WORKSHOP ON INCOME TAX Hotel Sheraton, Karachi 29 – 30 August, 2005

1. WORKSHOP ON INCOME TAX Hotel Sheraton, Karachi29 – 30 August,2005

2. TAXATION OF NON-RESIDENTS By Amjad Javed Hsahmi

3. INTRODUCTION: - Scope and Reach • Business income and non-business income of non-resident • Stake holders - chamber of commerce, MNCs, tax professional, academia and tax collectors . • Permanent Establishment - a legal interface prior to taxing business income of a non-resident entity. • Doing business across multiple tax jurisdictions - tax havens – CFCs- • Legislative, judicial and administrative interpretations. • International taxation- principles, practices and procedures –Annual return, annexture and informational returns.

4. Forces affecting the non-resident taxation-domestic tax laws and tax treaties and their models • Foreign tax credit, withholding taxes and anti-avoidance scene • International tax planning issues with: • Outbound investment focus • Inbound investment focus

5. TAXATION OF PERMANENT ESTABLSIHMENT Section 2(41) read with section 105 A. Key feature of the concept of P.E - U/S 2 (41) • attributability - In relation to non –resident • tangibility without fixity - Place of business • mediacy - Through which • periodicity Wholly or partially • exhaustivity – Covers 7 types of commercial vehicles for doing business (a) Five of physical characters (a), (b), (ba), (c), (f) (b) Two of intangible characters (d), (e)

6. Variations with Treaty Convention (I) fixity principle (ii) negative of PE (iii) Six month’s continuity • Tax planning scope (i) liaison office (ii) an agent of independent status (iii) transfer of technology, distributor , commission agent. (commercial intermediary), sales agent, (iv) Case law.

7. (b) Principle of taxation of a PE - section 105 (1) • Arms length principle (a) • Economic substance principle(b) • Matching principle- revenue / expenditure (b) • Denial of deduction- expenditure (c) ,105 (2),(3), (4) • Restrictions of specific transaction between P.E. and Head Office or to a sister P.E. in respect of. (a) Royalties, fees for the use of any tangible or intangible assets (b) Compensation for any services. (c) Profit on debt on moneys lent to P.E/ non- resident except banking business.

8. Recognition of • reimbursement of actual expenditure incurred by non-resident to third party (b) and • on reimbursement of actual expenditure incurred by the P.E.to third party (c) • Proportionality

9. C . Executive Interpretation/ revenue rulings • Rules for transparent implementation of section (105) - income statement of P.E.,world-wide income statement of non-residents. • Technical guideline on interpretation of standard articles of tax treaties • acquiescence or otherwise of local and global case laws.

10. Taxation of fee for technical services and royalty • A. Basic concept of FTS under section 2 (23)- consideration for rendering managial, technical and consultancy services. • basic concept of royalty u/s 2 (54) – an amount paid against • usage of seven types of intangible properties • gain on disposal of such properties or rights of their usage.

11. B. Final taxation of gross amount of royalty and fee for technical services when paid to non-resident i.e. out side Pakistan U/s 6(3) (a) (b) (a) Normal taxation of gross amount of royalty when the property or right is effectively connected with a P.E. (b) Normal taxation of gross amount of fee for technical services when services rendered through a P.E. (c) No taxation where F.T.S. or royalty is exempt.

12. C. Rules 18 of Income Tax, Rules 2002 (a) Basis of computation of income of non-resident persons from royalty. (i) Proposal / agreement deadline of 8-03-1980 (ii) All deductions u/s 40 Rules 19 of Income Tax Rules, 2002 (b) Basis of computation of income of non-resident from F.T.S.

13. Case 1 • Proposal / agreement deadline of 8-03-1980 • All deduction u/s 40 Case-II • Agreement / proposal of 8-03-1980 but fees received before 4-05-1981 • All deduction u/s 40 • The deductions capped at 20% of such fees. D - Tax planning implications. • Case law distinguishing the industrial, commercial profits from the consultancy charges.

14. TAXATION OF SHIPPING AND AIR TRANSPORT BUSINESS Section 7 - Basic Scheme of Taxation:- (a). goods, Passengers, livestock and mail embarked in Pakistan to be taxed on gross amount received / receivable in Pakistan or elsewhere. (b) goods, Passengers livestock and mail embarked outside Pakistan But gross amount received in Pakistan. 7(3): Not to apply to amount where exempt. (No reference in the Second Schedule)

15. FOREIGN TAX CREDIT u/s 103 read with rule 16 of Income Tax, Rules 2002. The subject deals with tax issues of outbound investments Principles of credit: • No carried forward • No carried back • Formula based tax credit i.e. lesser of • Credit of foreign income tax • Pakistan tax payable on that income • (c) Source – wise working of Pakistan tax on average tax rate basis on that foreign income. • Credit to be given on prescribed application along with original or certified copy of receipt of tax. • Commissioner empowered to accept Secondary evidence in special cases.

16. WITHHOLDING TAX ON PAYMENT TO NON – RESIDENT Sections 152, 153 (3), clause 16, Part-II, and clause 41 Part IV of the Second Schedule Principles of: • Universal onus to deduct • Deduction on and Exemption from characterized payments (1) deduction on characterized payment u/s 152(1) • Royalty • Fees for technical services.

17. 2- Exemption on characterized payment u/s 152(3) • Salary Payments • Dividends • Payments for goods and services to the P.E. of a non-resident • Rental payment on immoveable property and incidental services, furniture, fixtures. • Prizes and winnings payments. • Amount which is taxable to a P.E. in Pakistan. • Amount payable by a representative of a non-resident u/s172(3) by a “Declaration Notice” • Where the non-resident is not changeable to tax by an “Intention Notice”

18. Exception to transaction following outside “ intention” privilege : • Import of goods where title to the goods passes outside Pakistan. • Payments against supplies from Non-Resident’s, Head Office or sister P.E. from outside Pakistan to a P.E. in Pakistan.

19. 3- Deduction by the prescribed persons against characterized payments u/s 153(3) on five types of work contracts and services contracts – under final discharge Regime. 4- Deduction of generalized payments to non-resident i.e. an amount is subject to 30% deduction of gross amount qualifies under normal tax regime

20. CONCLUSION:- Globalization and cross – border transactions has considerably exposed the businesses to new and unfamiliar foreign taxes and it has correspondingly increased the tax planning and compliance challenges for the tax practitioners. Pakistan tax laws are still in the evolving stage and do not under write Pakistan as an attractive destination for foreign investments.