Proposals for Federal
Budget 2011-12
KSE FEDERAL BUDGET PROPOSALS 201112
Introduction
Pakistan’s fiscal position stands at a crucial cross road today. All eyes are set towards the
forthcoming financial budget for FY 2011‐12 to provide a direction, as well as a lead to all other
economic actors ‐ especially private sector – to help bring the country out of the present economic
and financial difficulties.
The Karachi Stock Exchange, being the premier long term capital market raising facilitator to
Pakistan’s industry and commerce has always been and continuous to be a strong supporter of
government initiatives that are beneficial for the country’s economy.
In the above context, the KSE believes that sustainable revenue generation to be the corner stone
of our budgetary strategy. Without this single most critical element, every other economic policy
will face handicaps.
In this regard, the KSE suggests that the Government needs to focus on two crucial aspects. The
first, maximum documentation of our economy and second, utilization of private sector
investment, development & growth.
Comprehensive documentation enables the State to access the true economic value added by all
economic actors and thus allows for equitable and sustainable balance between the country’s real
capacity to produce revenue for the government and the appropriate deployment of such revenue
for developmental purposes.
Role and Importance of the Capital Markets:
The primary role of Capital Market is to mobilize long term savings and Channeling them into
productive investment. In fact, in Pakistan, the single largest beneficiary of capital markets –
specifically in the Stock market ‐ has been the government itself! Because of good stock market
activity in the period from 1992 to 2008, governments were able to privatize many public sector
enterprises at favorable prices in a transparent and equitable manner. It is notable that the firstmajor
successful privatization via Stock Exchanges, that of PTCL, was achieved by a PPP
government itself.
Based on the above, the KSE suggests that to encourage development and deepening of the Capital
Market, the government creates an aggressive, time‐bound schedule in the forthcoming budget for
listing on Exchanges. Significant publically owned enterprises including government‐togovernment
joint ventures, such as PARCO, various development finance institutions (DFI’s),
Pakistan Steel, etc. This would enable such enterprises to access long term capital from the private
sector while investing public will be provided with new returns for investment.
In order to foster a savings culture in the country and encouraging retail investors to better
industrial investment risk, the government, through SECP, should introduce the concept of
personal wealth management advisory services with professional advisors having requisite
certified technical skills, professionalism and strong code‐of‐conduct / ethics requirement and
safeguards.
In order to increase documentation, good governance and transparency the government should
stipulate that private companies (both domestic and joint ventures with foreign partners) that bid
for large government construction / procurement contracts should be listed on the stock
exchanges. This will enable greater scrutiny and transparency of their real value‐added to the
economy, while facilitating such companies to become institutionalized for their own sustainable
growth and development.
In order to channel the savings of Non‐Resident Pakistanis (NRPs) into productive investment
inside Pakistan, it is recommended that the government make suitable adjustments in SCRA
account opening and operation for NRP’s who wish to invest in the stock market, so that the
process is easy and transparent without needless bureaucratically hurdles. KSE believes that
additional 5% to 10% of the total remittance (over US$ 10 Billion) can be attracted to Pakistan by
doing this over time
Our proposals can only be effective in the backdrop of continued reform. The KSE is particularly
concerned with:
1. The ongoing energy crisis and circular debt issue
2. Lack of certainty about pricing of commodities
• Market forces are the best determinants of commodity pricing. Arbitrary setting of prices
hampers investment in the economy.
3. Regulation, whether tax or otherwise, should be practical (rather than cumbersome) and cost
effective to comply with.
4. The trading sector of business especially the commodity trading sector needs to be reviewed
for widening the tax base.
5. The government should be concerned to increase the fiscal base through growth.
6. The government should be concerned to encourage people for investment and remove the
trust deficit between the tax payers and the tax collectors
7. The government should encourage listings of public sector entities on the stock exchanges.
8. The government should be concerned to plug leakages of public sector entities and Afghan
Transit Trade.
It would not be out of place to mention that the KSE is highly transparent in tax payments such
that each and every transaction traded through its automated system is taxed and KSE is one of
the major contributors to the government in this respect.
1. WITHHOLDING TAX ON STOCK MARKET TRANSACTIONS
In the Federal budget 2006‐2007, an increase of 100% in CVT and withholding taxes on stock
market transactions was announced. This remains a matter of great concern to investors. Taxes
levied on securities trades irrespective of the whether the trade is gainful, are detrimental to the
development of the market. An analysis of daily turnover during previous years shows that due to
the increase in CVT and withholding tax rates, the average daily share volume declined drastically.
This not only affected the income of the Exchanges against trading fees and that of Regulator fees
paid to the SECP as it is linked to trading volumes but also shattered the confidence of small and
retail investors as reflected by the reduced daily turnover (leading to inefficient price discovery,
high impact costs and reluctance of large funds to enter the market). Needless to say, the increase
in number of small investors should be a prime concern of the Government as they are considered
to be one of the pre‐requisites for a developed securities market.
A study conducted in the context of an existing tax structure in other developed and emerging
markets, reveals that in most of those countries no such taxes are levied and collected from
investors brokers on saleIpurchase of shares from the stock market.
Taxes Applicable on Stock Market
At present, the following taxes are applicable to the capital markets:
• Withholding tax at 0.0115% on purchase value of shares traded from Members in lieu of
the commission earned by such members (Adjustable) u/s 233A(1)(a)
• Withholding tax at 0.0115% on sale value of shares traded from Members in lieu of
commission earned by such members (Adjustable) u/s 233A(1)(b)
• Withholding tax at 0.0115% on trade value of shares traded from Members (Adjustable)
u/s 233A(1)(c)
• Withholding tax @ 11.50% on mark‐up of COT/CFS from Members, (Adjustable) u/s
233A(1)(d)
• FED in Sales Tax Mode @ 16% on gross commission charged by stock brokers from their
clients in respect of purchase or sale of shares in a stock exchange.
• Tax on capital gain arising from disposal of securities held for a period of less than a year @
rates specified in Division VII of part I of the First Schedule.
The impact on traded average daily traded values for all markets of the KSE due to various taxes
imposed during the period 2004 to 2011 is presented below:
It may be noted that the government withdrew CVT in fiscal year 2009‐10 which resulted in
somewhat improved volumes.
It would not be out of place to mention that a reduction in traded values leads to inefficient price
discovery, and a lack of liquidity. Furthermore, a pre‐requisite of many leading emerging market
indices(e.g. MSCI Barra and FTSE) is that a liquid market exists for both buyers and sellers – hence
in order to provide for a more robust, efficient and transparent market for investors high volumes
are essential.
After the budget announcement for 2009‐10 that the CVT at the rate of 0.02% on purchase of
shares traded from Members had been withdrawn(while not the only factor) was a factor that
caused average daily turnover to increase to 161.40 million shares during the fiscal year 2010.
KSE Proposal for Deduction of Capital Gains Tax
The Capital Gains Tax (CGT) was levied on stock market transactions w.e.f. July 01, 2010 through
the Finance Act 2010.
The investors particularly individuals have been reluctant to invest in stock market due to the
procedural complexities for the computation of CGT, which is evident from the drastic reduction in
traded values at KSE. We therefore propose as under:‐
YEARS Avg. Daily Traded Value (Rs.
in Million)
Remarks
2004‐2005 38,893 Imposition of CVT and
other taxes 2005‐2006 49,721 Above taxes Continued 2006‐2007 29,966
Rate of above taxes doubled
2007‐2008 33,986 Above taxes continued
2008‐2009 4,642 Above taxes continued
2009‐2010 7,227
CVT on shares
discontinued; FED levied
2010‐2011 (July 2010 –
March 2011)
4,679 Capital Gain Tax levied
1. Small investors may be defined as those whose total investment/portfolio size is below
Rs. 10 million and they may be exempt from filing the return for Capital Gains Tax.
The small investors may be facilitated by an introduction of an amnesty scheme whereby
they are also allowed to revise their previous 5 years returns to enhance their income with
certain lower rate of tax.
2. It is proposed that the computation of Capital Gains Tax (CGT) on transaction level may be
done by an institution such as the National Clearing Company of Pakistan (NCCPL)and
deductions in lieu of CGT be made accordingly.
3. Furthermore, it is proposed that the deductions of CGT made as above be treated as full and
final tax liability in the case of small investors.
4. It is further proposed that the following taxes may be withdrawn:
i. Withholding tax at 0.0115% on sale value of shares traded from Members
(Adjustable) u/s 233A (1) (c)
ii. FED in Sales Tax Mode at 16% on gross commission charged by stock
brokers from their clients in respect of purchase or sale of shares in a stock
exchange.Withdrawal of the above taxes will encourage an increase in retail base in the country and
increase volumes thereby helping develop our securities market.
Other Jurisdictions
A detailed analysis of other jurisdictions provides further insight on the measures Governments
have taken to provide for a successful capital/stock market. These incentives and measures allow
for an effective means for issuers to raise capital for productive purposes and for investors who
identify the opportunity and take on risk to invest their excess funds in the most productive
investments.
KSE proposal
We propose to that the Government bring the current tax regime applicable to the capital markets
in line with other regional more developed markets. Since, the Government has levied/introduced
tax on Capital Gains arising from disposal of securities effective from July 01, 2010, we urge the
Government to eliminate the above mentioned withholding taxes to reduce the cost of doing
business at stock markets.
Moreover, it is important to note that the rationale for removal of the above mentioned
withholding taxes is clear because of the implementation of Federal Excise Duty (FED) on
commission of brokers with effect from July 2009.
It is pertinent to note that under sub section (2) of Section 233A, of the Income Tax Ordinance
2001, the applicability of minimum tax has already been changed to adjustable tax in Finance Act
2010.
However, it would not be out of place to mention that earlier the Finance Minister on July 6, 2009
during a visit to the KSE had announced that under clause (c) of sub section (1) of section 233A of
the Income Tax Ordinance 2001, the applicability of Withholding Tax on Sale would be
withdrawn/ omitted to eliminate double taxation.
2. CARRY FORWARD OF CAPITAL LOSSES
The Finance Act 2010 introduced the new section 37 A of the Income Tax Ordinance, 2001;
whereby capital gains on sale of securities held for a period of less than a year was made
chargeable to tax at the rates specified in Division VII of part I of the First Schedule as a separate
block of income.
However, this section also provides that capital loss arising from sale of one security shall be off
set against the capital gains of any other securities chargeable to tax under this section and no loss
shall be carried forward to the subsequent tax year.
Further, as per section 59 ‘Carry forward of capital losses’ of the Income Tax Ordinance 2001,
capital losses can be adjusted against capital gains and carried forward for six years.
Proposal 1:
It is proposed that provision similar to section 59 should be introduced whereby capital loss
arising on sale of securities can be carried forward for six years i.e. unadjusted capital loss arising
on disposal of any security should be carried forward to the next tax year and set off against the
capital gain arising on disposal of securities for six years.
Proposal 2:
It is proposed that capital loss arising from sale of one security is off set against the capital gains of
any other securities chargeable to tax under section 37 A and if the capital loss sustained by a
person during the tax year is not wholly set off against the capital gains of other securities during
that tax year, the unadjusted capital loss should be added to the cost of the respective similar
security for the subsequent tax year to obtain basis in that security this will change the total cost
basis of investment in that particular security for subsequent tax year. In case numerous
investments have been made in that scrip and the shares that have been sold can be identified,
then their cost basis can be used. If this identification cannot be made, first in, first out (FIFO)
method should be used to adjust the cost basis of the security.
3. ADJUSTMENT OF DISALLOWED CAPITAL LOSS
The FBR SRO 112(1)/2011 dated February 11, 2011 under Clause 13F disallows Capital loss
adjustment for Wash Sales, Cross Trades and Tax Swap Sales. Therefore KSE proposes as follows:
• Since loss is disallowed under the above mentioned Rules for Wash Sale, Cross Trades and
Tax Swap Sales, it is therefore proposed that the disallowed loss be added to the cost of the
new securities.
• This results in the increase in cost basis of the new securities. This adjustment postpones
the loss deduction until the disposition of the new securities. Holding period for the new
securities includes the holding period of the securities sold.
4. EXCLUSION FROM CAPITAL GAINS TAX
The Finance Act 2010 introduced the new section 37 A whereby capital gains on sale of securities
held for a period of less than a year was made chargeable to tax at the rates specified in Division
VII of part I of the First Schedule as a separate block of income. It is proposed that followings shall
be excluded from the scope section 37A:
Debt Securities
The Karachi Stock Exchange (KSE) has recently introduced Bonds Automated Trading System
(BATS) to provide a bond market trading platform to market participants, mainly to strengthen
and deepen the money market in line with international best practices. Its prime objective is to
facilitate corporate and retail investors to trade corporate and commercial papers by providing
much needed price discovery to the debt market. However, the BATS at KSE could not get required
momentum in view of operation of a parallel non‐exchange platform to trade in debt securities,
available to the financial institutions by the State Bank.
In order to shift the burden of debts from commercial banks and other financial institutions to
retail investors, so that investor base of debt securities is broadened, it is proposed that trading in
all debt securities, including but not limited to Treasury Bills, Pakistan Investment Bonds (PIBs),
National Saving Bonds and Term Finance Certificates traded at a Stock Exchange of Pakistan
(through an automated system).
To promote exchange traded funds, Authorized participants shall be exempt from capital gains tax
to the extent of shares surrendered by them for the purchase of ETF units.
5. TAX REBATE FOR LISTED COMPANIES
When more companies from a broad array of sectors/industries chooses to list on the KSE, the
stock market performance will become more representative of the national economy. The
Government often expresses its concern that despite the stock market boom, new listings have not
picked up. Although recently, some public offers have taken place mainly under privatization
programme of the Government as well as listings of mutual funds and banking sector, private
industrial units are still shy of getting them listed.
The main reasons for this are as follows:‐
(i) Until June, 2002 there was a tax differential of 10% for listed Companies. Unlisted
Companies were subject to income tax rate of 45% whereas listed Companies 35%.
In the budget of 2002‐03 the government decided to progressively reduce the tax
rates of private companies thereby removing the tax difference of 10% between a
private company and public company leaving no tax incentive for listed Companies.
Tax rate on dividend from unlisted Companies and listed Companies is currently at
10% which once again highlights that there is no advantage to listed Companies.
(ii) The Stock Exchanges on directives from SECP have introduced Code of Corporate
Governance on the listed Companies making them subject to much desired
discipline to protect the shareholders of the listed Companies. Many of the listed
Companies consider it a burden on them with no advantages to them vis‐à‐vis
unlisted companies particularly under the present environment of easy accessibility
to credit.
Although, in Finance Act 2010, a tax credit equal to five per cent of the tax payable was allowed for
the tax year in which a company opts for enlistment in any registered stock exchange in Pakistan,
we consider this tax credit very immaterial and propose that In order to attract more and more
companies for listing, the tax rates for the public limited listed companies be also reduced in the
same ratio as that of Association of Person/small companies so that not only the corporate tax
rates for the listed companies is brought down to the level of 25% as against the non‐listed private
companies at 35% but differential tax treatment of 10% between the listed and non‐listed
companies is also maintained. Or, the tax differential can also be achieved by offering a tax rebate
to those companies whose free float is over 25% of its paid up capital.
After Rebate
* Free Float means proportion of total shares issued by a company that are readily available for
trading at the Stock Exchange. It generally excludes the shares held by controlling
directors/sponsors/promoters, government and other locked‐in shares not available for trading
in the normal course.
This will help in promoting and encouraging better corporate disclosures by the listed companies
and corresponding better returns to the equity investors. This process will not only off‐set the
revenues losses for the exchequer, if any, but would lead to disclosure of better profitability and
growth of corporate taxes.
Alternatively, all IPOs should be exempt from any capital market related taxes for a period of 5
years from listing date.
6. TAXATION OF DIVIDEND
In order to promote the process of consolidation and group formation, it is suggested that tax may
not be charged on dividend received by companies as this results in dual taxation of dividend in
the hands of the company and then in the hands of the ultimate shareholders.
However, if complete elimination of tax on dividend received by companies is not possible due to
revenue consideration, it is suggested that dividends received by all residents companies may be
taxed at 5% instead of the prevailing rate of 10%. It should be noted that in the past companies
have been subjected to tax on dividend income at 5% of the gross amount of dividend and it is
only since the adoption of Finance Act, 2007 when the reduced rate of dividend for companies at
5% was abolished and a uniform rate of 10% was introduced for all shareholders including
companies.
It is therefore suggested that either the dividend received by companies may be exempted from
tax or the rate of dividend received by companies be reduced to 5%.
7. TAX CREDIT ON INVESTMENT IN SHARES UNDER SECTION 62 OF THE INCOME TAX
ORDINANCE, 2001
A tax credit is available to a person other than a company for acquiring new shares offered to the
public by a public company listed on a Stock Exchange in Pakistan. In this regard the present
ceiling of maximum investment on which tax credit can be availed is Rs.300,000/‐.
In order to promote listing of companies in Pakistan on the stock exchanges and create more and
more incentives to attract initial public offering’s the availability of tax credit is a major incentive
for the individual investor to subscribe for shares of listed public companies.
In order to promote the listing of more companies on the stock exchange, it is suggested that
present ceiling of Rs. 300,000/‐ or 10% of the persons’ taxable income for the year on the cost of
acquisition of shares be raised to Rs. 600,000/‐ and 25% of the persons’ taxable income for the
year.
8. TERM FINANCE CERTIFICATES (TFCS)
Previously a registered stock exchange in Pakistan was obliged to collect Capital Value Tax (CVT)
at the rate of 0.01% on transactions w.e.f. July 01, 2004, of the purchase value of any modaraba
certificates or any instrument of redeemable capital as defined in companies ordinance 1984, or
shares of a public company listed on a registered stock exchange in Pakistan transacted through
its automated trading system.
On July 01, 2009 the CVT on shares traded on the stock exchanges was withdrawn.
KSE is of the firm opinion that since the redeemable capital inadvertently remained/left out.
It is therefore suggested that in order to promote and facilitate the development of secondary
market for debt instruments, redeemable capital which includes TFCs may be removed from the
scope of CVT as provided for in clause E of sub‐section (2) of section 7 of the Finance Act, 1989.
9. CALCULATION OF CAPITAL GAINS FOR NON‐RESIDENTS
In Pakistan, there is a technical flaw in the manner of calculation of capital gains especially in the
case of investment in shares where the investment is made in foreign currency. Such a gain is
calculated in historical rupee terms.
Due to this reason a tax liability may arise to a non‐resident due to devaluation of Pakistani rupee
vis‐à‐vis foreign currency even if the shares are sold at the same value in foreign currency or even
at a loss. This manner of calculation of capital gain needs to be corrected.
Capital Gains and losses for non‐residents are to be calculated in terms of the currency in which
such investment is made. For example, capital gain for investment in shares by a non‐resident in
US Dollars are to be made in US Dollars instead of Pakistani Rupee. This is an internationally
accepted practice as only real income or loss can be taxed. There is no deviation in any tax
jurisdiction. In Pakistan this issue never arose as capital gains were exempt from tax.
It is for this reason that India inserted a proviso in Section 48 of the Indian Income Tax Act, 1961
so that these lacunae in the law be removed.
To protect foreign investment from sharp depreciation in Pakistani Rupee and to help attract
foreign investment it is proposed that a proviso similar to section 48 of the Indian Income Tax Act
1961 be inserted in Section 76 of the Ordinance relating to cost of investment for the purpose of
determining of capital gains.
The implementation of this proposal will help attract foreign investment into Pakistan as
investment would not be exposed to losses stemming from depreciation of the Pakistani Rupee.
10.CAPITAL GAINS ON CORPORATIZATION AND DEMUTUALIZATION
Members of the Karachi Stock Exchange (currently owners of the Exchange) have agreed to
segregate their ownership rights from trading rights, retaining trading rights after the
demutualization as per terms and conditions agreed upon through the Memorandum of
Understanding (MoU) signed with the SECP. In this regard, KSE has appointed a leading
international investment bank to advise and assist KSE to take the demutualization plan forward.
In order to facilitate a speedy corporatization and demutualization of the KSE, certain exemptions
are required in the Income Tax Ordinance, 2001 as well as Stamp Act. Although through the
Finance Act, 2007 clauses (110A) and (110B) were inserted in Part I of the Second Schedule to the
Income Tax Ordinance, 2001, but one of the exemptions that was demanded at that time was not
considered in the previous budget.
It is proposed that a new clause 110C may be inserted in Part‐I of the Second Schedule to the
Income Tax Ordinance, 2001 mentioned as under:
“Any income chargeable under the head "Capital Gains" being income from the sale of shares of a
public limited company setup in connection with the corporatization and demutualization of Karachi
Stock Exchange to financial institutions and general public by the shareholders on divestment of
their holding in connection with the corporatization and demutualization.”
However, in Finance Act 2010, clause (110A) of Part I of the Second Schedule was omitted which
we understand erroneously and propose that the clause (110A) of Part I of the Second Schedule to
the Income Tax Ordinance, 2001 relating to “exemption of any gain on transfer of capital asset of
the existing stock exchanges to new corporatized stock exchange, in the course of corporatization of
an existing stock exchange” should be reinserted.
