SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 1 of 7 Question No. 2 (a) Tax Avoidance Scheme: Tax Avoidance Scheme means any transaction where one of the main purposes of a person in entering into the transaction is the avoidance or reduction of any person's liability to tax under the Income Tax Ordinance, 2001. Re-characterisation or Disregard of Transaction by Commissioner: For the purposes of determining liability to tax under the Income Tax Ordinance, 2001, the Commissioner may: 1. Re-characterise a transaction or an element of a transaction that was entered into as part of a tax avoidance scheme; 2. Disregard a transaction that does not have substantial economic effect; or 3. Re-characterise a transaction where the form of the transaction does not reflect the substance. 05 (b) Payment on Execution of Contracts by Non-Resident: Every person making a payment to a non-resident person in full or part on account of a construction contract shall deduct tax @ 6% of gross amount paid. The tax so deducted shall be final tax on the income of a non-resident person arising from the contract. 03 (c) (i) Disposal of Investment in a Subsidiary: Disposal of investment in a Pakistan subsidiary to an associated undertaking at an arm's length price is a valid transaction and has no special tax implications. There is a capital loss of Rs.10 million which may be set-off and carried forward for adjustment against capital gains only for a maximum period of six (6) tax years. (ii) Research and Development Expenditure: It is an intangible. Total research and development expenses shall not be allowed as deduction in the year of its incurrence, rather, shall be amortized on the basis of its useful life. Where the useful life of an intangible cannot be ascertained, the asset shall be amortized over a period of ten (10) years. This year an amount of Rs.300,000 (i.e., 1/10 of Rs.3,000,000) shall be allowed as admissible deduction. (iii) Payment of Consultancy Fee to a Non-Resident: Payment made by Famous Technologies Limited (FTL) as consultancy fee to a non-resident firm for the purpose of ascertaining technical feasibility of establishing a subsidiary company in a foreign country is a Pakistan-source income of that non-resident, thus is taxable in Pakistan. FTL had an obligation to deduct tax at source under section 152 of the Income Tax Ordinance, 2001. As the payment is made without tax deduction, the following provisions shall be applicable to FTL. The defaulting person shall, without prejudice to any other liability, be personally liable to pay the tax if he fails: (i) To deduct or collect the tax at source; or (ii) To deposit the tax deducted or collected within the prescribed period.
SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 2 of 7 Before recovery of the tax, an opportunity of being heard shall be provided to the defaulting person. Further, the amount of tax shall not be recovered from the defaulting person, if the person from whom it was to be deducted/collected has already paid the amount of tax. However, the defaulting person shall be liable to pay the default surcharge. The defaulting person shall be liable to pay default surcharge on such amount @ 18% per annum for the period of its non-payment. While computing the total income of the defaulting person, the payment on which tax at source was not deducted shall not be allowed as admissible expense. (d) Mr. Khalid Wealth Statement and Wealth Reconciliation Statement for the tax year ended June 30, 2018 Opening net wealth 20,350,000 Add: Business income 3,810,000 Agricultural income 3,750,000 Capital gain (350,000 cost 200,000 tax 22,500) 127,500 01 28,037,500 0.25 Less: Personal expenses 2,937,500 Shares gifted to brother [not taxable due to nonrecognition rule assuming that brother is resident] 100,000 3,037,500 Closing net wealth 25,000,000 0.25 Reconciliation: Agricultural land in Sukkur 7,500,000 Residential property in Karachi 4,500,000 Investment in listed shares (1,650,000 200,000 100,000) 1,350,000 01 Advance against bungalow 1,500,000 Business capital (6,000,000 + 3,810,000 700,000) 9,110,000 01 Motor vehicle 1,600,000 Cash at bank 1,100,000 Cash in hand 240,000 Bank loan (2,250,000 350,000) (1,900,000) 0.75 25,000,000 0.25
Question No. 3 SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 3 of 7 (a) Non-Recognition of Gain or Loss on Disposal of an Asset: Normally, the gain or loss on disposal of an asset is taken into account. However, under the following cases no gain or loss shall be taken to arise, if the person acquiring the asset is a resident person: 1. Where disposal is between spouses under an agreement to live apart; 2. Where disposal is by reason of the transmission of the asset to an executor or beneficiary on the death of a person; 3. Where disposal is by reason of a gift of the asset; 4. Where disposal is by a company to its members on its liquidation; 5. Where disposal is by an association of persons to its members on its dissolution. Notes: However, under this case the assets should be distributed in accordance with the interest of members in the capital of AOP. A. If the person acquiring the asset is a non-resident person, the gain or loss on disposal of assets shall be computed as per normal procedure. B. Under all the above cases it shall be treated that: (i) The person is acquiring the asset of the same character as the person disposing of the asset; and (ii) The person is acquiring the asset at a cost that is equal to the cost of the asset at the time of disposal to the person disposing it off. 6. Where the disposal is by reason of the compulsory acquisition of the asset under any law. In order to avail this benefit the consideration received on disposal shall be reinvested (within one year of the disposal) in an asset of similar kind. (b) Cost and Disposal Value in Non-Arm s Length Transactions: The fair market value of the asset at the time of the transaction shall be taken respectively as cost and disposal consideration to the buyer and the seller, if the asset is purchased or sold in non-arm s length transaction. 02 (c) (1) A deduction for entertainment expenditure shall be limited to expenditure incurred by a person which is: (a) expenditure incurred outside Pakistan on entertainment in connection with business transactions or where such expenditure is allocated as head office expenditure; (b) expenditure incurred in Pakistan on entertainment of foreign customers and suppliers; (c) expenditure incurred on entertainment of customers and clients at the person's business premises; (d) expenditure incurred on entertainment at a meeting of shareholders, agents, directors or employees; or (e) expenditure incurred on entertainment at the opening of branches. (2) A person shall be allowed a deduction under sub-rule (1) only for expenditure incurred on the entertainment of persons related directly to the person's business. (3) In this rule, "entertainment" means the provision of meals, refreshments, and reasonable leisure facilities in accordance with the tradition of business and subject to overall norms and customs of business in Pakistan.
SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 4 of 7 (d) (i) Penalty for the violation of any law, rule or regulation is not admissible and therefore penalty for the late submission of statement under the Income Tax Ordinance, 2001 is not allowable tax expense. (ii) Depreciation on leased assets is not allowed instead lease rentals are admissible for tax purpose. (iii) Business expenditures are required to be paid through banking channel with certain exceptions where payment is allowed to be made in cash without any limit. One of the exceptions is utility bills and therefore payment of utility bills in cash is admissible for tax purpose. Question No. 4 Mr. Waqar Tax Year 2018 Computation of taxable income and tax liability Salary Basic salary (Rs.250,000 x 12) 3,000,000 Cost of living allowance (Rs.50,000 x 12) 600,000 Bonus 250,000 Company maintained car for personal use (Rs.1,800,000 x 10% x 4/12) 60,000 01 Rent free accommodation, higher of: 45% of basic salary or Actual rent 1,350,000 960,000 1,350,000 Taxable salary 5,260,000 Income from Property: Rent 960,000 Income from Business: Brokerage fee 100,000 Less: Expenses (20,000) 80,000 0.75 Capital Gain u/s 37: Disposal of shares in MZ: Sale proceed Less: Cost (10,000 x 22) 250,000 (220,000) 30,000 0.75 Consideration received i.e. insurance claim for painting 500,000 Less: Purchase cost (300,000) Insurance premium (25,000) Lawyer s fee (50,000) Capital gain 125,000 75% of capital gain as the holding period is more than one year 93,750 0.75 Total income 6,423,750 0.75 Less: Zakat deducted by the bank 25,000 Taxable income 6,398,750 Less: Property income (taxable at separate rates) 960,000 Income taxable at normal slab rates 5,438,750
SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 5 of 7 Tax Liability Tax on taxable income (Rs.597,000 + (27.5% x Rs.1,438,750)) 992,656 1.50 Tax on property income (Rs.20,000 + 10% x Rs.360,000) 56,000 1.50 Total tax labiality 1,048,656 Less: Tax credit on life insurance premium [1,048,656 6,398,750 x 01 500,000] [N-1] 81,942 Tax credit on approved pension fund [1,048,656 6,398,750 x 900,000)] [N-2] 147,496 229,438 01 Tax liability 819,218 Less: Tax deducted from salary 600,000 Tax payable 219,218 Notes: N-1: One of the two, investment in shares, or premium on life insurance policy, is eligible for rebate. Rebate is, therefore, calculated on premium on life insurance policy being the higher amount. Shares in Abrar Limited: i. Total cost of acquiring shares or the total amount of contribution or premium on life insurance policy (amount of Rs.500,000 or Rs.200,000) ii. 20% of taxable income of the taxpayer for the year (Rs.6,398,750 x 20%) iii. Rs.1,500,000 N-2: Investment in approved pension fund is subject to lower of: i. Actual premium ii. 30% of current year s taxable income (Rs.6,398,750 x 30%) iii. 30% of taxable income of preceding tax year (Rs.3,000,000 x 30%) Rs.500,000 Rs.1,279,750 Rs.1,600,000 Rs.1,919,625 Rs.900,000 Rs.500,000 Rs.900,000 0.25 0.25 Question No. 5 Sales Tax Liability: Output tax 17% of 11,500,000 1,955,000 Input tax against local taxable supplies (W-2) 1,166,747 788,253 Input tax on fixed assets 610,938 177,315 Add: Further tax 2% of Rs. 1,000,000 20,000 Liability 197,315 Refund of input tax against zero rate supplies (405,825 + 212,500) on fixed assets 618,325
W-1: Input Tax: SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 6 of 7 Imports (2,000,000 x 1.12 x 17%) 380,800 Local purchases from registered suppliers (Rs.5,000,000 x 17%) 850,000 Advance paid to supplier (2,000,000 x 17%) 340,000 Fixed assets for factory (5,000,000 x 17% = 850,000) to be considered separately Electric bills 52,500 W-2: Apportionment of Input Tax: Turnover Input Tax [W-1] 1,623,300 Input Tax on Fixed Assets Local taxable sales to registered persons 7,500,000 0.25 Local taxable sales to unregistered persons 1,000,000 0.25 Local Supply under international tender 1,500,000 0.25 Advance received from customers 1,000,000 0.25 Sales to employees 500,000 0.25 Total taxable local supplies 11,500,000 1,166,747 610,938 01 Zero rated: supply to EPZ 4,000,000 405,825 212,500 01 Exempt supplies 500,000 50,728 26,562 01 16,000,000 1,623,300 850,000 0.75 Question No. 6 (a) Features of Distinguishing the Concept of Zero Rating from Exempt Supply : 05 Distinction Points Definition Products covered Invoicing Requirements Registration Input tax credit Zero Rated Supply Zero rated supply means a taxable supply which is charged to tax at the rate of zero per cent. Goods exported as notified by FBR or listed in the Fifth Schedule are charged to sales tax at the rate of zero per cent. Invoice shall be raised for the goods supplied but sales tax shall be charged at the rate of zero per cent A person engaged in zero rated supplies has to be registered with the Sales tax department. Input tax paid related to zero rated supplies is refundable. Exempt Supply Exempt Supply means a supply which is exempt from tax. Goods specified by Federal Government and FBR and goods listed in Sixth Schedule are exempt supplies. No sales tax invoice shall be raised. A person engaged exclusively in the exempt supplies is not liable to be registered. Input tax paid related to exempt supplies is inadmissible, therefore, neither adjustable nor refundable.
SUGGESTED SOLUTIONS/ ANSWERS WINTER 2018 EXAMINATIONS 7 of 7 (b) Procedure to be adopted to Adjust the Excess Amount of Sales Tax: Any modification in the already issued tax invoice shall be made through debit or credit note. In the current case the accountant of AKJ Limited has wrongly charged the higher sale price to goods supplied to another registered person, Mr. Sarwar. In order to modify the value of supply and corresponding sale tax amount, AKJ Limited shall issue a credit note to Mr. Sarwar. As monthly sale tax returns have already been filed by the both persons, there will be adjustment in tax liabilities of both registered persons. While filing sales tax return for the month of June AKJ Limited will reduce its output tax and Mr. Sarwar will increase his tax with the excess amount of sales tax charged in May. 05 THE END