Tax Expenditure Report 2026 distinguishes structural features of Pakistan’s tax system from targeted tax concessions to improve fiscal transparency.
ISLAMABAD: The Federal Board of Revenue (FBR) has introduced a comprehensive benchmark framework for estimating income tax expenditures, setting out the structural elements of Pakistan’s tax system that will be excluded from tax expenditure calculations.
According to the Tax Expenditure Report 2026, the benchmark reflects how the income tax system would operate in the absence of targeted tax preferences while preserving constitutional provisions, international obligations and other structural components necessary for a coherent taxation framework.
‘Person’ remains the unit of taxation
The FBR stated that the unit of taxation under the Income Tax Ordinance, 2001 continues to be the “person”, encompassing individuals, companies, Associations of Persons (AOPs) and other legal entities. Each category is taxed on its taxable income as determined under the ordinance.
The report noted that taxable income includes earnings from salaries, property, business, capital gains and other sources in accordance with Section 9 of the Income Tax Ordinance.
Residency rules clarified
The tax authority reaffirmed that a taxpayer is regarded as a resident if they qualify as a resident individual, resident company, resident AOP or the Federal Government during the relevant tax year.
For individuals, residency generally requires physical presence in Pakistan for at least 183 days during the tax year, while government employees posted abroad are also treated as residents under the law.
Foreign tax credits excluded
The FBR clarified that foreign tax credits granted under Section 103 of the Income Tax Ordinance are intended solely to prevent double taxation on income earned overseas.
As these credits eliminate double taxation rather than provide preferential tax treatment, they will not be included in the calculation of tax expenditures.
Benchmark tax rates
The report states that Pakistan’s tax year runs from 1 July to 30 June, with income taxed on an accrual basis in the year it is earned. Tax Year 2024–25 has been adopted as the reference period for estimating income tax expenditures.
Benchmark tax rates are based on Schedule I of the Income Tax Ordinance, 2001, while concessions already embedded within the schedule are not classified as tax expenditures.
According to the report, the benchmark rates include:
• 39% for banking companies.
• 24.5% average corporate income tax rate for non-banking companies, including small and medium-sized enterprises (SMEs).
• 1.25% minimum tax for loss-making entities under Section 113.
• 1% benchmark rate for evaluating export income exemptions.
Structural elements excluded
The FBR identified several structural features that will not be regarded as tax expenditures.
These include income earned by the Federal Government, provincial governments and local governments under Section 49 of the Income Tax Ordinance, reflecting the constitutional principle that governments do not tax themselves.
Measures designed to prevent double taxation, including exemptions for inter-corporate dividends under group taxation arrangements and foreign tax credits, are likewise excluded from tax expenditure estimates.
The framework also excludes agricultural income, which falls within provincial taxation powers under the Constitution, as well as transitional tax arrangements introduced following the Twenty-fifth Constitutional Amendment.
Furthermore, tax exemptions arising from international agreements—including those applicable to United Nations agencies, diplomatic missions under the Vienna Convention on Diplomatic Relations and foreign development assistance agreements—will not be treated as tax expenditures.
Improving transparency
The FBR said the benchmark framework has been developed to improve transparency in measuring tax expenditures by distinguishing genuine tax concessions from structural features that are integral to Pakistan’s income tax system or mandated under constitutional and international obligations.
The tax authority said the new methodology forms part of its wider efforts to standardise tax expenditure estimates and provide policymakers and the public with a clearer assessment of the fiscal cost of targeted tax relief measures.