Pakistan Banks Association (PBA) has proposed to the Federal Board of Revenue (FBR) to increase the existing threshold of one percent of total advances (other than consumer/SME) to a reasonable level, ie, 2 percent for corporate and other advances in budget (2015-16). Sources told Business Recorder Saturday that the existing threshold of 1 percent of total advances should be increased to reasonable level, ie, 2 percent for corporate and other advances, as tax deductible provision for bad debts for the year till the time original provisions for allowing bad debts are restored.
PBA has suggested that rule 1 (c) of the Seventh Schedule of the Income Tax Ordinance 2001 should be amended as follows: Suggested change: "(c) Provisions for advances and off-balance sheet items shall be allowed up to a maximum of 2 percent of total advances" The rationale behind the proposal is that the Seventh Schedule of the Ordinance was introduced with the objective of eliminating or substantially reducing the disputes and litigation between the tax authorities and the banks in Pakistan. However, the tax authorities have taken away the very spirit of the Seventh Schedule by aborting the treatment for bad debts originally enacted by making amendments even before it came in to force.
In the banking business, risk is taken for earning income from advances. As such, bad debts are unfortunately part of the banking business and therefore it is an expenditure incurred while conducting the banking business. The restriction on claim of provision for bad debt at 1 percent is too low particularly in case of banks which do not have large financing portfolio, PBA added. The PBA said that vide Finance Act, 2014 amendments have been made to tax Dividend and Capital Gains on net basis after allocation of proportionate expenses. Total amount of expenditure is required to be allocated on dividend and capital gains to arrive at a net figure. As per the 7th Schedule, "total amount of expenditure" is required to be allocated on the dividend income and capital gain on sale of shares of listed companies.
It is proposed that the amendment should be deleted. Alternatively, the expenditures of capital market department should only be allocated to be excluded from gross dividend income and capital gains. Auditors' Certificate confirming capital market department expenditure might be obtained to ensure correct amount to be attributed to gross dividend income and capital gains.
The rationale behind the proposal is that the institutional investments are encouraged to boost the investor's confidence, and reduced tax rates encouraging the Banks for making these investments. However, this amendment will discourage the Banks to invest in equity instruments with a return of Dividend/Capital gains. The tax authorities to appreciate that proportion of total expenditure incurred by a banking company in a tax year cannot be attributed to dividend and capital gains. Rather the direct expenses incurred by a banking company in earning dividend and capital gain might be considered for attribution i.e. administrative expenses of capital market department which renders services for earning those income streams in a bank.
It said that the initial depreciation allowance in accounting depreciation should be added to taxable income. It is proposed that the words 'initial allowance" appearing after the words "accounting depreciation" should be deleted. The rationale behind the proposal is that there is no concept of initial depreciation allowance in accounting principles/practices. While preparing financial statements no initial depreciation is charged in accounts. The word "initial allowance" is superfluous.
Referring to Rule 1(c), PBA said that the Rule 1(c) is related to the claim for provision of advances and off-balance sheet items. Banking companies are allowed to claim provision for advances and off-balance sheet items up to a maximum of 1 percent of total advances. It proposed that the explanation is required for meaning of the term total advances. The word "total advances" should be replaced with "gross advances before deduction of the accounting provisions made for bad and doubtful debts". The change will remove doubts and controversy that total advances is 'net advances' as misinterpreted by Assessing Officers.
The PBA said that the amount of "bad debts" classified as "sub-standard" under the Prudential Regulations issued by the State Bank of Pakistan shall not be allowed as expense. This condition should be removed by deleting the relevant clauses (d), (e) & (f) of Rule 1, in case the original provisions of 7th Schedule are not restored.
The original principle based law allowed tax deduction for debts falling under 'doubtful' and/or 'lost' category (which has been deleted by Finance Act, 2008) and disallowed debts classified as 'sub-standard' (which still remains in law). The present law allows bad debts up to 1 percent and 5 percent of total advances for corporate and consumer & SME sectors, respectively. In view of the above, the requirement to add back debts classified as 'sub-standard' has become non-operational and redundant and needs to be deleted from the Seventh Schedule, it added.
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