Abstract
This case describes an ethical problem faced by the owners of a reasonably successful business. It gives students an opportunity to analyze the contrasting approaches of the two owners of this business towards an ethical dilemma commonly faced by those businesses in Pakistan that have to pay heavy duties on imported goods.
The case highlights the fact that morally upright individuals can be pushed into very difficult situations wherein they, despite their good intentions, at times choose not to uphold duties imposed by law and morality. The difficulty felt in remaining within the confines of law, and upholding moral principles is amplified by the cumulative effects of moral failures that become endemic to a society. The pressure created by the policies of a government deemed corrupt, inefficient and, in the final analysis, illegitimate on the one hand, and unscrupulous competitors on the other, can become, at times, important contributors to morally questionable behaviour. This brings to the fore the dilemma of an individual trying to make an honest living in a very unfavourable context. The moral conundrum may be resolved either by making the difficult choice of following the law to the hilt, or through constructing an argument that legitimizes an illegal and seemingly unethical course of action.
Razi turned onto the road that was likely to be less populated at that hour instead of taking a more direct road to his house in an affluent neighbourhood in Lahore. It would have been a pleasant drive as the weather turned colder, but the pleasure of the drive was dampened by the unrest inside Razi. He had met an old friend earlier that day, which had set in motion the wheels of long dormant thoughts. Issues he believed he had settled long ago had come surging back and were causing him mental anguish.
At the helm of an import business, R&A Imports, that was established in 2007, and was now 7 years old, Razi faced a dilemma. The business seemed to be viable only by evading part of the duties and taxes levied on its production. Razi thought he had resolved the moral conundrum at the inception of his business by what appeared to him to be a compelling array of reasons to support his position of not complying fully with the tax liability. The conversation during the meeting with his friend, however, brought to the fore, questions that Razi the COO (Chief Operating Officer) found himself grappling with once again.
About two months ago Razi had taken a trip to Islamabad to attend a reunion of his MBA batchmates (class of 2006). His old classmate and business partner Adnan had been with him. The reunion furnished the opportunity to reconnect with friends who were long-lost. One of these friends of Razi was Ehsaan, who had pursued further education and had taken up a teaching position at their alma mater. Following the chance meeting at the reunion, Ehsaan and Razi arranged to meet again the following day.
The meeting took place in an upscale café and the discussion included the major events in their lives since graduation. Then the conversation, for no particular reason, became focused on the nature of Razi’s business. Razi told Ehsaan how the idea had come about and how it had developed over the years. As the conversation progressed, Ehsaan caught on to their invoicing mechanisms and by the end of the discussion, Razi was left visibly uncomfortable.
The Business
R&A Imports had been a brainchild of Adnan’s friend, and as the idea took hold and moved towards execution, the original begetter dropped out and left Razi and Adnan working on it. It was, in the simplest terms, a retail business. The company imported a consumer good and through the existing retail channel sold it to the end consumer. However, the operations of the business were complex and entailed constant communication and meetings with foreigners, custom officials, freighters, retailers and airport security officials.
Over time the duo had become well-versed in playing their parts, with Razi handling the management of the business and Adnan looking after the accounts. They had complete mutual trust and their personal differences stayed at a minimum, and even occasional aggravations never got out of hand. They made enough profits to be able to maintain a privileged if not affluent lifestyle. (See Exhibit 1 for detailed cost/revenue information.)
The Partners
Adnan was a graduate of the Lahore University of Management of Sciences, acquiring both an undergraduate degree and later an MBA from this reputable institute. He was a practical man, and his practical orientation towards life had served him well. He had decided to embark on this entrepreneurial venture after two successful years at Shell Corporation, as a manager in the sales department. His colleagues had praised his intelligence and integrity. Though not a religious person per se, he was a spiritual person. He believed in never acting in a manner that would have others question his integrity, and was not known to cheat anyone. His practical orientation had developed in him a dislike for over-complicating matters that were straightforward.
Razi, on the other hand, had received an undergraduate degree from a university in the USA. He had travelled to the USA at a very impressionable age, and his years there were full of fun and frivolity. After earning his undergraduate degree, he had returned to Pakistan to join his family business. This stint was followed by a few years at a multinational company that sold industrial machinery, and then he ended up at LUMS for an MBA, where he befriended Adnan. After graduation, he spent 6 months each in three different organizations before deciding to start his own business. His constant job-hopping was a reflection of his personality, and he showed similar behaviour in almost all aspects of his life, including his religious views. Razi was an idealist, and believed in applying himself completely to a given task; he also believed that this application was contingent on the passion one felt for a given task. Therefore, rather than sticking to jobs he did not have a passion for, he chose to begin afresh. This personality trait was reflected in his religious beliefs as well; he studied a variety of schools of thought and at different times had shown commitment to different schools. He never let his past commitment stop him from changing his religious outlook when a ‘stronger’ case was presented to him. However, he sincerely strove towards a sound religious understanding, and spent a lot of time educating himself.
The Catch
The profit that Razi and Adnan earned was basically the difference between the total cost of the commodity, including the price at which it was purchased, taxes and duties, freight and retailer’s cut. The problem was with taxes and duties. With all the maths done, taxes and duties totalled to about 80–90 per cent of the actual purchase price paid for the goods, which was outrageous by any standards. Paying the whole amount made the business nonviable and liable to be shutdown. They had a simple solution to this, i.e., they did not pay the full amount. That was what everyone in the business was doing.
Not paying the full amount entailed preparing invoices of amounts lesser than those they paid, since the purchase price was what the duties were based on. This practice was commonly known as under-invoicing and was the rule of the day in this business. Hard data on the prevalence of this practice was not available. However, according to some estimates, imports from China alone accounted for under-invoicing to the tune of US$1 billion annually. 1 Owing to rampant corruption in the tax department, these illegal practices rarely made their way to the courts—they were efficiently handled by small bribes.
Navigating the Moral Maze
The practice of under-invoicing and the reasons for its pervasive use were common knowledge in the business community. Individuals with certain moral perspectives had a lot to say and preach in this regard. The fact that this was tax evasion was emphatically impressed upon them time and again. Adnan was unwavering in his opinions and had a guilt-free conscience. He believed that in the context of a dysfunctional government and a society plagued by rampant corruption at every level—from government officials to the common street hawker—such moral questions were irrelevant. If someone ever tried to lure him into an argument, he would laugh it off and change the subject. Razi, on the other hand, being more involved with the administration of the business, believed that he could convince people of the legitimacy of their practice based upon moral reasoning. This is exactly what he had tried with Ehsaan. He had three points based on which he would argue his case, and which he liked for their relative irrefutability.
Razi’s first point revolved around the character of the legislators themselves. He could point out individuals who had committed corruption on massive scales and gotten away with it, and even continued to hold official positions. Razi could back his contentions with facts and figures from reliable sources and would say all this negated the legitimacy and authority of government institutions.
His second line of argument took a legalistic turn: The government and citizens have signed an implicit contract whereby the citizens would pay taxes to the government, and in return the government would provide basic necessities of life, such as health, education and justice. With this premise, he would posit that because the government had utterly failed to uphold its end of the bargain and rendered the contract void, the citizens were under no obligation to pay taxes. Hence, by under-invoicing they were not violating a moral edict.
His third point was that the current government did not represent the people’s mandate. He firmly believed that the current government had usurped power in the last elections through massive rigging. Furthermore, President Musharraf, being a martial law dictator, was not even a candidate for representative legitimacy and it was during his regime that R&A Imports had started. If the government had no right to rule, he argued, how could it have the moral authority to impose taxes?
In further support of his arguments, one of Razi’s points was that he was not impinging upon any individual’s rights by paying less tax. The government, when trusted and bestowed with what was owed, misappropriated and misallocated funds while the deserving remained unattended. The bank accounts of certain individuals had burgeoned while the poor became poorer. In not paying taxes, he was preventing the corrupt rich from getting richer and, therefore, in an ironic way, was actually doing good.
As far as the business was concerned, it was no exaggeration that it could not be sustained when paying the actual amount of taxes. First, since every importer in a similar line of business was under-invoicing, actual-invoicing was in fact a competitive disadvantage. Hypothetically, if Razi and Adnan did start filing actual invoices, they would not be able to sell their merchandise at the price it currently sold at. An increase in price would mean that their retailers would shift to other importers or abstain from stocking the product altogether till the prices were driven down. In another hypothetical scenario, if they could increase the prices and pass on the effect of the increased taxes to the end consumer, demand would decrease and a simple economic law would take effect: that demand and price are directly correlated. It was a ‘between the devil and the deep blue sea’ kind of situation if Razi and Adnan were to consider reverting to actual-invoicing. Since this line of thought and action would result in the winding up of the business, something that neither of the partners had ever thought of doing, it wasn’t even a consideration or a topic of serious debate.
The Moral Dilemma
Razi did not anticipate the discussion turning to sensitive ethical questions and despite some reservations was eager to discuss his business with Ehsaan. The two friends parted ways after an engaging hour of discussion, but one of them left with a heavy heart. Ehsaan had not been convinced by Razi’s arguments. He was not clear as to how Razi decided that the government was not upholding its part of the contract. ‘Where do you draw the line?’ he had asked; ‘If, for instance, the government spends 90 per cent of the tax money on basic necessities, and wastes 10 per cent, would you not pay taxes even then?’ Ehsaan argued that no government was perfect and one could only speak in relative terms about a government’s performance. Also, given the nature, size and population of most developing nations, it was not reasonable to expect from a government to guarantee complete security of life and property to everyone in all circumstances, or universal provision of basic necessities. Tax evasion, Ehsaan believed, made the government’s job doubly difficult in this regard, and was, therefore, an unacceptable practice.
Another question that he asked Razi was, ‘Why are you so certain that by evading taxes you are not violating the rights of others who had claims on your taxes?’ Through this question, Ehsaan wanted Razi to look more closely at the nature of taxation, and the role it played in enabling a government to undertake developmental work. In Ehsaan’s view, it was through taxes that, among other things, the provision of some basic necessities, like health care, was made possible. These basic necessities were seen by him as part of the primary human rights, also inherent in the Islamic worldview. Hence, those who reneged on their duty to pay taxes fully were in fact violating the rights of those whose welfare depended directly on the collection of the taxes, and who were the rightful claimants of the money that Razi refused to pay to the government.
Ehsaan also asked Razi what he thought was a fair profit? He wanted Razi to consider the possibility of the continuity of his business at lower profit margins if he decided against under-invoicing. His point was that while the fairness of a business’ profit may be determined by many factors, moral probity was an equally important factor, and any gains that resulted from a violation of fundamental moral principles were not fair. In an environment where people were not generally morally conscious, one should not flippantly, and fallaciously, attribute one’s moral failures to similar failures of others. It may require sacrifice of some potential financial gain to remain steadfast in holding on to one’s principles, but perhaps the moral edification was worth the sacrifice.
Ehsaan’s reservations rekindled some of the fears Razi had come to terms with. To further complicate matters, Ehsaan left Razi with an additional question to answer when he asked him, ‘Have you considered that apart from, and for the sake of, tax evasion you are lying?’
Razi tried to shake the notion of being a liar out of his head while he drove, but to no avail. Other questions that Ehsaan had asked were also reverberating in his head. He knew he had to come up with a solution to his dilemma.
