Section 149 of the Income Tax Ordinance 2001 requires employers to deduct salary tax at the employee’s average tax rate, while separate rules apply to certain pension payments and directors’ fees.
ISLAMABAD: The Federal Board of Revenue (FBR) has outlined the rules for deduction of income tax from salaries during Tax Year 2027, covering employer responsibilities, tax adjustments, pension payments and fees paid to company directors.
According to the Income Tax Ordinance 2001, updated up to June 30, 2026, Section 149 governs the deduction of tax at source from salary payments during the tax year running from July 1, 2026, to June 30, 2027.
Under Section 149(1), every person responsible for paying salary to an employee must deduct tax at the time of payment. The deduction is calculated at the employee’s average tax rate, based on the rates specified in Division I of Part I of the First Schedule and the employee’s estimated taxable salary income for the relevant tax year.
The calculation also includes tax chargeable under Section 4AB, after making adjustments for tax withheld under other heads and tax credits admissible under Sections 61 and 63, subject to the required documentary evidence.
Adjustments to salary tax deductions
The law requires employers to take account of relevant tax deductions and adjustments when calculating the amount to be withheld from an employee’s salary.
These adjustments include:
• Tax already withheld from the employee during the tax year.
• Any excess deduction or shortfall arising from previous deductions.
• Any failure to deduct tax during the year.
The provisions allow employers to account for earlier deductions and deficiencies when determining the appropriate amount of tax to withhold from salary payments.
Tax on pension income exceeding Rs10 million
Section 149(1A) sets out separate withholding requirements for pension payments made to former employees who are below 70 years of age.
Where a former employee’s pension income exceeds Rs10 million during a tax year, the person responsible for paying the pension must deduct tax on the amount exceeding Rs10 million.
The tax is deducted at the rates specified in Division I of Part I of the First Schedule, together with tax chargeable under Section 4AB, subject to adjustments for tax already withheld under other heads and admissible tax credits under Sections 61 and 63.
The payer must also consider tax already withheld during the year, any excess deductions or shortfalls from previous deductions, and any failure to deduct tax earlier, after obtaining the necessary documentary evidence.
How the average salary tax rate is calculated
Section 149(2) prescribes a formula for determining an employee’s average tax rate for the tax year.
The formula is:
Average tax rate = A ÷ B
Under the formula:
• A represents the tax payable if the amount used in component B were treated as the employee’s taxable income for the year, plus tax chargeable under Section 4AB.
• B represents the employee’s estimated income under the head “Salary” for the relevant tax year.
The resulting average rate is applied when calculating tax deductions from salary payments under Section 149(1).
Directors’ fees subject to 20% tax deduction
Section 149(3) establishes a separate withholding rate for payments made as directors’ fees, fees for attending board meetings or similar payments, regardless of the name used to describe them.
Every person responsible for making such payments must deduct tax at the rate of 20% of the gross amount payable at the time of payment.
Under Section 149(4), tax deducted from these fees is adjustable.
The provisions distinguish between salary payments, which are subject to an average-rate calculation based on estimated annual salary income, and directors’ fees, which attract a fixed withholding rate under the relevant subsection.
These rules establish the framework for salary-related tax withholding during Tax Year 2027, requiring employers and other payers to calculate deductions in accordance with the applicable provisions of the Income Tax Ordinance 2001.