FBR sets deadline for windfall tax on banks; Rs100 billion additional revenue expected

ISLAMABAD: The Federal Board of Revenue (FBR) has set a deadline for banks to pay a hefty 40 per cent additional windfall tax on their ‘income, profits, and gains’ earned during 2021 and 2022.

According to S.R.O.1588 (l)/2023 issued by the FBR, the banking sector has been designated as the target sector under section 99D of the Income Tax Ordinance.

This comes after the federal cabinet had approved a 40 per cent tax on windfall profit made by banks on foreign exchange transactions in the years 2021 and 2022.

The new section 99D in the Income Tax Ordinance 2012 — introduced by the Finance Act, 2023 — will enforce the levy of tax on windfall income, profits, and gains of the banks.

The move came ahead of the agreement between Pakistani authorities and the International Monetary Fund’s (IMF) staff on the first review for the second tranche of the $3 billion loan programme.

The FBR – in its S.R.O issued today – specified the method for computing the windfall income, profits, and gains as per the provisions of this notification.

The FBR also fixed the tax rate for the said section 99D at 40 percent.

“The scope of windfall income, profits, and gains shall be as computed in this SRO for the calendar years 2021 and 2022 corresponding to tax years 2022 and 2023 respectively, for the section 99D,” it added.

The bureau set November 30, 2023, as the date for paying the additional tax for section 99D. It also allowed for a possible extension, not exceeding 15 days beyond November 30, 2023.

The FBR stated that the payment of the additional tax must be processed through the federal treasury using a prescribed challan or computerized payment receipt.

The windfall income, profits, and gains of banks shall be calculated according to the given formula, FBR added.

Windfall tax

The tax decision to impose a 40 percent additional tax on windfall income, profits, and gains of banks was taken by the federal cabinet on November 15, 2023, on the recommendation of the FBR.

The tax is applicable on the income earned by banks from foreign exchange transactions in 2021 and 2022, which was considered as speculative and above-normal due to the volatility of the rupee-dollar exchange rate. The tax is expected to generate around Rs100 billion in revenue for the government.

The tax decision was also influenced by the negotiations with the IMF for the second tranche of the $3 billion loan programme. The IMF had asked Pakistan to increase its tax revenue by broadening the tax base and removing exemptions and concessions.

The tax on banks’ windfall income was seen as a way to meet the IMF’s demand and to show the government’s commitment to fiscal consolidation.

The Pakistan tax collection ratio is the ratio of tax revenue to GDP, which measures the tax capacity and effort of a country. According to the OECD, the tax-to-GDP ratio in Pakistan was 10.3 percent in 2021, which was unchanged from 2020.

The tax-to-GDP ratio in Pakistan increased by 1.2 percentage points from 9.1 percent in 2011 to 10.3 percent in 2021. The highest tax-to-GDP ratio in this period was 11.4 percent in 2017, and the lowest was 9.0 percent in 2012.

The Pakistan tax collection ratio is below the average of 19.8 percent for the Asia and Pacific region, and below the average of 34.1 percent for the OECD countries. This indicates that Pakistan has a low tax capacity and effort, and faces challenges in mobilizing domestic resources for development and public services.

Some of the reasons for the low tax collection ratio in Pakistan are the narrow tax base, the large informal sector, the high tax evasion and avoidance, the complex tax system, and the weak tax administration.