The Josh and Mak Guide to Tax Laws in Pakistan 2016
Updated to 2016
We offer advice corporate restructuring, governance and finance as well as tax planning. Matters concerning Customs, Sales Tax, Excise Duties and Income Tax are dealt with for a variety of corporate clients and advice is provided to them productively in these fields in order to make their businesses more tax efficient. We are also able to help clients, supervise books of accounts, preparation/submission of Sales Tax Returns, preparation/submission of Income Tax Returns/Statement, representation of cases for assessment before Taxation Authorities, appearance before Appellate Forums, NTN Registration and Sales Tax Registration.
Furthermore our team can give you legal advice and help on the following :
- Pakistan’s existing legal and policy regime for corporate tax with a view to developing an effective corporate tax policy aimed at encouraging corporatization and progressive development of corporate sector.
- Reviewing the legal mechanics of the applicable tax rate; multi-tiered taxation; sales tax; Withholding Tax; Professional Tax and Capital Value Tax within Pakistan’s Tax Regime.
- Guidance on the procedures for filing of tax returns, audit, assessment and collection.
- Reviewing tax refund procedures for various taxes.
- Guidance on the State tax policy and administration measures that provide level playing field for corporate and non-corporate sectors.
The following information relates to the often complex tax laws in Pakistan. Please bear in mind this is far from comprehensive so please contact us at Josh & Mak International if you have any questions or need the assistance of true professionals. Our dedicated team always gives their clients the best possible assistance when it comes to the tax laws in Pakistan.
Virtually every business decision today has tax consequences. As our clients you will receive the most practical, in tune and well crafted tax solutions. We provide a comprehensive range of services from the completion of tax returns under corporation tax and self-assessment to complex consultancy assignments and strategic tax planning.
Our ability to focus on our clients and deliver innovative tax solutions is enhanced by our knowledge of specific business environments including financial services, leisure, retail, sport, high growth companies, manufacturing and automotive, technology and communications, public sector, property and utilities, to name but a few.
Our consultants can help you plan, grow and structure your business. We are known for our straightforward approach to solving our client’s most complex business challenges. We work hand-in-hand with clients to improve business performance, drive up shareholder value and create a competitive advantage.
The Services we Offer
- Corporate and individual tax planning including trusts, cooperative societies and NGOs
- Compliance services including the preparation of income tax and sales tax returns and customs clearance
- Representing clients before tax authorities and assisting in preparing appeals to tribunals, high courts and the supreme court
- International tax consultancy including tax on international transactions and advising on double taxation treaties
- Assisting with sales tax matters including registration, de-registration and assessment
- Obtaining advance rulings on proposed investments or business transactions
- Establishing gratuity funds, provident funds and other employees benefit schemes and their approval from tax authorities
- Providing general tax advice based on the current and evolving laws and rulings
The Tax System in Pakistan
Federal taxes in Pakistan, like most of the taxation systems in the world, are classified into broad categories. A brief description regarding the nature of the administration of these taxes is explained below:
Direct taxes primarily comprises of income tax. For the purpose of the charge of tax and the computation of total income, all income is classified under the following heads:
- Interest on Securities
- Income from Property
- Income from Business or Profession
- Capital Gains
- Income from Other Sources
All individuals, unregistered firms, associations of persons, etc., are liable to tax, at rates ranging from 10-35%.
Tax on Companies
All public companies (other than banking institutions), which are incorporated in Pakistan, are assessed for tax at a corporate rate of 35%. However, the effective rate is likely to differ on account of allowances and exemptions related to industry, location, exports, etc.
Wealth Statement u/Sec. 116
Wealth Statement u/Sec. 116 is compulsory where a declared income is Rs. 500,000/- or more.
Tax u/Sec. 153(8A) (omitted)
Where NTN/CNIC is not available the excess tax @ 2% shall not be collected.
Inter-Corporate Dividend Tax
Tax on the dividends received by a public company from a Pakistan company is payable at the rate of 5% and at the rate of 15% when dividends are received by a foreign company. Inter-corporate dividends declared or distributed by power generation companies is subject to reduced rate of tax. Other companies are taxed at the rate of 20%. Dividends paid to all non-company shareholders by the companies are subject to withholding tax of 10%, which is treated as a full and final discharge of tax liability in respect of this source of income.
Treatment of Dividend Income
Dividend income received as below enjoys tax exemption, provided it does not exceed Rs. 10,000/-.
- Dividend received by non-resident from the state enterprises Mutual Fund set by the Investment Corporation of Pakistan.
- Dividends received from a Domestic Company out of income earned abroad provided it is engaged abroad exclusively in rendering technical services in accordance with an agreement approved by the Central Board of Revenue.
A person resident in Pakistan is entitled to a relief in tax on any income earned abroad, if such income has already been subjected to tax outside of Pakistan. Proportionate relief is allowed on such income at an average rate of tax in Pakistan or abroad, whichever is lower?
Goods imported and exported from Pakistan are liable to rates of customs duties as prescribed in the Pakistan Customs Tariff. Customs duties in the form of import duties and export duties constitute about 37% of the total tax receipts. The rate structure of customs duty is determined by a large number of socio-economic factors. However, the general scheme envisages higher rates on luxury items as well as on less essential goods. The import tariff has been given an industrial bias by keeping the duties on industrial plants and machinery and raw material lower than those on consumer goods.
Federal Excise duties can be levied on a limited number of goods produced or manufactured, and services provided or rendered, in Pakistan. On most of the items Federal Excise duty is charged on the basis of value or retail price. Some items are, however, chargeable to duty on the basis of weight or quantity. Classification of goods is done in accordance with the Harmonized Commodity Description and Coding System which is being used all over the world. All exports are exempt from Federal Excise Duty.
The following personnel shall make an application in the Form STR-1, transmitted to the CRO “Central Registration Office” electronically or through registered mail or courier services for registration under Sales Tax Rules, 2006, Chapter I “Registration, compulsory Registration and De-Registration” as per following conditions:
|As per the newly inserted Section 8B of the Act, a registered person is restricted to claim an adjustment of input tax to the extent of ninety percent of output tax for that tax period. Further, it permits the adjustment of input charged in acquisition of fixed assets in twelve equal monthly installments after the start of production of a new unit. The Board is empowered to exclude any person from the above purview.
However, the input tax which is inadmissible in excess of 90% of the output tax may be allowed on yearly basis in the second month following the end of the financial year of the registered person subject to the following conditions:
Time of Supply
Sales Tax was payable at the time of delivery of the goods or when the supplier in respect of such supply receives any payment. If has now been restricted only to the time of delivery of goods by the supplier irrespective of the actual time of payment.
Through newly inserted subsection (1A) of Section 23, the Board is empowered to restrict a registered person to use as many number of business bank accounts as may be specified.
As per amendment in Section 24 of the Act, retention of record and documents by a registered person has been enhanced from three years to five years.
A new concept of Withholding Agent has been introduced through SRO No 550(1)/2007, dated 30th June, 2007 wherein a withholding agent shall deduct as amount equal to one fifth (1/5th) of total sales tax shown in the sales tax invoice issued by the supplier and make payment of the balance amount to him.
Offences and Penalties
|Sales Tax is levied at various stages of economic activity at the rate of 15 per cent on:
There is an in-built system of input tax up to 90% adjustment and a registered person can make this adjustment of tax paid at earlier stages against the tax payable by him on his supplies. The tax paid at any stage will not exceed 15% of the total sales price of the supplies.
Performing a High Quality Audit
In today’s ever changing global economy, businesses need reliable and trusted advisers. Our audit specialists take the time to understand your business as well as the industry in which you operate, whether it is in Pakistan and/or abroad.
Our audit approach focuses on understanding the clients’ business and control issues from the inside out. It combines a rigorous risk assessment, diagnostic processes, and audit testing procedures as well as a continuous assessment of our clients’ service performance. Our state of the art, audit system supports all phases of the audit process including planning, executing, reporting.
Investment Advisory Services
All investment carries some risk and thus needs careful analysis and expert advice. The key to being a successful investor is to achieve appropriate risk/return trade off by identifying the risks that exist and their proactive management.
Our Investment Advisory Service professionals specialize in identifying risks arising from regulations, competition and macro economic forces and designing strategies to manage it to your advantage. Our range of services includes:
Individual Taxation in Pakistan
- Individual Taxes on Personal Income: –
Residents are taxed on both their Pakistan and foreign-source income. Determination of taxable income of an individual varies according to the tax residential status of the individual in Pakistan during the tax year (1 July through 30 June).
The total worldwide income of a resident is subject to taxation within Pakistan except where particular income is not to be taxed in Pakistan under an agreement for avoidance of double taxation.
A non-resident individual is taxed only on Pakistan-source income, including income received or deemed to be received in Pakistan or deemed to accrue or arise in Pakistan.
Personal income tax rates
The following tax rates apply where income of the individual from salary exceeds 50% of taxable income:
|Taxable income (PKR*)||Tax on column 1 (PKR)||Tax on excess (%)|
|Over (column 1)||Not over|
* Pakistani rupees
The withholding rate for dividends and interest is 10%.
Turnover taxes are collected as part of, and adjustable against, income tax.
Local taxes on income
The only significant tax on salaries is federal income tax.
- Pakistan Individual Residence:-
A person is liable for income tax purposes if present in Pakistan for a period or periods aggregating to 183 days or more in a tax year (1 July through 30 June) irrespective of their nationality or if they are an employee of the federal government of Pakistan or a provincial government posted outside Pakistan during the tax year.
- Pakistan Individual-Other Taxes:-
Social security contributions
Nominal social security and Employees old age benefit contribution is collected from the employers and the employees. Employers are responsible to collect and pay on a monthly basis.
Value-added tax (VAT)
VAT (locally termed as ‘sales tax’) is ordinarily levied at 17% on the value of goods, unless specifically exempt. See the ‘other taxes’ section in the Corporate summary for more information.
Property owners are required to pay property tax levied and collected by provincial governments through municipal governments at varying rates.
Stamp duty is a provincial levy and is collected on property registrations, property transfers, shares transfers, power of attorneys, etc.
Registration tax is a provincial tax and payable mainly on the registration of property and vehicles.
- Determining Individual Income Tax:-
Taxable income is calculated under five different types of income, as follows:
- Capital gains
- Income from other sources, which includes dividends, royalties, profit on debt (interest), ground rent, sub-lease of land or building, lease of building inclusive of plant or machinery, prize money, winnings, etc.
Related allowable expenses can be deducted except from income from property, dividends, profit on debt (interest), prize money, etc.
An employee’s gross salary is Pakistan-source income and taxable in Pakistan if it is earned from employment exercised in Pakistan or if it is paid by or on behalf of the federal government, a provincial government, or a local authority.
A Salary is the amount received by an employee from employment, whether of a revenue or capital nature. It includes holiday pay, payment in lieu of leave, overtime, bonuses, commissions, fees, gratuities, work condition supplements, monetary and non-monetary perquisites, any allowance except those granted to meet expenses wholly and necessarily incurred in the performance of the employee’s duties of employment, profits in lieu of or in addition to salary, pensions, annuities, and tax reimbursement. In addition, amounts or perquisites paid or provided by an associate of the employer, a third-party under an arrangement with the employer or associate of the employer, a past employer or a prospective employer, or payments to an associate of the employee are also to be considered as salary.
Salaried individuals employed by the oil exploration and production sector are exempt from tax for a period of three years from the date of their arrival in Pakistan.
Diplomats and individuals entitled to United Nations (Privileges and Immunities) Act 1948 are exempt from tax on their salaries.
The extent of taxability and exclusions from income of some perquisites are discussed in the ‘deductions’ section.
Employee share scheme
The fair market value of the shares determined at the date of issue under an employee share scheme, including the result of the exercise of an option or right to acquire the shares, as reduced by any consideration paid by the employee for the shares, shall be chargeable to tax as salary. However, where shares are issued to the employee subject to restriction on the transfer of such shares, no amount shall be included in salary of the employee until the earlier of the time the employee has a free right to transfer the shares or at the time when the employee disposes of the shares.
The value of the right or option to acquired shares under an employee share scheme is not chargeable to tax.
An employee is taxed on the exercise of an option on the fair market value of the shares as reduced by the cost to the employee on acquisition. The gain on sale is taxed in the year of disposal, considering the fair market value at the time of exercise of the option as a cost of the employee.
Foreign-source income of returning expatriates
Foreign-source income of returning expatriates is exempt for four years from the year of the return.
Capital gains on the sale, exchange, or transfer of movable capital assets are taxable. However, gains on the sale of capital assets held for personal use by a person or any member of a person’s family who is dependent on the person, assets on which a person is entitled to depreciation or amortisation, stock in trade (not being stocks and shares), consumables, and raw materials held for business purposes are exempt from levy of tax. Capital gains realised within one year of acquisition are fully taxable; after one year, 75% of such gains are taxable and 25% are exempt.
Capital gains on the sale of shares of Pakistani public companies listed on a stock exchange in Pakistan, including modaraba certificates, are exempt if the instrument is held for more than one year. However, if the instrument is held for less than one year and more than six months, the gain is taxable at the rate of 9.5% for 2015 and 10% for 2016. If the instrument is held for less than six months, the gain is taxable at the rate of 17.5% for 2015.
Capital gains and investment income earned outside Pakistan are not taxable in the case of non-residents.
Dividend income is subject to tax at 12.5%.
Interest income is subject to tax at 10%.
- Pakistan Individual-Deductions:-
Significant deductions available against salary income are as follows:
- Medical allowance/expenses: Reimbursement of expenses on medical treatment or hospitalisation or both received by an employee is exempt from tax. Medical allowance of up to 10% of basic salary is exempt if the facility of reimbursement of medical expenses is not available to the employee.
- A rebate at the average rate of tax is allowed on donations made to any approved non-profit organisations on the lower of donation value and 30% of the individual’s taxable income.
- Special straight deduction is available for Zakat paid under Zakat and Usher Ordinance.
- Special credits are available for interest paid on house loans, charitable donations, and investments in specified shares.
- Accrued expenses are allowable deductions.
- Pakistan Individual-Foreign Tax Relief and tax treaties:-
Foreign tax relief
Any foreign-source salary received by a resident individual is exempt from tax in Pakistan if the individual has paid foreign income tax in respect of that salary.
Where a resident taxpayer derives foreign-source income chargeable to tax in Pakistan, in respect of which the taxpayer has paid foreign tax, the taxpayer is allowed a credit of an amount equal to the lesser of the foreign income tax paid or the Pakistan tax payable in respect of the income.
Foreign-source income of a resident who is not a citizen of Pakistan is exempt if the individual is resident only by virtue of employment and one’s presence in Pakistan does not exceed three years. This exemption does not apply in the case of income from a business established in Pakistan and foreign-source income that is brought into or received in Pakistan.
Pakistan has executed tax treaties with over 70 countries (see the ‘withholding taxes’ section in the Corporate summary for a list of countries with which Pakistan has a tax treaty). These conventions aim to eliminate double taxation of income or gains arising in one territory and paid to residents of another territory. The provisions of the tax treaties takes precedence over the tax laws in Pakistan to provide relief from tax payable in terms of Pakistan tax laws, the determination of Pakistan-source income of a non-resident, the determination of income attributable to the Pakistan operation of a non-resident, and the exchange of information for the prevention of fiscal evasion or avoidance of taxes on income. Most of the treaties are based on the Organisation for Economic Co-operation and Development (OECD) Model Tax Convention.
- Pakistan Individual-Tax Administration:-
The tax year is 1 July through 30 June.
If the employer has filed an annual statement of withholding of taxes, the employee is not required to file a return of income, provided there is no other taxable income. An employee who wishes to file a return of income is required to file it only on a fiscal year basis (1 July through 30 June).
Every resident taxpayer is required to file a wealth statement along with the return of income if taxable income exceeds PKR 1 million. Note that the Commissioner can also require any person to furnish the said statement. Salaried individuals with income in excess of PKR 500,000 are required to e-file the return of income.
All individuals are required to file their return for the year ended 30 June by 30 September, except salaried individuals with income in excess of PKR 500,000, who are required to file the return by 31 August.
Payment of taxes
Income tax is withheld from salaries by the employer. The amount to be withheld is determined by applying to the salary the average rate of tax on the estimated income of the employee for the fiscal year.
Advance tax is payable in four instalments if taxable income is in excess of PKR 500,000.
Statute of limitations
A tax return can be audited any time within six years of filing.
Topics of focus for tax authorities
The tax authorities mainly focus their attention on taxpayers other than salaried individuals.
- Pakistan Individual-Sample of personal income tax calculation:-
Tax computation for 2015/16
|On PKR 4,000,000||600,000|
|On balance PKR 1,500,000 at 27.5%||412,500|
|Total tax due||1,012,500|
PAKISTAN CORPORATE TAX
- Pakistan Corporate-Significant Developments:-
The following significant developments in corporate taxation have recently occurred in Pakistan:
- The corporate tax rate decreased from 33% to 32% for tax year 2016, 31% for tax year 2017, and 30% for tax year 2018 onwards
- Super tax is levied at 4% for banking companies and 3% for other companies earning income of more than 500 million Pakistani rupees (PKR). Super tax is payable only for tax year 2015
- Undistributed reserves of companies are taxed if in excess of 100% of paid-up capital at the rate of 10%
- Withholding tax (WHT) rates for unregistered taxpayers are enhanced
- New WHT provisions for banking companies are introduced whereby all transactions in excess of PKR 50,000 by unregistered taxpayers are subjected to WHT of 0.6%
- Returns filed by taxpayers are automatically selected for audit if their income for the year is less than 25% of their last declared income
- Powers to issue notifications by the Federal Board of Revenue are restricted
- Tax exemptions are allowed for solar and wind power energy plant and equipment manufacturing, agricultural cold chain and warehousing, halal meat production units, electricity transmission projects, manufacturing of cellular phones, and new manufacturing units set up in Khyber Pakhtunkhwa and Balochistan
- Pakistan Corporate-Taxes on Corporate Income:-
A resident company is taxed on its worldwide income. Non-resident companies operating in Pakistan through a branch are taxed on their Pakistan-source income, attributable to the branch, at rates applicable to a company
The federal corporate tax rates on taxable income are as follows:
|Company type||Tax rate (%)|
|Public company other than a banking company||32|
|Any other company||32|
|Small company (see the Tax credits and incentives section for more information)||25|
Note that the corporate tax rate for tax year 2017 is 31% and for tax years 2018 and onwards is 30% for companies other than banking companies.
The term ‘public company’ implies a company that is listed on any stock exchange in Pakistan or one in which not less than 50% of the shares are held by the federal government or a public trust.
In the case of a modaraba (see the income determination section for a definition), income, except relating to trading activities, is exempt from tax, provided that 90% of its profit is distributed to the certificate holders as cash dividends.
The final tax regime (FTR) for resident taxpayers, a presumptive tax scheme where taxes are withheld at the source on the sale of goods and execution of contracts or collected at the time of import (for other than industrial raw materials), is considered the final tax liability in respect of income arising from the sale, contract, or import.
In the case of exports, tax collected at the time of realisation of foreign-exchange proceeds is treated as the final tax for that income.
The FTR is also applicable to non-resident taxpayers, at their option. However, it is only applicable in cases of receipts on account of the execution of a contract for construction, assembly, or installation, including a contract for the supply of management activities in relation to such project as well as certain contracts for services and contracts for advertisement services rendered by television satellite channels.
Taxation of a permanent establishment (PE) of a non-resident
The following principles shall apply in computing taxable income of a PE:
- It is a distinct and separate entity dealing independently with the non-resident of which it is a PE.
- In addition to business expenditure, executive and administrative expenditure, whether incurred in Pakistan or elsewhere, will be allowed as deductions.
- Head office expenditure, including rent, salaries, travelling, and any other expenditure that may be prescribed, shall be allowed as a deduction in proportion to the turnover of the PE in the same proportion as the non-resident’s total head office expenditure bears to its worldwide turnover.
- Royalties, compensation for services (including management services), and interest on loans (except in banking business) payable or receivable to or from a PE’s head office shall be considered in computing taxable income of the PE.
- No deduction will be allowed for any interest paid on loans acquired by a non-resident to finance the operations of a PE (or for the insurance premium in respect of such loans).
Minimum tax on turnover
Where the tax payable by a company is less than 1% of the turnover, except where the company is in a loss position before charging depreciation and other inadmissible expenses, the company is required to pay a minimum tax equivalent to 0.5% of the turnover. Tax paid in excess of normal tax liability can be carried forward for adjustment against tax liability of a subsequent tax year. However, such tax can only be adjusted against tax liability of the five tax years immediately succeeding the tax year for which the amount was paid.
The minimum tax rate for companies providing services is 8% of the turnover, except for certain specified services sectors, which are allowed concessions with conditions.
Alternate Corporate Tax (ACT)
Under the ACT, the minimum tax liability of a company is the higher of 17% of accounting income or the corporate tax liability determined under the ordinance, including minimum tax on turnover. This concept is applicable for all companies except insurance companies, companies engaged in exploration and production of petroleum, banking companies, and companies enjoying a reduced rate of tax. Exempt income, income taxable under the FTR, gain on disposal of specified listed securities, income entitled to 100% tax credit on account of equity investment, and income of non-profit organisations, trusts, and welfare institutions are not taxable under the ACT.
Super tax is the introduced through Finance Act, 2015 whereby 4% of super tax is payable by banking companies and 3% by other companies if the income of the company is PKR 500 million or more. Super tax is payable only for tax year 2015.
Local taxes on income
No local taxes are payable in respect of income of companies.
- Pakistan Corporate-Corporate Residence:-
A company is resident in Pakistan if it is incorporated or formed by or under the law of Pakistan or if the control and management of its affairs is situated wholly in Pakistan in that year.
The term ‘company’ includes a trust, a cooperative society, a finance society, or any other society established or constituted by or under any law; a corporate body incorporated outside Pakistan; and any foreign association, incorporated or unincorporated, that the Central Revenue authorities may declare to be a company.
Permanent establishment (PE)
A PE is a place of business through which the business of a non-resident is wholly or partly carried out, including:
- A place of management, branch, office, factory or workshop, premises for soliciting orders, warehouse, permanent sales exhibition, or sales outlet, except a liaison office
- An agriculture, pastoral, or forestry property
- A mine, oil or gas well, quarry, or any other place of extraction of natural resources
- A building site; a construction, assembly, or installation project; or supervisory activities connected with such site or project if such activity continued for more than 90 days within any 12-month period
- The furnishing of services, including consultancy services, by any person through employees or other personnel engaged by the person for that purpose
- A person acting in Pakistan on behalf of the person, other than an agent of independent status acting in the ordinary course of business
- Any substantial equipment installed, or other asset or property capable of activity giving rise to income.
The definition of a PE provided in a double taxation treaty (DTT) will prevail in cases where a DTT is executed by Pakistan with the related country of origin of the PE.
- Pakistan Corporate-Other Taxes:-
Value-added tax (VAT)
VAT (locally termed as ‘sales tax’) is ordinarily levied at 17% on the value of goods, unless specifically exempt, after allowing related input credits.
Telecommunication services are levied VAT at the rate of 19.5%. VAT on services, including telecommunication services, is a provincial levy.
Significant zero-rated goods are as follows:
- Supplies and repair and maintenance of certain ships and aircraft
- Supplies to diplomatic missions and diplomats
- Supplies of raw materials, components, and goods for export processing zones
- Supplies of locally manufactured plant and machinery to export processing zones and supplies of certain specified machinery to the exploration and production sector
- Supplies to exporters
Significant exemptions are as follows:
- Live animals and live poultry
- Live plants
- Vegetables, pulses, edible fruits (excluding imported fruits), certain spices, sugar cane, edible oils, etc
- Milk preparations
- Newsprints, newspapers, journals, periodicals, and books
- Agricultural produce not subjected to any process
Customs and import duties
Customs and certain other duties are collected at the import stage at varying rates classified under the Harmonized System (HS) Code.
Federal excise duty (FED) is levied at the rate of 17% on certain types of manufacturing, import of goods, and rendering of services, except telecommunications services, which are charged at the rate of 19.5%. FED, under the constitution, is to be levied and collected by the provinces. Sindh, Punjab, and Khyber Pakhtunkhwa provinces have promulgated their statute, and others are expected to follow.
Property owners are required to pay property tax levied and collected by provincial governments through municipal governments at varying rates.
In the case of sale or transfer of immovable property, stamp duty is payable (with varying rates on the basis of location of the property) on the value of the property.
Social security contributions
Nominal social security and Employees Old Age Benefit contribution is collected from the employers and the employees. Employers are responsible to collect and pay on a monthly basis.
Employers are not responsible to pay any other tax in respect of their employees or their salaries.
- Pakistan Corporate-Branch Income:-
The rates of tax for a branch of a company incorporated outside Pakistan are the same as those applicable on resident companies, other than public and banking companies (i.e. 32% for tax year 2016, 31% for tax year 2017, and 30% for tax year 2018 onwards). Tax at the rate of 12.5% is levied on the transfer of profits to the head office, with an exception for companies engaged in the oil and gas exploration and production business.
Payments to a branch in Pakistan of a non-resident are subject to deduction of tax at source on the same basis as a resident in the case of sale of goods, rendering of professional services, and execution of contracts. In other circumstances, a reduced/0% WHT certificate can be obtained from the Commissioner of Income Tax.
Pakistan has signed agreements for avoidance of double taxation with over 60 countries.
- Pakistan Corporate-Income Determination:-
Inventories are to be stated at the lower of cost or market. The first in first out (FIFO) and average methods are accepted. Conformity of methods used for book and tax reporting is desirable, and the method used should be consistently applied.
Capital gain on the sale of immovable property, on which depreciation is not allowed, is taxed at the rate of 10% if disposed of within one year and 5% if disposed of within two years. However, if the retention period is more than two years, the gain is not taxable.
Gain on the disposal of shares of a resident company or a non-resident company, whose assets wholly or principally consist of immovable property situated in Pakistan or rights to explore/exploit natural resources in Pakistan, shall be Pakistan-source income.
Tax rates on capital gains on the sale of shares of public companies or modaraba (profit sharing) certificates are exempt from tax if held for a period of more than 48 months for tax year 2016 onwards. Capital gains on shares and modaraba are taxable at 7.5% if held for less than 48 months and more than 24 months, taxable at 10% if held for less than 24 months and more than 12 months, and taxable at 12.5% if held for less than 12 months.
Capital gains, other than on statutory depreciable assets, realised within one year of acquisition is fully taxed; after one year, 75% of such gains are taxed and 25% are exempt.
Capital gains on statutory depreciable assets (other than immovable property) are chargeable to tax as normal business income in the year of sale. They are measured as the difference between the sale proceeds and the tax written-down value of the relevant asset sold.
In the case of an asset disposal transaction that is on a non-arm’s-length basis, fair market value of the asset shall be taken to be the consideration received by the seller, as well as the cost for the buyer.
Where assets are transferred outside Pakistan, the original cost is treated as the sale price, which means that the entire depreciation is recaptured at the time of export, except if the assets are used in oil or gas exploration, in which case only the initial depreciation is recaptured.
No gain or loss shall be taken to arise on disposal of an asset by a resident company to another resident company, provided certain conditions are met. The required conditions include, inter alia, that the transferor is 100% owned by the transferee or vice versa or both companies are 100% owned by a third company, and the transferee income is not exempt in the year of transfer. The scheme of arrangement is approved by the Securities and Exchange Commission of Pakistan or State Bank of Pakistan.
Any distribution to the shareholders of a company, to the extent that it relates to undistributed profits, is treated as a dividend.
Capital loss can be offset only against capital gains. Unabsorbed capital loss can be carried forward for adjustment against capital gains for six years.
Dividend income is subject to WHT of 12.5% or a lower tax treaty rate. The rate is 17.5% for persons receiving dividend income but not filing income tax returns (non-filers).
The deduction at source shall be the full and final discharge of tax liability on dividend income, except for non-filers, who can claim a refund of 5% upon filing of an income tax return.
Stock dividends declared by resident companies are taxable as bonus shares at the rate of 5%.
Interest earned by a company is taxed as its income from other sources. Interest earned by a non-resident company without a PE in Pakistan attracts WHT at the rate of 10%, except where a lower rate is provided in the related DTT, which is also the final tax on such income.
Income from royalties and fees for technical services (FTS)
Royalties received by non-residents are deemed to accrue or arise in Pakistan and are taxable if paid by a resident in Pakistan or borne by a PE of a non-resident in Pakistan.
Income from ‘fees for technical services’ (FTS) is deemed to accrue or arise in Pakistan if paid by a resident in Pakistan or borne by a PE of a non-resident in Pakistan. FTS means any consideration for the rendering of any managerial, technical, or consultancy services (including the provision of the services of technical or other personnel), but does not include consideration for any construction, assembly, or like project undertaken by the recipient or consideration that would be income of the recipient chargeable under the head salary.
Other significant items
Liabilities allowed as a tax deduction in a tax year and remaining unpaid for three subsequent years are deemed to be income in the first tax year following the said three years. Such items are then allowed as a deduction in the year the liability is discharged.
Agricultural income is exempt from income tax.
A resident company is taxed on its worldwide income and on its foreign income as earned. Double taxation of foreign income is avoided by means of foreign tax credits; this relief is allowed to the resident company on the doubly taxed income at the lower of the Pakistan or foreign tax rate. Undistributed income of a non-resident subsidiary is not subject to tax.
Foreign loss can only be offset against foreign income and can be carried forward for six years.
Modaraba (profit sharing) is a financing vehicle that enables a management company to control and manage the business of a modaraba company with a minimum of 10% equity participation. The management company is entitled to remuneration based on an agreed percentage (but not exceeding 10%) of annual profits of the modaraba business. A modaraba can be for a specific purpose or many purposes and for a limited or unlimited period. The income of a modaraba not relating to trading activity is free from tax if 90% of its profits are distributed as cash dividend.
- Pakistan Corporate-Deductions:-
Normal depreciation is allowed at the following prescribed rates by applying the reducing-balance method.
|Assets||Depreciation rate (%)|
|Machinery and equipment, including motor vehicles and ships||15|
|Computer hardware, including monitors and printers||30|
|Aircraft and aero engines||30|
|Below-ground installations in mineral oil concerns||100|
All depreciable assets put into service for the first time in Pakistan during a tax year, other than road transport vehicles not plying for hire, furniture (including fixtures), plant and machinery used previously in Pakistan, or plant and machinery for which a deduction has been allowed under another section of this ordinance, for the entire cost of the asset, shall be entitled to an initial allowance at 50% of the cost of the asset, except for buildings, for which the rate is 15%.
Book depreciation need not conform to tax depreciation. Unabsorbed tax depreciation not set off against the income of the year is carried forward and added to depreciation of the assets of the same business in the following year. Tax depreciation can be carried forward without limit until fully absorbed.
Amortisation of intangibles
The cost incurred on acquisition of a patent, invention, design or model, secret formula or process, copyright, software, quota, licence, intellectual property, or other like property or right, and any expenditure that provides an advantage or benefit for a period of more than one year, is allowed as a deduction on a straight-line basis over the useful life of the asset, but not exceeding a period of ten years.
Any payment made against acquisition of goodwill will also be amortized under these provisions.
Organisational and start-up expenses
Expenditure incurred before the commencement of a business wholly and exclusively to derive income chargeable to tax can be deducted over a period of five years.
Interest expense is allowed as an expense if required WHT is deducted and deposited in the government treasury.
Bad debts are allowed as deductible expenditure if the following conditions are satisfied:
- Debts are included previously in the income chargeable to tax.
- Debts are written off in the financial statements.
- There are reasonable grounds for believing that the debt is irrecoverable.
See Charitable donations credit in the ‘Tax credits and incentives’ section.
Fines and penalties
Fines or penalties that are not paid or payable for the violation of any law, rule, or regulation are allowable as tax deductible expenses.
Taxes on income are not deductible. Sales tax and excise tax are tax deductible where these are to be absorbed by the business; otherwise, these are passed on to the consumer.
Other significant items
Expenditure on scientific research incurred in Pakistan wholly and exclusively for the purpose of deriving income chargeable to tax is an allowable expenditure.
Exchange gains and loss on foreign currency loans specifically obtained for acquiring an asset are adjusted against the depreciable cost of the asset.
Any lease rental incurred by a person in the tax year to a scheduled bank, financial institution, approved modaraba, or approved leasing company shall be a deductible expense. However, financial charges paid for the above-mentioned leases are added back into the taxable income of the company.
Net operating losses
Operating losses may be carried forward and set off against the profits of the succeeding six years of the same business in which the losses were incurred. Unabsorbed depreciation can be carried forward indefinitely.
Carried forward losses of an entity in the case of group relief cannot be utilised if the ownership of the holding company is reduced to less than 55% and 75% if one of the companies is a listed company or none of the companies is a listed company, respectively.
Business losses can be carried forward up to a period of six years in the case of the amalgamation of two companies, with the condition that the same business is continued for a minimum period of five years.
The carrying back of losses is not permitted.
Payments to foreign affiliates
The deductibility of a head office expenditure of a non-resident taxpayer is limited to the same proportion of total head office expenditure as the Pakistan turnover has with the total world turnover. However, such domestic rules are overridden if the branch is a tax resident of a country having an agreement for avoidance of double taxation (treaty) and that treaty provides a different basis.
- Pakistan Corporate-Group Taxation:-
A locally incorporated holding company and subsidiary of a 100% owned group may be taxed as one group by giving an irrevocable option for taxation as one fiscal unit. The relief is not available for losses prior to formation of the group. The group is available if the companies are designated as entitled to avail group relief by the Securities and Exchange Commission of Pakistan.
Any company that is the subsidiary of a holding company may surrender its loss for the year to its holding company or its subsidiary, or between another subsidiary of the holding company, provided that the holding company directly holds 55% or more capital of the subsidiary if one of the companies is a listed company. However, if none of the companies is a listed company, the holding requirement is 75% or more. The loss can be surrendered for a maximum of three years, and the required holding is for at least five years.
The tax authorities have the power in respect of a transaction between associates to distribute, apportion, or allocate income, deductions, or tax credits between such associates to reflect the income that would have been realised in an arm’s-length transaction.
Where a foreign-controlled resident company (other than a financial institution or a banking company) or a branch of a foreign company operating in Pakistan has a foreign-debt-to-foreign-equity ratio in excess of 3:1 at any time during a year, a deduction shall be disallowed for the profit on debt (interest) paid by the company in that year on that part of the debt that exceeds the 3:1 ratio.
Controlled Foreign Companies (CFCs)
The only provision with any implications for CFCs is defined under Thin capitalisation above.
- Pakistan Corporate-Tax Credits and Incentives:-
Any relief from Pakistani income tax that is provided in any other law and not provided for in the Income Tax Ordinance or a treaty is not valid.
Profits and gains derived from an electric power generation project set up in Pakistan are exempt from tax.
Profits and gains derived by a company from the export of computer software, information technology (IT) services, or IT enabled services are exempt from tax through 30 June 2016.
Profits and gains from solar and wind energy plant and equipment manufacturing are exempt from tax for five years if set up by 31 December 2016.
Profit and gains from agricultural cold chain and warehousing are exempt from tax for three years if set up between 1 July 2015 and 30 June 2016.
Profits and gains from halal meat production are exempt from tax for a period of four years if set up between 1 July 2015 and 30 June 2017.
Profits and gains from new manufacturing units set up in Khyber Pakhtunkhwa and Balochistan are exempt from tax for five years if set up between 1 July 2015 and 30 June 2018.
Profits and gains from electricity transmission projects are exempt from tax for ten years if set up between 1 July 2015 and 30 June 2018.
Profits and gains from manufacturing of cellular phones are exempt from tax for five years if business commenced between 1 July 2015 and 30 June 2017.
Activities of small companies are encouraged with a reduced income tax rate of 25%.
A small company has been defined to mean a company that:
- is registered on or after 1 July 2005 under the Companies Ordinance, 1984
- has a paid-up capital plus undistributed reserves not exceeding PKR 25 million
- has an annual turnover not exceeding PKR 250 million, and
- is not formed by splitting up or the reconstitution of business already in existence.
Charitable donations credit
Companies are allowed a tax credit equivalent to 20% of their taxable income in respect of donations to:
- any board of education or university in Pakistan, established by or under federal or provincial law
- any educational institution, hospital, or relief fund established or run in Pakistan by federal government, provincial government, or local government, and
- any non-profit organisation.
Foreign tax credit
Where a resident taxpayer derives foreign-source income on which foreign income tax is paid within two years from the year in which it is derived, the taxpayer is allowed a tax credit equal to the lower of (i) the foreign income tax paid or (ii) the Pakistan tax payable in respect of that income. However, foreign tax paid is not refundable.
- Pakistan Corporate-Withholding Taxes:-
WHT on payments of royalty and FTS, when royalty or FTS is not attributable to a PE in Pakistan, is 15% or a lower treaty rate of royalty or gross fees. The tax withheld is deemed to be the final tax liability of the non-resident. In the case of a non-resident where royalty or FTS is attributable to a PE in Pakistan, the amount of royalty/FTS shall be chargeable to tax as normal income, and withholding on payments can be avoided, subject to approval of the commissioner. If a reduced rate is available in a tax treaty, such rate would be applicable.
Resident corporations making certain types of payments must withhold tax as follows:
|Recipient (1, 2, 3)||Dividends (%)||Interest (%)||Royalties (%)|
|Belgium||10 (11)/15||15||15/20 (12)|
|Bosnia and Herzegovina||10||20||15|
|Canada||10/15 (11)/20 (10)||25||15/20 (12)|
|Egypt||10/15 (13)/30 (10)||15||15|
|Finland||12/15 (13)/20 (10)||10 (14)/15||10|
|Germany||10/15 (10)||10 (14)/20||10|
|Ireland, Republic of||10||(7)||(8)|
|Korea, Republic of||10/12.5 (10)||12.5||10|
|Malaysia||10/15 (11)/20 (10)||15||15|
|Netherlands||10/20 (10)||10 (14)/15/20 (10)||5/15 (17)|
|Philippines||10/15/25 (10)||15||15 (15)/25|
|Saudi Arabia||5 (16)/10||10||10|
|Singapore||10 (11)/12.5 (13)/15||12.5||10|
|South Africa||10/15 (10)||10||10|
|Sri Lanka||10/15 (10)||10||20|
|Thailand||10/15/25 (10)||10 (14)/25||10/20 (19)|
|United Arab Emirates||10/15 (10)||10||12|
|United Kingdom||10/15 (13)/20 (10)||15||12.5|
- This table is a summary only and does not reproduce all the provisions that may be relevant in determining the application of WHT in each tax treaty.
- Resident and non-resident imply tax status.
- Individuals and companies are required to render annual returns of income and pay tax at the applicable rates. Credit is given for WHT deducted.
- WHT rates for interest and royalties given to non-resident corporations (treaty countries) also apply to non-resident individuals.
- The following remarks for dividends should be noted:
- The inter-corporate rate of tax on dividends received by a foreign corporation is 12.5%; corresponding treaty WHT rates in excess of 12.5% have been specified.
- The rates given in the table for treaty countries relate to recipient corporations. The maximum rate, as stated above, in respect of inter-corporate dividends is 12.5%. The lower rates are expressly provided in respect of dividends paid to a parent/associated corporation that has a certain minimum holding in a Pakistan industrial undertaking. The level of holding are noted:
- Japan: 25% and 50%.
- United States: 50%.
- Certain treaties provide for tax exemption of interest paid to the government or the central bank of the contracting state and on foreign loans specifically approved by the federal government.
- No concession is provided under the treaty.
- Royalties are exempt from tax, provided the recipient does not have a PE in Pakistan.
- Inter-corporate dividend where companies are entitled to group relief is exempt.
- WHT rate depends on percentage of holding in the company.
- This rate applies if the paying company is engaged in the industrial undertaking.
- Consideration for technical know-how or information concerning industrial, commercial, or scientific experience.
- This rate applies if the beneficial owner is a company.
- This rate applies if the beneficial owner is a bank.
- This rate applies if the paying company operates in preferred areas.
- This rate applies if the company is owned by the government.
- 5% is applicable for royalties payable for copyright of a literary, artistic, or scientific work, but excluding cinematography films and tapes for television or broadcasting. All other royalties are taxable at 15%.
- 18% is applicable for royalties payable for patent, trademark, design or model, plan, secret formula, or process of any industrial or scientific equipment, or for information concerning industrial and scientific experience; 15% for copyright of literary, artistic, or scientific work; and 10% for copyright of cinematograph films or tapes for television or radio broadcasting.
- 10% is applicable for royalties payable for copyright of literary, artistic, and scientific work. All other royalties are taxable at 20%.
- Pakistan Corporate-Tax Administration:-
The tax year is 1 July through 30 June. However, tax authorities are empowered to approve a special year end.
All companies are required to file an income tax return each year by 31 December for the preceding financial year (1 July through 30 June) by accounting for business income on an accrual basis. If the special year granted by the tax authorities ends on 31 December, then the tax return is required to be filed by 30 September following the year-end.
An across-the-board self-assessment scheme is in place whereby assessment is taken to be finalised upon filing of the return. The Commissioner, however, has powers to amend the assessment if it is believed that the ordinance has been incorrectly applied or there is definite information that the assessment made is incorrect. These powers are to be exercised within a prescribed time frame. In the case of transactions between associates, the Commissioner can substitute the transaction value with the fair market consideration. The Commissioner is also empowered to determine tax liability according to the substance of the transaction, disregarding formal arrangements between the parties.
Payment of tax
Companies are required to pay advance tax on the basis of tax liability of the immediately preceding tax year in respect of their income (excluding capital gains and presumptive income). The advance tax is to be paid after adjusting the taxes withheld at source (other than the tax withheld relating to final tax regime).
Advance tax is required to be paid in four quarterly instalments on or before 25 September, 25 December, 25 March, and 15 June in each financial year. Credit for tax paid in a tax year shall be allowed against tax liability of that year.
The total tax liability is to be discharged at the time of filing the return of income.
Advance taxes and taxes withheld are adjustable against the tax payable with the return of income.
Tax audit process
The Federal Board of Revenue is authorised to prescribe criteria for selection of audit of taxpayers who have filed their returns for a tax year. Based on such criteria, cases are selected through computer ballot separately for income tax, sales tax, and federal excise duty. The returns are examined by tax authorities, and related documents and information are requisitioned. Show cause notices are then raised and, on receipt of explanations from taxpayers, income or loss is assessed. In case of disagreement with assessments, the taxpayer has the right to agitate the issues before appellate forums.
Statute of limitations
An audit of the tax return filed by a taxpayer can be conducted by the tax authorities within five years of the end of the financial year in which the return is filed.
A non-resident not operating in Pakistan through a PE can apply to the Federal Board of Revenue to issue an advance ruling setting out the Board’s position regarding application of the provisions of the Income Tax Ordinance to a transaction proposed or entered into by the taxpayer. The tax ruling, once issued, is binding on tax authorities.
Topics of focus of tax authorities
Tax authorities focus on the following issues:
- Transfer pricing
- Relationship of expenditure with the business of the taxpayer
- Advance tax
- Payment of tax dues within the time prescribed
- Audit of returns filed
- Compliance by taxpayers
- Collection of arrears
- Pakistan Corporate-Other Issues:-
Special rules are applicable for computation of income from exploration and production of petroleum, mineral deposits, insurance business, and banking business.
United States (US) Foreign Account Tax Compliance Act (FATCA)
Pakistan is under active negotiation with the United States for executing an agreement for compliance with FATCA; however, banks and other entities affected by FATCA are required to register with the US Internal Revenue Service (IRS).
For more information on Sales Tax, Taxes on Registered Firms, Personal and Company Taxation contact us at [email protected]