ISLAMABAD: The advance tax on companies’ accumulated profits proposed by the Reform and Revenue Mobilisation Commission (RRMC) in the coming budget (2023-24) is likely to be challenged in the courts if made part of the Finance Bill 2023.

According to a report of JS Global on the proposal of tax on reserves, with the federal budget (2023-24) to be announced on June 9, all eyes of the corporate sector are on the income tax on companies’ accumulated profits as proposed by the RRMC, which is reportedly under consideration by the government. This comes at a time when the government eyes an ambitious Rs9.2 trillion tax revenue target for 2023-24, a 20 percent plus year-on-year growth from 2022-23 budgeted numbers. Moreover, the government is almost Rs400 billion short of tax revenue collection in the ongoing year already, which, if continued, would further increase the jump required to meet next year’s tax target.

It said that the tax rate proposed for listed companies is 5 percent, and non-listed companies is 7.5 percent. As the proposed tax is recommended as an Advanced Tax, if implemented, the recommended tax on accumulated profits would be adjustable against tax on actual dividend distribution. On the other hand, it is also reported that the FBR has recommended reviving the 10 percent tax on undistributed reserves proposed in federal budget (2017-18), which was later withdrawn over legal challenges.

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To recall, the 10% tax on undistributed reserves was proposed for public companies only, excluding banks, modarabas, IPPs and entities having government shareholding of more than 50%. The government had also applied a threshold of the tax being applicable on companies that do not pay out at least 40% of earnings or 50% of the paid-up capital, within six months of respective tax year end, through cash or bonus shares.

There is a need for clarity whether, if implemented, the tax application would hold any conditionalities pertaining to payout history (a certain level or record of multiple years), current capital structure of a company (especially debt levels); consider only accumulated reserves, etc.

Depending on whether the proposal materializes and its final shape – including prospective or retrospective application –the tax is likely to be challenged by corporates, similar to the 2017-18 proposals.

The report further said that the reason the proposal has gathered additional interest in run up to budget has been pre-emptive action taken by listed companies in recent days. With number of companies announcing intention to increase Authorized Share Capital, it appears capitalization of reserves (via bonus shares) before effective date of tax is a likely route to be taken.

While increasing Authorized Share Capital, a company, amongst other costs, incurs a registration fee, paid to Securities & Exchange Commission of Pakistan (SECP). As the fee quantum suggests, corporates are incurring material costs – reflecting the high probability they are assigning to a proposal transpiring along the lines being proposed, JS Global report added.

The RRMC has proposed an advance tax on the undistributed reserves of both listed and unlisted companies. For other than listed companies, a tax rate of 7.5 percent has been proposed; whereas, for listed companies a tax rate of 5 percent has been proposed. This tax shall be adjustable, for the shareholders, against the tax on actual dividend distribution made by the Company in the future. The concept of advance tax on dividend already exists in the Income Tax Ordinance for CFCs, RRMC proposal added.

Copyright Business Recorder, 2023

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