Ensuring insurance – documenting the undocumented

Ensuring Insurance

Guest post by Musa Khan

On 15 November 2013 an unfortunate incident took place in Rawalpindi. Reportedly, an Ashura procession was attacked in Raja Bazaar which resulted in scores of men losing their lives.

In the violence that followed the attack, a number of shops in the adjoining markets were burnt down resulting in severe damage to property. Commenting on severity of damage, the local business chamber representative asked the Government, among others, to compensate the traders for the loss of billions in property[1].

A similar incident happened in Lahore a few weeks back where a commercial building collapsed leaving a few dead along with loss of property. Its local representatives too asked for compensation in billions.

What’s wrong with this? Shouldn’t any Government, with a constitutionally mandated role of social welfare, provide social welfare to its people?

Answer: Social welfare; Yes. Subsidizing un-documentation; No!

Un-documentation? How?

When my TV screen was flashing the news tickers of traders demanding the billion-Rupee compensations, my younger brother remarked, “I wonder how much tax these traders paid to claim loss of billions worth of inventory and property?” Little did he realize then, he was actually answering his own question!

The retail and wholesale sector (aka the trader community aka the taajir tabqa) in our country contributed 18.6% to country’s GDP in FY2014[2]. Its contribution to tax collection however remains dismally low.

For some perspective, a Task Force by FBR on retailers estimated Rs 68 billion as annual sales tax potential alone (doesn’t include income tax) as against actual collection of Rs 574 million in 2013. The retailers are paying (or FBR is collecting) over 118 times less than what they should pay on account of sales tax[3].

While it is unadvisable to stereotype, let me say that an overwhelming (read OVERWHELMING) majority of our traders don’t pay tax. They buy expensive cars, live in posh localities, spend extravagantly on their weddings but they don’t pay tax.

They don’t because a) they have a great incentive (huge income) to evade; b) they can buy their way through (corrupt tax machinery) and, c) they don’t show up in the ‘economic radar’. They are the black economy. They are undocumented. The Government, even if it wants to know, doesn’t know how many electronic appliances the guy in the Blue Area market sold in a month. They under-report, under-invoice and Government has limited set of tools to contest his claims. They win. We lose.

So how do you break this cycle without making another PC-1 for the Government (and the whole bureaucratic process that ensues)? How do you document the undocumented? You do what many other countries are doing. You make the insurance of commercial property (including premises and goods/inventory) mandatory for retailers beyond a certain size/business volume. You can’t operate, if you don’t get insured. Simple!

The traders should pay to get insured, so the next time there is a fire or a riot, they have a fall back. Mandatory insurance means more business, more investment and more jobs in the insurance industry. And with all that, Government not only gets to transfer its compensation burden to the insurance company, it also gets to document a major component of the grey economy.

There is a clear commercial value for a buyer of insurance. He is essentially transferring a major unforeseen liability/loss to another company against a regular payment (called insurance premium). Depending on the type of the good/property insured and its coverage, the annual insurance premiums can vary anywhere between 0.5% to 2.5% of the value of insured items. This cost, even if a complete pass-through, is not meaningful enough to make those products unsellable.

On the other side, the data this activity alone can generate will be strong enough to suggest the actual turnover and financial health of the business for the tax authorities. Remember, with insurance the buyer has an incentive to over-state (and not under-state) the value of the property/goods. And the tax man wouldn’t mind that one bit.

Of course, the enforcement would remain challenging. But a simpler way to go about this would be to link the mandatory insurance to a range of factors like shop location, shop size, monthly electricity/utility bills etc. So the Government can start with the larger ones and then proceed to the smaller ones in a phased manner.

To encourage businesses, the Government can offer special fiscal incentives (in the shape of tax rebates, tax credits etc.) for those in compliance. Let’s not forget, chances are that most of these will be out-of-net anyway, so giving them a bit of relief on tax payment wouldn’t hurt much.

Many would argue that our aversion to insurance as a society has also something to do with our religion. The conventional insurance products may not comply with the standards of Shariah. This for m has been the biggest reason which has hampered the growth of insurance industry in the country. The non-life insurance industry in the country is still small (very low penetration relative to our peer countries[4]) and remains dominated by few large companies[5].

However, the situation can change now with the ready availability of Islamic insurance product (Takaful)[6]. This, coupled with mandatory commercial property insurance for small businesses, can change the fortunes for the industry. We are talking about more business, more investment, more jobs, more consumption and more taxes.

Insurance is not a social issue. In many developed countries, you can’t bring you car out on the road without getting it insured first. So it’s certainly doable.

Similarly, mandatory insurance is not a tax. There is a definite commercial value in it for the buyer. The buyer will be paying the premiums and dealing with a private company, so service quality (with new better players coming in) will not be an issue either.

Government must create awareness around this. Lack of documentation is one of the biggest issues with our economy. Government ought to know who is selling what and for how much!

musa khan
Based in Islamabad, Musa Khan works as a buy-side investment adviser for a large business group. His interests include politics, economy, finance and sports. He is a CFA charterholder by qualification. Twitter: @mosesdurrani


  1. Very well written and a good suggestion.
    The content also speak about duality of our society where people propagate that insurance is non-Islamic & then ask for compensation from humans (Govt.). These double standards have so much penetrated that Traders & many Tajir Biradrees (family traders) have their own Fatwa’s issued besides having the allowance for Sharia or Takaful Insurance issued by leading & prominent scholars.
    By virtue of working with such handful people, separate parallel Books of Accounts are maintained for the purpose of Tax Payment & Tax Evasion. Unfortunately, accountants with the expertise of Evasion are hired and given value in the structure compared to the competent ones.
    The argument to support tax evasion is that ‘bhai yeh nizam hamin suit nahee karta’.
    And at the same time, Pakistan is among top countries where giving in Charity is at highest level. Know the reason!!!

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