Seventh Schedule of Income Tax Ordinance, 2001 has explained the income tax computation of banking companies.
The Federal Board of Revenue (FBR) issued the Income Tax Ordinance, 2001 updated up to June 30, 2021. The Ordinance incorporated amendments brought through Finance Act, 2021.
Following is the text of Seventh Schedule of Income Tax Ordinance, 2001:
1. Subject to the provisions of Chapter VII and VIII, income, profits and gains of a banking company shall be taken to be the balance of the income from all sources before tax, disclosed in the annual accounts required to be furnished to the State Bank of Pakistan subject to the following provisions, namely:—
(a) Deduction shall be allowed in respect of depreciation, initial allowance and amortization under sections 22, 23 and 24 provided that accounting depreciation, initial allowance or amortization deduction shall be added to the income. No allowance or deduction under this rule shall be admissible on assets given on finance lease.
(b) Section 21, sub-section (8) of section 22 and Part III of Chapter IV shall, mutatis mutandis, for computation of a banking company apply.
(c) Provisions for advances and off balance sheet items shall be allowed upto a maximum of 1% of total advances; and provisions for advances and off-balance sheet items shall be allowed at 5% of total advances for consumers and small and medium enterprises (SMEs) (as defined under the State Bank Prudential Regulations) provided a certificate from the external auditor is furnished by the banking company to the effect that such provisions are based upon and are in line with the Prudential Regulations. Provisioning in excess of 1% of total advances for a banking company and 5% of total advances for consumers and small and medium enterprises (SMEs) would be allowed to be carried over to succeeding years:
Provided that if provisioning is less than 1% of advances, for a banking company then actual provisioning for the year shall be allowed:
Provided further that if provisioning is less than 5% of advances for consumers and small and medium enterprises (SMEs) then actual provisioning for the year shall be allowed and this provisioning shall be allowable from the first day of July, 2010.
Explanation.- For removal of doubt, it is clarified that-
(i) provision for advance and off balance sheet items allowed under this clause, at the rate of 1 percent or 5 percent, as the case may be, shall be exclusive of reversals of such provisions;
(ii) reversal of “bad debts” classified as “doubtful” or “loss” are taxable as the respective provisions have been allowed under this clause; and
(iii) with effect from tax year 2020 and onward; reversal of “bad debts” classified as “loss” are taxable as the respective provisions have been allowed under this clause.
(d) The amount of “bad debts” classified as “sub-standard” “or doubtful” under the Prudential Regulations issued by the State Bank of Pakistan shall not be allowed as expense.
(e) Where any addition made under sub-rule (d) is reclassified by the taxpayer under the Prudential Regulations issued by the SBP, ‘loss’, provision of sub-rule (c) shall mutatis mutandis apply in computing the provision for that tax year.
(f) Where any addition made under sub-rule (d) is reclassified by the taxpayer in a subsequent year as ‘recoverable’, a deduction shall be allowed in computing the income for that tax year.
(g) Adjustment made in the annual accounts, on account of application of international accounting standards 39 and 40 shall be excluded in arriving at taxable income.
Explanation.─ For removal of doubt, it is clarified that nothing in this clause shall be so construed as to allow a notional loss, or charge to tax any notional gain on any investment under any regulation or instruction unless all the events that determine such gain or loss have occurred and the gain or loss can be determined with reasonable accuracy.
(h) An adjustment shall be made for exclusions from income on account of paragraph (g) for determining the cost of related item in the financial statement in the year of disposal of such item or asset or the discharge of the liability, as the case may be.
Explanation.- For removal of doubt, it is clarified that nothing contained in this Schedule shall be so construed as to restrict power of Commissioner, while conducting audit of the income tax affairs under section 177, to call for record or such other information and documents as he may deem appropriate in order to examine accounts and records to conduct enquiry into expenditure, income, assets and liabilities of a banking company and all provisions of this Ordinance shall be applicable accordingly.
2. (i)Where a deduction is allowed for any expenditure (other than on account of charge for irrecoverable debt) in the manner referred to in rule 1 and the liability or a part of the liability to which the deduction relates is not paid within three years of the end of the tax year in which the deduction was allowed, the unpaid amount of the liability shall be chargeable to tax under the head “Income from Business” in the first tax year following the end of three years.
(ii) Where an unpaid liability is chargeable to tax as a result of the application of sub-rule (i) and such liability or a part thereof is subsequently paid, a deduction shall be allowed for the amount paid in the tax year in which the payment is made.
(iii) Loss on sale of shares of listed companies, disposed of within one year of the date of acquisition, shall be adjustable against business income of the tax year. Where such loss is not fully set off against business income during the tax year, it shall be carried forward to the following tax year and set off against capital gain only. No loss shall be carried forward for more than six years immediately succeeding the tax year for which the loss was first computed.
3. Treatment for shariah compliant banking.—
(1) Any special treatment for ‘Shariah Compliant Banking’ approved by the State Bank of Pakistan shall not be provided for any reduction or addition to income and tax liability for the said ‘Shariah Compliant Banking’ as computed in the manner laid down in this schedule.
(2) A statement, certified by the auditors of the bank, shall be attached to the return of income to disclose the comparative position of transaction as per Islamic mode of financing and as per normal accounting principles. Adjustment to the income of the company on this account shall be made according to the accounting income for purpose of this schedule.
4. Head office expenditure.—
(1) In case of foreign banks head office expenditure shall be allowed as deduction as per the following formula, namely:—
Head office expenditure = (A/B) XC
Where—
A. is the gross receipts of permanent establishment in Pakistan;
B. is the world gross receipts; and
C. is the total Head Office expenditure.
(2) The head office expenditure shall have the meaning as given in sub-sections (3) and (4) of section 105.
(3) The head office expenditure shall only be allowed if it is charged in the books of accounts of the permanent establishment and a certificate from external auditors is provided to the effect that the claim of such expenditure:
(i) has been made in accordance with the provision of this rule; and
(ii) is reasonable in relation to operation of the permanent establishment in Pakistan.
5. Advance tax.—
(1) The banking company shall be required to pay advance tax for the year under section 147 in twelve installments payable by 15th of every month. Other provisions of section 147 shall apply as such.
(1A) A banking company required to make payment of advance tax in accordance with sub-rule (1), shall estimate the tax payable by it for the relevant Tax Year, at any time before the installment payable on 15th June, of the relevant year is due. In case the tax payable is likely to be more than the amount it is required to pay under sub-rule (1), the banking company shall furnish to the Commissioner an estimate of the amount of tax payable by it and thereafter pay in the installment due on 15th June the difference, if any, of fifty per cent of such estimate and advance tax already paid upto 15th June, of the relevant tax year. The remaining fifty per cent of the estimate shall be paid after 15th June in six equal installments payable by 15th of each succeeding month of the relevant tax year.
(2) Provisions of withholding tax under this Ordinance shall not apply to a banking company as a recipient of the amount on which tax is deductible.
6. Tax on income computed—Income computed under this Schedule shall be chargeable to tax under the head “Income from Business” and tax payable thereon shall be computed at the rate applicable in Division II of Part I of the First Schedule.
6C. Enhanced rate of tax on taxable income from Federal Government securities.- (1) The taxable income arising from additional income earned from additional investment in Federal Government securities for the tax years 2020 and 2021, shall be taxed at the rate of 37.5% instead of the rate provided in Division II of Part I of the First Schedule.
(2) A banking company shall furnish a certificate from external auditor along with accounts while e-filing return of Income certifying the amount of the money invested in Federal Government securities in preceding tax year, additional investments made for the tax year and mark-up income earned from the additional investments for the tax year.
(3) Notwithstanding anything contained in this Ordinance, the Commissioner may require the banking company to furnish details of the investments in Federal Government securities to determine the applicability of the enhanced rate of tax.
(4) “Additional income earned” means mark-up income earned from additional investment in Federal Government securities by the bank for the tax year.
(5) “Additional investments” means average investment made in Federal Government securities by the bank during the tax year, in addition to the average investments held during the tax year 2019.
(6) The taxable income arising from additional investment under sub-rule (1) shall be determined according to the following formula, namely:-
Table income subject to enhanced rate of tax = A x B/C
Where –
A. is taxable income of the banking company;
B. is mark up income earned from the additional investment for the tax year; and
C. is the total of the mark-up income and non-make-up income of the banking company as per accounts.
(6A) For tax year 2022 onwards, the taxable income attributable to investment in the Federal Government securities shall be taxed at the rate of—
(i) 40% instead of rate provided in Division II of Part I of the First schedule if the assets to deposit ratio as on last day of the tax year is upto 40%;
(ii) 37.5% instead of rate provided in Division II of Part I of the First schedule if the assets to deposit ratio as on last day of the tax year exceeds 40% but does not exceed 50%; and
(iii) at the rates provided in Division II of Part I of the First schedule if assets to deposit ratio as on last day of the tax year exceeds 50%.
7A. The provisions of section 113 shall apply to banking companies as they apply to any other resident company.
(7B) From tax year 2015 and onwards, income from Dividend and income from Capital Gains shall be taxed at the rate specified in Division II of Part I of First Schedule.
(7C) For tax year years 2015 and onwards the provisions of section 4B shall apply to banking companies and shall be taxed at the rate specified in Division IIA of Part I of First Schedule:
Provided that brought forward losses, if any, shall be excluded from income computed under this Schedule for the purpose of section 4B of this Ordinance.
7D. Reduced rate of tax on additional advances for micro, small and medium enterprises.– (1) The taxable income arising from additional advances to micro, small and medium enterprises, for the tax years 2020 to 2023, shall be taxed at the rate of 20% instead of the rate provided in Division II of Part I of the First Schedule-
(2) A banking company shall furnish a certificate from external auditor along with accounts while e-filing return of Income certifying the amount of such advances made in preceding lax year, additional advance made for the tax year and net mark-up earned from such additional advances for the tax year.
(3) Notwithstanding anything contained in this Ordinance, the Commissioner may require the banking company to furnish details of the advances to micro, small and medium enterprises to determine the applicability of the reduced rate of tax.
(4) For the purposes of this rule, the term ”micro, small and medium enterprises” shall have the same meaning as provided in Prudential Regulations issued by the State Bank of Pakistan.
(5) “Additional advances” means any average advances disbursed in addition to average amount of such advances made in such sector by the bank for the tax year.
(6) The taxable income arising from additional advances under sub-rule (1) shall be determined according to the following formula, namely:-
Taxable income subject to reduced rate of tax = A x B/C
Where-
A. is taxable income of the banking company;
B is not mark up income earned from such additional advances for the tax year as declared in the annual accounts; and
C is total of the net mark-up and non mark-up income of the banking company as per accounts.
7E. Reduced rate of tax on additional advances for low cost housing.- (l) The taxable income arising from additional advances for low cost housing, for the tax years 2020 to 2023, shall be taxed at the rate of 20% instead of the rate provided in Division II of Part I of the First Schedule:
Provided that the taxable income arising from additional advances to Naya Pakistan Housing and Development Authority for low cost housing schemes shall be taxed at the rate of 10%.
(2) A banking company shall furnish a certificate from external auditor along with accounts while e-filing return of income certifying the amount of such advances made in preceding tax year, additional advance made for the tax year and net mark-up earned from such additional advances for the tax year.
(3) Notwithstanding anything contained in this Ordinance, the Commissioner may require the banking company to furnish details of the advances made for low cost housing to determine the applicability of the reduced rate of tax.
(4) For the purposes of this rule, the term “low cost housing” shall have the same meaning as provided in Prudential Regulations issued by the Stare Bark of Pakistan.
(5) “Additional advances” means any average advances disbursed in addition to average amount of such advances made in such sector by the bank for the tax year 2019.
(6) The taxable income arising from additional advances under sub rule.(1) shall be determined according to the following formula. namely:-
Taxable income subject to reduced rate of tax = A x B/C
Where-
A. is taxable income of the banking company;
B. is net mark-up income earned from such additional advances for the tax year as declared in the annual accounts; and
C. is total of the net mark-up and non mark-up income of the banking company as per accounts.
7F. Reduced rate of tax on additional advances as Farm Credit.– (1) The taxable income arising from additional advances for Farm Credit in Pakistan for the tax years 2020 to 2023, shall be taxed at the rate of 20% instead of the rate provided in Division ll of Part 1 of the First Schedule.
(2) A banking company shall furnish a certificate from external auditor along with accounts while e-filing return of income certifying the amount of such advances made in preceding tax year, additional advance made for the tax year and net mark-up earned from such additional advances for the tax year.
(3) Notwithstanding anything contained in this Ordinance, the Commissioner may require the banking company to furnish details of the advances made for Farm Credit to determine the applicability of the reduced rate of tax.
(4) For the purposes of this rule, the term ”Farm Credit” shall have the same meaning as provided in Prudential Regulations issued by the State Bank of Pakistan for agriculture financing excluding such advances made to a company as defined in section 80.
(5) “Additional advances” means any average advances disbursed in addition to average amount of such advances made in such sector by the bank for the tax year 2019.
(6) The taxable income arising from additional advances under sub-rule (1) shall be determined according to the following formula namely:-
Taxable income subject to reduced rate of tax = A x B/C
Where-
A. is taxable income of the banking company;
B. is net mark-up income earned from such additional advances for the .tax year as declared in the annual accounts: and
C. is total of the net mark-up and non mark-up income of the banking company as per accounts.
8. Exemptions—(1) Exemptions and tax concessions under the Second Schedule to this Ordinance shall not apply to income of a banking company computed under this Schedule.
(1A) The accumulated loss under the head “Income from Business” (not being speculation business losses) of an amalgamating banking company or banking companies shall be set off or carried forward against the business profits and gains of the amalgamated company and vice versa, up to a period of six tax years immediately succeeding the tax year in which the loss was first computed in the case of amalgamated banking company or amalgamating banking company or companies.
(2) The provisions relating to group relief as contained in section 59B shall be available to the banking companies provided the holding and subsidiary companies are banking companies. The accounts of the group companies shall be audited by the chartered accountants firm on the panel of auditors of the State Bank of Pakistan. The surrender and claim of loss would be subject to the approval of the State Bank of Pakistan.
(3) The holding and subsidiary companies of 100% owned group of banking companies may opt to be taxed as one fiscal unit as per the provisions of section 59AA relating to group taxation subject to the approval of the State Bank of Pakistan.
8A. Transitional provisions.— (1) Amounts provided for in the tax year 2008 and prior to the said tax year for or against irrecoverable or doubtful advances, which were neither claimed nor allowed as a tax deductible in any tax year, shall be allowed in the tax year in which such advances are actually written off against such provisions, in accordance with the provision of section 29 and 29A.
(2) Amounts provided for in the tax year 2008 and prior to the said tax year for or against irrecoverable or doubtful advances, which were neither claimed nor allowed as a tax deductible in any tax year, which are written back in the tax year 2009 and thereafter in any tax year and credited to the profit and loss account, shall be excluded in computing the total income of that tax year under rule 1 of this Schedule.
(3) The provisions of this Schedule shall not apply to any asset given or acquired on finance lease by a banking company up to the tax year 2008, and recognition of income and deductions in respect of such asset shall be dealt in accordance with the provisions of the Ordinance as if this Schedule has not come into force:
Provided that un-absorbed depreciation in respect of such assets shall be allowed to be set-off against the said lease rental income only.
9. Provision of Ordinance to apply— The provisions of the Ordinance not specifically dealt with in the aforesaid rules shall apply, mutatis mutandis, to the banking company.
10. The Federal Government may, from time to time, by notification in the official Gazette, amend the schedule so as to add any entry therein or modify or omit any entry therein.
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