RMG subcontractors hide wallet for uneven tax policy

Highlights 

• 12% corporate tax slapped on export-oriented garments, 10% on green factories 
• The rate is as high as 30% for apparel subcontractors 
• Apparel exporters pay no VAT on purchase, but 15% VAT levied on subcontractors 
• Nearly 500 factories in subcontracting, their production is 15% of total export   

Readymade garment-makers who manufacture clothing for an exporter and whose products ultimately go to the foreign market have two choices – showing the purse to the revenue board and be tariffed 30% corporate tax plus 15% value-added tax on labour and raw materials for the subcontract; or sweeping the income under the rug and pay nothing.  

For many subcontractors, the second option seems to be "rational", as apparel exporters enjoy only 10%-12% tax and zero VAT on payments and purchases.

"The tax policy for the readymade garment subcontractors is discriminatory, compelling many subcontractors not to show their income," said the managing director of a factory that made dresses for an exporter in 2017, and showed the wallet with around Tk1 crore subcontracting bill to the revenue board.

The tendency of such non-disclosure thanks to the tax policy has been keeping a large amount of apparel money out of the mainstream economy, depriving the government of potential revenue earnings.

Apparel entrepreneurs said export-oriented factories often take subcontract orders in lean seasons, while small factories mainly dominate the subcontracting segment. And most of the small ventures are not registered as direct exporters.

Entrepreneurs have said the authorities are supposed to be providing small factories with policy support, but they are slapping "discriminatory taxes" on such production units instead – compelling them not to show their income unless there is an exception.       

Neither the Bangladesh Garment Manufacturers and Exporters Association (BGMEA) nor Bangladesh Knitwear Manufacturers and Exporters Association (BKMEA) has any accurate data about how many factories engage in subcontracts, or how much they earn.     

However, Mohammad Hatem, executive president of BKMEA, told The Business Standard that about 450 knitting factories are involved in subcontracting, while their production amounts to 10%-15% of total garment export.

This means the size of the apparel subcontracting segment is around $5 billion.

The BKMEA executive president said since the products ultimately go to the foreign market, an additional two and a half times tax on the factories is discriminatory.

"Relatively small factories do the subcontracting. If they are burdened with additional tax and VAT, they will not be able to stay afloat. For this reason, most of the factories do not want to show their income," he built on his argument.

TBS talked to at least five entrepreneurs who expressed similar views.

Bangladesh Knitwear Manufacturers and Exporters Association leader Fazlee Shamim Ehsan said he did a subcontract a couple of years ago and had to pay the "additional taxes".

The entrepreneurs said if an outsourcing exporter who is hell-bent on proper accounting pays the subcontractor after keeping aside 3%-7% of the bill for tax payment, then there are no options for the subcontractor but to disclose the income.       

Currently direct exporters pay 12% tax on their income. The taxation is slapped as 0.5% source tax on export earnings.

On the other hand, tax is levied at different rates on payment of bills to subcontracting factories – ranging from 3% to 7% , which will subsequently be subjected to 30% corporate tax.  

The tax law offers reduced tax rates for apparel-makers who get export orders directly from foreign buyers or their representatives.

A senior tax official of a tax zone in Dhaka said there are a few subcontractors in the zone who regularly pay tax.  

"Those who are doing subcontracts are not exporting directly. They are just making money by producing locally, and reasonably are subject to the regular corporate tax," he added.

Dr Syed Mohammad Aminul Karim, a former member at the revenue board, said awarding subcontractors a 12% tax rate will encourage many local manufacturers to demand the same facility, which eventually will affect revenue collection.  

Economists, however, said the "discriminatory" taxation should be settled to support small and medium manufacturers.    

"Lodging a back-to-back order against the subcontractor could be a solution," Ahsan H Mansur, executive director at the Policy Research Institute (PRI), told TBS.

Under the proposed arrangement, the economist said the subcontractor will be registered as an exporter qualifying for the export-encouraging tax policy.

He said factory owners should meet the revenue board and other stockholders immediately to sort out a solution.   

Dr Syed Mohammad Aminul Karim also advocated for effective measures by the tax authorities to stop tax evasion. He also talked about reducing taxes for subcontractors.