Syed Imtiaz Abbas Hussain

Income tax in Pakistan is being executed by the Income Tax Ordinance 2001 (hereinafter referred to as “Ordinance”) and Income Tax Rules 2002 (hereinafter referred to as “Rules”). A number of improvements have been witnessed in the ordinance and rules for more than a decade but these still need to improve because the income tax laws are not focused on economic priorities, tax revenue generation and revenue-effective taxpayers. Instead, tax machinery is wasting its time and energy in huge numbers of petty taxpayers specially of salaried and labour class with an exemption limit of Rs 400,000, creating a mess by making mandatory payment of wages even to the illiterate employees through crossed cheques, allowing expenditure per transaction for deduction from income over small and irrational amount of Rs 50,000 paid by crossed cheque. Tax officers and taxpayers are involved in withholding tax and tax refund culture which has a little or no impact on revenue generation but to only push corruption.

Few suggestions for rationalization and simplification of the income tax laws are as under:

Income tax on losses

Income tax on losses is being charged under the Ordinance and Rules is in violation of the Constitution which allows “tax on income” and not “tax on losses”, while the Ordinance has clearly mentioned under Section 4 that “tax on taxable income” but practically charging income tax even on losses under Section 113 and Section 169 of the Ordinance.

Minimum tax/turnover tax (1% on gross turnover/sale) under Section 113 of the Ordinance was introduced to overcome emergency of government at that time, which should be for a transitional period of one year or two. But minimum tax has become a permanent feature and even its base is broadening every year, as a result, this tax is being charged on losses, which is again in violation of Constitution and is against the fundamental rights of a citizen.

Income tax collected or deducted as a final tax under Section 169 may also tantamount to charging income tax on losses. For example, suppliers/contactors/customs authority/bankers have deducted or collected income tax from the taxpayers amounting to Rs 60 million and actual loss for said tax year of the taxpayer after adjustment for add/back was Rs 15 million. So under the Constitution, such taxpayer should not be subjected to income tax but the

government has charged income tax from taxpayer amounting to Rs 60 million under the final tax regime.

Income tax not on income; but on deemed income

Income Tax collected or deducted from taxpayers are being treated as deemed income and accepted as final tax under Section 169 of the Ordinance irrespective of the fact that taxpayer is in loss, subject to Section 169(2)(e)&(f) of the Ordinance, which is against the principles of accounting, Companies Ordinance 1984/2016, International Accounting Standards (IASs)/International Financial Reporting Standards (IFRSs) and even against to some provisions of the Ordinance. (Refer Section 169 of the Ordinance, IAS No. 12 and other related IASs/IFRSs and Companies Ordinance 1984/2016);

Transitional advance tax provisions

The dictionary meaning of “transitional” includes “the period of time during which something changes from one state or stage to another”, and usually in business and laws, the word transitional refers to the temporary phase. But Ordinance has made transitional advance tax provisions as a permanent by creating new Chapter XII, which covers Sections from 231A to 236J and even its base is being broadened every year.

Taxation on capital gains on immoveable properties

The Constitution excludes federal authority to tax capital gains on immoveable properties, which is a provincial subject. But the Ordinance is levying income tax on the gains arising on the disposal of immoveable properties under Section 37(1A), which is against the Constitution.

Income tax laws are not in accordance with IFRSs/IASs/Company Laws

As per Rule 32(2) of the Rules, the books of accounts, documents and records required to be maintained by a company in accordance with IASs and as required under the Companies Ordinance 1984/2016. But the Ordinance is not in accordance with Rules and has rejected IFRSs/IASs/Companies Ordinance 1984/2016 in connection with the following accounting treatments, as a result, there is a conflict within income tax laws and taxpayers faced problems in their tax planning:

a. Depreciation and carrying amount of fixed assets is being calculated in the Ordinance which is quite different from what is systematically and logically explained in IASs/IFRSs. It is suggested that depreciation and carrying amount of fixed assets as stated in audited financial statements should be allowed in the Ordinance and instead of giving special depreciation like initial depreciation; first year allowance, etc, a tax allowance/tax credit may be allowed, or alternatively to make working simple and straight, depreciation may be allowed on straight-line basis instead of reducing balance method which carry asset unnecessarily and immaterially for more than 22 years as did for pre-commencement expenditure under section 25 of the Ordinance. (Section 22, 23 , 23A and 23B of the Ordinance, IAS No 16 and other related IASs/IFRSs, Companies Ordinance 1984/2016);

b. Stock in trade/inventories is being computed in the Ordinance which is quite different from what is systematically and logically explained in IASs/IFRSs. It is suggested that inventories consumed and inventories carrying amount as stated in audited financial statements should be allowed in the Ordinance. (Section 35 of the ordinance, IAS No. 2 and other related IASs/IFRSs, Companies Ordinance 1984/2016);

c. Long-term contract is being treated in the ordinance which is quite different from what is explained in IASs/IFRSs. It is suggested that the contracts’ work in progress and other related items as stated in audited financial statements may be allowed in the Ordinance. (Section 36 of the Ordinance, IAS No. 11 and other related IASs/IFRSs and Companies Ordinance 1984/2016);

d. The Ordinance has only allowed treatment of operating lease for lessors and lessees and has rejected more logical and systematic treatment of finance lease, which is allowed in IAS 17 and Companies Ordinance 1984/2016, while allowing few provisions of finance lease. It is suggested to allow lease treatments, which is on finance lease basis, as stated in audited financial statements in the Ordinance (Section 18(3), 22(12), 23(4) and 28(1)(b) of the ordinance, IAS No. 17 and other related IASs/IFRSs and Companies Ordinance 1984/2016);

Imbalanced treatment for non-residents having permanent establishment

Non-resident taxpayers having permanent establishments in Pakistan will be subjected to income tax as applicable to resident taxpayers subject to some restrictions as per section 105 of the Ordinance, but it is not justified to keep them away from benefit of final tax under Section 169 for collections and deductions of income tax under section 152(2A) of the Ordinance while there maintenance of permanent establishment in Pakistan has mitigated the risk of loss of tax revenue to the government. (Section 152, 105 and 169 of the Ordinance)

Certificate of collection or deduction of tax

The provisions of Section 164 and Rule 42 and “on-line certificate” designed by and available at FBR website relating to the issuance of certificate of collection or deduction of income tax are conflicting each other due to the following reasons:

a. As per Section 164(1) of the Ordinance, every person collecting or deducting income tax shall at the time of collection or deduction furnish to the person from whom the tax has been collected or deducted, a certificate, while under Rule 42(1), a certificate is required to be issued within 15 day after the end of the financial year and on request under Rule 42(2) a certificate may be issued before the end of the financial year;

b. Many particulars are missing in “on-line certificate” designed by and available at FBR website, which are required as per Form as set out in Part VII of the Second Schedule to these Rules, which includes (i) on ______ (Date of Collection/Deduction), (ii) Or during the period; from ____ To ____ (Period of Collection/Deduction) and (iii) certification portion of the said Form and its all particulars are missing;

c. Form as set out in Part VII of the Second Schedule to these Rules is in line with Section 164 and not in line with Rule 42.

Ordinance referring provision of repealed ordinance

The Income Tax Ordinance 1979 has been repealed under Section 238 of the ordinance and some specific provisions of the repealed Ordinance have been saved under Section 239 of the Ordinance for some specific purpose. But it does not mean that the Ordinance will mention provisions of repealed Ordinance in definitions of terms etc used in the Ordinance. For example, under Section 2(29A) income year means income year as defined in the repealed Ordinance. So, Ordinance needs to be revisited with a view to deleting such references of repealed Ordinance and wherever possible to include active provisions in Ordinance to make the income tax laws simple.

Income Tax Authorities not properly mentioned in laws

Income tax authorities as mentioned under Section 207 of the Ordinance have not been properly replaced in Sections of the Ordinance and in Rules of the Rules as a result taxpayers are being misguided. For example still mentioning about Regional Commissioner under Section 130(4)(a) and mentioning Central Board of Revenue under Section 74(11) and Section 111(5) of the Ordinance and much more such mistakes in Ordinance and Rules. So board needs to revisit the entire Ordinance and Rules to correct such confusing and misguiding mistakes.

Mentioned about “such other executive or ministerial officers or staff” under Section 208(1) of the Ordinance, but nowhere in the Ordinance or Rules their functions and authority have been explained.

Tax structure is not in line with the economic priorities

The basic structure of income tax laws and sales tax laws are not in line with the economic priorities of the country as these have been totally distorted due to un-strategic exemptions, concessions, tax holidays, zero rating, additions and deletions to favour near and dear ones. Fortunately or unfortunately, the issues which need to be considered in framing these laws have never been strategically focused as a result we could not improve economy in a way it should be and even we could not resolved our economic issues in the right directions. So we need to restructure these laws in line with our economic priorities and our needs, especially in the areas of education, health, employment, industrialization, law and order, science and technologies, production, investments and savings and governance, etc. This restructuring should be just like zero budgeting that is from the scratch instead of add/back provisions in the Ordinance and Rules.

Irrational tax provisions

The taxpayers are not subjected to investigation under the Ordinance and Rules, but under Section 177(1) relating to audit, the word “investigation” has been used, which is just creating confusion and tantamount to harassment and corruption;

The taxpayers are not subjected to inspection under the Ordinance and Rules and even the designation of the Directorate General of Inspection and Internal Audit has been changed to Directorate General of Internal Audit. Then what is the rationale in including “Inspector Inland Revenue” under Section 207 of the Ordinance relating to income tax authorities?

According to Section 20 of the Ordinance, in computing the income of a person chargeable to tax under the head “income from business” for a tax year, a deduction shall be allowed for any expenditure incurred by the person in the year “wholly and exclusively for the purpose of business”. There is no rationale by adding “wholly and exclusively for the purpose of business” as it is practically impossible to proof it and it is just debatable and opening door for corruption.

Under Section 21 (m) of the Ordinance, any salary paid or payable exceeding Rs 15,000 per month other than by a crossed cheque or direct transfer of funds to the employee’s bank account will not be allowed to be deducted in computing the income of a person under the head “income from business”. The question is that what is the basis of taking the figures of Rs 15,000. To make it rationale and justifiable, it is suggested to take this figures equals to 1/12th of tax exempt limit of salary say Rs 33,333 or Rs 35,000 instead of Rs 15,000, then it will support the system. Further an unnecessary tension is created by including illiterate labor force who are in hundreds and thousands in manufacturing businesses, so to make the tax laws simple and straight it is requested to exclude manufacturing labors and clerical staff from this Section or alternatively enhance the exemption limit from Rs 15,000 to figure equals to 1/12th of tax exemption.

Any income of a newspaper employee representing local travelling allowance is totally exempted from income tax under Clause 40 of Part I of second Schedule attached to the Ordinance. To make it rationale, I suggest local travelling allowances of all types of media employees and sales and marketing employees must be totally exempted.

Clauses 51 to 53 of Part I of second Schedule attached to the Ordinance have covered all high-ups, including federal ministers except Prime Minister and Chief Ministers, which is not rationale, I suggest should be included categorically.

According to Section 12 (4) of the Ordinance “no deduction shall be allowed for any expenditure incurred by an employee in deriving amounts chargeable to tax under the head Salary”. It means income tax will be charged on gross salary which is in violation of Constitution of Islamic Republic of Pakistan and against to the fundamental rights of a citizen of Pakistan. Tax should be charged on gross salary after deduction of at least necessary expenses of livelihood such as rent, food, cloth, utilities, domestic servants, children education, health, insurance etc which may be taken as a percentage of gross salary without going into its details and complications, as was done for existing rent allowance, medical allowance etc. It is how the government can do justice with white-collar people and mitigate abnormal effect of high inflation and corruption. High salaried taxpayers also deserve for these concessions as their rights, because earning high salary is not the crime otherwise they will serve in other country as non-resident Pakistani and government will lose tax revenue. Likewise, salary exempt limit should be reworked and revised, based upon above formulae say exempt up to Rs 600,000 instead of Rs 400,000 in a tax year. It is how huge number of salaried taxpayers will be eliminated and unnecessary work load of tax authorities will be reduced and they may be able to focus on material tax revenue targets.

According to Section 13 of the Ordinance and Rule 5 of the Rules, the value of conveyance provided by the employer to the employee shall be included in income of employee equal to 5% of the cost to the employer for acquiring the motor vehicle, when vehicle is partly for personal and partly for official use. This treatment does not sound good and rationale because if vehicle was purchased by employer in 2005 at the cost of Rs. 1 Million and employee will take its 5% Rs 50,000 in Tax Year 2011 while its WDV in this tax year is Rs 209,715 after 20% depreciation. It is suggested to make a depreciation slab for 10 years on straight-line basis, to apply 5% to make this treatment logical, simple and straight or alternatively linked it as percentage of salary.

What is rationale in stating, for the purpose of Section 21(d) of the Ordinance, that expenditure incurred on entertainment of customers and clients “at the person’s business premises” under Rule 10(1)(c). Can’t taxpayer take customers and clients outside business premises for hotel, etc?

Under Section 22(13) of the Ordinance, the cost of a depreciable asset being a passenger transport vehicle not plying for hire shall not exceed Rs 2.5 Million, which is also too low as compared to latest prices. Ordinance changed this Section by enhancing limit many times. What is rationale in capping limit? Is it necessary to amend this Section religiously instead of eliminating it on the basis of the fact that vehicle price shoot up manifold due to many factors and its impact on the government tax revenue is negligible and such elimination will make tax working simple.

Income tax on income from property is too much complicated, irrational and illogical so need to address the following to make the tax laws simple and rational:

Income from property is being subjected to income tax after deductions allowed only to companies under Section 15A of the Ordinance, so what is the rational in not allowing genuine deductions to individuals and association of persons, which discourage investments and savings climate in the country.

Prescribed person under section 155(3) for individual or association of persons means who are paying gross rent of Rs 1,500,000 in a year or more for deduction of tax at source, so what is the rationale in making the tax deduction slab under Section 155 specified in Division V of part III of the First Schedule attached to the Ordinance on gross rent from Rs 200,000 to exceeding Rs 2,000,000 in a tax year. So need to revise slab from Rs 1,500,000 in instead of Rs 200,000 in a tax year.

Individual and association of persons is to pay tax on income from property required under Section 15 is as per slab at the rate 5% to 20% specified in Division VIA of part I of the First Schedule attached to the Ordinance on gross rent exceeding from Rs 200,000 to Rs 2,000,000 in a tax year. What is the rational in making exemption limit up to Rs 200,000 in a tax year, which is too meagre covering monthly rent of just Rs 16,667 in this era of high inflation, it is suggested exemption limit should be at least Rs 600,000 in a tax year if without deductions to cover monthly rent of Rs 50,000.

It is suggested that income tax on income from property should be treated as a separate block for simplification purpose.

Section 153(1)(b) tax deducted at source relating to the rendering of or providing of service is treated as minimum tax under proviso Section 153(3)(b) except Sectors mentioned in Clause 94 of Part IV of the Second Schedule attached to the Ordinance, and not allowed as final tax under Section 153(3) and Section 169 of the Ordinance except electronic and print media for advertising services under proviso Section 153 (3)(e). Globally tax revenue generation from services are higher than goods and contracts, so such restrictions will discourage generation of revenue from service in Pakistan.

Apparent errors in income tax laws

Section 152(1AAA) of the Ordinance is, by mistake, referring Division IIIA of part III of the First schedule attached to the Ordinance instead of Division II(3) of Part III of First Schedule attached to the Ordinance as both Section 153A of the Ordinance and Division IIIA of part III of the first schedule attached to the Ordinance have been omitted.

Section 44(2)(c) relating to exemption under international agreements is showing, by mistake, “funds or grant” instead of “funds of the grant”.

Many mistakes in mentioning income tax authorities in different sections of the Ordinance and in rules of the Rules, which are referred above.

Section 195(3) of the Ordinance still showing Section 187(3), which was omitted by the Finance Act 2010.

Section 152(2A) showing clauses (i), (ii) and (iii) while Division II of part III of First Schedule attached to the ordinance is showing Clauses as a, b and c.

The accounts and documents required to be maintained under Section 174(3) is for six years while its relevant Rule 29(4) of the Rules is mentioning five years.

Conclusion

One will have to appreciate that the Income Tax Ordinance 2001 and related Income Tax Rules 2002 have been framed in such a way that all heads of income are well covered and every corner of income is complete in all respects but the problem is that these laws are not being implemented and monitored in its letter and in spirit due to many reasons.

I can say with confidence that if these laws implement and monitor in its letter and in spirit then tax-to-GDP ratio in Pakistan will jump manifold even with the existing exemptions, tax concessions, allowances and tax credit.

Tax machinery needs to cross check and reconcile at least last five years data of income tax collected and deducted, sales tax input and output and critically review financial statements of taxpayers. This exercise will undoubtedly unearth thousands of hidden revenue-effective taxpayers and unearth billions and trillions of tax revenue.

(The writer is a fellow member of Chartered Accountants of Pakistan and has an experience of 27 years in different capacities and contributes in journals and newspapers)