Taxation Management

Prof. Naveed Iqbal Ch.

Objecti ve of Course

Taxation Management | BBA – VI (eve.)

The aim of this course is to develop knowledge and understanding of mechanism of taxation laws enforceable in
Pakistan. On the completion of studies as per this syllabus, the student will be able:

 To compute taxable income and tax liability of various types of tax payers.
 To be familiarized with the procedures of payment of tax, offences, appeal and various types of accounting concepts
used in taxation.
 To be familiarize with calculation of sales tax liability.

COURSE CONTENTS
 Introduction to Taxation (Lecture # 1)
 Definitions (Lecture # 2 – 5)
 Exemptions (Lecture # 6 – 8)
 Income Tax Numerical Rules for Salaried Person (Lecture # 9 – 10)
 Numerical Practice (Lecture # 11 – 12)
 Procedure for Filing of Return (Lecture # 13)
 Practice for Filing of Return (Lecture # 14)
 Income Tax Administration (Lecture # 15 – 16)

Mid Term
 Depreciation (Lecture # 17)
 Capital and Revenue (Lecture # 18)
 Set off and Carry Forward of Losses (Lecture # 19)
 Payment of Tax (Lecture # 20)
 Offences and Punishments (Lecture # 21)
 Appeal Procedures (Lecture # 22)
 Refund of Tax (Lecture # 23)
 Tax Accounting (Lecture # 24)
 Sales Tax (Lecture # 25 – 30)
 Definitions
 Filing of Return
 Registration Procedure
 Sales Tax Numerical Rules
 Numerical Practice
 Revisions (Lecture # 31 – 32)

Final Term

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 Introduction to Taxation
Taxation Management | BBA – VI (eve.)

Tax
It is a compulsory payment which is made by the general public to government or any of its authorized agency (National
Bank of Pakistan), to pay the cost of services rendered by the government for the welfare of general public.

Federal Board of Revenue (FBR)

Regional Commissioner of Income tax
General
public will NBP
pay tax

Developmental Expenditures
Welfare of general public
Prepare Ministry of Finance
Budget
Non-developmental Expenditures

F IGURE 1.1: T AX C YCLE

Business Taxati on
A system of taxes that will deal with business sector is called business taxation.

Excise Duty
It is the tax which is imposed to discourage the sale of specific goods.

Custom Duty
The tax which is imposed on imports is known as custom duty.

Income Tax
F IGURE 1.2: C LASSIFICATION OF T AX It is a direct type of tax which will be paid by those persons whose annual
income will increase the set limit i.e. for male 180,000 and for females 240,000.

Sales Tax
It is an indirect type of tax which will be paid by the businessman on his monthly business transactions.

Income Tax
Rules of Income Tax, also known as the Income Tax Law is described in Income Tax Ordinance 2001 (ITO-2001). It was
formulated on September 31, 2001 and was implemented at all over Pakistan on July 1, 2002 for the working of Income
Tax. ITO-2001 has 13 chapters for rules of Income Tax and 6 schedules for the working of the Income Tax.

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 Definitions

Taxation Management | BBA – VI (eve.)

Section (2) of the ITO-2001 includes definitions and explanation of 74 items with reference to the Income Tax Law. Some
of these definitions and their explanation are given below.

1. Accumulated Profi t Sec ti o n 2 (1 )

The accumulated profit means:

 The profit which is retained by a business enterprise for future use.

 Any reserve maintained by a business out of its profits.
 All profits of the company including income of a trust up to the date these are distributed.
 These profits are kept in whatever shape, whatever capitalized or not, will be treated as accumulated profits up
till distribution to shareholders.

Profit of Current Year

FI
GU
Less: Tax 35% RE
2.1
:
Profit after Tax AC
CU
MU
LA
Retained by Paid to TE
Business Shareholders D
PR
Accumulated Dividend OFI
T
Profit

Reserves Income of
S.H

Money
Worth

Capitalized

Explanati on
The amount of profit retained by company is known as accumulated profits. Any business profit has two treatments,
it may be distributed among the shareholders or it may retain in business for future uses. The part of profit which is
distributed among the shareholders is called as dividend. And that amount of profit which will retain in business, it
may become a part of capital or it may convert into the money worth (shares, debentures, securities) or it may be
kept in shape of reserve for future uses. So income tax point of view any part of profit which is retained by the
business will be known as accumulated profit.

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 2. Appellate Tribunal Sec ti o n 2 (2 )
The word Appellate is derived from Appeal, which means an application against someone to get relief. Whereas
Tribunal is a Latin word which means Board or Bench (a group of people who will decide and appeal). So Appellate
Taxation Management | BBA – VI (eve.)

Tribunal is a judicial authority of tax, which is responsible to hear and decide an appeal regarding the tax disputes
between tax payer and tax department. But according to the ITO-2001
“Appellate Tribunal means the appellate tribunal established under Administrative Authority
section 130 of Income Tax Ordinance - 2001”.
The authority which is responsible to
Explanati on make the rules for recovery of tax
In case of any dispute between the tax payer and the tax department, (head of tax administration is FBR.)
an appeal can be made to the Appellate Tribunal. Appellate Tribunal is
a final fact finding authority regarding tax matters. It consists of a chairperson, registrar, assistant registrar and such
members of judicial and accountant members as required hearing an appeal. Federal government will select equal
number of members from both sides who will hear and decide the dispute on majority bases. The decision of the
tribunal on point of facts is final, however, in case if dispute will involve any other law of the country (civil or
criminal) then Appellate Tribunal will refer/transfer the appeal to High Court.

Appellate Tribunal

Chairman/Chairper
son
Members Registrar
(ISD)
Accounta Judicial Assista Assista Assistan
nt nt nt t

F IGURE 2.2: S TRUCTURE OF A PPELLATE T RIBUNAL

3. Approved Gratuity Fund Sec ti o n 2 (3 )

Gratuity Fund is a fund which is maintained by the employer for the future welfare of employees, whereas Approved
G.F means the Gratuity Fund which has been approved by Commissioner of Income Tax (CIT) under schedule 6 part
III of the ITO-2001.

Explanati on
The government and the private organizations maintain the Gratuity
Funds for the benefits of their employees. Amount of fund is continuously
contributed by employee as well as employer. This amount is normally
paid to the employees at the time of retirement. In case of death of an
employee the amount will be paid to his family. This amount is paid in
lump sum form and is totally exempted from tax if approved.

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Approved means, approved by Commissioner of Income Tax in accordance with 6 th schedule part III. Approval of
Gratuity Fund is demanded to avail certain benefits attached with approval as amount contributed by the employer

Taxation Management | BBA – VI (eve.)

is treated as expenditure resulting in a decrease in tax payable.

4. Approved Superannuati on Fund Sec ti o n 2 (4 )

It means the Superannuation Fund or any its part which has been or continues to be approved by the Commissioner
of Income Tax under part 2 of 6th schedule of ITO-2001.

Explanati on
This fund is maintained by the organization to provide benefits to their
employees after retirement. The amount in this fund is continuously
contributed by employer. These amounts are paid to the employees as
annuities or pensions after their retirement or if they become invalid
before retirement or to their families in case of death. The present
government has adopted a reasonable and liberal policy for the pension
of widow and orphans of deceased employees (widow till her death,
younger daughter up till her marriage or up to 22 years of age, younger F IGURE 2.4: S UPERANNUATION
F UND
son up to the age of 22). This amount is also paid out of the
superannuation funds.

Under the ITO-2001 the Commissioner of Income Tax approves such funds in which case the amount contributed by
an employer is treated as business expenditure resulting in a decrease in the tax payable.

5. Assessment Sec ti o n 2 (5 )
According to ITO-2001, assessment means, to calculate the Taxable Income, Tax Payable or the Tax Refund of a tax
payer for a particular tax year. It includes re-assessment and additional assessment also.

Explanati on
Assessment is a process where data regarding Income, Expense, and Tax Payment etc. of a person – which helps to
calculate his final Tax Liability – is checked by the person himself or by the tax department. Lets us understand
Assessment with the help of an example:

Mr. A is getting Rs. 20,000 salary per month and the tax deducted from his salary during the year is Rs. 25,000.
Calculate his Annual Income and tell whether tax is payable or refunded to Mr. A.

As we can see that:

Salary (per month): Rs.20, 000

Tax Deducted during the year Rs. 25, 000

So Annual Income: Rs. 20, 000 × 12 = Rs. 240, 000

As we can see that his Annual Income is Taxable Income, so the amount of tax on his annual income is:

Tax: 240, 000 × 0.25% = 600

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 Hence the amount (25, 000 – 600 = 24, 400) is to be refunded to Mr. A.

6. Tax Year Secti on 2(68)

Taxation Management | BBA – VI (eve.)

It is a period of 12 months which starts from July 01 and ends on June 30.

Explanati on
Tax year is a period of time, in which a person earns the income which is to be taxed in the same year. The ITO
recognizes the following different types of tax years.

 Normal Tax Year

 Special Tax Year
 Transitional Tax Year

Normal Tax Year

Normal tax year is a period of twelve months ending on 30 th day of June. For example: July 01, 2005 To June 30,
2006.

Special Tax Year

Special tax year is a period of twelve months, which is different from normal tax year. A person is allowed to have
special tax year in the following cases.

 Where a person had an income year under the ITO – 1979 different from the normal tax year.
 Where the commissioner of income tax has allowed a person to use special year

For example: Jan 01, 2007 To Dec 31, 2007. There are some examples of special tax years declared by the CBR for
some persons.
T ABLE 3.1: S PECIAL T AX Y EARS
Classes of Taxpayers Starting Date Ending Date
All persons exporting rice 1st January 31st December
Insurance Companies 1st January 31st December
All persons carrying on business of manufacturing and dealing in “shawls” 1st April 31st March
st
All persons carrying on business of rice husking 1 September 31st August
All persons carrying on business of oil milling 1st September 31st August
Companies manufacturing sugar 1st October 30th September

Change in Tax Year Sec ti o n 7 4 (3 - 1 1 )

The ITO – 2001 allows person to change his tax year i.e. from normal tax year to special tax year of vice versa. The
provision of the ordinance in this respect is summarized below:

 In order to change the tax year the taxpayer has to apply to the CIT for his permission.
 The change is allowed by CIT only if the tax payer has shown a compelling need to change the tax year.
 Before deciding the case, the CIT shall provide the applicant an opportunity of being heard. Where the
application is rejected, the decision shall be communicated to the taxpayer along with the reasons for
rejection.
 The CIT may withdraw his permission. But before such withdrawal, he shall have to provide to the
concerned person an opportunity of being heard.

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  Any person who is dissatisfied with the order of CIT may file a review application to central board of
revenue: CBR’s decision on the application shall be final.

Taxation Management | BBA – VI (eve.)

Transiti onal Tax Year
Where a person changes his tax year from normal tax year to a special tax year or vice versa, then he is allowed to
use the period between the end of the last tax year prior to the change and the date on which the changed tax year
commences as a tax year. This period is termed as “transitional tax year”. For example:

Normal Tax Year July 01, 2005 to June 30, 2006.

Special Tax Year Jan 01, 2007 to Dec 31, 2007.

Transitional Tax Year June 30, 2006 to Dec 31, 2006.

Salaried Person Variable tax rate (0.25 to 20

Individuals %)
Non Salaried Variable but Greater than
salaried
Types of taxpayer Association of “KARTA” joint tax liability, rate same as non
Persons salaried

Company Fixed tax rate i.e.

35%

F IGURE 3.1: T YPES OF T AX P AYERS

7. Associati on of Persons Sec ti o n 2 (6 )

The term Association of Persons (A.O.P) includes following:

 A firm
 Hindu undivided family (Head of family KARTA)
 Any artificial/judicial person (audit firm, legal consultancy firm)
 Any body (organization) or persons formed under a foreign law

However it does not includes a company.

8. Banking Company Sec ti o n 2 (7 )

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 Banking company has the same meaning as in banking companies’ ordinance 1962 (LVII of 1962) and includes
anybody corporate formed by or under any law for the time begin in force which transaction the business of banking
in Pakistan.
Taxation Management | BBA – VI (eve.)

S.B.P Earning Assets

The assets on which bank will
20%
earn interest e.g. loans,
20% in Cash Reserve advances, investment
Ratio
Non Earning Asset
Debtors Bank Loans The assets which will support
the operations of bank e.g.
F IGURE 3.2: W ORKING OF B ANK building computer, vehicles.

9.
Business Sec ti o n 2 (9 )
Business is an activity undertaken with a motive to earn profits. According to ITO – 2001 business include any:

a) Trade
b) Commerce
c) Manufacturer
d) Profession
e) Vocation
f) Adventure in the Nature of Trade
g) Concern in the Nature of Trade

Explanati on

a) Trade
It means buying goods and selling them to make Profit.

b) Commerce
Commerce is a broad term and it includes not only buying and selling, but also the services which are helpful in
trade, such as marketing, transportation, banking, insurance, warehouses, etc.

c) Manufacturing
It means to work upon something by hand or by machine in order to turn it into something different from what it
was before.

d) Profession
It means the occupation that requires intellectual skills to earn income e.g. doctors, teachers, accountants.

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 e) Vocati on
It means the ability of a person to do some particular work generally by the application of manual or God gifted

Taxation Management | BBA – VI (eve.)

skills, e.g. singers, dancers, brokers, carpenters, players, etc.

f) Adventure in the Nature of Trade

A person whose profession is not a business but his transactions contains the elements of trade. A transaction can
be termed as an adventure in the nature of trade, commerce or manufacturing if some elements of trade of
business are present there in, it is not necessary for all the elements to be present.

g) Concern in the Nature of Trade

Any enterprise whose sole objective is to earn profit. A concern in the nature of trade, commerce or manufacturing
also falls within the definition of business. A concern in the nature of trade implies that it has an adequate degree of
business organization for the purpose of carrying on an undertaking. The size of organization necessarily depends
upon the character of the concern itself.

1 0. Capital Asset Sec ti o n 2 (10 ) & 3 7 (5 )

According to section 2(10): Capital assets means a capital asset as defined in section 37.

According to section 37: Capital asset means property of any kind held by a person. It is immaterial whether this
property is concerned with his business or not. However the following are excluded from the definition.

 Stock in trade
o Consumable store
o Raw-material
o Spare parts
 Any depreciable asset
 Any intangible asset on which amortization is allowed under section 24
 Any immovable property
 Any movable property (including wearing apparel, jewelry or furniture) held for personal use by the person
or any member of the person’s family dependent on the person.

Gain on sale of Capital

Certificates Capital Gain Assets, exempt from tax
Capital Shares Income
Assets Part of profit paid to
Units Dividend shareholders, taxable
10%
F IGURE 3.3: C APITAL A SSETS

Explanati on
Essential elements of the definition:

 The person must hold property

 Property held on behalf of someone else e.g. as a trustee, executor, liquidator, lessee, receiver, assignee,
administrator, co-owner.
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 Examples of capital assets:

 Modaraba certificates
 Participation terms certificates
Taxation Management | BBA – VI (eve.)

 Term finance certificates

 PTC vouchers etc.

Who will
provide capital
Profit will be distributed
Modarab
according to agreed ratio
Modarba while burden of loss will
Who will use be only on Modarab.
Aamal
capital to
perform
business
operations

Assets F IGURE 4.1: M ODARBA C OMPANIES not to be

treated
as capital assets:

 Stock in Trade
o Consumable store e.g. spare parts
o Raw-material e.g. flour in case of bakery, rice in case of
glucose manufacturing. Certificates
 Depreciable assets The right of investment which is
Any asset on which depreciation is chargeable under ITO will used by the Islamic Companies. not
be included in definition of capital asset. Under section 24
eligible depreciable assets means a depreciable asset that is Shares
plant or machinery, vehicle, furniture etc.
The right of investment by the
 Immovable property
ordinary companies.
All type of immovable property like land, building etc. will not be
included in the definition of capital assets.
Units
 Personal effects
Personal effects such as wearing apparel, jewelry, furniture The rights of investment which are
and other movable property will not be included in capital offered by investment trust e.g. NIT.
asset if, the person himself is using it or any member of his
family dependent on him is using.

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1 1. Company Sec ti o n 2 (12 ) & 8 0
According to ITO – 2001 company means:

Taxation Management | BBA – VI (eve.)

 A company as defined in the companies’ ordinance 1984.
 A body corporate formed by (Pak India Companies’ Act 1913) or under any law for the time being in force in
Pakistan (Companies’ Ordinance 1984 revised).
 A Modarba (Islamic Concept Company)
 A company incorporated outside Pakistan e.g. Nestle, PEPSI, Honda (35% Tax)
 A trust, a corporation society or a finance society or any other society established under law e.g. NIT
 A foreign association declared or incorporated as company by CBR e.g. Fargosen
 A provincial government in Pakistan (four provincial governments are companies of tax from other taxpayers)
 A local authority in Pakistan e.g. WASA, WAPDA, Pakistan Railways, PIA
 A single member company as defined by SMC rules 2003
 A small company as defined in section 2(59A)

Explanation
In our country, there are three popular forms of business organizations: sole proprietorship, partnership and
company. The company is created by law and so has a distinct legal entity. For the purpose of tax, a company is to
be treated a separate business entity apart from its shareholders. The assets possessed or liabilities owned by
company are its own, and legally the shareholders are not responsible for any liabilities. Company pays the tax in
fulfillment of its own liability and not on behalf of its shareholders or as their agent.

Note
Any foreign association, even if it is not corporate can be declared as company by CBR and will be taxed as such. A
foreign association can neither object to such an order nor it can claim as a right that it should be declared a
company. It is on the sole judgment of CBR whether or not to declare a foreign association as a company.

12. Depreciable Asset S ecti on 2(17)

Depreciable asset means a depreciable asset as defined in section 22 of ITO – 2001.

Explanation
In this section depreciable asset implies any tangible movable property, immovable property, (other than
unimproved land), or structural improvement to immovable property, owned by a person that:

 Has a normal useful life exceeding one year.

 Is likely to loose value as a result of normal wear and tear, or obsolescence;
Audit is compulsory in order to
and
 Is used by wholly or partly by the person for deriving income from business control the manipulation of
chargeable to tax. accounts i.e. to inflate profit (to
attract investors) and to deflate
P & L a/c Test of Vouchin To check every transaction against
profit (to save tax).
Audit g its documentary evidences
Proof of Cash Voucher
Transaction
Proof of Credit Invoice
Transaction
11 Balance Test of Verificatio Physical examination of assets
Sheet Audit n and liabilities
Having no Documentary
Evidences:-
Depreciation
 Miscellaneous Expense
Gain or loss on sale of old fixed asset

Taxation Management | BBA – VI (eve.)

13. Small Company S ecti on 2(59A)

Purpose of the small company is to give an incentive of tax to the small illegal corporations for the registration of
their business. Under income tax law “small company” means a company which fulfills the following conditions:

 It is registered on or after 1st July 2005 under the company ordinance 1984.
 Paid up capital plus undistributed reserves (owner’s equity) should not exceed twenty five million rupees.
 Annual turnover should not exceed two hundred million rupees; and
 The company is not formed by reconstituting (change of legal documents) splitting up an already existing
business.

14. Dividend S ecti on 2(19)

The amount distributed to shareholders or Modarba certificate holders out of the profit is known as dividend.

Dividend under ITO – 2001

The following distributions by a company to its shareholders or Modarba certificate holders are treated dividend under
the ITO – 2001.

 Any distribution by the company of accumulated profit to its shareholders.

 Any distribution by the company to its shareholders of debentures, stocks or deposit certificates in any form
whether with profit or without profit to the same extent as the company posses the accumulated profit whether
capitalized or not.
 Any distribution of surplus of profit to the shareholders at the time of liquidation.

Dividend doesn’t include the following

 Any distribution made at the time of liquidation to a shareholder who is not entitled to participate in the
surplus assets at the time of liquidation.
 Any advance or loan made by a company to its shareholders or Modarba certificate holder in the ordinary
course of business, where the lending of money is of the business of company.
 Any dividend paid by company which is set off against the whole or any part of the sum. Previously paid and
treated as dividend.

Explanation
When a person invests his funds in shares of a company he is known as shareholder. If a company earns any profit, it
has to pay tax there on, this tax is not deemed to be paid by the shareholders. The remaining profit may either be
retained by a company or distributed among the shareholders of Modarba certificate holder. The amount of profit
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retained by the company is known as Accumulated Profit. So the amount distributed to shareholders or Modarba
certificate holders out of accumulated profits of a company is known as “dividend”. Tax @ 10% is paid on dividend.

Taxation Management | BBA – VI (eve.)

Note: It is not necessary that the dividend must be distributed in cash; it may be paid in any money worth’s also.

Dividend

Distribute
d

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