Even if the Elahi Cotton Mills Limited is considered to be final on this subject there is a fundamental difference between that decision and matter under consideration, which is the tax under (7E) of the Ordinance.
This difference, which is the soul of this matter, has neither been identified in the order of the Sindh High Court nor in the appeal arguments before the earlier hearings at the Supreme Court.
The amount which has been taxed as ‘deemed’ income in the Elahi Cotton Mills Limited case was the result of an ‘Economic Transaction’ or ‘event’ undertaken by a taxpayer during the tax year. An income is in relation to a time period termed as an income year.
Deemed income tax on ownership of vacant plot incorrect–I
In simple words, for example, in the case of commercial imports, it has been stated that instead of taxing income being sales proceeds less cost of imports the amount of tax collected at import stage is taken (deemed) as income. All the transactions / subjects which were under appeal in the Elahi Cotton Mills Limited case are those where there is an ‘economic transaction’ or ‘event’ during the year. A particular manner to determine tax liability was prescribed and the same was taxed, which has been treated as valid by the Supreme Court of Pakistan.
In the case of Section (7E) there is no ‘Economic Transaction’ or event that can give rise or be treated as income. ‘Ownership of an asset’ is not an economic transaction. It can be anything but not being an income even in any extended sense. A tax if required to be levied on such ownership is already covered under Entry 50 as discussed above. In no case can a notional, illusionary value be deemed to be taxable in the hand of the owner Entries 47, 48 or 52 of the Federal Legislative List.
At this point it would be beneficial to describe the meaning of ‘Economic Transaction’ and ‘Income Transaction’.
Deemed income tax on ownership of vacant plot of land incorrect—II
Definition of an Economic Transaction
An economic transaction occurs when an economic value is provided by one economic unit to another; economic values are goods and services, and financial items. Buying and selling of goods is an economic transaction. Similarly, paying school fees for the children is also an economic transaction. All economic transactions are not ‘income generating economic transactions’. For example, school fee is not an income-generating transaction for the payer. However, buying goods and services for business is an economic transaction which is an income generating economic transaction and that is what for which a question of deeming can arise.
Income Generating Economic Transactions
An income generating economic transaction is a completed agreement between a buyer and a seller to exchange goods, services, or financial assets undertaken for business purposes. It has been held by the Supreme Court of Pakistan in the Elahi Cotton Mills Limited case that an income generating economic transaction can be taxed under a deemed provision as all the cases covered in appeal were actual economic transactions undertaken by the appellant in that year. In that case the taxable amount is not necessarily determined by applying the general principle of accounting and can be deemed in any manner legislated by Parliament. It is for this reason that in the decision of the Elahi Cotton Mills Limited case the Income Tax Ordinance, 1979 was extended to Entry 52 as such income can also be determined on the basis of capacity which is the basis of Entry 52 which states:
- Taxes and duties on the production capacity of any plant, machinery, undertaking, establishment or installation in lieu of the taxes and duties specified in entries 44, 47, 48 and 49 or in lieu of any one or more of them.
The primary question in this case is whether provisions of Section (7E) emanate or arise on account of any economic transaction undertaken by a person who is being taxed as having derived an income during that year. An illustration will clarify the matter:
Illustration
Mr A owns a plot of land measuring 5 Kanals, which was purchased by his grandfather in 1930 on The Mall Lahore for Rs 100,000. This was originally a house which has now been demolished. Mr A inherited this plot from his father. The fair value of plot in 2022 is around Rs 1.5 billion. Mr A has not undertaken any action ever with respect to that property.
The question is whether or not Mr. A be taxed under Entries 47, 48 or 52 for an income amount determined on the basis of Rs on Rs 1.5 billion. Mr A has never undertaken any transaction on that property. There can be a case under Entry 50 of the Federal Legislative List; however, even for that purpose the value cannot exceed the cost to the family, which is Rs 100,000. Rs 1.5 billion is something in the year until the property is sold and the amount is converted into money. Before that it cannot be the basis of any taxation. This is absurd legislation for which the Supreme Court of Pakistan in the Elahi Cotton Mills Limited has itself stated:
(xxiv) That the word ‘reasonable’ is a relative generic term difficult to adequately definition. It inter alia connotes agreeable to reason; conformable to reason; having the faculty of reason; rational; thinking, speaking, or acting rationally; or according to the dictates of reason; sensible; just; proper and equitable or to act within the Constitutional bounds.
The Parliament and the Sindh High Court have not fully appreciated this concept of taxing rights under the Constitution. It is therefore absolutely clear that Section (7E) creates a sum to be treated as income and to be taxed which can never be so under the widest possible application of Entries 47, 48 and 52 of the Federal Legislative List. Thus the law is ultra vires.
Question 4
Incorrect reference to discarded concept of Annual Letting Value
There was only one situation where an income could have been deemed without any economic transaction. That was ‘income from house’. Under that system a notional term was coined which was called Annual Letting Value (ALV) which was defined in the law as under:
Income Tax Ordinance, 1979
(b) “annual value” of any property shall be deemed to be the sum for which the property might reasonably be expected to let from year to year;
Provided that where the property is let on rent, the annual value shall not be less than the rent payable by the tenant.
The amount so determined had no relation with any economic transaction. It was deemed like Section (7C) of the Income Tax Ordinance, 1979. However, in the proviso it was stated that the same cannot be less than the rent actually received. There is no confusion or ambiguity in this law. Under all connotations in case of an immovable property tax on deemed income under Section (7E) is an income from house property if the law had remained the same.
The fundamental error which has been made by the Sindh High Court and the arguments presented at that forum and the Supreme Court is that the primary question of change in the law has not been identified and the Order has been passed using the text of the law that is no more applicable.
(To be continued)
Copyright Business Recorder, 2024
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