Taxing company reserves could bring Rs338b: RRMC

FBR reluctant, suggests reviving 10% tax on undistributed reserves

ISLAMABAD:

The government is considering two proposals to tax company reserves in the next budget. However, there is a dispute over the exact value of the proposed measures, ranging from Rs1.3 trillion to just Rs100 billion.

The Reform and Revenue Mobilisation Commission (RRMC) recommends imposing an income tax of 5% to 7.5% on the accumulated profits (distributable reserves) of listed and non-listed companies. This single step could generate Rs338 billion in taxes in one year. However, the Federal Board of Revenue (FBR) is reluctant to accept this proposal and suggests reviving the old 10% tax on undistributed reserves, which was withdrawn due to court challenges.

Another difference between the FBR and the Ashfaq Tola-led Commission is the lack of credible data provided by the Pakistan Revenue Automation Private Limited (PRAL), an arm of the FBR. This has handicapped the Commission’s work in independently determining the revenue impact of the proposed taxation measures.

Sources in PRAL and FBR have stated that the face value of the RRMC proposals was roughly Rs1.3 trillion. But according to one senior official of the FBR, the impact might be as low as Rs100 billion in case of court challenges or exclusion in the categories of taxes.

While the FBR claims the impact might be as low as Rs100 billion, this figure seems highly unrealistic. Data provided by the FBR to the Commission suggests that just three proposals alone could have a revenue impact of over Rs700 billion.

The Commission has proposed imposing income tax at the rate of 5% in case of listed companies, and 7.5% in the case of non-listed companies be collected on distributable reserves of such companies. The RRMC proposes taxing reserves as an advance tax on dividends to be paid by companies to shareholders in the future. This tax would be adjustable against the tax on actual dividend distribution. The concept of advance tax on dividends already exists in the Ordinance in case of Controlled Foreign Companies.

The Tola Commission estimates an annual revenue impact of Rs338 billion on a total value of Rs5.44 trillion of company reserves. The report also highlights an estimated additional revenue of Rs141 billion from listed companies that have not paid dividends in the past three years, with Rs2.8 trillion in reserves. Similarly, non-listed companies’ reserves are valued at Rs2.6 trillion, and the FBR could potentially generate an additional annual revenue of Rs197 billion at a rate of 7.5%.

However, FBR officials express scepticism about the success of this measure and suggest reviving the old section 5A with modifications. Under section 5A, the last Pakistan Muslim League-Nawaz (PML-N) government imposed a 10% tax on undistributed reserves of all public companies.

The RRMC also proposes increasing tax rates on dividends for companies under the final tax regime. Currently, a 25% tax rate is levied on dividends when the company paying the dividend has not paid any tax for any reason. The rationale behind the higher tax rate is to recover the tax benefit available to the company, to some extent, from its shareholders. The Commission recommends a higher tax rate on dividends if the company is paying tax under the final tax regime for exporting goods and services. It also suggests taxing associations of persons and individuals earning from exporting goods at a rate of 8% instead of 1%.

However, FBR officials consider this proposal politically incorrect in the current charged atmosphere. The President of the Federation of Chambers of Commerce and Industry (FPCCI), Irfan Iqbal Sheikh, told the Express Tribune that the finance minister has assured him that the taxation burden on exporters will not increase.

The Commission also proposes taxing foreign exchange income of exporters to encourage timely repatriation of export proceeds to Pakistan. This tax targets exporters who hold back foreign exchange in anticipation of rupee devaluation against other international currencies, thereby earning a gain on their foreign exchange. The Ministry of Finance estimates that exports have made extra profits of Rs1.5 trillion in the past three years due to currency devaluation.

The Commission recommends shifting the final tax regime for exporters to a Minimum Tax Regime (MTR) scheme to promote documentation.

Furthermore, the RRMC suggests increasing the tax burden on wholesalers, distributors, and retailers by imposing a 1% income tax on the gross value of supplies, whether based on imports or local manufacturing. This proposal has the potential to generate at least Rs400 billion in annual revenue.

The Commission proposes that the advance income tax on these businesses should be applicable to the sale of any type of goods by manufacturers and commercial importers at a rate of 1%. This would be the minimum tax for the buyer if they are active for both income tax and sales tax. Otherwise, the rate would be 4%.

Published in The Express Tribune, May 20^th, 2023.

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