What is Section 154A 1% Tax on IT Export Services

What is Section 154A 1% Tax on IT Export Services? As you know Income from IT and IT-enabled services were exempt from income tax previously. Then through tax laws (Second Amendment) Ordinance 2021 the tax exemption regime was changed to a tax credit regime. Under this change of law new sections, 65F and 154A were introduced.

Under this change of law, now IT and IT-enabled services to have tax credits instead of exemptions after fulfillment of certain conditions. If conditions are not fulfilled then a certain reduced rate of tax @1% under section 154A (as final tax) will have to be deducted by bank on credit of foreign source income. A person falling under FTR under section 154A can also opt for normal tax regime (NTR) however such option shall be exercised every year at the time of filling of return under section 114 of Income Tax Ordinance, 2001.

Tax Credit Regime for export of IT & IT enabled services Business

• Section 65F was inserted by Tax Laws (Second Amendment) Ordinance 2021 whereby exemption available to IT industry under clause 133; Part IV, Second Schedule was replaced by tax credit regime.
• Exemption Regime provided that income of IT & IT enabled services export exempt from income tax subject to only one condition i.e. 80% of proceeds were required to be brought into Pakistan.
• Tax credit regime provided that income of IT & IT enabled services exports is taxable but 100% tax credit will be granted subject to four conditions mentioned in section 65F.
• However, the conditions were deemed too harsh and there were some drafting issues in section 65F due to which certain taxes became applicable on IT & IT enabled services exports.
• Now Finance Act 2021 has modified section 65F, removing / softening conditions and also changing the text of section 65F due to which certain taxes became applicable on IT & IT enabled services exports.
• Now section 65F provides that income from export of IT & IT enabled services would eligible for 100% tax credit subject to the condition that 80% of exports proceeds are brought into Pakistan through normal banking channels and following three compliance conditions, where applicable: a)- Return has been filled b)- Withholding tax statements for the relevant tax year have been filled in respect of those provisions of the Ordinance, where the person is a withholding agent; and c)- Sales tax returns for the tax periods corresponding to relevant tax year have been filled if the person is required to files Sales Tax Return under any of the federal or provincial sales tax laws.
• The provisions of section 65F relating to tax credit regime have been made applicable from July 01, 2021 and the exemption provisions have been made applicable till June 30, 2021.

Tax Credit Regime for Startups

Clause 62A of section to Income Tax Ordinance, 2001 provides definition of startup as follows:

“Startups” means A business of a residential individual, AOP or company that commenced on or after first day of July, 2012 and the person is engaged in or intends to offer technology driven products or services to any sector of the economy provided that the person is registered with and duly certified by the Pakistan Software Export Board (PSEB) and has turnover of less than one hundred million in each of the last five tax years; or

Any business of a person or class of persons, subject to the conditions as the Board with the approval of Federal Minister in-charge may, by notification in the official Gazette, specify.

Clause 143, Part I, Second Schedule, Income Tax Ordinance, 2001 provided exemption to profit and gains derived by a Startup for the tax year in which the start-up is certified by the Pakistan Software Export Board and the following two tax years.

Exemption to Startup is also replaced by 100% tax credit under section 65F

Exemption to Startup is also replaced by 100% tax credit under section 65F i.e., now a Startup is eligible for 100% tax credit against profit and gains derived by a Startup for the year tax year in which the Startup is certified by the Pakistan Software Export Board and the following two years. The 100% tax credit is subject to following three conditions, where applicable: a)- Return has been filed; b)- Withholding statements for the relevant tax year have been filed in respect of those provisions of the Ordinance, where the person is a withholding agent; and c)- Sales tax return for the tax periods corresponding to relevant tax year have been filed if the person is required to file Sales Tax Return under any of the Federal or Provincial sales tax laws.

Clause 43F, Part IV, Second Schedule provides that the provisions of section 153 shall not apply in the case of a Startup, being recipient of payment. The exemption is still intact i.e., no tax deduction is to be made from payments being made to Startup for supply goods, services or contracts however the Startup is required to be obtain exemption certificate under section 159/ 153. In case of non-availability of exemption certificate, the payer may deduct tax however Startup can claim refunds for tax so deducted by payer.

The provisions of section 65F relating to tax credit regime for Startup have also been made applicable from July 01, 2021 and the exemption provisions have been made applicable till June 30, 2021.

Tax Credit Regime for Freelancers

Freelancers engaged in export of IT & IT enabled services are also eligible for 100% tax credit under section 65F subject to the condition that 80% of export proceeds are brought into Pakistan through normal banking channels and following three compliance conditions, where applicable: 

• Return has been filed; 
• Withholding tax statement for the relevant tax year have been filed in respect of those provisions of the Ordinance, where the person is a withholding tax agent; and 
• Sale tax returns for the tax periods corresponding to relevant tax year have been filed if the person is required to file Sales Tax Return under any of the Federal or Provincial sale tax laws.

Final Tax Regime (FTR)

• The income from exports of computer software or IT services or IT enabled services will be under final tax regime under section 154A in case tax credit under section 65F is not available.
• Tax rate shall one percent of the proceeds of the exports.
• However, in order to be eligible for FTR, the following conditions are required to be met: Return has been filed; Withholding tax statement for the relevant tax year have been filed; and Sales tax return under Federal or Provincial laws have been filed, if required under the law. No credit for foreign taxes paid shall be allowed.
• Since the conditions for claim 100% tax credit and FTR are the same only one difference i.e., FTR does not require bringing 80% export proceeds into Pakistan. Accordingly, if an entity is engaged in export of IT & IT enabled services and meets all the conditions prescribed under section 65F but does not bring 80% export proceeds into Pakistan than tax deductible under section 154A would be final tax in respect of income of such person from IT & IT enabled services.
• A person falling under FTR under section 154A can also opt for normal tax regime (NTR) however such option shall be exercised every year at the time of filling of return under section 114 of Income Tax Ordinance, 2001.

Exemption Certificate from 1% FTR under section 154A

• Section 154A provides that the Federal Board of Revenue in consultation with State Bank of Pakistan shall prescribed mode, manner and procedure of payment of tax under this section
• Unless the mode, manner and procedure of payment of tax under section 154A is prescribed, the persons receiving payment against export IT & IT enabled Services may need to be obtain exemption certificate from the availability of section 154A and in the absence of such exemption certificates, the bank may proceed to deduct 1% tax from the export proceeds.
• Accordingly, it is advisable for persons engaged in IT & IT enabled Services to seek exemption certificate from FBR till the time procedure is identified.