Tax Guide for US Expats Living and Working in Pakistan
Who Is Liable For Income Taxes in Pakistan
Taxation in Pakistan is based on an individual’s residential status and not on his or her nationality or citizenship. Expatriates who stay in Pakistan for 183 days or more in a tax year (1 July to 30 June) are considered to be residents for tax purposes. Residents of Pakistan are taxed on their worldwide income regardless of where it is received, while nonresidents are taxed on their Pakistan-source income only. Foreign-source income of an individual who is a resident solely by reason of his or her employment in Pakistan and who is present in Pakistan for a period or periods not exceeding in aggregate three years is exempt from tax unless such foreign-source income is brought into or received in Pakistan by the individual or unless the income is derived from a business of the person established in Pakistan. A resident is exempt from Pakistan tax on foreign-source salary if he or she has paid foreign income tax on such salary income.
Income subject to tax
Employment income. Income from salary is Pakistan-source income if it is earned in Pakistan, regardless of where it is received. Consequently, an expatriate is taxable on such income in Pakistan, regardless of his or her residential status. Taxable income includes directors’ fees and all remuneration for employment, subject to allowances and additions for certain non-cash benefits.
Employer contributions to recognized retirement benefit funds, including provident funds (up to certain limits), gratuity funds and superannuation pension funds, do not constitute taxable income for an employee. A gratuity is a lump-sum payment made to an employee at the time of separation from the employer. A gratuity fund is a separately administered fund created for the purpose of making gratuity payments to employees. If they exceed certain specified limits, gratuity payments from unapproved gratuity funds are taxable when received by employees.
For employees, the entire salary amount, including allowances and benefits, is subject to tax, with the following exceptions:
- Free provision of medical treatment and/or hospitalization by the employer to the employee or the reimbursement of medical expenses is 100% exempt, if paid in accordance with the terms of the employment agreement. If not provided for in the employment agreement, a medical allowance up to a maximum of 10% of basic salary is exempt.
- For employer-provided automobiles that are partly for business and partly for personal use, the amount included in salary is 5% of either of the following:
— The cost of acquisition of the automobile to the employer.
— If the automobile is leased by the employer, the fair market value of the automobile at the beginning of the lease.
- For employer-provided automobiles that are solely for personal use, the amount included in salary is 10% of either of the following:
— The cost of acquisition of the automobile to the employer.
— If the automobile is leased by the employer, the fair market value of the automobile at the beginning of the lease.
- For employer-provided rent-free accommodation, the notional value of the benefit of accommodation provided by an employer is the amount that would have been paid by the employer if such accommodation was not provided. However, such amount may not be less than 45% of the basic salary of the employee.
Self-employment and business income. All individuals who are self-employed or in business are taxed on their business income.
All income received in Pakistan is subject to tax, unless specifically exempt. Residents are taxed on their worldwide income, while nonresidents are taxed on their Pakistan-source income only.
Investment income. In general, dividends are subject to a final tax of 10%, which is withheld at source. Dividends paid by power generation companies are taxed at a rate of 7.5%.
Interest and profit/loss sharing income from investments and deposits, unless otherwise exempt from tax, is subject to a 10% withholding tax, which is treated as a final tax. Interest on government securities is taxed at normal rates and is also subject to a 10% withholding tax.
Income from prize bonds is subject to a final withholding tax at a rate of 10%. Income from raffles, lotteries, winnings from quizzes, sales promotions offered by companies or crossword puzzle games is subject to a final withholding tax at a rate of 20%.
Nonresidents are subject to tax on investment income as described in Rates.
Taxation of employer-provided stock options. Legislation taxes an employee on stock options granted by an employer or the employer’s associate. The grant of an option or a right to acquire shares at a future date does not constitute income at the date of grant. If an option to purchase shares is exercised by the employee, the difference between the market value of the shares on the date of exercise and the amount paid by the employee is subject to tax. If the shares acquired by the employee are subject to a transfer restriction, the employee is subject to tax at the earlier of the time the employee has a free right to transfer the shares or the time the employee disposes of the shares.
Capital gains and losses. In general, capital gains resulting from the disposal of capital assets, other than depreciable assets, receive favorable tax treatment if the assets are held longer than 12 months prior to disposal.
For assets held longer than 12 months, only 75% of the capital gain is subject to tax at the normal rates.
These provisions do not apply to capital gains derived from transfers of public company shares or of real property. Capital gains derived from the disposal of shares of a public company listed on a stock exchange in Pakistan, vouchers of the Pakistan Telecommunication Corporation, Modaraba certificates, instruments of redeemable capital and derivative products are taxable.
Deductions
Deductible expenses. Muslim taxpayers may deduct zakat paid (see Section B).
Allowances. An individual may claim a tax credit for charitable donations, including donations in kind, made by him or her to any of the following:
- A board of education or any university in Pakistan established by or under a federal or provincial law
- An educational institution, hospital or relief fund established or run in Pakistan by the federal government, provincial government or a local government
- A nonprofit organization
To compute the above tax credit, the average rate of tax is applied to the lesser of the following amounts:
- The amount of the donation including the fair market value of any property donated
- 30% of the taxable income of the individual donor
An individual is entitled to an allowance for investments made in the following shares:
- New shares offered to the public by a public company listed on a stock exchange in Pakistan
- Shares acquired from the Privatization Commission of Pakistan Shares acquired by the taxpayer must be held for at least 12 months from the date of acquisition. If the shares are disposed of within 12 months, the tax relief is recaptured in the year when the shares are sold.
To compute the above tax credit, the average rate of tax is applied to the lesser of the acquisition cost of the shares, Rs. 300,000 or 10% of the taxable income of the investor.
Certain resident individuals are entitled to an allowance with respect to premiums paid in an approved pension fund under the Voluntary Pension System Rules, 2005.
This allowance is available to individuals who have obtained a valid National Tax Number or a National Identity Card and are not entitled to benefit under any other approved employment pension or annuity scheme.
To compute the above tax credit, the average rate of tax is applied to the lesser of the following amounts:
- The premium paid
- PKR 500,000
- 20% of the taxable income of the individual
A taxpayer may claim an allowance with respect to any mark-up paid on a loan meeting either of the following conditions:
- It is sanctioned by a scheduled bank or by a non-banking finance institution regulated by the Securities and Exchange Commission of Pakistan.
- It is advanced by the government, a local authority, a statutory body or a public company listed on a Stock Exchange of Pakistan.
- To qualify, the following conditions must be fulfilled:
- The loan must be used for the construction or acquisition of a house.
- The mark-up is not claimed as a deduction in computing income from residential property.
To compute the above tax credit, the average rate of tax is applied to the lesser of the mark-up paid, PKR 750,000 or 50% of the taxable income of the individual.
Business deductions. In general, taxpayers may deduct all expenses (excluding personal or capital expenditures) incurred in carrying on a business in Pakistan. Depreciation on fixed assets used in a business is allowed at specified rates.
Rates
Residents. If more than 50% of an individual’s income is derived from employment.
Relief for losses. Business losses, other than losses arising out of speculative transactions, may be carried forward to offset profit in the following six years. Unabsorbed depreciation may be carried forward indefinitely.
B. Other taxes
Net worth tax. Net worth tax has been abolished.
Zakat. Zakat, an Islamic wealth tax on specified assets, is levied at a rate of 2.5%. This tax applies only to Muslim citizens of Pakistan.
Estate and gift taxes. Pakistan does not levy estate and gift taxes.
C. Social security
Pakistan offers benefits to employees for death, disability, injury, medical expenses and pensions, as well as academic scholarships for workers’ children. Employees earning less than PKR 7,000 a month are generally covered by these benefits, with employers making contributions to the government.
Benefit Employer contribution
Employees’ Old Age Benefits PKR 350 per month Provincial Employees’ Social 6% of monthly salary, and Security of up to PKR 10,000 Workers’ Children (Education) PKR 100 annually Employees are also required to contribute PKR 70 per month for Employees’ Old Age Benefits.
Pakistan has not entered into any social security totalization agreements.
Double tax relief and tax treaties
Under Pakistani tax law, residents are taxed on worldwide income. However, a tax credit is generally granted for income from sources outside Pakistan (from both treaty and non-treaty countries), at the lower of the average foreign tax paid or the average Pakistani tax attributable to the foreign income. Pakistan has entered into double tax treaties with the following countries.
Austria
Jordan
Saudi Arabia
Azerbaijan
Kazakhstan
Singapore
Bahrain
Kenya
South Africa
Bangladesh
Korea (South)
Sri Lanka
Belarus
Kuwait
Sweden
Belgium
Lebanon
Switzerland
Bosnia
Libya
Syria
Herzegovina
Malaysia
Tajikistan
Canada
Malta
Thailand
China
Mauritius
Tunisia
Denmark
Morocco
Turkey
Egypt
Netherlands
Turkmenistan
Finland
Nigeria
United Arab Emirates
France
Norway
Germany
Oman
United Kingdom
Hungary
Philippines
Indonesia
Poland
United States
Iran
Portugal
Uzbekistan
Ireland
Qatar
Vietnam
Italy
Romania
Yemen
Japan
This list does not include treaties that relate only to shipping and air transport.
Most of these treaties exempt from Pakistani tax any profits or remuneration received for personal services performed in Pakistan in an assessment year if one or more of the following conditions are satisfied:
- The individual is present in Pakistan for less than a specified period (usually not in excess of 183 days).
- The services are performed for, or on behalf of, a resident of the other country.
- The profits or remuneration are subject to tax in the other country.
- If self-employed, the individual has no regularly available fixed base in Pakistan.
- The remuneration is paid by, or on behalf of, an employer who is not a resident of Pakistan.
- The remuneration is not borne by a permanent establishment or a fixed base maintained by the employer in Pakistan.
To learn more about the history, culture, economy and other information about Pakistan
We have been preparing US income tax returns for US Citizens and permanent residents living in Pakistan for over 15 years. As a US Citizen or permanent resident (green card holder) you are required to file a US return each year regardless of the fact that you file and pay taxes in your residence country. The expatriate earned income exemption ($100,800 for 2015) can only be claimed if you file a timely tax return. It is not automatic if you fail to file.
We have scores of clients located in Pakistan and know how to integrate your US taxes into the local income taxes you pay. Any income tax you pay there can be claimed as a dollar for dollar credit against the tax on your US return on the same income.
As an expat living abroad you get an automatic extension to file until June 15th following the calendar year end. (You cannot file using the tax fiscal year for US tax purposes). You must pay any tax that may be due by April 15th in order to avoid penalties and interest. You can get an extension to file (if you request it) until October 15th.
There are other forms which must be filed if you have foreign bank or financial accounts; foreign investment company; or own 10% or more of a foreign corporation or foreign partnership. If you do not file these forms or file them late, the IRS can impose penalties of $10,000 or more per form. These penalties are due regardless of whether you owe income taxes or not.
There are certain times you may wish to make elections with respect to your Corporation or Investment Company which will give you US tax benefits. There are other situations where forming a US corporation to receive your business income may be more advantageous than using a corporation in your resident country. We can help you with these decisions.
If you are self-employed, you will have to pay US self-employment taxes (social security). If you are a bona-fide employee you do not have to worry about paying US social security on your wages earned in Pakistan.
We have helped hundreds of expats around the world catch up because they have failed to file US returns for many years. Unfortunately, unlike India, Canada, UK, etc. you must also file so long as you are a US citizen or resident. You can if you follow proper IRS and State Department procedures surrender your US Citizenship and therefore cut off your obligation to pay US taxes in the future. You must surrender that Citizenship for non-tax avoidance reasons and then can usually not return to the US for more than 30 days per year for the subsequent ten years.
Let us help you with your US tax returns, US tax planning and other US tax and legal concerns. Download our expat tax questionnaire or request a request a consultation by phone, skype or email