Navigating Section 113: Minimum Tax in Pakistan & Relief for Loss-Making Companies

Why Minimum Tax Matters Right Now for Your Business

In the dynamic landscape of Pakistan's taxation, staying abreast of compliance requirements is paramount for any business owner, director, or financial professional. One such area that often sparks questions and requires careful attention is Section 113 of the Income Tax Ordinance, 2001, which governs the levy of minimum tax. This section ensures a baseline tax contribution from companies, irrespective of their profitability. However, the complexities surrounding its application, especially for companies incurring losses, necessitate a clear understanding of the current rate structure and available relief mechanisms. This guide aims to demystify Section 113, providing you with actionable insights to manage your tax obligations effectively.

Understanding Section 113: The Minimum Tax Levy

Section 113 of the Income Tax Ordinance, 2001, mandates that every company shall, for every income year, pay tax at the rate specified in the Second Schedule, on its total income. However, a crucial aspect of Section 113 is its provision for a minimum tax liability, which is levied even if the actual tax calculated on the company's taxable income is lower, or if the company incurs a loss.

The Current Minimum Tax Rate Structure

The rate of minimum tax is prescribed in the Second Schedule of the Income Tax Ordinance, 2001. For companies, the standard minimum tax rate is generally:

• 1.25% of the turnover (gross receipts), or
• 0.5% of the turnover (gross receipts) for certain specified industries and activities, as amended from time to time.

It is critical to note that the turnover considered for the purpose of minimum tax includes all sales and gross receipts. The specific rate applicable to your business will depend on its industry and sector. Businesses are advised to consult the latest Finance Act and relevant SROs for the most current applicable rates. For instance, amendments have been made over the years impacting various sectors. Always verify the applicable rate with your tax advisor or the latest FBR notifications.

When is Minimum Tax Payable?

Minimum tax under Section 113 becomes payable in situations where:

• The tax calculated on the company's taxable income (as per normal provisions) is less than the minimum tax calculated on its turnover.
• The company incurs a loss, thereby having no taxable income under the normal tax regime. In such cases, the minimum tax is the only tax payable.

Relief for Loss-Making Companies: Carry Forward of Losses

A significant concern for many businesses is how to manage tax liabilities when facing financial losses. While Section 113 imposes a minimum tax even in loss-making years, the Income Tax Ordinance, 2001, provides mechanisms for relief through the carry-forward of losses. This is a critical aspect for long-term tax planning and ensuring that businesses can recover from periods of low profitability.

Types of Losses and Carry-Forward Rules

The Ordinance allows for the carry-forward of various types of losses for a specified period:

• Business Loss: A loss incurred in a business can generally be carried forward for six assessment years immediately succeeding the assessment year in which the loss was first sustained. This loss can be set off against income from the same business.
• Capital Loss: Losses on the sale of capital assets can be carried forward for six assessment years and set off against capital gains.
• Unabsorbed Depreciation: Unabsorbed depreciation can be carried forward indefinitely and set off against any income.
• Unabsorbed Wealth Tax: This is no longer applicable post-abolition of wealth tax.

Key Condition: Filing of Income Tax Returns

A fundamental prerequisite for carrying forward any loss is the timely filing of the income tax return for the year in which the loss was incurred. Failure to file the return within the due date will result in the forfeiture of the right to carry forward the loss. This underscores the importance of compliance and record-keeping.

Interaction Between Minimum Tax and Loss Carry-Forward

When a company pays minimum tax in a year where it has incurred a loss and has unabsorbed losses from previous years, it does not mean that the tax paid under Section 113 is lost. The tax paid under Section 113 in a loss year can be set off against the tax liability in a future year when the company becomes profitable, subject to certain conditions and limitations. Specifically, the amount of tax paid under Section 113, to the extent that it exceeds the tax payable on the company's income under the normal provisions of the law, can be claimed as a tax credit in a subsequent year where the company's tax liability under the normal provisions exceeds the minimum tax payable. This provision provides significant relief and prevents double taxation.

Practical Scenario: A Loss-Making Company

Let's consider a company, 'Alpha Exports (Pvt) Ltd.', which had a turnover of PKR 50,000,000 in the income year 2023. The company incurred a business loss of PKR 5,000,000 during the year. The applicable minimum tax rate for Alpha Exports is 1.25% of turnover.

• Minimum Tax Calculation: 1.25% of PKR 50,000,000 = PKR 625,000.
• Taxable Income: PKR 0 (due to loss).
• Tax Liability under normal provisions: PKR 0.
• Tax Payable: Since the tax under normal provisions (PKR 0) is less than the minimum tax (PKR 625,000), the company is liable to pay PKR 625,000 as minimum tax.

Now, if Alpha Exports had unabsorbed losses from previous years, these would be carried forward as usual. The PKR 625,000 paid as minimum tax can be claimed as a tax credit in future profitable years, up to the extent of the difference between the normal tax liability and the minimum tax liability in those future years.

Common Mistakes and How to Avoid Them

• Non-Filing of Returns in Loss Years: Failing to file the income tax return in a loss-making year will forfeit the right to carry forward the loss, impacting future tax liabilities. Always file your return on time, even if you have no taxable income.
• Incorrect Turnover Calculation: Ensure that all gross receipts and sales are accurately included in the turnover for minimum tax calculation. Consult the definition of 'turnover' in Section 2(50) of the Income Tax Ordinance, 2001, and seek professional advice if unsure.
• Misunderstanding Set-Off Rules: Not understanding how minimum tax paid can be claimed as a credit in future years can lead to an overestimation of future tax liabilities.

Key Takeaways

• Section 113 imposes a minimum tax liability on companies, calculated as a percentage of turnover, even if the company incurs a loss.
• The standard minimum tax rate is generally 1.25% of turnover, with specific reduced rates for certain industries.
• Losses incurred by companies can generally be carried forward for up to six years, provided income tax returns are filed on time.
• Tax paid under Section 113 in a loss year can be claimed as a tax credit in future profitable years, subject to conditions.

Navigating Section 113 and ensuring proper utilization of loss carry-forwards are crucial for sound financial management. We encourage you to seek professional advice to ensure accurate compliance and optimize your tax position. Explore our comprehensive corporate legal and tax services to address your business's specific needs.

Disclaimer: This article provides general information and should not be considered as professional tax advice. Specific situations may require consultation with qualified tax professionals.