LAHORE: Avoidance of double taxation treaties between Pakistan and foreign countries has a permanent bone of contention between the taxation officers and foreign companies as well as their agents in the country, said sources.

The taxation officers waste no time in issuing notices wherever they find a taxpayer has failed to deduct withholding tax at the time of making payments to their foreign counterparts, they added.

Similarly, the department does not entertain the applications by the taxpayers seeking exemption from deduction of withholding tax in respect of the consultancy fee paid by it to foreign companies.

According to the sources, the taxation officers pursue foreign companies and their agents on the plea that the foreign enterprises carry on their businesses in Pakistan through a permanent establishment in the country. Therefore, they are not allowed sending profits earned by them in Pakistan without deducting withholding tax.

The foreign entities, on the other hand, contest their case on the stance that they are exempted from tax, therefore, they are under no obligation to withhold tax on royalties because of the avoidance of double taxation treaty and having no permanent establishment in Pakistan. A self-seeking interpretation of the treaty on the two sides leads to legal controversies, ending up on the adjudication at the higher appellate forums every now and then.

In most of the cases, said sources, it becomes a Herculean task for the taxation officers to prove the fact of permanent establishment of a foreign enterprise but still they remain adamant to press upon their stance until the highest appellate forum decided the matter against the department.

However, in some other cases, sources added, the foreign companies mix up payments against consultancy services with the profits earned by them in Pakistan and take a refuge under the avoidance of double taxation treaty. They take cover of the Article 7 of the treaty which deals with the business and provided that the business profits earned by an entity of a contracting state shall be taxable in the state to which the company belongs unless the enterprise carries on business in other contracting state through a permanent establishment situated therein.

However, their reliance on the said Article of the treaty fails to hold ground when they admit before the adjudication forum that the tax being demanded from them is in respect of the consultancy services and not on any business profits. Article 12.2 of the treaty provided that fee for consultancy service is to be taxed in the contracting state in which they arise and in accordance with the laws of that state.

It may be noted that Pakistan tax law, in order to attract capital and encourage investment for the development of Pakistan’s economy and natural resources, offers an incentive for establishment of approved new enterprises. Pakistan accords certain tax exemptions as to profits of such enterprises and also as to dividends paid out of such profits. More specifically, under the income tax law of Pakistan a business qualifying as a new enterprise may obtain tax exemption for 5 year period on profits up to 5 percent of invested capital, and dividends paid from such profits may be tax exempt.

Copyright Business Recorder, 2023