Updated for Tax Year 2026: Pakistan has strengthened its international tax framework by introducing Controlled Foreign Company (CFC) rules under Section 109A of the Income Tax Ordinance, 2001.
These provisions aim to curb profit shifting and tax deferral by Pakistani residents through low-tax foreign entities. Below is a simplified, interactive guide to help taxpayers understand how CFC rules work and when foreign income becomes taxable in Pakistan.
🔍 What Is a Controlled Foreign Company?
Under Section 109A, a Controlled Foreign Company is a non-resident company that meets all of the following conditions:
✅ Ownership Test
• More than 50% of capital or voting rights are held (directly or indirectly) by one or more Pakistani residents, or
• More than 40% is held by a single resident person in Pakistan
✅ Low Tax Test
• The foreign company pays less than 60% of the tax that would have been payable under Pakistan’s tax laws, after adjusting for foreign tax credits
✅ Passive Income Test
• The company does not derive active business income (explained below)
✅ Non-Listed Test
• The company’s shares are not listed on a recognized stock exchange in its country of residence
🏭 What Is “Active Business Income”?
A foreign company is considered to earn active income if:
• More than 80% of its income is not from passive sources such as dividends, interest, royalties, capital gains, property income, or related-party services, and
• It primarily earns business income in its country of tax residence
If these conditions are met, the CFC rules do not apply.
💰 How Is CFC Income Taxed in Pakistan?
• CFC income is computed as if the foreign company were a Pakistani resident
• It is taxed at the corporate tax rate under Division III, Part I of the First Schedule
• Only the attributable portion (based on ownership percentage) is included in the resident taxpayer’s income
📐 Attribution Formula
Attributable Income = A × (B ÷ 100)
Where:
• A = taxable income of the CFC
• B = higher of capital or voting rights held by the resident
🚫 Key Exemptions & Thresholds
• No attribution if ownership is below 10%
• No CFC income if total income is less than PKR 10 million
• Income already taxed under Section 109A will not be taxed again when remitted to Pakistan
🌍 Currency Conversion & Foreign Tax Year
• CFC income is calculated in the foreign company’s currency
• It is converted into PKR using the State Bank of Pakistan rate on the last day of the tax year
• A foreign tax year refers to the tax or financial reporting year of the non-resident company
💡 Tax Credit on Dividends (Interactive Insight)
If a Pakistani resident:
• Has already paid tax on CFC income, and
• Later receives dividends from that CFC
👉 A tax credit is allowed equal to the lower of:
• Foreign tax paid on dividends, or
• Pakistan tax payable on that dividend income
📌 Why CFC Rules Matter
CFC provisions ensure that profits parked in low-tax jurisdictions are taxed fairly, even if not distributed. Pakistani residents with offshore structures should reassess compliance ahead of Tax Year 2026 to avoid penalties and unexpected tax exposure.
Pro tip: If you hold shares in a foreign company, professional tax advice is strongly recommended to evaluate CFC implications.
Disclaimer: This article is published for general informational and educational purposes only and does not constitute legal, tax, or professional advice. The interpretation and application of tax laws, including Section 109A of the Income Tax Ordinance, 2001, may vary based on specific facts, amendments, and official clarifications. Readers are advised to consult a qualified tax advisor or legal professional before making any decisions or taking action based on the information provided.