A Real Approach to Real Estate

Author Name: Amna Tauhidi & Aneeqa Safdar      05 Dec 2019     Domestic Economy

The Financial Action Task Force (FATF), a global financial watchdog, conducted its most recent plenary session from 16th-18th October to assess member states’ performance on two grounds: technical compliance, which addresses the design of laws; and effectiveness, which represents the degree of their implementation.

Although countries such as Tunisia, Sri Lanka and Ethiopia managed to escape the grey list, Pakistan has yet to fully comply with the FATF’s proposed parameters. As per the evaluation of its mirror-body, the Asia Pacific Group (APG), Pakistan fully complied with only one, largely complied with nine, offered partial compliance with 26, while missing out on four parameters completely. This partial compliance shall keep Pakistan on the grey list until February 2020 when the next mutual evaluation shall place.

Questions have been raised about Pakistan’s ability and strategy to address the FATF’s concerns. Despite the innate element of the group’s politicization, FATF enjoys a de-facto influence in the international community. This makes it important for Pakistan to meet the FATF requirements if it really wishes to restore international investors’ confidence and escape from the monitored jurisdiction list. The right approach to handling the issue on the ground must be a proactive strategy framed in accordance with the findings and recommendations laid out in the 2019 report of the APG.

As per the report, one of the areas where Pakistan lags is in the regulation and oversight of Designated Non-Financial Businesses and Professions (DNFBPs), in which real estate has been highlighted as a major supervisory gap. The lack of oversight in real estate paves the way for a proliferation of informal economic activity, and for a higher risk-profile on money laundering and terror financing (ML/TF) criteria. It is explicitly recommended in the report that Pakistan must establish supervisory controls with regard to ML/ TF risks that concentrate on a series of sectors including real estate.

This is a significant gap because of the share of real estate in economic activity: Pakistan’s real-estate sector estimated at more than $500 billion; and although estimates vary considerably, this should not be surprising for an economy of more than 200 million people with significant dead capital nestled in commercial, residential, industrial, and other immovable enterprises,

Given the opaque nature of the real-estate market as a whole, it lends itself to wealth concealment and tax avoidance, according to the State Bank of Pakistan. Pakistan’s real estate business has long been used as a vehicle for the laundering of money, in the specific sense of transmuting black money into legitimate assets.

In contrast to the internationally observed practice of property taxation that serves to benefit the local community, Pakistan’s property markets function disproportionately in favour of real estate dealers (private interest), who profit handsomely from the opaqueness of the sector. This in turn encourages shadow-dealing and curtails the state’s revenue collection potential, in no small part due to a high share of unregistered sales.

In response to the FATF’s recommended plan of action, the Government of Pakistan has, in consultation with NFCC (National FATF Coordination Committee), decided to appoint the Federal Board of Revenue (FBR) as an interim regulator for the real-estate sector. The revenue collection authority has been tasked to act as regulator in view of the prevailing disagreement among key stakeholders over the creation of a proposed Real Estate Regulatory Authority (RERA), as found in jurisdictions such as Bahrain and Dubai.

Although this serves as a provisional arrangement, in the longer run the FBR makes for an unlikely institution for the implementation of sustained oversight over real estate, even though it does already have a partial mandate for the valuation of immovable property. This is attributable to several factors.

First, the FBR is already an overloaded institution, in that it has fallen short of meeting its primary objective of revenue collection by an amount of Rs.111 billion, and hence overburdening the institution might further deteriorate its performance.

Second, there exists a general perception that bureaucratic management in private interest causes challenges in the developing world, in part because such institutions are somewhat unaware of the technicalities of such sectors. Given the lack of transparency in the sector and the various moving parts, there are complexities involved that would best be managed by a dedicated regulatory agency, as found in Dubai and Bahrain.

Third, to act as an effective regulator, the FBR would need adequate enforcement powers tailored to the real-estate sector. Without tough enforcement powers, the FBR is likely to come into confrontation with strong vested interests nestled within the real estate market. Those interests might even include local politicians and bigwigs, who may feel an inclination towards resisting the FBR’s initiatives, and even to attempt institutional capture, which would negate the premises of a neutral regulator.

For the moment, the FBR is reported to be expecting the real estate dealers to come up with a formula of regulation. This would risk creating a conflict of interest without due intermediation, since a formula designed in a one-sided manner by real-estate tycoons would be akin to the fox watching over the henhouse.

Regulatory bodies help to ensure the smooth functioning of market economies. Almost all developed and developing economies attempt to initiate some degree of real-estate oversight through specialist bodies, be it India, the UAE, Bahrain, or Australia. Any such body, having a fixed mandate and jurisdiction, is sorely needed in countries like Pakistan where the complexities of the system make it nearly impossible to carry out effective reforms without remedial action. This will help bring the system at par with international standards as demanded by FATF and other international financial institutions. 

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