The Islamabad High Court (“IHC”) has recently handed down its judgment titled Fauji Fertilizer Company Limited v Federation of Pakistan (the “Judgment”) in which it has allowed petitions challenging the imposition of Super Tax under Section 4C of the Income Tax Ordinance, 2001 (the “2001 Ordinance”).
The Judgment has held Section 4C of the 2001 Ordinance to be ultra vires to Articles 18, 23 and 24 of the Constitution of the Pakistan (“Constitution”). However, the Judgment has not struck down Section 4C but has held that it should be “read down” (in other words it shall be read to mean) in the following manner:
– All classes of income mentioned in Section 4C which are already final (under sections 4(4) and 8) of the 2001 Ordinance) shall be excluded when calculating income under Section 4C. These classes of income include:
- Dividends (Section 5 of the 2001 Ordinance)
- Undistributed profits (Section 5A of the 2001 Ordinance)
- Return on investment sukuks (Section 5AA of the 2001 Ordinance)
- Certain payments to non-residents (Section 6 of the 2001 Ordinance)
- Shipping and air transport income of a non-resident person (Section 7 of the 2001 Ordinance)
- Shipping related income of a resident person (Section 7A of the 2001 Ordinance)
- Profit on debt (Section 7B of the 2001 Ordinance)
- Deemed income (Section 7E of the 2001 Ordinance)
– In computing the income for the purposes of Section 4C, taxpayers will be allowed to deduct brought forward depreciation, bought forward business losses, and bought forward amortization allowances.
– Section 4C shall not apply to the Tax Year 2022 (both for special and normal tax years) and will only have prospective effect. Even though the companies following the special tax year would have started conducting transactions for tax year 2023 prior to 30 June 2022, given that (as held by the Judgment) their liability does not crystallize until the end of the tax year 2023 (i.e., on 31 December 2022), Section 4C will apply to all companies (in its amended read down form) for the Tax Year 2023 irrespective of whether they follow a special or normal tax year.
– Section 4C is not applicable to benevolent funds holding exemptions from tax under the provisions of the 2001 Ordinance.
– Section 4C will not apply to petroleum exploration and production companies (“Petroleum Company”) to the extent that the application of Section 4C to a petroleum company results in the taxation of such a company which exceeds the threshold stipulated in Rule 4 of the Fifth Schedule of the 2001 Ordinance. Rule 4 of the Fifth Schedule provides that the aggregate of the taxes on income shall not exceed the cap/limit (of the tax rate) provided for in the Petroleum Concession Agreement (“PCA”) signed between the Petroleum Company and the President of Pakistan. However, Rule 4 of the Fifth Schedule sets a minimum tax rate of 40% of the profits or gains derived by an onshore Petroleum Company.
The practical effect of the applicability of Rule 4 of the Fifth Schedule of the 2001 Ordinance is that a Petroleum Company cannot be taxed beyond the cap/limit stipulated in its PCA. If the imposition of super tax under Section 4C (as read down by the Judgment) results in the said cap/limit being crossed, then the same cannot be demanded as tax from the Petroleum Company.
– Any notices of demand or recovery issued to taxpayers under Section 4C are set aside, without prejudice to the FBR’s right to issue fresh notices in accordance with the findings of the Judgment.
The full judgment can be found here.
Our Partners, Salman Akram Raja and Asad Ladha, successfully acted for the lead petitioners in the case, and were assisted by our Associates, Ramsha Banuri and Sameen Qureshi.