In the Name of Allah, the Most Beneficent, the Most Merciful

Income Tax Law Lectures

Based On Income Tax Ordinance, 2001 As Amended upto 30th June, 2011 And As Applicable For The Tax Year 2012Habib Fakhruddin, FCA Amir Alam Khan & Co.,Chartered Accountants55/1, Bank Road, Rawalpindi

CHAPTER IPRELIMINARY

DEFINATIONSSection 2

ACCUMULATED PROFITS Clause (1) of Section 2Accumulated profits" in relation to distribution or payment of a dividend, include Any reserve made up wholly or partly of any allowance, deduction, or exemption admissible under this Ordinance;For the purposes of sub-clauses (a), (b) and (e) of clause (19) all profits of the company including income and gains of a trust up to the date of such distribution or such payment, as the case may be; andFor the purposes of sub-clause (c) of clause (19), includes all profits of the company including income and gains of a trust up to the date of its liquidation.

AMALGAMATION - Clause (1A) of Section 2Amalgamation means the merger of one or more:Banking companies;Non-banking financial institutions;Insurance companies; companies owning and managing industrial undertakings; orcompanies engaged in providing services and not being a trading company or companies;

in either case at least one of them being a public company, or a company incorporated under any law, other than Companies Ordinance, 1984, for the time being in force, in such manner that The assets of the amalgamating company or companies immediately before the amalgamation become the assets of the amalgamated company by virtue of the amalgamation, otherwise than by purchase of such assets by the amalgamated company or as a result of distribution of such assets to the amalgamated company after the winding up of the amalgamating company or companies; andContinued

AMALGAMATION - clause (1A) of Section 2The liabilities of the amalgamating company or companies immediately before the amalgamation become the liabilities of the amalgamated company by virtue of the amalgamation.

Amalgamating company or companies means the company or companies which so merge.

Amalgamated company means the company with which they merge or which is formed as a result of merger.

APPROVED GARTUITY FUND - Clause (3) of Section 2Approved gratuity fund means a gratuity fund approved by the Commissioner in accordance with Part III of the Sixth Schedule (This is not covered in the present course).

APPROVED ANNUITY PLAN - Clause (3A) of Section 2Approved Annuity Plan means an Annuity Plan approved by Securities and Exchange Commission of Pakistan (SECP) under Voluntary Pension System Rules, 2005 and offered by a Life Insurance Company registered with the SECP under Insurance Ordinance, 2000.

APPROVED INCOME PAYMENT PLAN Clause (3B) Of Section 2Approved income payment plan means an income payment plan approved by securities and exchange commission of Pakistan (SECP) under voluntary pension system rules, 2005 and offered by a pension fund manager registered with the SECP under voluntary pension system rules, 2005.

APPROVED PENSION FUND - Clause (3C) Of Section 2Approved Pension Fund means Pension Fund approved by Securities and Exchange Commission of Pakistan (SECP) under Voluntary Pension System Rules, 2005, and managed by a Pension Fund Manager registered with the SECP under Voluntary Pension System Rules, 2005.

APPROVED EMPLOYMENT PENSION OR ANNUITY SCHEME - Clause (3D) Of Section 2.Approved employment pension or annuity scheme means any employment related retirement scheme approved under this ordinance, which makes periodical payment to a beneficiary i.e. Pension or annuity such as approved superannuation fund, public sector pension scheme and employees old-age benefit scheme.

APPROVED OCCUPATIONAL SAVINGS SCHEME - Clause (3E) of Section 2Approved Occupational Savings Scheme means any approved gratuity fund or recognized provident fund.

APPROVED SUPERANNUATION FUND - Clause (4) of Section 2Approved superannuation fund means a superannuation fund, or any part of a superannuation fund, approved by the Commissioner in accordance with Part II of the Sixth Schedule (This is not covered in the present course).

ASSESSMENT - Clause (5) of Section 2Assessment includes provisional assessment, re-assessment and amended assessment and the cognate expressions shall be construed accordingly.

ASSET MANAGEMENT COMPANY- Clause (5B) of Section 2Asset management company means an asset management company as defined in the Non-Banking Finance Companies and Notified Entities Regulations, 2007.

BANKING COMPANY - Clause (7) of Section 2Banking company means a banking company as defined in the Banking Companies Ordinance, 1962 and includes any body corporate which transacts the business of banking in Pakistan.

BUSINESS - Clause (9) of Section 2Business includes any:Trade;Commerce;Manufacture;Profession;Vocation; orAdventure or concern in the nature of trade, commerce, manufacture, profession or vocation;but does not include employment.

BOARD - Clause (11) of Section 2Board means the Central Board of Revenue established under the Central Board of Revenue Act, 1924 (IV of 1924), and on the commencement of Federal Board of Revenue Act, 2007, the Federal Board of Revenue established under section 3 thereof.

CHIEF COMMISSIONER - Clause (11B) of Section 2Chief Commissioner means a person appointed as Chief Commissioner Inland Revenue under section 208 and includes a Regional Commissioner of Income Tax and a Director-General of Income Tax and Sales Tax.

CONTRIBUTION TO AN APPROVED PENSION FUND - Clause (13B) of Section 2Contribution to an Approved Pension Fund means contribution as defined in rule 2(j) of the Voluntary Pension System Rules, 2005.

CO-OPERATIVE SOCIETY - Clause (14) of Section 2 Co-operative society means a co-operative society registered under the Co-operative Societies Act, 1925 or under any other law for the time being in force in Pakistan for the registration of cooperative societies.

DEBT - Clause (15) of Section 2 Debt means any amount owing, including accounts payable and the amounts owing under promissory notes, bills of exchange, debentures, securities, bonds or other financial instruments.

DIVIDEND - Clause (19) of Section 2Dividend includes Any distribution by a company of accumulated profits to its shareholders, whether capitalized or not, if such distribution entails the release by the company to its shareholders of all or any part of the assets including money of the company;Any distribution by a company, to its shareholders of debentures, debenture-stock or deposit certificate in any form, whether with or without profit, to the extent to which the company possesses accumulated profits whether capitalized or not;Any distribution made to the shareholders of a company on its liquidation, to the extent to which the distribution is attributable to the accumulated profits of the company immediately before its liquidation, whether capitalized or not;Continued

DIVIDEND - Clause (19) of Section 2Dividend includes Any distribution by a company to its shareholders on the reduction of its capital, to the extent to which the company possesses accumulated profits, whether such accumulated profits have been capitalized or not;Any payment by a private company as defined in the Companies Ordinance, 1984 or trust of any sum (whether as representing a part of the assets of the company or trust, or otherwise) by way of advance or loan to a shareholder or any payment by any such company or trust on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company or trust, in either case, possesses accumulated profits; orRemittance of after tax profit of a branch of a foreign company operating in Pakistan;Continued

DIVIDEND - Clause (19) of Section 2but dividend does not include -A distribution made in accordance with sub-clause (c) or (d) in respect of any share for full cash consideration, or redemption of debentures or debenture stock, where the holder of the share or debenture is not entitled in the event of liquidation to participate in the surplus assets;Any advance or loan made to a shareholder by a company in the ordinary course of its business, where the lending of money is a substantial part of the business of the company;Any dividend paid by a company which is set off by the company against the whole or any part of any sum previously paid by it and treated as a dividend within the meaning of sub-clause (e) to the extent to which it is so set off; andRemittance of after tax profit by a branch of Petroleum Exploration and Production (E&P) foreign company, operating in Pakistan.

ADDRESSEE ETC - Clause (19B) of Section 2The expressions addressee, automated, electronic, electronic signature, information, information system, originator and transaction, have the same meanings as are assigned to them in the Electronic Transactions Ordinance, 2002

ELECTRONIC RECORD - Clause (19C) of Section 2Electronic record includes the contents of communications, transactions and procedures under this Ordinance, including attachments, annexes, enclosures, accounts, returns, statements, certificates, applications, forms, receipts, acknowledgements, notices, orders, judgments, approvals, notifications, circulars, rulings, documents and any other information associated with such communications, transactions and procedures, created, sent, forwarded, replied to, transmitted, distributed, broadcast, stored, held, copied, downloaded, displayed, viewed, read, or printed, by one or several electronic resources and any other information in electronic form.

ELECTRONIC RESOURCE - Clause (19D) of Section 2Electronic resource includes telecommunication systems, transmission devices, electronic video or audio equipment, encoding or decoding equipment, input, output or connecting devices, data processing or storage systems, computer systems, servers, networks and related computer programs, applications and software including databases, data warehouses and web portals as may be prescribed by the Board from time to time, for the purpose of creating electronic record.

TELECOMMUNICATION SYSTEM Clause (19E) of Section 2Telecommunication system includes a system for the conveyance, through the agency of electric, magnetic, electro-magnetic, electrochemical or electro-mechanical energy, of speech, music and other sounds, visual images and signals serving for the impartation of any matter otherwise than in the form of sounds or visual images and also includes real time online sharing of any matter in manner and mode as may be prescribed by the Board from time to time.

EMPLOYEE - Clause (20) of Section 2Employee means any individual engaged in employment.

EMPLOYER - Clause (21) of Section 2Employer means any person who engages and remunerates an employee.

EMPLOYMENT - Clause (22) of Section 2Employment includes A directorship or any other office involved in the management of a company;A position entitling the holder to a fixed or ascertainable remuneration; orThe holding or acting in any public office.

FEE FOR TECHNICAL SERVICES - Clause (23) of Section 2Fee for technical services means any consideration, whether periodical or lump sum, for the rendering of any managerial, technical or consultancy services including the services of technical or other personnel, but does not include Consideration for services rendered in relation to a construction, assembly or like project undertaken by the recipient; orConsideration which would be income of the recipient chargeable under the head Salary.

FINANCIAL INSTITUTION - Clause (24) of Section 2 Financial institution means an institution as defined under the Companies Ordinance, 1984.

FINANCE SOCIETY - Clause (25) of Section 2 Finance society includes a co-operative society which accepts money on deposit or otherwise for the purposes of advancing loans or making investments in the ordinary course of business.

INCOME - Clause (29) of section 2 Income includes Any amount chargeable to tax under the Ordinance;Any amount subject to final taxation by way of collection or deduction of tax at source under section 148, 150, 152(1), 153, 154, 156, 156A, 233, 233A and, sub-section (5) of section 234;Any amount treated as income under any provision of the Ordinance; andAny loss of income;But does not include,In case of a shareholder of a company, the amount representing the face value of any bonus share [including bonus units in a unit trust Section 2(8)] or the amount of any bonus declared, issued or paid by the company to the shareholders with a view to increasing its paid up share capital.

INDIVIDUAL PENSION ACCOUNT - Clause (29B) of section 2 Individual Pension Account means an account maintained by an eligible person with a Pension Fund Manager approved under the Voluntary Pension System Rules, 2005.

INDUSTRIAL UNDERTAKING Clause (29C) of section 2 Industrial undertaking means an undertaking which is set up in Pakistan and which employs, Ten or more persons in Pakistan and involves the use of electrical energy or any other form of energy which is mechanically transmitted and is not generated by human or animal energy; orTwenty or more persons in Pakistan and does not involve the use of electrical energy or any other form of energy which is mechanically transmitted and is not generated by human or animal energy;and which is engaged in:the manufacture of goods or materials or the subjection of goods or materials to any process which substantially changes their original condition;Ship-building;Generation, conversion, transmission or distribution of electrical energy, or the supply of hydraulic power; orThe working of any mine, oil-well or any other source of mineral deposits; andany other industrial undertaking which the Board may by notification in the official Gazette, specify.

INVESTMENT COMPANY - Clause (30A) of section 2 Investment company means an investment company as defined in the Non-Banking Finance Companies (Establishment and Regulation) Rules, 2003.

KIBOR - Clause (30AA) Of Section 2 KIBOR means Karachi Inter Bank Offered Rate prevalent on the first day of each quarter of the financial year.

LEASING COMPANY - Clause (30B) of section 2 Leasing company means a leasing company as defined in the Non-Banking Finance Companies and Notified Entities Regulation, 2007.

LOCAL GOVERNMENT - Clause (31A) of Section 2 Local Government has the same meaning as defined in the Punjab Local Government Ordinance, 2001, the Sindh Local Government Ordinance, 2001, the NWFP Local Government Ordinance, 2001 and the Balochistan Local Government Ordinance, 2001.

MEMBER - Clause (32) of section 2 Member in relation to an association of persons, includes a partner in a firm.

MODARABA - Clause (34) Of Section 2Modaraba means a modaraba as defined in the Modaraba Companies and Modarabas (Floatation and Control) Ordinance, 1980.

MODARABA CERTIFICATE - Clause (35) of Section 2Modaraba certificate means a modaraba certificate as defined in the Modaraba Companies and Modarabas (Floatation and Control) Ordinance, 1980.

MUTUAL FUND - Clause (35A) of Section 2Mutual Fund means a mutual fund registered or approved by the Securities and Exchange Commission of Pakistan.

NON-BANKING FINANCE COMPANY - Clause (35B) of Section 2Non-banking finance company means an NBFC as defined in the Non-Banking Finance Companies (Establishment and Regulation) Rules, 2003.

NON-PROFIT ORGANIZATION - Clause (36) of Section 2Non-profit organization means any person other than an individual, which is established for religious, educational, charitable, welfare or development purposes, or for the promotion of an amateur sport;formed and registered under any law as a non-profit organization;approved by the Commissioner for specified period, on an application made by such person in the prescribed form and manner, accompanied by the prescribed documents and, on requisition, such other documents as may be required by the Commissioner;and none of the assets of such person confers, or may confer, a private benefit to any other person.

Approved by the Commissioner in accordance with the Rules 211 to 220 (This is not covered in the present course).

OFFICER OF INLAND REVENUE - Clause (38A) of Section 2Officer of Inland Revenue means any Additional Commissioner Inland Revenue, Deputy Commissioner Inland Revenue, Assistant Commissioner Inland Revenue, Inland Revenue Officer, Inland Revenue Audit Officer or any other officer however designated or appointed by the Board for the purposes of this Ordinance

ORIGINATOR - Clause (39) of Section 2Originator means Originator as defined in the Asset Backed Securitization Rules, 1999.

PENSION FUND MANAGER - Clause (40A) of Section 2Pension Fund Manager means an asset management company registered under the Non-Banking Finance Companies (Establishment and Regulations) Rules, 2003, or a life insurance company registered under Insurance Ordinance, 2000, duly authorized by the Securities and Exchange Commission of Pakistan and approved under the Voluntary Pension System Rules, 2005, to manage the Approved Pension Fund.

PERMANENT ESTABLISHMENT - Clause (41) of Section 2Permanent establishment in relation to a person, means a fixed place of business through which the business of the person is wholly or partly carried on, and includes A place of management, branch, office, factory or workshop, premises for soliciting orders, warehouse, permanent sales exhibition or sales outlet, other than a liaison office except where the office engages in the negotiation of contracts (other than contracts of purchase);A mine, oil or gas well, quarry or any other place of extraction of natural resources;An agricultural, pastoral (rural) or forestry property;A building site, a construction, assembly or installation project or supervisory activities connected with such site or project but only where such site, project and its connect supervisory activities continue for a period or periods aggregating more than ninety days within any twelve-months period;Continued

PERMANENT ESTABLISHMENT - Clause (42) of Section 2The furnishing of services, including consultancy services, by any person through employees or other personnel engaged by the person for such purpose;A person acting in Pakistan on behalf of the person (hereinafter referred to as the agent, other than an agent of independent status acting in the ordinary course of business as such, if the agent Has and habitually exercises an authority to conclude contracts on behalf of the other person;Has no such authority, but habitually maintains a stock-in-trade or other merchandise from which the agent regularly delivers goods or merchandise on behalf of the other person; orAny substantial equipment installed, or other asset or property capable of activity giving rise to income.

PRINCIPAL OFFICER - Clause (44A) of Section 2Principal officer used with reference to a company or association of persons includes A director, a manager, secretary, agent, accountant or anysimilar officer; andAny person connected with the management or administration of the company or association of persons upon whom the Commissioner has served a notice of treating him as the principal officer thereof.

PRIVATE COMPANY - Clause (45) of Section 2Private company means a company that is not a public company.

Note:The definition of Private Company under the Ordinance is different from one generally under stood or as defined under the Companies Ordinance, 1984.

PROFIT ON DEBT - Clause (46) of Section 2 Profit on a debt whether payable or receivable, meansAny profit, yield, interest, discount, premium or other amount, owing under a debt, other than a return of capital; orAny service fee or other charge in respect of a debt, including any fee or charge incurred in respect of a credit facility which has not been utilized.

PUBLIC COMPANY - Clause (47) of Section 2 Public company means a company in which not less than fifty per cent of the shares are held by the Federal Government or Provincial Government;a company in which not less than fifty per cent of the shares are held by a foreign Government, or a foreign company owned by a foreign Government;a company whose shares were traded on a registered stock exchange in Pakistan at any time in the tax year and which remained listed on that exchange at the end of that year; ora unit trust whose units are widely available to the public and any other trust as defined in the Trusts Act, 1882.Note:The definition of Public Company under the Income Tax Ordinance, 2001 is different from one generally under stood or as defined under the Companies Ordinance, 1984.

RECOGNIZED PROVIDENT FUND - Clause (48) of Section 2 Recognized provident fund means a provident fund recognized by the Commissioner in accordance with Part I of the Sixth Schedule (This is not covered in the present course).

ROYALTY - Clause (54) of Section 2 Royalty means any amount paid or payable, however described or computed, whether periodical or a lump sum, as consideration for -The use of, or right to use any patent, invention, design or model, secret formula or process, trademark or other like property or right;The use of, or right to use any copyright of a literary, artistic or scientific work, including films or video tapes for use in connection with television or tapes in connection with radio broadcasting, but shall not include consideration for the sale, distribution or exhibition of cinematograph films;The supply of any technical, industrial, commercial or scientific knowledge, experience or skill;Continued

ROYALTY - Clause (54) of Section 2 The receipt of, or right to receive, any visual images or sounds, or both, transmitted by satellite, cable, optic fiber or similar technology in connection with television, radio or internet broadcasting;The use of or right to use any industrial, commercial or scientific equipment;The supply of any assistance that is ancillary and subsidiary to, and is furnished as a means of enabling the application or enjoyment of, any such property or right as mentioned above; andThe disposal of any property or right referred to above.

SECURITIZATION - Clause (57) of Section 2Securitization means securitization as defined in the Asset Backed Securitization Rules, 1999.

SHARE - Clause (58) of Section 2Share in relation to a company, includes a modaraba certificate and the interest of a beneficiary in a trust (including units in a trust)

SHAREHOLDER - Clause (59) of Section 2 Shareholder in relation to a company, includes a modaraba certificate holder, a unit holder of a unit trust and a beneficiary of a trust.

SMALL COMPANY - Clause (59A) of Section 2 Small company means a company registered on or after the first day of July, 2005, under the Companies Ordinance, 1984 (XLVII) of 1984, which,-Has paid up capital plus undistributed reserves not exceeding Rs. 25,000,000;Has employees not exceeding 250 any time during the year;Has annual turnover not exceeding Rs. 250,000,000; andIs not formed by the splitting up or the reconstitution of business already in existence.

SPECIAL PURPOSE VEHICLE Clause (60) of Section 2 Special Purpose Vehicle means a Special Purpose Vehicle as defined in the Asset Backed Securitization Rules, 1999.

TAX - Clause (63) of Section 2 Tax means any tax imposed on:Taxable income (Income Tax);Income subject to a separate charge (Fixed Tax);Income subject to final taxation (Final Tax);Separate block of income (Fixed Tax);and includes:Income tax to be collected or deducted at source;Income tax to be paid in advance;Penalty;Fee; orAny other charge or any sum or amount;leviable or payable under the Ordinance.

TAXPAYER - Clause (66) of Section 2 Taxpayer means any person who derives an amount chargeable to tax under the Ordinance, and includes Any representative of a person who derives an amount chargeable to tax under the Ordinance;Any person who is required to collect or deduct tax at source under Part V of Chapter X and Chapter XII; orAny person required to furnish a return of income or pay tax under the Ordinance;

VENTURE CAPITAL COMPANY AND VENTURE CAPITAL FUND - Clause (74) of Section 2 Venture Capital Company and Venture Capital Fund shall have the same meanings as are assigned to them under the Non-Banking Finance Companies (Establishment and Regulation) Rules, 2003.

ORDINANCE TO OVERRIDE OTHER LAWSSection 3The provisions of the Income Tax Ordinance, 2001 apply notwithstanding anything to the contrary contained in any other law for the time being in force.

CHAPTER IICHARGE OF TAX

CHARGE OF TAX - Section 4The Federal levy (Tax) on income, with effect from July 01, 2002, in Pakistan is governed by the Income Tax Ordinance, 2001 (hereinafter referred to as Ordinance) and Income Tax Rules, 2002 (hereinafter referred to as Rules) . It is an annual charge for a tax year on a person.

For the purposes of levy of tax, income is classified in following three broad categories:Taxable income;Income subject to a separate charge; andIncome subject to final taxation.

Taxable income is further divided into two sub-categories:Taxable income excluding separate block of income; andTaxable income taxed as a separate block of income.Continued

CHARGE OF TAX - Section 4Tax is the amount computed by applying the applicable rate or rates of tax specified in the First Schedule to the Ordinance, on each category/sub-category of income i.e.,Income Tax ontaxable income excluding separate block of income;Fixed Income Tax ontaxable income taxed as a separate block of income;Final Tax onincome subject to a separate charge; andFinal Tax onincome subject to final taxation.Continued

CHARGE OF TAX - Section 4Income tax payable on taxable income excluding separate block of income is:Gross income tax; minusReductions in tax liability; minusForeign tax credit; minusTax credits on*; minusTax credit on exempt share from association of persons; minusAdvance tax paid credit; minusAdjustable tax collected or deducted credit.

* Charitable donations, Investment in shares, Contribution to an approved pension fund, Profit on debt, On being registered under the Sales Tax Act, 1990 as a manufacturer, Investment (Balancing, modernization and replacement of plant and machinery), Enlistment on Stock Exchange, Equity investment in newly established industrial undertaking and Equity investment in purchase and installation of plant and machinery for the purposes of balancing, modernization, replacement or expansion in an industrial undertaking established before July 01, 2011

CHARGE OF TAX - Section 4Fixed income tax payable on taxable income taxed as a separate block of income is:Tax worked as per applicable rates on each type of such income; minusAdjustable tax collected or deducted at source out of such income, if any.

Final tax payable on income subject to a separate charge and income subject to final taxation is:Tax worked as per applicable rates on each type of such income; minusNon-adjustable tax collected or deducted at source out of such income, if any.

INCOME SUBJECT TO A SEPARATE CHARGE OF TAX

INCOME SUBJECT TO A SEPARATE CHARGE -Sections 5 to 8Income subject to a separate charge are:-Dividend;Royalty of non-residents;Fee for technical services of non-residents; andShipping and air transport income of non-residents.

Continued

INCOME SUBJECT TO A SEPARATE CHARGE -Sections 5 to 8Following rules apply to income subject to a separate charge:Tax imposed is a final tax;Such income is not chargeable to tax under any head of income in computing the taxable income of the person;No deduction is allowed for any expenditure incurred in deriving such income;The amount of the such income is not reduced by Any deductible allowance; orThe set off of any loss;The final tax payable is not reduced by any tax credit allowed (foreign tax credit or tax credits on donations, investments etc.);Continued

INCOME SUBJECT TO A SEPARATE CHARGE -Sections 5 to 8The liability of the recipient of such income is discharged to the extent that In the case of shipping and air transport income, the tax is paid in accordance with section 143 or section 144; orIn any other case, the final tax payable has been deducted at source; andAn assessment is treated to have been made under section 120 and the person is not required to furnish a return of income under section 114 for the year in respect such income [section 169(3)].

INCOME SUBJECT TO A SEPARATE CHARGE -Sections 5 to 8Dividend received from a company by a person other than a company* is subject to final tax at a flat rate of 10% (except as stated below) of the gross amount of the dividend.

Dividend received from:A company which has purchased a power project privatized by WAPDA; orA company set up for power generationis subject to a reduced rate of tax of 7.5% instead of 10% (Clause (17) and (20) of Part-II of 2nd Schedule).*By virtue of proviso to section 8, dividend received by a company is excluded from the ambit of the income subject to a separate charge and is therefore chargeable to tax as one of the component of income from other sources and forms part of the taxable income.

INCOME SUBJECT TO A SEPARATE CHARGE -Section 5 to 8Royalty received by a non-resident person is subject to final tax at the rate of 15% of gross amount of royalty or applicable reduced rate of tax as per tax treaty with the country of such non-resident.

If the property or right giving rise to the royalty is effectively connected with a permanent establishment in Pakistan of the non-resident, then such royalty is excluded from the ambit of the income subject to a separate charge and is chargeable to tax under the head income from business.

INCOME SUBJECT TO A SEPARATE CHARGE -Section 5 to 8Fee for technical services received by a non-resident person is subject to final tax at the rate of 15% of the gross amount of fee for technical services or applicable reduced rate of tax as per tax treaty with the country of such non-resident .

If the services giving rise to fee for technical services is rendered through a permanent establishment in Pakistan of the non-resident, then such fee for technical services is excluded from the ambit of the income subject to a separate charge and is chargeable to tax under the head income from business.

INCOMES SUBJECT TO A SEPARATE CHARGE - Section 5 to 8Shipping and air transport income received by a non-resident is subject to final tax the rate of 8% and 3% of the gross amount of the shipping and air transport income respectively.

Shipping and air transport income means carrying on the business of operating ships or aircraft as the owner or charterer thereof in respect of The gross amount received or receivable (whether in or out of Pakistan) for the carriage of passengers, livestock, mail or goods embarked in Pakistan; andThe gross amount received or receivable in Pakistan for the carriage of passengers, livestock, mail or goods embarked outside Pakistan.

CHAPTER IIITAX ON TAXABLE INCOMEPART ICOMPUTATION OF TAXABLE INCOME

TAXABLE INCOME - Section 9 Taxable Income means:Total income; minusDeductible allowances; minusDonations qualifying for straight deduction.

TOTAL INCOME - Section 10 Total Income is the aggregate of income chargeable to tax under each head of income.

HEADS OF INCOME Section 11For the purposes of imposition of income tax and computation of total income, all incomes are classified under the following five heads, namely:- Salary;Income from property;Income from business;Capital gains; andIncome from other sources [like dividend, royalty, profit on debt, ground rent, rent from sub-lease of land or building, income from lease of any building together with plant or machinery, prize on bonds, winnings from a raffle, lottery or crossword puzzle, or a loan, advance, deposit or gift (subject to certain conditions).Continued

HEADS OF INCOME Section 11The extent of income under each head of income is dependent upon the residential status of a person.

In case of a resident person,it is both Pakistan source income and foreign source income; and

In case of a non-resident person,it is only Pakistan source income.

CHAPTER IIITAX ON TAXABLE INCOMEPART IIHEADS OF INCOMESALARY

SALARY Sections 12 TO 14This head of income (salary) is further classified as under:Salary chargeable to income tax; andSalary chargeable to fixed income tax as a separate block of income.

The rules for computation of salary chargeable to income tax are discussed in the following slides.

The rules for computation of salary chargeable to fixed income tax as a separate block of income are discussed under the respective headings.

SALARY Sections 12 to 14Salary received by an employee in a tax year, other than salary exempt from tax is chargeable to tax under the head salary.

Note:Chargeable income from salary does not permit any deduction of admissible deductions/expenditure. This is an exception to the general rule of admissible deductions / expenditures. In fact sub-section (4) of section 12 specifically states that no deduction is allowed for any expenditure incurred by an employee in deriving amounts chargeable to tax under the head Salary.

SALARY Sub-Section (2) of Section 12Salary means any amount received by an employee from any employment, whether of a revenue or capital nature, including -Pay, wages or other remuneration, including leave pay, payment in lieu of leave, overtime payment, bonus, commission, fees, gratuity or work condition supplements (such as for unpleasant or dangerous working conditions);Perquisites, whether convertible to money or not;Allowances including cost of living, subsistence, rent, utilities, education, entertainment or travel allowance, but excluding any allowance solely expended in the performance of the duties of employment;Expenditure incurred by an employee that is paid or reimbursed by the employer, other than expenditure incurred on behalf of the performance of the duties of employment;Benefit under Employee Share Scheme (Section 14).Continued

SALARY Sub-Section (2) of Section 12Profits in lieu of, or in addition to, salary or wages, including: Consideration for an agreement to enter into an employment relationship;Consideration for an agreement to any conditions or changes to the conditions of employment;Retirement or termination benefits, whether paid voluntarily or under an agreement, including any compensation for redundancy or loss of employment and golden handshake;Any amount from a provident or other fund, to the extent to which it is not a repayment of contributions made by the employee; andConsideration for an employees agreement to a restrictive covenant in respect of any past, present or prospective employment;Pension or annuity, or any supplement to a pension or annuity; andIncome tax payable on salary where the employer agrees to pay the Income tax payable.

PERQUISITE Sub-Section (5) of Section 12A perquisite is treated as received by an employee from any employment regardless of whether the amount or perquisite is paid or provided by the employees employer, an associate of the employer, or by a third party under an arrangement with the employer or an associate of the employer;by a past employer or a prospective employer; orto the employee or to an associate of the employee or to a third party under and agreement with the employee or an associate of the employee.

EMPLOYEE SHARE SCHEME Sub-Section (6) of Section 14Employee share scheme means any agreement or arrangement under which a company issues shares in the company to An employee of the company or an employee of an associated company; orThe trustee of a trust and under the trust deed the trustee transferring the shares to an employee of the company or an employee of an associated company.

SALARY Exempt from taxSalary of certain persons or class of persons are exempt from tax under the Ordinance, subject to the certain conditions, restrictions and limitations.

Details of such exemptions arranged in alphabetical order of the nature of salary.Details of such exemptions arranged in alphabetical order of the nature of employment.

SALARY Valuation of perquisites Section 13As a general rule the value of perquisites included in salary is the fair market value determined at the time the perquisite is provided as reduced by any payment made to the employer for such perquisite or benefit by the employee.

However, the valuation of certain perquisites for which specific provisions are made in the Ordinance and Rules is determined otherwise.

List of such perquisites and their respective methods of valuation.

SALARY Taxation of retirement or termination benefits Sub-Section (6) of Section 12Salary is chargeable to tax on the basis of actually received in a tax year. Accordingly the retirement or termination benefits received in lump sum are current years income. As a result the income tax payable substantially increases, since the taxable income falls in a higher tax slab.

Retirement or termination benefits are compensation for the past services received in lump sum at the time of retirement or termination and it is unfair to include such amount in the current years salary chargeable to tax.

To overcome this problem, the taxpayer has an option to notify the concerned Commissioner of Income Tax by the due date for furnishing the return, that he/she has elected for the retirement or termination benefits to be taxed as a separate block of income at the average rate of income tax of the three preceding years (fixed income tax).Continued

SALARY Taxation of retirement or termination benefits Sub-Section (6) of Section 12Following example will illustrate the effects and calculations:Salary for the year:Excluding retirement or termination benefits (RTB)Rs. 1,000,000Retirement or termination benefits (RTB)Rs. 5,000,000

Calculation separate tax at the average rate of income tax of preceding three yearsTaxable incomeIncome tax payablePreceding Year 1950,00085,500Preceding Year 2900,00067,500Preceding Year 3850,00063,750Total2,700,000216,750Average rate of income tax (Total income tax payable divided by Total taxable income).080277RTB5,000,000Fixed income tax on RTB (RTB multiply by average rate)401,389

SALARY Taxation of arrears of salary Sub-Section (7) of Section 12Salary is chargeable to tax on the basis of actually received in a tax year. Accordingly the arrears of salary received in lump sum are current years income. As a result the income tax payable substantially increases, since the taxable income falls in a higher tax slab.

Arrears of salary are compensation for the past employment received in lump sum in the current year and it is unfair to include the such amount in the current years salary chargeable to tax.

To overcome this problem, the taxpayer has an option to notify the concerned Commissioner of Income Tax by the due date of furnishing the return, that he/she has elected for the arrears of salary to be taxed as a separate block of income at the rates of income tax that would have been applicable if such arrears were received in the tax year in which the services were rendered (fixed income tax).Continued

SALARY Taxation of arrears of salary Sub-Section (7) of Section 12Following example will illustrate the effects and calculations:Salary for the year:Excluding arrearsRs. 1,000,000Arrears (of last 2 years) Rs. 200,000 for each yearRs. 400,000

Calculation of separate tax at the rates of income tax that would have been applicable if such arrears were received in the tax year in which the services were renderedTaxable incomeIncome tax payableExcluding arrearsIncluding arrearsExcluding arrearsIncluding arrearsDifferencePreceding year 1700,000900,00042,00067,50025,500Preceding year 2600,000800,00027,00060,00033,000Total58,500

FLYING AND SUBMARINE ALLOWANCE Clause (1) of Part III of 2nd ScheduleFlying allowance of pilots, flight engineers, navigators of Pakistan Armed Forces, Pakistani Airlines or Civil Aviation Authority, Junior Commissioned Officers or other ranks of Pakistan Armed Forces; andSubmarine allowance of the officers of the Pakistan Navy,is subject to fixed income tax as a separate block of income at the rate of 2.5% of such allowance.

CHAPTER IIITAX ON TAXABLE INCOMEPART IIIHEADS OF INCOMEINCOME FROM PROPERTY

INCOME FROM PROPERTY Section 15 and 16Rent received or receivable for a tax year, other than rent exempt from tax, is subject to a fixed income tax as a separate block of income.

The rates of fixed income tax on rent are as under:-Continued

RATES OF FIXED INCOME TAX ON INCOME FROM PROPERTY

RENT Section 15 and 16Rent means any amount (not less than the fair market rent) received or receivable by the owner/co-owner of land or a building as consideration for the use or occupation of, or the right to use or occupy, the land or building, and includes:Any forfeited deposit paid under a contract for the sale of land or a building; andNon-adjustable amounts received in relation to a building (amount received by the owner of a building from a tenant or a succeeding tenant which is not adjustable against the rent payable by the tenant) to the extent specified.But does not include rent in respect of:Lease of a building together with plant and machinery; andProvision of amenities, utilities or any other service connected with the renting of the building.(such rent is chargeable to tax under the head Income from Other Sources)

NON-ADJUSTABLE AMOUNTS RECEIVED IN RELATION TO A BUILDING Section 16The extent to which such non-adjustable amounts are treated as rent is as under:Where the amount is received from a tenant One-tenth of the amount in the tax year in which received and the following nine tax years.Where the amount is received from a succeeding tenant One-tenth of the, amount received from the succeeding tenant as reduced by the amount earlier included in the rent, in the tax year in which received and the following nine tax years.Tenant means a person taking on rent a building or the following person taking on rent a building on termination of tenancy by the previous person after the expiry of ten years.Succeeding tenant means a person taking on rent a building on termination of tenancy by the first person before the expiry of ten years.Continued

NON-ADJUSTABLE AMOUNTS RECEIVED IN RELATION TO A BUILDING Section 16The following examples will illustrate the extent to which such non-adjustable amounts are treated as rent:Example-I (First Tenant) Building 1 for the first time let-out to Tenant A and the Owner X receives non-adjustable amount of Rs.500,000 in tax year 2005 Rs.50,000 (1/10th of Rs.500,000) will be treated as rent in the tax year 2005 to 2014.Example-II (First Tenant) Building 1 for the first time let-out to Tenant A and the Owner X receives non-adjustable amount of Rs.500,000 in tax year 2005. The tenancy is terminated in tax year 2009 and the non-adjustable amount of Rs.500,000 is refunded by the Owner to the Tenant Rs.50,000 (1/10th of Rs.500,000) will be treated as rent in the tax year 2005 to 2008.Example-III (Succeeding Tenant) Building 1 on termination of tenancy, before expiry of ten years, by Tenant A is let-out to the Tenant B and the Owner X receives non-adjustable amount of Rs.800,000 in tax year 2009 Rs.60,000 (1/10th of (Rs.800,000 minus Rs.200,000) will be treated as rent in the tax year 2009 to 2018.Example-IV (Following Tenant) Building 1 on termination of tenancy, after expiry of ten years, by Tenant A is let-out to the Tenant B and the Owner X receives non-adjustable amount of Rs.800,000 in tax year 2016 Rs.80,000 (1/10th of Rs.800,000) will be treated as rent in the tax year 2016 to 2025.

CHAPTER IIITAX ON TAXABLE INCOMEPART IVHEADS OF INCOMEINCOME FROM BUSINESS

INCOME FROM BUSINESS Section 18 and 19This head of income (income from business) is further classified as under:Non-speculation business:Income chargeable to income tax;Income chargeable to fixed income tax as a separate block of income; andIncome chargeable to final tax as income subject to final taxation; andSpeculation business income chargeable to income tax.

Each of the above classification is treated as distinct and separate from each other, for the purposes of computation of income, admissible deductions / expenditures, apportionment of deductions, set off of losses and carry forward of business losses.

INCOME FROM BUSINESS Section 18 and 19The rules for computation of:Non-speculation business income chargeable to income tax; andSpeculation business income chargeable to income tax;are same and these are discussed in the following slides.

The rules for computation of:Non-speculation business income chargeable to fixed income tax as a separate block of income; andNon-speculation business income chargeable to final tax as income subject to final taxation;are discussed separately under the respective headings.

INCOME FROM BUSINESS Section 18 and 19Following incomes of a person for a tax year, other than income exempt from tax, computed according to the method of accounting regularly employed, is chargeable to tax under the head income from business:The profits and gains of any business carried on at any time in the year;Any income derived by any trade, professional or similar association from the sale of goods or provision of services to its members;The fair market value of any benefit or perquisite, whether convertible into money or not, derived in the course of, or by virtue of, a past, present, or prospective business relationship;Any income from the hire or lease of tangible movable property;Continued

INCOME FROM BUSINESS Section 18 and 19Any management fee derived by a management company (including a modaraba management company).Any profit on debt derived by a person where the persons business is to derive such income;Any amount received or receivable by a scheduled bank or an investment bank or a development finance institution or a modaraba or a leasing company in connection with lease of any asset, whether owned by it or not; andAny amount received by a banking company or a non-banking finance company, where such amount represents distribution by a mutual fund or a Private Equity and Venture Capital Fund out of its income from profit on debt.

OTHER INCLUSIONS IN INCOME FROM BUSINESS UNDER VARIOUS PROVISIONSIn addition following are also included in income chargeable to tax under the head income from business under other provisions of the Ordinance stated against each:Gain on disposal of depreciable assets or specified intangibles (sub-section (8) of section 22 and (sub-section (8) of section 24);Subsequent recovery of bad debts (Sub-Section (3) of section 29);Subsequent recovery of profit accruing on non-performing debts (Sub-Section (2) of section 30);Non-permitted application out of participatory reserve (Sub-Section (5) of section 34);Un-paid trading liabilities (Sub-Section (5) of section 34);Benefit derived against trading liability (Sub-Section (5A) of section 34);Recouped expenditure (Section 70); andBusiness income of minor child (Section 91)

SPECULATION BUSINESS Sub-Section (2) of Section 19Speculation business means any business in which a contract for the purchase and sale of any commodity (including stocks and shares) is periodically or ultimately settled otherwise than by the actual delivery or transfer of the commodity, but does not include a business in which A contract in respect of raw materials or merchandise is entered into by a person in the course of a manufacturing or mercantile business to guard against loss through future price fluctuations for the purpose of fulfilling the persons other contracts for the actual delivery of the goods to be manufactured or merchandise to be sold;A contract in respect of stocks and shares is entered into by a dealer or investor therein to guard against loss in the persons holding of stocks and shares through price fluctuations; orA contract is entered into by a member of a forward market or stock exchange in the course of any transaction in the nature of jobbing arbitrage to guard against any loss which may arise in the ordinary course of the persons business as such member.

DEDUCTIONS IN COMPUTING INCOME FROM BUSINESS Section 20In computing the income chargeable to tax under the head income from business deduction is allowed for any expenditure incurred wholly and exclusively for the purposes of business, computed according to the method of accounting regularly employed, including the following :Cost of animals used for the purposes of business (other than stock-in-trade) which die or become permanently useless for business purposes as reduced by the amount, if any, realized in respect of the carcasses or animals;Legal and financial advisory services and other administrative cost relating to planning and implementation of amalgamation incurred by an amalgamated company on amalgamation; andExpenditures for which special provisions apply for the purposes of deduction.

DEDUCTIONS IN COMPUTING INCOME FROM BUSINESS Section 20Any expenditure does not include:Expenditures for which deductions are not allowed;Expenditures for which special provisions apply for the purposes of deduction;Expenditures attributable to:Exempt income;Income subject to final taxation; andSeparate block of income.

DEDUCTIONS NOT ALLOWED IN COMPUTING INCOME FROM BUSINESS Section 20Deduction for the following expenditures incurred is not allowed in computing the income chargeable to tax under the head income from business:Cess, rate or tax that is levied on the profits or gains of the business or assessed as a percentage or otherwise on the basis of such profits or gains;Amount of tax collected or deducted at source from an amount derived;Salary, rent, brokerage or commission, profit on debt, payment to non-resident, payment for services or fee from which tax deduction of tax at source is required, unless such tax is paid or deducted and paid;Continued

DEDUCTIONS NOT ALLOWED IN COMPUTING INCOME FROM BUSINESS Section 20 and Rule 10Entertainment expenditure, which does not full fill the following conditions:Incurred on persons directly related with the business;Incurred outside Pakistan:In connection with business transactions; orAllocated as head office expenditure;Incurred in Pakistan on entertainment of foreign customers and suppliers;Incurred on entertainment of customers and clients at the persons business premises;Incurred on entertainment at a meeting of shareholders, agents, directors or employees;Incurred on entertainment at the opening of branches; orIncurred on employees for free of cost tea, coffee and other similar refreshments provided at the business premises during the course of work.

Entertainment expenditure means the provisions of meals, refreshments, and reasonable leisure facilities in accordance with the tradition of business and subject to overall norms and customs of business in Pakistan.Continued

DEDUCTIONS NOT ALLOWED IN COMPUTING INCOME FROM BUSINESS Section 20Contribution made to a fund that is not a recognized provident fund, approved pension fund, approved superannuation fund, or approved gratuity fund;Contribution made to any provident or other fund established for the benefit of employees, unless effective arrangements are made to secure that tax is deducted as required from any payments made by the fund in respect of which the recipient is chargeable to tax under the head "Salary";Fine or penalty for the violation of any law, rule or regulation;Personal expenditures;Amount carried to a reserve fund or capitalized in any way;Continued

DEDUCTIONS NOT ALLOWED IN COMPUTING INCOME FROM BUSINESS Section 20Profit on debt, brokerage, commission, salary or other remuneration paid by an association of persons to a member of the association;Salary exceeding Rs. 15,000 per month other than by a crossed cheque or direct transfer of funds to the employees bank account;Expenditure of a capital nature (normal useful life of more than one year) except as otherwise allowed;Continued

DEDUCTIONS NOT ALLOWED IN COMPUTING INCOME FROM BUSINESS Section 20Expenditure exceeding Rs. 10,000 incurred and paid otherwise than by a crossed cheque drawn on a bank or by crossed bank draft or crossed pay order or any other crossed banking instrument showing transfer of amount from the business bank account of the taxpayer, excluding the following:Where expenditures under a single account head in aggregate does not exceed Rs.50,000;Expenditures on account of Utility bills;Freight charges;Travel fare;Postage; andPayment of taxes, duties, fee, fines or any other statutory obligation.

Crossed banking instrument includes online transfer of payment from the business account of the payer to the business account of payee as well as payments through credit card, subject to the condition that such transactions are verifiable from the bank statements of the respective payer and the payee.Continued

SPECIAL PROVISIONS Sections 22 to 31 (DEDUCTIONS IN COMPUTING INCOME FROM BUSINESS)Following are the expenditures* for which special provisions apply for the purposes of deduction in computing income chargeable to tax under the head income from business:Depreciation, initial allowance and first year allowance in respect of depreciable assets;Amortization of specified intangibles;First year allowance;Amortization of pre-commencement expenditure;Scientific research expenditure incurred in Pakistan wholly and exclusively for the purpose of deriving income from chargeable to tax;Employee training and facilities expenditure;Profit on debt, financial costs and lease payments;Continued

SPECIAL PROVISIONS Sections 22 to 31(DEDUCTIONS IN COMPUTING INCOME FROM BUSINESS)Bad debts;Reserve to off-set bad debts arising out of consumer loans;Profit accruing on non-performing debts of certain institutions;Transfer to participatory reserve; andAgricultural produce used as raw material.

*However, this does not include:Expenditures for which deductions are not allowed;Expenditures attributable to:Exempt income;Income subject to final taxation; andSeparate block of income.

DEDUCTIONS UNDER OTHER PROVISIONS(DEDUCTIONS IN COMPUTING INCOME FROM BUSINESS)In addition following are also allowed as deduction for computing income chargeable to tax under the head income from business under other provisions of the Ordinance, stated against each:Subsequent payment of an un-paid trading liability (in full or in part), which was earlier included in the income chargeable to tax under the head income from business, in the tax year in which the payment is made (Sub-Section (6) of Section 34);Loss on disposal of depreciable assets or specified intangibles (sub-section (8) of section 22 and (sub-section (8) of section 24); andUn-absorbed depreciation, initial allowance, first year allowance and amortization (sub-section (4) of section 57).

DEPRECIATION Section 22Deduction for deductible depreciation of depreciable assets used in a business by a person in the tax year is allowed against the income chargeable to tax under the head income from business.

However, in case a leasing company or an investment bank or a modaraba or a scheduled bank or a development finance institution in respect of assets leased to another person it is deductible only against the lease rental income derived in respect of such assets.

Continued

DEPRECIATION Section 22Deductible depreciation is arrived at as under:Where the depreciable assets is used in a tax year wholly and exclusively in deriving income from business chargeable to tax Full amount of depreciation of that depreciable assets ; orWhere the depreciable assets is used in a tax year partly in deriving income from business chargeable to tax and partly for another use. Fair proportional amount of depreciation of that depreciable assets attributable to use in deriving income from business chargeable to tax.Continued

DEPRECIATION Section 22Example -Motor vehicle used partly for business chargeable to tax and partly for private useAmountWritten down value brought forward800,000Used for business purposes 70%Used for private purposes 30%Annual depreciation @ 15%120,000Fair proportional depreciation deduction forbusiness purposes (70% of Rs.120,000) 84,000Written down value carried forward(Written down value brought forward minus full amountof depreciation) i.e. Rs.800,000 minus Rs.120,000)680,000Continued

DEPRECIATION Section 22Depreciable asset means any tangible movable property, immovable property (other than unimproved land), or structural improvement to immovable property:Owned by the person ;Has a normal useful life of more than one year;Is likely to lose value as a result of normal wear and tear, or obsolescence; andIs used* wholly or partly by the person in deriving income chargeable to tax under the head income from business,but does not include any tangible movable property, immovable property, or structural improvement to immovable property in relation to which a deduction is allowed under another provision of the Ordinance for the entire cost.

* Any asset owned by a leasing company or an investment bank or a modaraba or a scheduled bank or a development finance institution and leased to another person is treated as used in the business of the lessor.Continued

DEPRECIATION Section 22Structural improvement in relation to immovable property, includes any building, road, driveway, car park, railway line, pipeline, bridge, tunnel, airport runway, canal, dock, wharf, retaining wall, fence, power lines, water or sewerage pipes, drainage, landscaping or dam.Continued

DEPRECIATION Section 22Depreciation for each depreciable asset is computed as under:Written down value of the depreciable asset brought forward from the preceding tax year, if any; plusCost of depreciable asset acquired during the tax year; minusWritten down value of the depreciable asset disposed of during the tax year; minusInitial allowance or first year allowance, if any, on the depreciable asset acquired during the tax year; multiplied byApplicable rate of depreciation.Continued

DEPRECIATION Section 22Written down value means:Cost of depreciable asset acquired; minusDepreciation*, initial allowance, if any, and first year allowance, if any, of that depreciable asset relating to previous tax years.* Full amount of the depreciation and not deductible depreciation.Continued

DEPRECIATION Section 22Cost of depreciable asset acquired:In case of a passenger transport vehicle not plying for hire acquired:On or before 30th June, 2005 is the cost or Rs.1,000,000, whichever is less;Between 01st July, 2005 and 30th June 2009 is the cost; orOn or after 01st July 2009 is the cost or Rs.1,500,000, whichever is less;In case of immovable property or a structural improvement thereon is the cost excluding the cost of land; andIn case of other depreciable assets is the cost.Continued

DEPRECIATION Section 22Rates of depreciation The annual rates of depreciation are:Buildings All types 10%Furniture (including fittings) 15%Machinery and Plant (not otherwise specified) 15%Technical or professional books 15%Ships 15%Motor vehicles (all types) 15%Computer hardware, including printer,monitor & allied items 30%Machinery and equipment used inmanufacture of I.T. products 30%Aircraft, aero-engines 30%Below ground installations in mineral oil concerns* 100%Offshore platforms and production installation in mineraloil concerns* 20% * the income of which is liable to be computed in accordance with the rules in Part I of the Fifth Schedule

GAIN OR LOSS ON DISPOSAL OF DEPRECIABLE ASSET Section 22Gain or loss on disposal of depreciable asset is, included in or allowed as a deduction from, the income chargeable to tax under the head income from business in the tax year in which the disposal of depreciable asset takes place.

Gain or loss on disposal of depreciable asset is arrived at as under:If the consideration received on disposal of depreciable asset exceeds the written down value, the excess is the gain on disposal of such depreciable asset; orIf the consideration received on disposal of depreciable asset is less than the written down value, the difference is the loss on disposal of such depreciable asset.

Disposal of depreciable asset means disposal of an depreciable asset and includes the export or transfer out of Pakistan of depreciable asset used in Pakistan.Continued

GAIN OR LOSS ON DISPOSAL OF DEPRECIABLE ASSET Section 22Written down value for the purposes of calculating the gain or loss on disposal of depreciable asset is different from the written down value for the purposes of calculating deductible depreciation and means:Cost of depreciable asset; minusDeductible depreciation, initial allowance, if any, and first year allowance, if any, of that depreciable asset relating to previous tax years.

GAIN OR LOSS ON DISPOSAL OF DEPRECIABLE ASSET Section 22Consideration received on disposal of depreciable asset :In case of a passenger transport vehicle, the cost of which had been restricted, is:Consideration received on disposal; multiplied byRestricted cost adopted at the time of acquisition; divided byCost of acquiring.In case of an immovable property is the consideration received or cost, whichever is less; and In any other case, the consideration received .

INITIAL ALLOWANCE Section 23Deduction for initial allowance at the rate of 50% of the cost of an eligible depreciable asset for initial allowance is allowed to a person against the income chargeable to tax under the head income from business in the tax year in which an eligible depreciable asset for initial allowance is used for the purposes of business for the first time in Pakistan or commercial production is commenced, whichever is latter.

However, in case a leasing company or an investment bank or a modaraba or a scheduled bank or a development finance institution in respect of assets leased to another person it is deductible only against the lease rental income derived in respect of such assets.Continued

INITIAL ALLOWANCE Section 23Eligible depreciable asset for initial allowance means a depreciable asset excluding the following:Road transport vehicle other than a vehicle plying for hire;Furniture and fittings;Plant or machinery previously used in Pakistan; orPlant or machinery in relation to which a deduction has is allowed under another provision of the Ordinance for the entire cost of the asset in the tax year in which the asset is acquired.Continued

FIRST YEAR ALLOWANCE Section 23A and 23BDeduction for first year allowance, in lieu of initial allowance, at the rate of 90% of the cost of an eligible depreciable asset for first year allowance is allowed to an industrial undertaking set up:In specified rural and under developed areas notified by the Federal Government and owned and managed by a company ; orAnywhere in Pakistan for generation of alternate energy, owned and managed by a company,against the income chargeable to tax under the head income from business in the tax year in which an eligible depreciable asset for first year allowance is used for the purposes of business for the first time in Pakistan or commercial production is commenced, whichever is latter.

FIRST YEAR ALLOWANCE Section 23A and 23BEligible depreciable asset for first year allowance means plant, machinery and equipment which is not previously used in Pakistan.

Specified rural and under developed areas have not yet been notified by the Federal Government.

INTANGIBLES Section 24Deduction for deductible amortization of intangible assets used in a business in the tax year is allowed against the income chargeable to tax under the head income from business.Continued

INTANGIBLES Section 24Intangible assets means any patent, invention, design or model, secret formula or process, copyright, trade mark, scientific or technical knowledge, computer software, motion picture film, export quotas, franchise, license, intellectual property, or other like property or right, contractual rights and any expenditure that provides an advantage or benefit for a period of more than one year:Owned by the person ;Has a normal useful life of more than one year; andIs used wholly or partly by the person in deriving income chargeable to tax under the head income from business;but does not include:Any expenditure incurred to acquire a depreciable asset;Any expenditure incurred to acquire an unimproved land;Any intangible in relation to which a deduction is allowed under another provision of the Ordinance for the entire cost.Continued

INTANGIBLES Section 24Deductible amortization is arrived at as under:Where the intangible asset is used in a tax year wholly and exclusively in deriving income from business chargeable to tax Full amount of amortization of that intangible asset; orWhere the intangible asset is used in a tax year partly in deriving income from business chargeable to tax and partly for another use. Fair proportional amount of amortization of that intangible asset attributable to use in deriving income from business chargeable to taxWhere the intangible asset is not used for the whole of the tax year in deriving income from business chargeable to tax Fair proportional amount of amortization of that intangible asset calculated on the basis of number of days used in deriving income from business chargeable to tax, i.e., Amortization *; multiplied byNumber of days used** in deriving income chargeable to tax; divided byTotal number of days in that tax year.*Full amount of amortization or fair proportional amount of amortization, as the case may be.**An intangible asset that is available for use on a day (including a non-working day) is treated as used on that day.Continued

INTANGIBLES Section 24Amortization for each intangible asset is computed as under:Cost of intangible asset; dividedNormal useful life of the intangible asset in whole years, subject to a maximum of 10 years.

Cost of an intangible asset means any expenditure incurred in acquiring or creating the intangible asset, including any expenditure incurred in improving or renewing the intangible asset; and

Continued

GAIN OR LOSS ON DISPOSAL OF AN INTANGIBLE Section 24Gain or loss on disposal of an intangible asset is, included in or allowed as a deduction from, the income chargeable to tax under the head income from business in the tax year in which the disposal of intangible asset takes place.

Gain or loss on disposal of an intangible asset is arrived at as under:If the consideration received on disposal of an intangible asset exceeds the written down value of an intangible asset, the excess is the gain on disposal of such intangible asset; orIf the consideration received on disposal of an intangible asset is less than the written down value of an intangible asset, the difference is the loss on disposal of such intangible asset.Continued

GAIN OR LOSS ON DISPOSAL OF AN INTANGIBLE Section 24Written down value of an intangible asset at the time of disposal means:Cost of that intangible asset; minusTotal deductible amortization deductions allowed in respect of that intangible asset; minusTotal amortization attributable to use other than in deriving income from business chargeable to tax of that intangible asset.Continued

PRE-COMMENCEMENT EXPENDITURE Section 25Deduction for pre-commencement expenditure at the rate of 20% of pre-commencement expenditure (straight line method) is allowed to a person against the income chargeable to tax under the head income from business.

However, no deduction is allowed for pre-commencement expenditure where a deduction for the same is allowed under another provision of the Ordinance for the entire amount of the pre-commencement expenditure in the tax year in which it is incurred.

Pre-commencement expenditure means any expenditure incurred before the commencement of a business wholly and exclusively to derive income chargeable to tax, including the cost of feasibility studies, construction of prototypes, and trial production activities, but does not include any expenditure which is incurred in acquiring land, or a depreciable asset or an intangible.

SCIENTIFIC RESEARCH EXPENDITURE Section 26Scientific research expenditure means any expenditure incurred by a person on scientific research undertaken in Pakistan for the purposes of developing the persons business, including any contribution to a scientific research institution to undertake scientific research for the purposes of the persons business, other than expenditure incurred In the acquisition of any depreciable asset or intangible;In the acquisition of immovable property; orFor the purpose of ascertaining the existence, location, extent or quality of a natural deposit.Scientific research means any activity undertaken in Pakistan in the fields of natural or applied science for the development of human knowledge.Scientific research institution means any institution certified by the Board as conducting scientific research in Pakistan.

EMPLOYEE TRAINING AND FACILITIES EXPENDITURE Section 27Employees training and facilities expenditure means any expenditure (other than capital expenditure) incurred in a tax year in respect ofAny educational institution or hospital in Pakistan established for the benefit of the persons employees and their dependents;Any institute in Pakistan established for the training of industrial workers recognized, aided, or run by the Federal Government or a Provincial Government or a Local Government; orThe training of an individual, being a citizen of Pakistan, in connection with a scheme approved by the Board for this purposes.

PROFIT ON DEBT/FINANCIAL COSTS AND LEASE PAYMENTS Section 28Following expenditures* on account of Profit on debt, financial costs and lease payments are allowed as deduction in computing the income chargeable to tax under the head income from business:Profit on debt incurred, to the extent that the proceeds or benefit of the debt are used for the purposes of business;Lease rental incurred, which is paid or payable to a scheduled bank, financial institution, an approved modaraba, an approved leasing company or a Special Purpose Vehicle on behalf of the Originator for an asset used for the purposes of business;Amount incurred, which is paid or payable to a modaraba or a participation term certificate holder for any funds borrowed and used for the purposes of business;Continued

PROFIT ON DEBT/FINANCIAL COSTS AND LEASE PAYMENTS Section 28Distribution of profits by a scheduled bank on a profit or loss sharing account or a deposit maintained by account or deposit holder with such bank;Share in the profits of House Building Finance Corporation of the State Bank of Pakistan in respect of SBPs investment, under the HBFC (Issue and Redemption of Certificates) Regulations, 1982, in property under a scheme of partnership in profit and loss;Share in the profits of National Development Leasing Corporation Limited of the State Bank of Pakistan by the in respect of credit line provided by the SBP on a profit and loss sharing basis, for its leasing operations;Share in the profits of Small and Medium Enterprises Bank of the State Bank of Pakistan in respect of credit line provided by the SBP on a profit and loss sharing basis, for its business of investment in small businesses;Continued

PROFIT ON DEBT/FINANCIAL COSTS AND LEASE PAYMENTS Section 28Share in the profits of the musharika of a banking company under a scheme of musharika;Share in the profits of the musharika of a certificate holder under a musharika scheme approved by the Securities and Exchange Commission and Religious Board formed under the Modaraba Companies and Modaraba (Floatation and Control) Ordinance, 1980;Financial cost (being the difference between the amount received by the Originator and the amount of receivables securitized from a Special Purpose Vehicle) of the securitization of receivables incurred by an Originator to Special Purpose Vehicle.(Where any assets are transferred by an Originator, as a consequence of securitization, to a Special Purpose Vehicle, it is treated as a financing transaction irrespective of the method of accounting adopted by the Originator).Continued

PROFIT ON DEBT/FINANCIAL COSTS AND LEASE PAYMENTS Section 28Approved leasing company means a leasing company approved by the Board for this purposes.

Approved modaraba means a modaraba approved by the Board for this purposes.

*However, this does not include:Expenditures for which deductions are not allowed;Expenditures attributable to:Exempt incomes;Income subject to final taxation; andSeparate block of income.

BAD DEBTS Section 29Bad debts are allowed as deduction in computing the income chargeable to tax under the head income from business, if the following conditions are satisfied, namely:-The amount of the debt was previously included in the income chargeable to tax under the head income from business ; orThe amount of the debt is in respect of money lent by a financial institution in deriving income chargeable to tax under the head income from business;The debt or part of the debt is written off in the accounts; andThere are reasonable grounds for believing that the debt is irrecoverable.

The amount of the deduction allowed for bad debts is to the extent the debt is written off in the accounts in the tax year.Continued

SUBSEQUENT RECOVERY OF BAD DEBTS Section 29Where a deduction for a bad debt is allowed and in a subsequent year the person receives in cash or kind any amount in respect of that debt, the following rules apply, namely:Where the amount received exceeds the difference between the whole of such bad debt and the amount previously allowed as a deduction on account of bad debt, the excess is included in the income chargeable to tax under the head income from business for the tax year in which it is received; orWhere the amount received is less than the difference between the whole of such bad debt and the amount allowed as a deduction on account of bad debts, the shortfall is allowed as a bad debt deduction in computing the income chargeable to tax under the head income from business for the tax year in which it was received.

RESERVE TO OFF-SET BAD DEBTS ARISING OUT OF CONSUMER LOANS Section 29A

PROFIT ACCRUING ON NON-PERFORMING DEBTS OF CERTAIN INSTITUTIONS Section 30

TRANSFER TO PARTICIPATORY RESERVE Section 31

These topics are not covered in the present course

METHOD OF ACCOUNTING Sections 32 / 33 / 34Methods of accounting for computing the income chargeable to tax under the head income from business are:[Cash basis accounting under which:Income is derived when it is actually received; andExpenditure is incurred when it is actually paid.Accrual basis accounting under which:Income is derived when it is due; andExpenditure is incurred when it is payable.

Due means when entitled to receive it even if the time for discharge of the entitlement is postponed or the amount is receivable in installments.

Payable means when all the events that determine liability have occurred and the amount of the liability can be determined with reasonable accuracy.Continued

METHOD OF ACCOUNTING Sections 32 / 33 / 34It is mandatory for a company to adopt accrual basis of accounting while other persons (individual and association of persons) can adopt either of the above two methods of accounting.

The Board is empowered to prescribe the method of accounting to be adopted by any class of persons. To date the Board has not prescribed the method of accounting to be adopted by any class of persons.

A person can apply, in writing, for a change in the method of accounting and the Commissioner may, by order in writing, approve such an application but only if satisfied that the change is necessary to clearly reflect the income chargeable to tax.

UN-PAID TRADING LIABILITY Sub-Section (5) of Section 34Un-paid trading liability means the amount of trading liability which is not paid in full or in part within 3 years from the end of the tax year in which the deduction was allowed.

Un-paid trading liability is income chargeable to tax under the head income from business in the first tax year following the end of the three years in which the deduction was allowed.

Trading liability means unpaid amount, in full or in part, of a liability in respect of any expenditure for which a deduction was allowed in computing the income chargeable to tax under the head income from business.

Example Purchase of raw materials of Rs.200,000 on credit in the tax year 2003. This was claimed as deduction by adopting accrual basis of accounting. In the tax year 2005 a sum of Rs.175,000 was paid and the balance Rs.25,000 remained unpaid as a liability till the end of the tax year 2007. Since the expenditure was allowed as deduction in the tax year 2003, the unpaid liability of Rs.25,000 will be chargeable to tax in the tax year 2007.

BENEFIT DERIVED AGAINST TRADING LIABILITY Sub-Section (5A) of Section 34The value of the benefit derived against a trading liability is also income chargeable to tax under the head income from business in the tax year in which such benefit is derived.

COST OF STOCK-IN-TRADE DISPOSED OFF Section 35Cost of stock-in-trade disposed off means:Opening value of the stock-in-trade for the year; plusCost of stock-in-trade acquired in the year; minusClosing value of stock-in-trade for the year.

Opening value of stock-in-trade means:Closing value of the stock-in-trade at the end of the previous year; orWhere the business is commenced to carry on business in the year, the fair market value (at the time the stock-in-trade is ventured in the business) of any stock-in-trade acquired prior to the commencement of the business.

Closing value of stock-in-trade means lower of cost or net realizable value of stock-in-trade on hand at the end of the year.Continued

COST OF STOCK-IN-TRADE DISPOSED OFF Section 35Cost of stock-in-trade means:Where the method of accounting is cash basis of accounting Prime Cost Method or Absorption Cost Method (optional); andWhere the method of accounting is accrual basis of accounting Absorption Cost Method (Mandatory).

Where particular items of stock-in-trade are not readily identifiable, these can be accounted for on the first-in-first-out method or the average cost method but, once chosen, a stock valuation method can be changed only with the written permission of the Commissioner and in accordance with any conditions that the Commissioner may impose.Continued

COST OF STOCK-IN-TRADE DISPOSED OFF Section 35Absorption-cost method means the generally accepted accounting principle under which the cost of an item of stock-in-trade is the sum of direct material costs, direct labour costs, and factory overhead costs;

Average-cost method means the generally accepted accounting principle under which the valuation of stock-in-trade is based on a weighted average cost of units on hand;

Direct labour costs means labour costs directly related to the manufacture or production of stock-in-trade;

Direct material costs means the cost of materials (special rules apply for agricultural produce) that become an integral part of the stock-in-trade manufactured or produced, or which are consumed in the manufacturing or production process;

Factory overhead costs means the total costs of manufacturing or producing stock-in-trade, other than direct labour and direct material costs;Continued

COST OF STOCK-IN-TRADE DISPOSED OFF Section 35First-in-first-out method means the generally accepted accounting principle under which the valuation of stock-in-trade is based on the assumption that stock is sold in the order of its acquisition;

Prime-cost method means the generally accepted accounting principle under which the cost of stock-in-trade is the sum of direct material costs, direct labour costs, and variable factory overhead costs;

Stock-in-trade means anything produced, manufactured, purchased, or otherwise acquired for manufacture, sale or exchange, and any materials or supplies to be consumed in the production or manufacturing process, but does not include stocks or shares; and

Variable factory overhead costs means those factory overhead costs which vary directly with changes in volume of stock-in-trade manufactured or produced.

AGRICULTURAL PRODUCE AS RAW MARTEIAL Rule 11Cost of agricultural produce raised or received and used as raw material to derive income chargeable to tax under the head income from business by a cultivator or receiver of agricultural produce as rent-in-kind is the market value of the agricultural produce, so used.

Market value of agricultural produce means -Where the agricultural produce is ordinarily sold in the market in its raw state or after application of any process ordinarily employed by a cultivator or receiver of agricultural produce as rent-in-kind to render it fit to be taken to market, the market price for the produce at the time it is used as raw materials in the business; orIn any other case, the sum of the following amounts, namely:-The expenses of cultivation; andThe land revenue rent paid for the area in which the produce is grown.

LONG-TERM CONTRACTS Section 36If accounting for income chargeable to tax under the head income from business is done on accrual basis of accounting, it is mandatory to compute business income arising under a long-term contract on the basis of the percentage of completion method.

The percentage of completion of a long-term contract is determined by comparing the total costs allocated to the contract and incurred before the end of the year with the estimated total contract costs as determined at the commencement of the contract.

Long-term contract means a contract for manufacture, installation, or construction, or, in relation to each, the performance of related services, which is not completed within the tax year in which work under the contract commenced, other than a contract estimated to be completed within six months of the date on which work under the contract commenced.

Percentage of completion method means the generally accepted accounting principle under which revenue and expenses arising under a long-term contract are recognized by reference to the stage of completion of the contract.

ADDITIONAL READING MAETRIAL

BUSINESS ACCOUNTS, DOCUMENTS AND RECORDS(A brochure of Federal Board of Revenue)

CHAPTER IIITAX ON TAXABLE INCOMEPART VHEADS OF INCOMECAPITAL GAINS

CAPITAL GAINS Section 37This head of income (capital gains) is further classified as under:Capital gains chargeable to income tax; andCapital gains chargeable to fixed income tax as a separate block of income.

The rules for computation of gains under both the classification are same and these are discussed in the following slides.

CAPITAL GAINS Sections 37Capital gains arising on the disposal of a capital asset, other than capital gains exempt from tax, are chargeable to tax under the head capital gains as reduced by capital losses (to the extent of capital gains) for the year.

Capital asset are divided into two categories, one held for more than one year and the other held for one year or less than one year.

Gain arising on the disposal of a capital asset held for one year or less than one year is computed as under:Consideration received on disposal of the capital asset; minusCost of the capital asset.

Gain arising on disposal of capital asset held for more than one year is taken to be 75% of the gain as calculated for a capital asset held for one year or less than one year.Continued

CAPITAL ASSETS Sub-Section (5) of Section 37Capital asset means property of any kind, whether or not connected with a business, but does not include Securities;Any stock-in-trade, consumable stores or raw materials held for the purpose of business;Any property with respect to which the person is entitled to a depreciation deduction (depreciable assets) or amortization deduction (specified intangibles);Any immovable property; orAny movable property held for personal use by an individual or his family member dependent on him, excluding the following:A painting, sculpture, drawing or other work of art;Jewellery;A rare manuscript, folio or book;A postage stamp or first day cover;A coin or medallion; orAn antique.

CAPITAL GAINS Sections 37Cost of the capital asset generally means cost of an asset.

Exception to the above general rule is fair market value of the asset, on the date of its transfer or acquisition where such asset becomes the property of a person:Under a gift, bequest or will;By succession, inheritance or devolution;By distribution of assets on dissolution of an association of persons; orBy distribution of assets on liquidation of a company.

But cost of the capital asset does not include any expenditure incurred:That is deductible under any other head of income; orThat falls under deductions not allowed referred to under the head Income from business.

CAPITAL LOSSES Sections 38Capital losses arising on the disposal of a capital asset, other than loss arising from disposal of a capital asset the gain of which would have been exempt from tax, is deductible from the capital gains for the year, if any, and to the extent of such capital gains. The unadjusted capital losses can be carried forward for adjustment against subsequent years capital gains, if any.

The loss arising on the disposal of a capital asset held is computed as under:Cost of the capital asset; minusConsideration received on disposal of the capital asset.

The rules for determining the cost and Consideration received on disposal of the capital asset are same as discussed earlier under Capital gains.Continued

CAPITAL LOSSES Sections 38Non-recognition of capital loss Capital loss is not re-cognized and as such neither deductible from capital gains nor could be carried forward for adjustment against future capital gains in respect of the following assets :A painting, sculpture, drawing or other work of art;Jewellery;A rare manuscript, folio or book;A postage stamp or first day cover;A coin or medallion; orAn antique.

CAPITAL GAINS ON SALE OF SECURITIES Section 37ACapital gains as reduced by capital losses (to the extent of capital gains) arising on the disposal of Securities, other than capital gains exempt from tax, are chargeable to tax under the head capital gains as a separate block of income subject to fixed income tax.

Note:In case of a banking company and an insurance company the gain arising on disposal of securities is chargeable to tax as separately provided in the Seventh (7th) and Fourth (4th) Schedule to the Income Tax Ordinance, 2001 respectively.

Capital losses on disposal of securities, which could not be set off against capital gains of securities in a tax year , can not b