One of the most awaited financial events of the year in Pakistan was the unveiling of the federal Budget and its passage into legislation as the Finance Act 2022 earlier this year, and the subsequent changes. Its importance rested on its purpose: to overcome the country’s economic ills, which currently include an unemployment rate of 6.3% for FY2021, according to the Pakistan Economic Survey 2021/22, and a youth unemployment rate of 9.4% according to the World Bank.
Personal tax
The key changes in the Finance Act 2022 for individual taxpayers are outlined below, along with their potential impact.
- Any citizen of Pakistan who is not a resident of any other country is to be treated as Pakistan-resident for tax purposes (excluding those who are present in any other country for more than 182 days during the tax year). The aim here appears to be to curb the abuse of international tax treaties.
- The National Database and Registration Authority can now supply the tax authorities with information to help identify residents who are living luxurious lifestyles but are not paying their taxes or are not registered for taxation. If properly implemented, this measure could help broaden the tax base.
- A new tax on the deemed income from immovable property valued over Rs25m excluding exemptions was introduced via section 7E in the Income Tax Ordinance, whereby a resident who derives income equal to 5% of the fair market value of the capital assets situated in Pakistan, will be charged 20% tax on that 5%. The main exemptions will be for property in self-owned business use by a person on the active taxpayers' list, self-owned and self-cultivated agricultural land, and where the asset is a resident’s sole capital asset. There are serious concerns that this may hit the already stagnating property market and its associated industries such as cement, brick, timber, steel, power, etc. The measure is sub judice.
- Super tax, which was introduced in 2015 as a one-off to assist in the rehabilitation of disaster-affected individuals, has now become a general measure targeting high earners. The 4% super tax on banking companies has simply been extended to every person earning above a certain threshold and seems to have become a permanent part of the tax regime as it has resulted in substantial revenue generation.
- Capital gains on the disposal of immovable property will now be taxed on the entire amount irrespective of holding period, removing the incentive to hold it for a longer time. Similarly, the 25% reduction in capital gains tax on holding capital assets other than shares for more than a year is withdrawn. This is expected to discourage the longer holding of investments in real estate as well as capital assets.
- The Federal Board of Revenue has been given the power to tell resident individuals to register for tax. In the event of non-compliance, it can direct the relevant authorities to disconnect electricity, gas and mobile connections.
Corporate tax
The key changes in the Finance Act 2022 for corporate taxpayers are outlined below, along with their potential impact.
- While the scope of the IT and IT-enabled services sector has been expanded, its tax exemption has been withdrawn and and a fixed and final 0.25% rate of tax imposed. This has reversed the policy of tax breaks and sector promotion for the sector that has persisted for almost a decade and which has now started bearing fruit. Exports for the period from July 2021 to March 2022 grew to almost US$2bn, which is almost 30% higher than the previous year. There are fears that the tax break termination may result in investors steering clear of the sector.
- Companies will now have to make payments digitally from the business bank account that has been notified to the Federal Board of Revenue. While this measure will help document the economy, it will also bring serious challenges for companies as the level of financial inclusion in the country is very low. Business opportunities may have to be passed up as a result.
- Exemption from minimum tax for businesses in the SEZs has been withdrawn. The move is not forecast to bring in much tax revenue or rationalise tax law, but it is expected to discourage investors from investing in the SEZs.
Openness and transparency foster trust and a healthy tax culture
The way forward
Key reforms combined with business stability and the continuation of successful policies are crucial to exploit Pakistan’s untapped opportunities.
The country has a youth bulge that accounts for around 65% of the population, a booming tech sector, highly fertile land and rivers, unexplored stores of natural resources and minerals, a strong industrialised base ready for expansion and growth, the untapped tourism potential of 4,555 peaks above 6,000 metres in height, and a strategic location that will let it act as a trade connector for the region and beyond. In short, the potential for Pakistan is immense.
Openness and transparency foster trust and a healthy tax culture. Tax legislation and operations should be as simple and straightforward as possible for everyone to understand and comply. And tax systems should be efficient so the government can secure the revenue due and to discourage the development of a black economy.
There were missed opportunities for structural and fiscal reforms. ACCA Pakistan’s tax committee submitted a number of Budget proposals to attract investment, reinvigorate the employment market, upskill workers, and support lower income classes. While these proposals were overlooked in the Finance Act 2022, the focus on strengthening and growing the economy is vital, and a robust tax system remains at its heart.
