Changes in group taxation rules to increase burden on corporate sector

PBC says amendments will have adverse effect on economy, result in more taxes

KARACHI: Latest changes in group taxation rules are detrimental for the corporate sector, according to the Pakistan Business Council (PBC), a policy advocacy forum representing 48 private-sector businesses.

In his letter to Finance Minister Ishaq Dar on July 13, PBC CEO Ehsan A Malik said amendments to the Income Tax Ordinance 2001 introduced through the Finance Act 2016 “threaten to remove Pakistan from clear leadership in the emerging markets in the taxation of groups.”



Group taxation rules deal with taxing parent companies and their subsidiaries. These laws should ideally lead to more streamlined group ownership structures, less fragmentation and a transparent corporate sector.

The latest Finance Act abolished the exemption for inter-corporate dividends in a group structure for entities designated under group relief. “This will result in the incidence of double (at times, triple) taxation on inter-corporate dividends,” Malik said.

Triple taxation means companies will initially have to pay tax on their profits. When inter-corporate dividends are distributed, these are taxed again in the hands of the receiving company. They are further taxed on the distribution to shareholders of the parent company.

The Finance Act has also introduced a restriction under group relief in which the surrender of losses will be restricted. Under the changed rules, it will be limited to the percentage shareholding of the holding company in the entity surrendering the losses.

One of the major conditions for the surrender of losses under group relief is the maintenance of substantial interest or control by the holding company in the subsidiary company.



“It is an internationally accepted principle that with control, an entity assumes the right to govern all the assets and liabilities of another entity in their entirety, including losses. Imposing a limitation on the right of the holding company to utilise such losses (based on the holding percentage) is not only economically unjust, but also against the concept of group taxation,” according to the PBC letter.

The concept of group taxation was introduced in Pakistan in 2007 on the recommendation of a task force that had representatives from the PBC. As a result, a number of Pakistani groups now have the potential to raise capital abroad, Malik said, noting the example of Engro Corporation.

The company has grown its asset base four times from Rs49 billion to Rs196 billion in just eight years while its contribution to the national exchequer rose seven times to Rs41 billion.

The group taxation and relief reform enabled the creation of several group companies, resulting in their ability to raise capital on different balance sheets, strike sector-specific partnerships with foreign investors (Engro Foods-Royal FrieslandCampina), and de-risking of the banking sector through exposure to various sectors as opposed to one large entity.



“We would strongly urge you to reconsider the amendments to the group relief enacted through the Finance Act 2016, as it will have an adverse effect on the country’s economy,” the PBC CEO said, adding it would result in more taxes on an already tax-compliant sector.

“It encourages fragmentation rather than consolidation… it is riskier for the banking sector, as it would have to take a view on one large entity versus ring-fencing its risk through individual business subsidiaries,” he added.

Published in The Express Tribune, July 20^th, 2016.

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