FBR starts taxing offshore firms

Move expected to dent web of domestic, offshore companies set up by wealthiest

ISLAMABAD:

For the first time, the government has started taxing the income of offshore companies owned by Pakistanis, beginning the journey towards collecting taxes from the wealthiest families that route their local income through foreign channels to avoid paying taxes.

The step, taken last week by the Automatic Exchange of Information (AEOI) Zone of the Federal Board of Revenue (FBR), may eventually cause a crack in the web of domestic and offshore companies that have been created by at least 39 wealthiest Pakistanis to legally avoid taxes, sources told The Express Tribune.

They said that the FBR had passed at least two orders last week to recover Rs287 million in taxes on foreign income that the taxpayers had claimed to be exempted in the income tax returns.

The FBR has now imposed tax at the rate of 15% under Section 109A of the Income Tax Ordinance that deals with the Controlled Foreign Companies, said the sources.

A controlled foreign company is one that is directly or indirectly owned by a resident Pakistani.

The income had been earned in Pakistan and transferred abroad legally by paying 15% dividend tax in the country. However, the FBR decided to amend the law so that the taxpayer was also forced to pay another 15% dividend tax on its foreign income under Section 109A of the law.

Around 387 members of the 39 wealthiest families have disclosed in the Securities and Exchange Commission of Pakistan (SECP) that they have stakes in offshore companies, according to the sources.

A legal amendment had been introduced in 2018 to tax the passive income of offshore companies owned by Pakistani residents in Pakistan.

Before 2018, the income of foreign company was taxable only if the dividend was paid to the person who directly or indirectly owns the firm. Usually, these foreign companies do not pay dividends to the people residing in Pakistan.

Now, the tax is payable on the attributable income before it is paid by the foreign company to the resident persons, according to the tax authorities.

The first two orders by the FBR in case of controlled foreign companies may eventually lead to correcting the wrongdoings committed 30 years ago when former prime minister Nawaz Sharif had enacted the Protection of Economic Reforms Act 1992 in the name of “creating a liberal environment for savings and investments in Pakistan.”

After its enactment, the industrialists and politicians had legalised their illegal money, according to court records and statements of that period.

But the individuals and businesses, with the help of tax consultants and chartered accountants, have structured their transactions in a manner that there is the lowest incidence of tax on their activities.

In this case, the taxpayers paid very low personal income tax, although their companies paid the dividend tax.

Tax authorities believe that a significant portion of dividend that is repatriated every year abroad is actually going back to Pakistanis who have brought in their own money as foreign direct investment.

The foreign exchange regime that is now in practice promotes free movement of funds in and out of Pakistan.

Businessmen have their own reasons for parking their money abroad and treating it like foreign direct investment due to historical blunders like the nationalisation of 1971 and the freezing of foreign currency accounts in 1998.

The State Bank of Pakistan (SBP) data showed that during July-December 2021, about $891 million was repatriated from Pakistan as dividend on foreign investment.

A major chunk $170 million was repatriated to the United Kingdom. During the first half of the fiscal year, Pakistan had received $1 billion in foreign direct investment, according to the SBP.

The FBR has passed the order in case of a foreign holding company of a Pakistani subsidiary company that is registered in the British Virgin Island.

The Pandora Papers, the good work by the International Consortium of Investigative Journalists, further unmasked the layers of secrecy and pointed towards the grave problem - the stashed assets by individuals in offshore territories, known as tax havens.

Under the Companies Act, every substantial shareholder or officer of a company incorporated under the Company Law, who is a citizen of Pakistan including dual citizenship holder whether residing in Pakistan or not having shareholding in a foreign company or body corporate shall report to the company his shareholding or any other interest as may be notified by the Commission.

When contacted, an SECP spokesman said that the beneficial ownership register information is “not public information, thus it cannot be disclosed/shared with media”.

This information can only be shared with the FBR or any other agency, authority and court, it added.

But the sources said that so far about 387 individuals had declared that they had stakes in offshore companies. The FBR had unearthed the tax avoidance scheme while probing the income of amnesty assets in subsequent years, said the sources.

Published in The Express Tribune, February 15^th, 2022.

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