Method of accounting for computing income tax

KARACHI: Federal Board of Revenue (FBR) has said that a person’s income chargeable to tax shall be computed in accordance with the method of accounting regularly employed by such person.

The FBR issued Income Tax Ordinance, 2001 updated till June 30, 2019 incorporating amendments made through Finance Act, 2019. The FBR explained method of accounting in Section 32 of the Ordinance.

Section 32: Method of accounting

Sub-Section (1): Subject to this Ordinance, a person’s income chargeable to tax shall be computed in accordance with the method of accounting regularly employed by such person.

Sub-Section (2): Subject to sub-section (3), a company shall account for income chargeable to tax under the head “Income from Business” on an accrual basis, while other persons may account for such income on a cash or accrual basis.

Sub-Section (3): The Board may prescribe that any class of persons shall account for income chargeable to tax under the head “Income from Business” on a cash or accrual basis.

Sub-Section (4): A person may apply, in writing, for a change in the person’s method of accounting and the Commissioner may, by order in writing, approve such an application but only if satisfied that the change is necessary to clearly reflect the person’s income chargeable to tax under the head “Income from Business”.

Sub-Section (5): If a person’s method of accounting has changed, the person shall make adjustments to items of income, deduction, or credit, or to any other items affected by the change so that no item is omitted and no item is taken into account more than once.

Section 33: Cash-basis accounting

A person accounting for income chargeable to tax under the head “Income from Business” on a cash basis shall derive income when it is received and shall incur expenditure when it is paid.

Section 34: Accrual-basis accounting

Sub-Section (1): A person accounting for income chargeable to tax under the head “Income from Business” on an accrual basis shall derive income when it is due to the person and shall incur expenditure when it is payable by the person.

Sub-Section (2): Subject to this Ordinance, an amount shall be due to a person when the person becomes entitled to receive it even if the time for discharge of the entitlement is postponed or the amount is payable by instalments.

Sub-Section (3): Subject to this Ordinance, an amount shall be payable by a person when all the events that determine liability have occurred and the amount of the liability can be determined with reasonable accuracy.

Sub-Section (5): Where a person has been allowed a deduction for any expenditure incurred in deriving income chargeable to tax under the head “Income from Business” and the person has not paid the liability or a part of the liability to which the deduction relates 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 the three years.

Sub-Section (5A): Where a person has been allowed a deduction in respect of a trading liability and such person has derived any benefit in respect of such trading liability, the value of such benefit shall be chargeable to tax under the head “Income from Business” for the tax year in which such benefit is received.

Sub-Section (6): Where an unpaid liability is chargeable to tax as a result of the application of sub-section (5) and the person subsequently pays the liability or a part of the liability, the person shall be allowed a deduction for the amount paid in the tax year in which the payment is made.

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