MONDAY MARCH 04: WHT on interconnection expenses: DI&IIR unearths Rs 3.67 billion tax concealed by LDIs

ISLAMABAD: Directorate of Intelligence & Investigation, Inland Revenue, Islamabad has unearthed concealment of taxes to the tune of around Rs 3.67 billion by eight Long Distance and International Operators (LDIs) on account of non-deduction of withholding taxes (WHT) on interconnection expenses of Rs 46 billion claimed by LDIs during 2008 to 2012.
Sourced told Business Recorder here on Sunday that the Directorate had proposed legal action under section 161 of the Income Tax Ordinance 2001 for immediate recovery of the tax along with Additional tax/penalty for the default.
Out of 13 operational LDIs, data of eight LDIs for 2008-2012 has been examined. Eight LDIs claimed interconnection expenses of Rs 46 billion during this period. The withholding taxes have not been paid by eight LDIs on interconnection expenses. The amount of concealed taxes would increase after analysis of remaining five LDIs. This is for the first time that the FBR has detected massive concealment of taxes by LDIs through detailed analysis of Double Taxation Treaties, Income Tax Ordinance 2001, Pakistan Telecommunication Authority (PTA) rules/guidelines and other relevant laws. The examination of withholding statements/returns filed by the LDIs also confirmed this concealment of taxes.
The agency's investigation revealed that both Pakistan's commitments under its Double Taxation Treaties as well the Income Tax Ordinance 2001 provides for taxation in Pakistan, of payments made to the foreign telecom operators by Pakistani LDIs on account of interconnect charges. Accordingly, withholding tax u/s 152(1) of the Income Ordinance 2001 is chargeable on such payments which constitute final discharge of tax liability of such foreign Telecom operators. Withholding statements of the Pakistani LDIs, however, reveal that no such tax has been deducted. This renders them liable to action u/s 161 for the immediate recovery of tax not withheld along with Additional Tax/Penalty attracted by the default under the law.
The Directorate of Intelligence & Investigation-IR Islamabad has dug out interconnection expenses claimed by the LDIs for Tax Years 2008 to 2012, which shows that during the period, the LDIs has claimed total Interconnection expenses worth Rs. 45,915,945,571 without deducting WHT. This is the amount of interconnection expenses claimed by only 8 out of the 13 operational LDIs and even in such cases does not include expenses claimed in some years due to the non-filing of audited statements of accounts by the LDIs.
The Directorate has asked the Large Taxpayer Unit, Islamabad and other relevant authorities to take immediate action against the LDI operators. The concerned LDIs may be asked to provide bifurcation of the interconnection expenses into those paid to foreign and local telecom operators and to explain as to why withholding taxes have not been deducted despite the legal position. In the likely eventuality of non-providing of such bifurcation by the LDIs, action u/s 161 of the Income Tax Ordinance, 2001 may be taken against the LDIs, by apportioning the interconnection expenses fairly between the foreign and local telecom operators and applying the relevant rates of deduction accordingly.
Additional tax and penalties may also be levied for the willful defaults by the LDIs on their obligations to deduct withholding taxes, Directorate of Intelligence IR added.
Details of the case revealed that telecom sector has been taken up for in depth analysis, both in view of its vital importance in the economy and the huge amount/volume of Revenue and transactions taking place in the sector, involving numerous players at multiple levels. Investigations carried out by the Directorate has revealed so far some interesting details entailing massive revenue. The PTA has given licenses so far to 14 LDIs, of which 13 are operational. As the LDIs could not establish their own telecommunication networks under the PTA Regulations, therefore they engage the telecom networks of other telecom operators (both Pakistani and foreign) for calls connectivity. For this, the LDIs make payments to other telecom operators under contractual agreements and expenses are claimed against the total receipts for a Tax Year under the head interconnection expenses. The modalities of the agreements concluded by the LDIs with other telecom operators are elaborated below. No withholding tax is deducted on such payments, as confirmed from the withholding statements of the LDIs available on the ITMS. To shy away from their tax obligations on this count, the interconnection charges are concealed/camouflaged through a variety of ploys in their statements of accounts. The LDIs invariably fail to provide any bifurcation of the interconnection charges into those paid to Pakistan and foreign telecom operators. In some cases, either the audited statements of account are not filed at all or they are filed incomplete to hide the interconnection expenses from the department.
The in-depth investigation conducted by directorate revealed that the terms of the licenses bar the LDIs from the establishment, maintenance or operation of telecommunication system for providing any Telecommunication services , or the establishment, maintenance of terrestrial transmission facility linking Pakistan with another country. Accordingly, the LDIs avail the telecommunication networks of other telecom operators (both mobile and landline) to acquire call connectivity for long distance calls, either in-or outside Pakistan. The expenses incurred on account of availing the networks of such other telecom operators are claimed against the total receipts and this is the largest charge of expenses against their receipts for a particular tax year. The expenses are classified by some LDIs as 'interconnection expenses', while other give them different names in order to conceal their true nature as mentioned above. The PTA Interconnection Guidelines 2004 defines interconnection and interconnection services.
The LDIs operating in Pakistan, pay interconnect charges to both Pakistan and foreign Telecom operators depending on the termination of calls in/or outside Pakistan. Such payments fall under the definition of "Royalty" as defined in section 2(54)(e) of the Income Ordinance 2001, which relates to payments made as consideration for the use of, or right to use of, any industrial, commercial or scientific equipment.
The directorate analysed that the interconnection payment made either to the foreign or Pakistani telecom operators are liable to withholding taxes in Pakistan. Sub Section (1) of Section 152 of the Income Tax Ordinance 2001 contains explicit provisions for the levy of withholding taxes on royalty payments made to non-residents which are chargeable to tax u/s 6 of said Ordinance. Section 6 of the Ordinance provides for the taxation of royalty payment to non-resident if it is not related to the permanent establishment of such non-residents in Pakistan (in which case it constitutes the business income of the non-residents) or is not otherwise exempted under the Ordinance. No permanent establishment of the foreign telecom operators exists in Pakistan neither any exemption has been granted by the Ordinance to such payments.
The only scenario where royalty payments to non-resident telecom operators could be exempted from taxation in Pakistan is where the Pakistan's treaties for the avoidance of double taxation bar such taxation. On this point, Pakistan's treaties for the avoidance of double taxation with some major countries were examined and it was noted that even these treaties do not bar the taxation of the Royalty payment (of the type under consideration) to non-residents in Pakistan, sources said.
The investigation further revealed that the treaty for the avoidance of double taxation between Pakistan and the United States exempts royalties but only to the extent that it is paid as "consideration for the use of, or for the privilege of using any copyright, patent, design, secret process or formula, trademark, or other like property". The interconnect payments as explained above clearly fall outside the preview of this exemption. The treaties for the avoidance of double Taxation between Pakistan and some other countries allows for the taxation of Royalty payments in Pakistan, which originate in Pakistan but place ceiling at the rate of tax. For instances such treaties with Germany allows for the taxation of Royalty in Pakistan at the maximum rate of 10 percent, with UK at 12.5 percent, with Netherlands at 15 percent , with Canada at 20 percent, with France at 10 percent, with Malaysia at 15 percent, with Turkey at 10 percent, with UAE at 12 percent and with Norway at 12 percent of the gross amount. It is thus abundantly clear that both Pakistan's commitments under its Double Taxation Treaties as well the Income Tax Ordinance 2001 provides for taxation in Pakistan, of payments made to the foreign telecom operators by Pakistani LDIs on account of interconnect charges. Accordingly, withholding tax u/s 152(1) of the Income Ordinance 2001 is chargeable on such payments which constitute final discharge of tax liability of such foreign Telecom operators. Withholding statements of the Pakistani LDIs, however, reveal that no such tax has been deducted.