generalised
framework, assuming that domestic sales ( Di ) equal the sale of the i-th
manufactured product and that the VAT paid on composite intermediate
inputs are rebated against the VAT on domestic sales, revenue under the
VAT system (VATREV) equals:
VATREV

PD D tv
i

PWM i M i ER tvi ij ( Pj PN j ) IN j
j

(I)

where, tvi is the uniform value-added tax rate. The first component of the
above equation denotes revenue from domestic VAT base; second part
shows the VAT from the imports and the third component captures the
rebated amount of VAT paid on composite intermediate inputs. The
government income equation of the model incorporates revenue from the
VAT system (i.e. VATREV).
YG thh Yh tmi PWM i Mi ER tdi X i PDi tc YC
h

YKG VATREV

(II)

The rebate or credit mechanism is specified through the composite

intermediate input price equation . The adjusted composite intermediate
input price is defined as:
PNi ji [ Pj
j

{(PDj Dj PWM j M j ER )tv j }

]
Qj

(III)

The second part of the right hand side of [ {(PDj Dj PWM j M j ER )tv j } Qj ]
depicts the amount of VAT paid on composite intermediate inputs which
are deducted from the gross price of composite intermediate inputs.
The domestic price of import is also modified by the value added tax
payable on c.i.f. imports:
PMi PWM i ER (1 tmi tvi )

(IV)

The other price that is directly influenced by the VAT system is the
domestic sale or activity price. Thus, the domestic sale or activity price is
adjusted to include the VAT specification:
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PDi (1 tdi tvi ) Di PEi Ei

(V)
Xi
Subject to the condition that when tvi 0 , tdi 0 , and when tvi 0 , tdi 0 , so
that, the VAT and excise duty can not be applied on the same product
simultaneously.
PXi

The export supply equation is also modified to include the value added
tax;
Ei Di [

PEi (1 i )
] i
PDi (1 tdi tvi ) i

(VI)

Similarly, in order to incorporate the supplementary duty, all the above 6

equations are modified to represent supplementary duty into the system.

CONCLUSION
Effective management of VAT will do away with multiple levies like Entry
Tax, Turnover Tax, Additional Sales Tax, Surcharge, CESS, Octroi etc. There
is no place for any other kind of taxation. One window tax reduces the
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collection cost to the States with easy compliance by taxpayers. In view of

the anticipated advantages over a period of time all states and Union
Territories including special category states have in principle agreed to
shift to VAT from April 1, 2003. However, some of the states are still
attempting to push forward the deadline as this will allow all states to
effect the transition to VAT at the same time. This will also provide some
more time to the central government to amend central sales tax act, bring
legislative changes for implementation, taxation of services at state level
and settlement of procedure for compensation to states on account of
losses in revenue collection due to implementation of VAT. The delay
would also give the states more time to put administrative arrangement
into place and training employees for the new system.
Clearly, there is a need to popularize the scheme of VAT through
persuasion, allaying the genuine fears of all the parties. New regime will
be theoretically superior to the existing regime known to all. If effectively
implemented, it will ensure greater transparency. It will also have the
great merit of being simpler to monitor. Even from the revenue angle, it
should increase the revenue in the hands of the State Governments.
However, it is feared that in the first few years of VAT, the State
Governments might face shortfall in revenue.

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