Income From BusinessHeads of Income

105

Business [S-2(10)]:Includes;• Trade• Commerce• Manufacture• Profession• VocationOR adventure/concern in nature of aboveBut does not include EMPLOYMENT

Income from Business [S-18]:Following incomes shall be chargeable to tax under head "Income from Business"• Profits & gains• Income derived by trade/profession/similar association• Income from hire/lease• FMV of any benefit* OR perquisite

• Management FeeProfit on debt :

Lease rentals from lease of any asset shall be "Income from business" if"Profit on debt" earned by& distributed tothis distributed share shall be "Income from Business" and not "Income from Other Sources" for

Of any business carried on by personfrom sale of goods OR provision of services to membersof tangible movable propertyfrom any past, present or perspective business relationship• benefit includes debt or profit on debt waived off under SBP(Banking Policy Deptt.) circular 29 of 2002derived by a management company including Modaraba Management CompanyIf person's business is to derive such incomethen it's "Income from business" otherwise it's "Income from Other Sources”Lessor is scheduled bank, investment bank, DFI, Modaraba, Leasing Co.,Mutual fund OR Pvt Equity & venture capital fundBanking Co. or NBFC

Income From BusinessHeads of Income

106

5 Important Questions:1. Permanent Establishment2. Geographical Source of Income3. Taxation of PENR4. Thin Capitalization5. Basis of TaxationDeciding a Business Income case

Permanent Establishment [S-2(41)]Heads of Income

107

Includesmeans a fixed place of business through which the business of the person is wholly or partly carried on

Not a PE

Purchase Contract

Activities continued for more than 90 days in past 12 months

Dependent Agent Independent Agent

Place of management, branch, office, factory, workshop, premises for soliciting orders, warehouse, permanent sales exhibition or sales outlet, other than Liaison Office

mine, oil or gas well, quarry or any other place of extraction of natural resources

an agricultural, pastoral or forestry property

Construction/ Installation ProjectFurnishing Services through employees

Agent in PakistanSubstantial equipment installed to generate income

PE

Sales Contract

Liaison Office

Negotiates Contracts?No

Yes Dependent Agent:has and habitually exercises an authority to conclude contracts on behalf of the other personhas no such authority, but habitually maintains a stock-in-trade or other merchandise from which the agent regularly delivers goods or merchandise on behalf of the other person;

Business

Geographical Source of Income[S-101(2),(3),(4),(5),(13A),(14)]Heads of Income

108

Business

Business Income

Insurance/Reinsurance Premium

PENRBusiness Income is attributable to

PSI

Business carried on in Pakistan

Non ResidentResidentResident Insurance Company

Remuneration is paid byResident OR PENR

Professional ServicesServices of EntertainersSports Person

Independent services including:Business connection in Pakistan

Other activities similar to those provided through PE of Non Resident

Sale of Goods similar to those sold by PE of Non ResidentGain on disposal of any asset used to derive above Pakistan Source Income

Overseas Insurance Co.

Taxation of PENR [S-105]Heads of Income

109

Business1. Profits of PENR shall be determined separately from Non-Resident as independent and distinct entity2. Expenses incurred by PENR for the purpose of business shall be allowed as deduction, whether incurred in Pakistan or elsewhere3. Head Office expenses upto a maximum of [HO Expenses x Turnover of PENR / Worldwide Turnover]

Not Allowed (O)Allowed (P) Oi) Royalty OR Fees for use of tangible OR intangible asset by PENRii) Compensation for services performed for PENR (including management services)Amounts paid/payable by PENR to its Head Office or to another PE:

iii) Profit on Debt on money lent to PENR (except in case of Banking Business)P

OO

Above expenses actually paid by Head Office or by another PE and reimbursed by PENRAmounts charged by PENR to its Head Office or to another PE:

Oi) Royalty OR Fees for use of tangible OR intangible asset by PENR

Insurance Premium on above Profit on debt paid by NR

iii) Profit on Debt on money lent to PENR (except in case of Banking Business)P

O

OAbove expenses actually paid by PENR and reimbursed by Head Office or by another PE

Head Office Expenses:Means; executive or general administrative expense incurred by NR for business operations in Pakistan of PENRIncludes:• Rent, rates taxes except foreign income tax• Repair• Insurance premium for risk of damage outside Pakistan• Salary to Head Office employee• Travelling expense of employee• Any other prescribed expenseProfit on Debt paid by NR to finance operations of PENR O

ii) Compensation for services performed for PENR (including management services) O

Thin Capitalization [S-106]Heads of Income

110

Business

Foreign Company/Foreign Controller (FC) Foreign Controlled Resident Company (FCRC)(50% or more ownership held by FC, individually OR through associates)

Other than;- Financial Institution- Banking Company- Branch of FCForeign EquityForeign DebtAssociate Profit on Debt

Dividend Not an expenseIs an expense

Foreign Equity Foreign Debt

Foreign DebtForeign Debt Profit on Debt Allowed as expense

Foreign Debt Profit on Debt Not Allowed as expense

Profit on Foreign Debt, which exceeds 3 times of Foreign Equity at any time during TY will not be allowed as expense

Foreign Debt:Greatest amount at any time in TY of following;(i) Debt payable to FC OR Associate of FC: (Profit on debt is deductible expense for FCRC & POD is not taxable in hands of FC OR is taxable @ lower than corporate rate of tax applicable on FC)

(ii) Debt payable to any other person who owes similar debt to FC OR Associate of FC

Foreign Equity:Sum of following at beginning of TY;(i) Paid up Capital owned by FC OR Associate of FC(ii) Proportionate share premium account balance(iii) Proportionate accumulated profit balance(iv) Proportionate Asset Revaluation Reserve

(i) Debt owed by FCRC to FC OR Associate of FC(ii) Proportionate accumulated losses balance

Basis of TaxationHeads of Income

111

Business

When payable by personWhen due to person

Stock in trade [S-35]

Method of Accounting [S-32]1. The method of accounting should be regularly employed2. Company must employ accrual basis of accounting.3. Other persons may apply cash basis of accounting OR accrual basis of accounting4. FBR can prescribe a class of persons to follow cash or accrual basis of accounting5. Change in method of accounting:a. Application to Commissioner in writingb. Satisfy commissioner that the change in method of accounting is necessary to clearly reflect taxable incomec. Commissioner, if satisfied may approve, by an order in writing, that the method of accounting be changed6. While applying change in method of accounting, it must be ensured that no item of income or expense is omitted or accounted for more than once.

Accrual Basis of Accounting [S-34]Cash Basis of Accounting [S-33]

When paidIncur expenseWhen receivedDerive income

Un-paid Liability:• if deduction allowed in a tax year for an expense which is neither paid in same tax year nor paid in 3 subsequent tax yearsthen it will be included in taxable income in 4th subsequent tax year• if amount included in taxable income as stated above is paid in any later yearthen it will be allowed as deduction in tax year in which it is paid

(amount is payable by person when- all events determining liability have occurred- amount of liability can be ascertained with reasonable accuracy)

(amount is due to person when he is entitled to receive it)

Opening Stock

Closing Stock

Starting/1st period FMV when stock ventured in businessSubsequent Period

NRVCost

Lesser ofAny of Marginal OR Absorption CostingAbsorption Costing

Cash AccountingAccrual Accounting

Deciding Business Income CaseHeads of Income

112

Business

1. Speculation Business2. Deductions Allowed3. Deductions not allowed4. Assets5. Acquisition & Cost6. Depreciation7. Initial Allowance8. First Year Allowance9. Accelerated Tax Depreciation to Alternate Energy Projects10. Disposal & Consideration11. Depreciation on asset partly used in business12. Leasing Business13. Intangibles14. Pre-commencement Expenditure15. Scientific Research Expenditure16. Bad Debts17. Employee Training & Facilities18. Profit on Debt, Financial Cost and Lease Payments

Deciding Business Income CaseHeads of Income

113

Business1. Speculation Business [S-19]:Means:business in which, contract for purchase or sale of commodity is settled, otherwise than by actual delivery of commoditydoes not include following contracts to guard against future price fluctuationsi. contract in respect of materials to fulfill another contract of actual delivery of goodsii. contract in respect of shares & stocks entered into by dealer or investoriii. contract entered into by member of stock exchange or forward market to guard against jobbing or arbitrage transaction in ordinary course of businessTaxation of Speculation business:i. It shall be treated as a separate business from any other business under head "Income from Business“ii. Principles of apportionment of deductions under section 67 shall apply as if it is a separate head of incomeiii. Loss from Speculation Business shall be treated under section 58

Deciding Business Income CaseHeads of Income

114

Business2. Deductions Allowed [S-20]:i. Any expenditure incurred wholly and exclusively for purpose of businessii. Depreciation of tangible assets, amortization of intangible assets & pre-commencement expendituresiii. Legal & financial advisory services & administrative cost incurred by amalgamated company for it's amalgamationiv. Animal used for business & profession becomes permanently disable or is dead then following deduction shall be allowed:

(Above is not applicable in case of animals which are stock-in-trade)

Actula Cost XLess:Amount realized from animal carcass (X)

X

Deciding Business Income CaseHeads of Income

115

Business3. Deductions not Allowed [S-21]:i. Cess, rate, tax on profits of business whether payable in Pakistan or outside Pakistanii. Tax deducted at source from amounts receivediii. All such payments shall not be allowed as deduction, if applicable tax at source, is not deducted while making paymentExcept: in case of purchase of Raw Material & Finished Goods, the disallowed expense shall be limited to 20% of total purchasesiv. Entertainment expenses exceeding prescribed limits. Rule-10 specifies the prescribed limits as follows:Expense has been incurreda. wholly & exclusively for businessb. outside Pakistan for business transaction OR allocated as Head Office Expensesc. inside Pakistan, for foreign customers & suppliersd. at business premises for customers & clientse. on meetings of shareholders, directors, agents or employeesf. on opening of a new branchg. on entertainment of persons related directly to business

Entertainment meansmeals, refreshment, reasonable leisure facility in accordance with traditions of business & subject to overall norms of business

Deciding Business Income CaseHeads of Income

116

Business3. Deductions not Allowed [S-21]:v. Contributions to following funds:Un-recognized Provident Fund / Un-approved Pension Fund / Un-approved Superannuation Fund / Un-approved Gratuity Fundvi. Contribution to Provident Fund OR any other fund for benefit of employees, in respect of which, arrangements have not been made for deduction of tax at source at the time of making payments from the fund to employeesvii. Penalty / fine for violation of any lawviii. Personal expenditureix. Amount transferred to Reserve OR capitalization of profits in any wayx. Profit on debt / Brokerage / commission / Salary / remuneration paid by an AOP to its members

Deciding Business Income CaseHeads of Income

117

Business3. Deductions not Allowed [S-21]:xi. Expenditure under single head of account exceeding Rs 50,000/- paid other than by :a. crossed chequeb. crossed bank draftc. crossed pay orderd. other crossed banking instrumente. online transferf. payment through credit card

Above is not applicable to following:a. expenditure not exceeding Rs 10,000/-b. expenditure on account of:• Utility bills• Freight charges• Travel fare• Postage• Taxes/duties/fees/fines

Deciding Business Income CaseHeads of Income

118

Business3. Deductions not Allowed [S-21]:xii. Salary exceeding Rs 15,000/- per month, paid other than by:a. crossed cheque ORb. direct transfer to employee bank accountxiii. Capital expenditurexiv. In case of pharmaceutical manufacturer any advertisement/publicity/sales promotion expense > 5% of turnover