Recovery notices by banks: SBP suggests standard procedure, timeline for compliance

The State Bank of Pakistan (SBP) has proposed to the Federal Board of Revenue (FBR) to introduce a standard procedure and timeline for compliance of tax recovery notices by banks and a reasonable time should be allowed to banks for acting on such recovery notices in budget (2016-17). In its budget proposals to the Ministry of Finance for budget (2016-17), the SBP said that the central bank is envisaging setting up of a Deposit Protection Corporation (DPC) in Pakistan to protect the interests of small depositors and ensure financial stability.
The SBP further proposed that the tax rates for banks should he reduced to 32 percent for tax year 2016 & to 30 percent till tax year 2018 onwards and advance tax payment should be changed from monthly to quarterly. The SBP proposed that as per the Constitution (Eighteenth Amendment) the Act 2010, the right to levy of Sales Tax on Services has been delegated to provinces. Consequently, Sindh, Punjab, KPK and Balochistan have promulgated their Sales Tax Law on Services. The amendments should be made to FED Act, 2005 & Rules, to withdraw FED from provinces who have implemented their own sales tax law.
The authority to impose tax on services exclusively rests with provinces in the wake of 18th Constitutional Amendment and agreement reached during the 7th National Finance Commission (NFC) Award between the Federal Government and the Provinces. This fact was admitted by Federal Board of Revenue (FBR) in its press release dated 01.07.2011. The FBR's officers, in violation of Constitutional provisions and Article 8 of 7th NFC Award, are issuing notices to banks for levy of 16 percent Federal Excise Duty on banking services, in addition to sales tax imposed by the respective provinces on same services. It is a constitutional issue involving the taxation rights of Federal Government and Provincial Governments. The matter is lingering on since 2011 and needs amicable resolution as levying of both taxes will unduly burden the citizens of Pakistan and that such taxation is not warranted by supreme law of land after 18th Constitutional Amendment, SBP added.
Banks are major partner of FBR in collection of withholding tax and are providing this service without any remuneration. This requirement is highly unjust and harassment of the genuine and large taxpayers. Further banks mostly have itemised and centralised system for deduction of WHT. In order to achieve benefits of centralisation Tax department can overview and assess the integrity of system at Head Office level, therefore there is no need to go to each branch. There would be no gain for FBR from branch level audits; rather it would increase administrative hassle and litigations, the SBP added.
Following are the detailed proposals of the SBP submitted to the Ministry of Finance for consideration. The SBP has given in detail the subject of the proposal, relevant section of law, existing law, proposal and rationale of the said proposal:
(1) Proposals for conventional banking industry:
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Section 30
(3) Existing Law: Profit on non-performing debts of a banking or development finance institutions.
(4) Proposal: A new subsection (3) is proposed to be added in section 30 of the Ordinance as follows:
"(3) Deduction shall not be allowed to the borrower for mark-up! Interest (profit on debt) incurred on non-performing debts, if profit on debt is not paid within stipulated time and becomes overdue and is credited to suspense account by the banking company or development finance institution or non-banking finance company or Modaraba as per Prudential Regulations of the State Bank of Pakistan. However, borrower shall be allowed deduction for the amount paid in the year in which payment is made."
(5) Rationale for proposal: Proposed sub-section will specifically cover taxation of overdue profit on debt in the hands of borrower who is presently enjoying tax benefit by way of taxable deduction of financial charges and Government remains deprived from tax revenue.
Any benefit availed by way of waiver of markup/profit/interest on debts under any scheme issued by State Bank of Pakistan is taxable in hands of borrower as "Income from Business" under section 18 of the Ordinance. However, there is no treatment available in the Ordinance regarding overdue markup/interest/profit on debt which a remains unpaid by the borrower, who also claims this amount as tax deductible expense. The amount of overdue markup/interest/ profit on debt should be taxed in the hand of borrower. Under section 34, liabilities remaining unpaid for 3 years are required to be offered for tax.
Enactment: Income Tax Ordinance, 2001
(2) Section/ Schedule Ref: Part-I of Second Schedule of Income Tax Ordinance, 2001.
Part-IV of Second Schedule of Income Tax Ordinance, 2001
(3) Existing Law: Applicability of Income tax and deduction of tax on source and WHT on every entity
(4) Proposal: Amendment in Part-I of Second Schedule: (exemption from tax)
In item (66)XX the "Deposit Protection Corporation' may be added.
Amendments in Part-IV of Second Schedule (exemption from deduction of tax at sources, advance tax, etc). The provisions of section 147,150,151,153, 155, 156, 231B, 234, 235, 236, 236B and Chapter XII should not be applicable to the Deposit Protection Corporation.
(5) Rationale for proposal: In order to protect the interest of the small depositors and ensure the financial stability, SBP is envisaging establishment of a Deposit Protection Corporation (DPC) in Pakistan. The Corporation will reimburse small depositors in case of a bank's failure, and forestall the chance of runs on banks in such situations. Recently the National Assembly has passed the Deposit Protection Corporation Act and the bill is under discussion in Senate.
The Corporation will be a subsidiary of SBP and it will be non- profit organisation. As per section 49 of SBP Act 1956 and section 31 of DPC Act, it would be exempted from income tax. Therefore, there is a need to include its name in items (66) XX in part one of the Second schedule.
Further, for smooth functioning of the Corporation there is need to exempt the Corporation from deduction of tax at source, withholding tax etc. Therefore, the DPC may be exempted under relevant section in part IV of Second schedule.
(1) Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: 64A. Deductible allowance for profit on debt.
(3) Existing Law: (1) Every individual shall be entitled to a deductible allowance for the amount of any profit or share in rent and share in appreciation for value of house paid by the individual in a tax year on a loan by a scheduled bank or NBFIs regulated by the SECP or advanced by Government or the Local Government, Provincial Government or a statutory body or a public company listed on a registered stock exchange in Pakistan where the individual utilises the loan for the construction of a new house or the acquisition of a house.
(2) The amount of an individual's deductible allowance allowed under sub-section (1) for a tax year shall not exceed fifty percent of taxable income or one million rupees, whichever is lower.
(3)Any allowance or part of an allowance under this section.
(4) Proposal: 1) The entire amount of Profit on debt / mark up paid on mortgage loan should be allowed as a tax deduction in the hands of individuals without any capping or threshold. Accordingly, subsection (2) of section 64A may be deleted and sub-section (3) renumbered as (2).
2) Alternatively, the existing capping of Rs 1 million should be enhanced to Rs 3 million. The maximum benefit of Rs 900K will be availed by a person having effective tax rate of 30%. This would promote the mortgage loans.
It is suggested that sub-section (2) be amended to read as under:
(2) The amount of an individual's deductible allowance allowed under sub-section (1) for a tax year shall not exceed fifty percent of taxable income or three million rupees, whichever is lower.
(5) Rationale for proposal: Rationale: There is no limit or threshold for individuals and AoPs having business income for claiming mark up as a tax deduction. Further, considering the average ticket size of mortgage loans-say Rs 20 million, the Profit on debt/Mark up for a year would be around Rs 1.9 million, the maximum benefit of Rs 570K only would be availed by a person having effective tax rate of 30 percent.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Section 140-Third party Tax Recovery notices to banks
(3) Existing Law: Currently banks are receiving tax recovery notices from FBR. In certain cases one notice contains information about hundreds of tax defaulters.
(4) Proposal: Standard procedure and time line for compliance of tax recovery notice should be introduced and a reasonable time should be allowed to the banks for acting on such recovery notices.
(5) Rationale for proposal: This will reduce the hardship between the banks. FBR and accountholders/ taxpayers. This will also save the banks from penalties, litigations and contempt of court proceedings from the FBR well as clients.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Section 165 & 165A
Access to customer information
(3) Existing Law: Inspection of explanation in section 165 & addition of a new section 165A requires a general disclosure of customer information to FBR, including giving online access to the FBR to bank's own databases.
(4) Proposal: The respective laws, including Banking Companies Ordinance 1962. The Protection of Economic Reforms Act, 1991 etc, containing banking secrecy provisions should be amended.
Accordingly, the original Section 165 should be restored and Section 165A be removed, as the existence of Section 176 already allows the FBR to obtain information in the case of suspected tax evasion by any particular person.
(5) Rationale for proposal: The Income Tax Law already vests power to the officials of the FBR to call for any information related to the tax payers under section 176 of the Ordinance.
The application of Section 165A may cause panic and trust deficit amongst depositors of banks which may result in further depletion of already very low saving to GDP ratio.
Enactment: Income Tax Rules, 2002
(2) Section/Schedule Ref: Section 165 read with Rule 44 of Income Tax Rules 2002.
(3) Existing Law: Statements of withholding taxes are filed on periodical basis ie monthly and annually. Law requires annual statement to be prepared on financial year basis, whereas, banks follow calendar year as Special Tax Year for preparation of financial statements and tax return filings. However, under Rule 44(4) of the Income Tax Rules 2002, the Commissioner is empowered to obtain reconciliation of the amounts mentioned in withholding statements with the amounts mentioned in the return of income.
(4) Proposal: Changes may be introduced in Section 165 read with Rule 44 for banking sector for preparation of annual withholding tax statement on calendar year basis.
(5) Rationale for proposal: To coincide two reporting's at one year end and making reconciliations doable.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Seventh Schedule -Restoration of the Original provisions related to bad debts
(3) Existing Law: Seventh Schedule of the Ordinance was introduced with the objective of eliminating or substantially reducing the disputes between the Tax Authorities and the banks in Pakistan. However, the Tax Authorities have destroyed 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.
(4) Proposal: It is suggested that the original provision of the Seventh Schedule I should be restored where under provision for bad debts falling under "loss" and "doubtful" category as per the Prudential Regulations of SBP and supported by a certificate of the auditors was allowable as a tax deduction to the banks.
Or alternatively; Threshold for allowing provision for bad debts should be increased to 2 percent of gross advances to corporate customers.
(5) Rationale for proposal: In the banking business it is imperative to take risk for earning income from advances. As such, bad debts are part of the banking business and therefore it is an expenditure incurred wholly and exclusively for conducting the banking business.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Rule 5 of the seventh schedule
(3) Existing Law: Advance tax is collected from banks on utility bills.
(4) Proposal: Withholding tax provision would not apply on banks with respect to payment of electricity bills, telephone bills and mobile bills.
(5) Rationale for proposal: Banks make payment of advance tax on monthly basis, after deduction of any withholding tax already paid/deducted at source. Keeping this in view, banks have been exempted from withholding tax deduction as recipient; however, banks are liable to pay withholding tax on utility bills. Since banks make payment of advance tax on monthly basis exemption should be provided from payment of tax on utility bills. This would not cause any loss of revenue to the Government. Banks have to collect the copies of bills from entire network and keep separate record for tax purpose which in not only very lengthy and time consuming work but also involves additional costs in form of stationery, photocopy and man hours, etc.
Enactment: Income Tax Ordinance, 2001
(2) Section/ Schedule Ref: Transitional provisions Rule 8A.
(3) Existing Law: Amounts provided for in the tax year 2008 and prior to the said tax year for or against irrecoverable or doubtful advances, which were neither claimed nor allowed as a tax deductible in any tax year, shall be allowed in the tax year in which such advances are actually written off against such provisions, in accordance with the provision of section 29 and 29A.
(4) Proposal: "Amounts provided for in the tax year 2008 and prior to the said tax year for or against irrecoverable or doubtful advances which were not allowed as tax deductible in any tax year, shall be allowed as a deduction in the tax year when the debt is actually written off against such provisions or has become irrecoverable."
In addition to this, Provisions for other expenses including provisions for employees post-retirement benefits not allowed for in tax year 2008 or before shall be allowed in the tax year in which these are actually paid or written off as the case may be.
(5) Rationale for proposal: The suggested wording allows to claim only that part of the bad debts related to the period prior to Seventh Schedule which was not allowed to the banks earlier. This is just an equitable suggestion. It is hard to comprehend a situation whereby a Bank can demonstrate that a write off of bed debts was neither claimed by the tax payer bank nor disallowed by the tax authorities.
There are certain other charges like post-retirement benefits etc which were used to be charged to Profit and Loss account on accrual basis but were allowed by the department on actual payment basis. These have not been covered in rule 8A inserted by Finance Act 2010.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Rule 9 of the Seventh Schedule
(3) Existing Law: The provisions of the Ordinance not specifically dealt with in the aforesaid rules shall apply, mutatis mutandis, to the banking company.
(4) Proposal: This rule should be deleted.
(5) Rationale for proposal: For computation of tax liability, adjustments can only be made under Rule 1(a) to 1(h) and beyond that no addition can be made. Under cover of Rule 9, tax officers make adjustments beyond scope of 7th Schedule, which negates very purpose of 7th Schedule and it seems 7th schedule in not in existence.
Such rule does not exist in schedule for insurance companies; therefore, it is a discriminatory treatment with banks.
Enactment: ....
(2) Section/ Schedule Ref: FBR letter Ref: C57(2)Rev.Bud/2011Vol-IV-10810-R
(3) Existing Law: FBR has given concurrent jurisdiction to RTOs to conduct withholding tax audit of banks at branch level.
(4) Proposal: This rule should be withdrawn.
(5) Rationale for proposal: Banks are major partner of FBR in collection of withholding tax and are providing this service without any remuneration. This requirement is highly unjust and harassment of the genuine and large taxpayers. Further banks mostly have itemised and centralised system for deduction of WHT. In order to achieve benefits of centralisation Tax department can overview and assess the integrity of system at Head Office level, therefore there is no need to go to each branch. There would be no gain for FBR from branch level audits; rather it would increase administrative hassle and litigations.
Enactment:
(2) Section/Schedule Ref: Lack of uniformity in FED/ Sales tax rates & exemptions.
(3) Existing Law: Presently, different rates of FED/Sales tax are being applied by FBR, PRA, SRB, KPRA and BRA for same type of services received in different territories. Furthermore, exemptions available under different laws are not uniform.
(4) Proposal: Uniformity should be brought in FED/Sales Tax rates being charged and exemptions available under Federal/Provincial Laws.
(5) Rationale for proposal: Lack of uniformity in tax rates and exemptions is creating reconciliation problems for customers eg a customer is enjoying exemption on same services in one territory while, the same are made taxable in other territory.
Enactment:
(2) Section/ Schedule Ref: FED on banking Services to extent of Provinces should be abolished
(3) Existing Law: As per the Constitution (Eighteenth Amendment) the Act 2010, the right to levy of Sales Tax on Services has been delegated to the be provinces. Consequently Provinces of Sindh, Punjab, KPK and Balochistan have promulgated their Sales Tax Law on Services.
(4) Proposal: Amendments should be made in FED Act, 2005 & Rules, to withdraw FED from the Provinces who have implemented their own Sales Tax Law.
(5) Rationale for proposal: The authority to impose tax on services exclusively vests with provinces in the wake of 18th Constitutional Amendment and 1aernent reached during the 7th National Finance Commission (NFC) Award between the Federal Government and the Provinces. This fact was admitted by Federal Board of Revenue (FBR) in its press release dated 01.07.2011.
FBR's officers, in violation of Constitutional provisions and Article 8 of 7th NFC Award, are issuing notices to banks for levy of 16% Federal Excise Duty on banking services, in addition to sales tax imposed by the respective provinces on same services.
It is a constitutional issue involving the taxation rights of Federal Government and Provincial Governments. The matter is lingering on since 2011 and needs amicable resolution as levying of both taxes will unduly burden the citizens of Pakistan and that such taxation is not warranted by supreme law of land after 18th Constitutional Amendment.
Enactment:
(2) Section/Schedule Ref: Tax rate for banks
(3) Existing Law: Banks are taxed at the of 35 percent of taxable income
(4) Proposal: Tax rate should be reduced to 32 percent for TY 2016 and till TY 2018 it should be reduced to 30 percent, making it in line with other industries.
(5) Rationale for proposal: Imposition of flat rate on banking companies is discriminatory. It would have adverse effect on banking industry. The corporate tax rate has been reduced from 35 percent to 32 percent for companies and this is projected to reduce by 1 percent each year to reach 30 percent. However, this consideration has not been extended to banking companies. This has resulted in discriminatory treatment against one of the highest contributing sectors of the country. We would request that there should be a level playing field for all corporate entities, including the banking sector. Furthermore, imposition of tax on capital gain and dividend at the same rate has also adversely impacted the banking sector's profitability. It is therefore recommended that tax rates for banks are rationalised and reduced in line with the other corporate sector. Tax rates for banks should he reduced to 32% for tax year 2016 & to 30% till tax year 2018 onwards and advance tax payment should be changed from monthly to quarterly.
Enactment: Sales Tax Act, 1990
(2) Section/Schedule Ref: Section 3(5) and SRO 509(I)/510(I)/ of 2013
(3) Existing Law: Through an amendment in Sales Tax Rules 2006, additional sales tax at rate of 5 percent was imposed over and above the sales tax of 17 percent on electricity and gas bills on unregistered person.
(4) Proposal: This additional sales tax should not be charged to a banks' branch.
(5) Rationale for proposal: The Banks are registered person under Sale Tax/FED, however, branches are located across the country. Further, most of the branches are on rented premises where utility connections are in the name of the landlord. Accordingly, bank is treated unregistered person for these premises and additional sales tax is charged which is against the fact. Banks are burdened with additional tax which unjustified.
Enactment: ....
(2) Section/Schedule Ref: Disallowance of Unrealised losses and taxation of unrealised gains including MTM of securities. IAS 39&40
(3) Existing Law: The taxation officers are amending the assessments by subjecting to tax the unrealised losses arising as a result of Mark to Market (MTM) adjustments which do not allow exemption for unrealised gains however banking companies have not applied IAS 39 and 40 in the preparation of its annual accounts as per the SBP instructions.
(4) Proposal: In order to bring in certainty and clarity an Explanation needs to be included in the 7th Schedule, unrealised MTM gains/ losses being outcome of implementation of SBP guidelines, shall not be taken as arising out of IAS 39.
(5) Rationale for proposal: Since the applicability of IASs 39 and 40 have specifically been deferred by the SBP, the financial assets and liabilities of the banks are classified, measured and reported under the SBP's BSD circulars. Accordingly, additions made by the tax department on the plea that unrealised losses due to MTM are in accordance with IAS 39 and 40 are both factually and legally incorrect. It would not be appropriate to presume that the requirements of these are in line with the measurement criteria of IAS 39 & 40.
Enactment: Federal Excise Duty
(2) Section/ Schedule Ref: Livestock Insurance Premium
(3) Existing Law: 1 percent Federal Insurance Fee on Livestock insurance premium is pp1icable.
(4) Proposal: Full exemption may be granted from 1% Federal Insurance Fee on Livestock insurance premium
(5) Rationale for proposal: In order to reduce cost of premium of Livestock Loan Insurance and to encourage farmers to arrange insurance for their livestock, it is proposed that 1 percent Federal Insurance Fee on Livestock Insurance premium may be exempted.
Enactment: Sales Tax Act, 1990
(2) Section/ Schedule Ref: Section 2(33) Amendment in Definition of Supply under Sales Tax Act, 1990
(3) Existing Law: S.R.O.445(1)/2004.- In exercise of the powers conferred by the proviso to clause (33) of section 2 of the Sales Tax Act, 1990, the Federal Government is pleased to specify that the following types of transactions shall not constitute supply, namely:-
(a)...
(b) goods delivered under a Murabaha Financing arrangement to or by a bank or a financial institution approved by the State Bank of Pakistan or the Securities and Exchange Commission of Pakistan, as the case may be.
(4) Proposal: It is proposed that an SRO may be issued by the Federal Government for amending of SRO 445 /2004, to specify that the following types of transactions shall not constitute a supply for sales tax purposes:
"Goods delivered under any Islamic mode of financing arrangement to or by an Islamic financial institution approved by the State Bank of Pakistan or the Securities and Exchange Commission of Pakistan, as the case may be."
(5) Rationale for proposal: Exclusion of Trade based Islamic Modes of Financing from the ambit of Sales Tax:
S.R.0. 445(1)/2004 dated June 12, 2004 only excludes Murabaha transactions from the definition of "Supply" for the purpose of Sales Tax but not the transactions based on other Islamic modes of financing arrangements such as Musawama, Istisna, Salam, etc.
Exclusion from the ambit of Sales Tax should specifically be provided in Sales Tax law for trade/ sales related Islamic modes of financings specifically approved by the SBP or SECP. This lack of specific exemption in law, to exclude goods/commodities from the definition of supply purchased by Islamic Financial Institutions (IFIs) for extending financing to their customers under trade based Islamic modes is hindering use of other sales related modes like Salam, Istisna etc . Therefore an appropriate amendment in S.R.0. 445(1)/2004 is proposed.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: Sub-section 15 of section 22 (Depreciation)
(3) Existing Law: New Explanation should be inserted.
(4) Proposal: It may be clarified by FBR that the financing availed by the customers of Islamic Financial Institution(s) licensed by State Bank of Pakistan (SBP) or Securities and Exchange Commission of Pakistan (SECP), as the case may be, under any Islamic modes of financing shall be treated at par with the financing obtained from conventional financial institutions for the purpose of computation of income tax liability under this Ordinance. Accordingly, benefit of depreciation would be allowed to customers of IBIs despite having joint ownership of property pursuant to an arrangement of Musharakah financing or diminishing Musharakah financing for the purpose of calculating tax liability of the customers of Islamic banking institutions.
(5) Rationale for proposal: The Benefit of Depreciation to Islamic Banking Customers: Depreciation on assets financed through Musharakah or Diminishing Musharakah is being disallowed to Islamic banking customer on the ground that asset is jointly owned by the borrower and the Islamic Financial Institution. Whereas, a borrower of a conventional bank can avail benefit of depreciation on the fixed assets provided as security/collateral to financial institutions (Fl) under long/short term financing arrangement. Nevertheless, this tax benefit of depreciation should also be allowed if a customer avail financing from an IFI under Islamic mode of financing where applicable. Although the asset is jointly owned by the customer and IFI under a joint ownerships/agreement, however, an IFI cannot avail benefit of depreciation on its part of share due to restriction on them under 7th Schedule of Income Tax Ordinance, I 2001. If the customer is also not allowed to claim benefit of depreciation on suck acts, depreciation on assets financed by IBIs ccli not be allowed to either party. Resultantly, the customers of IBIs will be in a disadvantageous position vis-à-vis conventional banking customer. Considering the above tax issues, financing through Islamic modes of financing becomes unviable for customers which eventually may jeopardise the overall efforts of the Government for promoting Islamic banking.
Enactment: Income Tax Ordinance, 2001
(2) Section/Schedule Ref: 7th schedule Rules for the computation of the profits and gains of a banking company and tax payable thereon. Rule 3: Treatment for Shariah compliant banking.
(3) Existing Law: (1) Any special treatment for 'Shariah Compliant Banking' approved by the State Bank of Pakistan shall not be provided for any reduction or addition to income and tax liability for the said 'Shariah Compliant Banking' as computed in the manner laid down in this schedule. (2) A statement, certified by the auditors of the hank, shall be attached to the return of income to disclose the comparative position of transaction as per Islamic mode of financing and as per normal accounting principles. Adjustment to the income of the company on this account shall be made according to the accounting income for purpose of this schedule.
(4) Proposal: The text of Sub-Rule (2) of Rule 3 of Seventh Schedule of Income Tax Ordinance 2001 maybe replaced with the following text:
"The audited financial statements of Islamic Banks as well as those of Islamic banking operations of conventional banks provided separately in the audited financial statements of conventional banks and submitted to the State Bank of Pakistan shall form the basis for the calculation of income tax liability as provided in this Schedule"
(5) Rationale for proposal: Tax Neutrality Treatment for IBIs
The objective of Rule 3 of 7th Schedule was to provide tax neutral treatment to IBIs, however, it is difficult to meet the condition of Sub-Rule (2) of Rule 3, keeping in view the diversified nature of Islamic banking transactions and equating each transaction to a conventional equivalence and then getting it certified by the auditor which is time consuming and costly for Islamic Banking Institutions. Moreover, it does not give space for differentiated transactions as each transaction from Income Tax purpose has to be equated with a conventional transaction.
It is thus proposed that the audited financial statements of Islamic Banks as well as those of Islamic Banking branches/windows operations of conventional banks provided separately in the audited financial statements of conventional banks submitted to the State Bank of Pakistan should be taken as basis of calculation for income tax with additions and deductions as provided in the Seventh Schedule to the Income Tax Ordinance, 2001 which is applicable to the entire banking industry in Pakistan.
Enactment: Income Tax Ordinance, 2001
(2) Section/ Schedule Ref: Section 32 -Method of Accounting.
(3) Existing Law: (A new Sub Section (6) has been proposed to be incorporated in Section 32).
(4) Proposal: The following sub-section (6) is proposed to be introduced in Section 32 "Method of Accounting" of the Income Tax ordinance, 2001:
"(6) The financing availed by the customers of Islamic Financial Institution(s) licensed by State Bank of Pakistan (SBP) or Securities and Exchange Commission of Pakistan ISECP), as the case may be, under any Islamic mode of financing shall be treated at par with the financing obtained from conventional financial institutions for the purpose of computation of tax liability under this Ordinance."
(5) Rationale for proposal: Tax Neutrality Treatment for IFIs' Customers
Although Rule 3 of the 7th Schedule of Income Tax Ordinance 2001 allows tax neutral treatment to Islamic banking Institutions, the explicit tax neutrality is not provided to customers availing Islamic financial services. This has resulted in high profile cases between Income tax Department and large tax payers. The unfavourable tax treatment on account of availing Islamic financial facilities can potentially have far reaching negative consequences, thus appropriate amendment is essential.
Accordingly, in order to provide tax neutrality treatment to customers of Islamic financial institutions availing Islamic financial services under different modes of Islamic financings, a new subsection (6) is proposed to be incorporated in Section 32 of Income Tax Ordinance 2001.
Enactment: Income Tax Ordinance, 2001.
(2) Section/Schedule Ref.: Schedule 2, Par 1-Exemption from Total Income:
(3) Existing Law: A new sub-rule is proposed to be inserted in Rule 66 of Part 1 of Schedule 2 of the Income Tax Ordinance 2001.
Schedule 2, Part IV - Exemption from Specific Provisions:
A new Rule 68A is proposed to be inserted after Rule 68 of Part IV of Schedule 2 of the Income Tax Ordinance 2001.
(4) Proposal: The following new sub-rule may be inserted in Rule 66 of Part I of Schedule 2 of the Income Tax Ordinance 2001:
"A special purpose vehicle formed for the purpose of issuing Shariah compliant instruments including Sukuk under Islamic modes of financing as authorised by State Bank of Pakistan or Securities and Exchange Commission of Pakistan, as the case may be."