Federal Budget 2015-2016 Brief Commentary and Analysis Part - I by Mustafa Mustansir
This is one in a series of articles aiming to analyse and comment on the relevant implications of the changes introduced in the Finance Bill 2015. This part will discuss the Super Tax and Tax on Undistributed Reserves.
Pakistan’s economic growth for the fiscal year 2014-15 was recorded at 4.24% according to the Economic Survey of Pakistan. For the upcoming year the state has targeted a growth of 5.5%-fuelled by the Federal Budget 2015-16 (Budget) with Rs4.5 trillion outlay. It is relevant to know that the growth of 4.24% is the highest since 2008. Favourable expansion conditions do exist at the moment notably lowest interest rates in history, a controlled and falling rate of inflation and projections of robust infrastructure spending.
One-time Super Tax for Rehabilitation of Temporary Displaced Persons (TDPs)
Simply put this measure will tax all banking companies 4% of the income and 3% for all other taxpayers having income of Rs500 million or above. The aim of the tax is to provide funding up to US$ 2 billion or (Rs202 billion at 1 USD=Rs101 approx.) required for the rehabilitation of over 2 million (registered and un-registered) TDPs as per Internal Displacement Monitoring Centre.
The definition of income for the purpose of this tax includes most forms of income earned by banking companies and other large tax-payers including companies with special agreements with the government and will be payable for all taxpayers either having a normal or a special tax year (i.e. year-end other than June 30, 2015)
According to a list of top taxpayers published in 2014 by the Federal Board of Revenue (FBR), the top 100 companies in Pakistan including banking companies paid a collective tax of Rs224billion as on February 2014. Imposing an average tax of 3.5% (average of 3%-4%), collections would amount to Rs.231 billion which is an excess of Rs.6 billion (approximately US$ 59 million) for the rehabilitation program.
Although the above calculation is hypothetical and actual estimates may significantly vary, it makes it clear that this tax is a laudable measure by the government particularly in times when the international donors are reluctant to donate the funds to Pakistan on transparency concerns, and the rehabilitation of TDPs being a priority concern for the whole nation.
The target sectors notably Banks with industry profit before tax of Rs247 billion (SBP) for 2014, and other taxpayers mostly non-banking companies have robust earnings potential to bear its burden. To a significant part strong earnings and pay-outs by non-banking listed companies over the past couple of years are an evidence of their strong earnings, supported by investor anticipation of continued strong earnings in future indicated by the bullish trend in the stock markets.
Further, the allocation of Rs100 billion in the development plan proposed under the Budget will also contribute significantly to the rehabilitation process.
10% Tax on Undistributed Reserves
This tax will be applicable on every public company (other than a banking company, modaraba or public company in which holding of government of Pakistan is not less than 50%), which does not distribute cash dividends within six months of the end of the tax year or distributes it as such that its undistributed reserves are in excess of 100% of its paid-up share capital. The company will be liable to pay tax at 10% of such excess reserves, being treated as income of the company. The statute has defined reserves which definition excludes capital reserves, share premium reserves and any other statutory reserves.
The main aim of this tax is to encourage investment particularly in the stock markets by virtue of attracting investors with improved yields and returns. For companies already paying cash dividend will now have to pay more in order to comply with the requirement. But the positive impact of this measure may be limited as several companies may choose to take the tax hit rather than pay cash dividends for the purposes of liquidity management.
This will be the case where the company simply does not have enough cash equivalent to the reduction in reserves required. Hence, it may cast additional burden on earnings of companies who take the tax hit.
The Federal Minister of Finance and Revenue Mr. Ishaq Dar has agreed to review the proposed tax on undistributed reserves according to recent reports.
The writer is a Fellow of the Institute of Financial Consultants Canada & the USA, a member of the Royal Economic Society UK, the American Economic Association, the American Finance Association, and Head Consultant and Chief Economist at Volkerak Financial Consultants.
You can find him on Twitter Mustafa Mustansir or firstname.lastname@example.org
- The Federal Budget Speech 2015-2016, Ministry of Finance 2015
- Budget 2015-16: Finance Minister Ishaq Dar unveils Rs4.451 tr budget, the Express Tribune June 5, 2015
- Pakistan IDP Figure Analysis – Internal Displacement Monitoring Centre
- SBP Quarterly Compendium Banking Statistics December 2014
- List of Top Tax Payers 2014 – The Federal Board of Revenue
- Dar to review ''Tax on Undistributed Reserves'' proposal, The Business Recorder June 9, 2015