SIMPLY CLEANING

Taxation Issues
User
Assignment # 2

Group # 6
SUBMITTED BY: Aatika Ahmed [Roll no. 1]
Adeel
User Muzaffar Alam [Roll no. 6]
Dawar Akhtar Shah [Roll no.12]
Jehanzeb Anwer [Roll no. 22]
Mehmood Maroof [Roll no. 24]
SUBMITTED TO: Mr. Sultan Raza
CLASS: BBA 7
DATE: 23rd/ 12/ 09
Taxation
Taxation or Tax is defined as the revenue collected by the Government of the state for
provision of administrative and other services to individuals, both artificial and natural as
well as any association of persons. The Pakistan Government applies 3 different forms of
taxes to the aforementioned categories of people and these are:

1) Income Tax

2) Sales Tax

3) Professional Tax

It is important to understand that each tax is levied on a different base i.e. determined by
a different account and may not necessarily be applicable to all categories of taxpayers.
Let us now look in further detail of each tax component.

Income Tax –Ideal Practice

It is the most generalized and generic form of tax and is applicable to all citizens deriving
an income through any legal trade or activity within the geographical boundaries of the
country. An Income tax therefore is levied on all individuals irrespective of their country
of origin or nationality. It must however be clarified that resident Pakistani nationals are
liable to pay income taxes on income earned both within and outside the geographical
limits of the country.

Income taxes are primarily classified on two types of individuals, these are either salaried
individuals or non-salaried individuals. According to the Income Tax Ordinance 2001, all
individuals whose taxable salary exceeds his/her total taxable income by 50% i.e. more
than half of the total taxable income of that individual comprises of salary is classified as
Salaried Tax Payer, while all other individuals not meeting the above mentioned
requirements are classified as Non-Salaried Tax payers. The two classes of tax payers
have differing tax schedule and requirements. The sole proprietor i.e. Self-employed
individuals under ITO 2001 are classified as Non-Salaried Tax Payers and their income is
 treated as Income Derived from Property. The tax exemption ceiling for this class of tax
payer is 100,000 for men and 125,000 for women, while the same for salaried tax payers
is much higher i.e. 200,000 and 225,000 for men and women respectively. This means
that the effective tax rate is higher for self-employed individuals.

a) Method of Payment

Application and Receipt of National Tax Number (NTN)

Maintenance of Records, Books & Accounts etc.

Computation of Total Income/Loss

Computation of Taxable Income/Loss

Computation of Tax Liability

Filing Of Tax Return (E-filing)

The method of Payment of income tax has been streamlined over the years and now it is
being done online to reduce human intervention an prevent corruption and malpractices
by employees. Once an individual has received an NTN number, they can personally file
their total income/loss for the taxing period and then have their tax assessed by the
program online. This is a purely voluntary declaration method and has been introduced to
curtail tax evasion, the new system is an incentive for people to pay taxes by only
disclosing that part of their income, which they feel, can be traced and hence taxed.
However it would facilitate the government in identifying a list of eligible tax payers
within the state.

Documents required to be maintained by the Tax Applicant are:

Cash Memo or Invoice

Record of Receipts, Sales, Payment, Purchases & Expenses (Recurring)

Vouchers of Purchases & Expenses. (Non-Recurring)

The three documents form the minimum documentary requirements for any business
other requirements include cash or bank book, general ledger, and a record of stock in
trade or inventory in case of manufacturing/ retailing/ wholesale concern.

This is the ideally prescribed method for filing of income tax return, starting form
obtaining the NTN number and ending with the e-filing of income tax returns.

Practical Solution

Due to the ease of filing income tax returns as well as the factor of self disclosure
coupled with the mandatory requirement makes the ideal method most lucrative. Also
worth mentioning is the fact that since we are seeking to gain contracts from commercial
clients, it becomes essential to be registered with the government. So in this instance the
ideal method is also quite practical.

However with interviews from our contacts we gained some insight as to how they avoid
or control their tax expense. It must be kept in mind that due to the nature and size of
commercial contracts it is not possible to evade tax. But the same does not hold true for
domestic services. One good way that we learned was to avoid billing clients with
consolidated bills. Since the consolidated bills will be of higher value individually each
bill would have to contain the customers address and contact details. Service providers
can avoid this by simply billing clients separately for each service, by doing this the
service provider can make it difficult for the FBR or other investigating agency to
validate the authenticity of the bills. Hence under invoicing can be used to hide part of
income from income tax authorities.

Another thing that we learned is that by structuring the salary structure in such a way as
to keep fixed compensation at a maximum level for a supervisor at 15,000 and that for a
 worker at 10,000-12,000 we can save the income tax expense. Income below 200,000 per
annum or 16,667per month is exempted from tax. However this level of pay coupled with
commission i.e. variable pay will be much greater and hence allow us to pay more to our
employees without incurring the tax expense. This is important because it is the company
that has the liability to pay its employees income tax.

It must be kept in mind that since the customers will be billed for short amounts the
details i.e. the breakup of the bill will not be needed, therefore the tax agency cannot
verify whether the variable pay is built in the bill or separately disbursed by the company.

The Pros & Cons of Ideal Approach

1) A sense of righteousness by doing the right thing. We would be contributing to social

welfare, since the funds paid as tax are used by government to finance social projects
such as health, food and other programs as well as development programs.

2) It is easier to maintain account since only one record needs to be kept, else separate
accounts need to be maintained for both government agencies and own use. By
maintaining two accounts i.e. one foe self use and other for presentation to government
agencies and authorities the company risks its credibility in case the dual accounts are
leaked.

3) If company experiences a bad season, then employees may not get well paid and my quit
job. This would result in loss of trained staff and may cost the company in the form of
new employee training, as well as insurance and other expenses. But we have minimized
this risk by forming teams in such a way as to minimize turnover.

The Pros & Cons of Practical Approach.

1) The company can save Tax expense through lowering its reported net revenue and hence
its taxable income. This would allow the proprietor higher earnings.
2) Employees can get well paid without the company having to bear extra cost of employees
in the form of taxation or give them bonuses to increase motivation. The variable pay will
be linked to their work and hence serve as their motivating tool.

3) Heavy penalty can be expected if the practice is proven. Although the chances are quite
low, the resulting damage could put the firm in disrepute and corporate clients may
decline prolonging contracts. This could have high costs for the company and may even
jeopardize the sustainability of the firm.

Sales Tax

Since this tax is not applicable as of Dec 2009 there is little reason to highlight this part in
great detail. The Sales tax is a tax levied by the state mostly on goods and commodities
sold within the state and at times on certain services. However as of Dec 2009 the sales
tax is not being levied on janitorial and domestic cleaning services and therefore does not
apply to our business. The sales tax is also collected by the state revenue collection
authority i.e. the Federal Board of Revenue (FBR) and is calculated as a percentage of
total revenue or turnover of a firm. Currently the federal government has set the sales tax
level at 16%.

The registration and filing programs have been simplified and streamlined and can now
be done through the Internet. The methodology involves registration, which again can be
done over the Internet since the FBR has access to both NTN number as well as the
NADRA databases, and can use the access to verify applicant details. The calculation is
also very simple; the Sales Tax Liability is simply the difference of Sales Tax received
for the sales of goods and services and the sales tax paid on goods and services bought.

The documents required for filing the sales tax are simply the invoice or sales receipt in
cases where the sales value is in excess of PKR 500, and cashbook where sales value for
each order is less than PKR500.

While our company may not be required to pay sales tax, it is important to know that
capital goods are exempted from sales tax incase of investors who are not currently
providing services through the use of similar goods. This means that at the time of
purchase of cleaning equipment from importers in Pakistan, the company can save almost
16% of the total cost of such equipment

Since this tax is not directly applicable to the company, there is little need to elaborate on
this aspect. The relevancy of this tax to the company has already been discussed in the
aforementioned part.

Professional Tax

Unlike the other two i.e. the Income Tax as well as the sales tax which are federal taxes,
the Professional tax (The Sindh Professionals, Trades, Calling and Employment Tax) is a
provincial tax subject. It is levied by the provincial government on professionals such as
lawyers, auditors, engineers, consultants and even such service providers as car dealers,
video rentals etc.

Basically this tax seeks to cover all aspects of services that may not fall under the
purview of the sales tax and hence serve as an alternate or substitute revenue generation
tool for the government. Whether the professional tax is applicable on a person (natural/
artificial) or on an Association of Persons (AoP) is determined by the Excise & taxation
Officer. The Excise and Taxation Officer is empowered to investigate any individual or
person providing services in the said jurisdiction and must be a registered business i.e.
must have an NTN number etc. This practice allows the Excise & Taxation officer
considerable leverage when determining who is liable to pay professional tax and who is
not.

The methodology is extremely simple, companies or individuals can either voluntarily

register themselves for professional taxation or they may be registered by force by the
Excise & Taxation Officer. If the latter situation exists the company or person being
registered is allowed to appeal the registration within 15days after being served the notice
of forceful registration.
This appeal process is however redundant and ineffective since the appeal is made to the
Excise & Taxation Officer, who in the first place started the registration proceedings.
This leaves litigation or “settlement” as the only alternative for the defendant.

The professional tax is levied according to two classifications. Limited liability

companies, Modarbas, Mutual Funds etc are taxed as percentage of their paid up capital.
However importers, exporters, auditors, lawyers etc are charged as percentage of their
sales revenue or turnover. This allows for heavy taxation on both ends i.e. companies
with very low capital base (purely service oriented firms) will be taxed on their turnover
while companies with high paid up capital will be charged as a percentage of their capital
base.

Practical Approach

Unlike the Income tax filing that is managed by the federal government and is quite
efficiently managed, the professional tax being a provincial subject is not that well
recognized. In fact when we asked our contact about the professional tax he told us that
he wasn’t even aware that such a tax existed. So the system is very lax when it comes to
evading this tax, which was recommended to us.

However we feel that the Professional tax is quite low i.e almost 0.1% of turnover,
coupled with the fact that we may be understating our revenues the professional tax might
not be so troublesome. However if the rates are later drastically revised, it would be
impossible to back out of the arrangement. Also since there is no requirement by any
insurance company or any financial institution for professional firms to be registered with
the Sindh Tax Authority, therefore there is no reason why the professional tax cannot be
easily evaded. Another thing to keep in mind is that by paying the professional tax, the
Sindh government does not offer any benefit or reward or any privileges. Therefore there
is no incentive to register for professional taxation.
 We were also told that in case the Excise & Taxation officer decided to forcefully register
the firm under the Professional tax regime, there would be no point in filing an appeal as
already mentioned above. Also that due to the flexible nature of the tax regime i.e. no
fixed definition as to what services are included and what services are exempted, there is
little likelihood of any penalty for not self registering. Therefore the opportunity cost of
not self registering is also negligible. This leaves us with little motivation to register for
the professional tax.

The Pros & Cons of Ideal Approach

1) Low cost of professional tax coupled with recognition from the provincial government
could help in facilitating deals and contracts with the provincial government bodies as
well as government commercial organizations, such as KPT etc.

2) The company can join the ranks of professional firms that are recognized by the local
government as well as facilitate access to professional trade bodies. This would not only
lend credibility to the firm and allow it to express its concerns and voice at the provincial
level but also allow the firm access to international clients and MNCs.

3) Due to the nature of the work i.e. dealing with chemicals etc, the provincial government’s
labor wing may cause unnecessary hindrances and may routinely bother to inspect
standards etc. This would result in costing organization unnecessary expenses in the form
of grease or “reconciliation” payments.

The Pros & Cons of Practical Approach.

1) By not registering for the professional tax the company can save itself from not only the
cost both formal and informal but also the hassle in registering for the tax. The company
can save itself considerable paperwork and time and also the “grease payments” required
to facilitate the process.

2) The company cannot join the ranks of professional bodies within the province and may
not be able to lend its voice or express its concerns to the government. They may also not
be able to bargain contracts or access to government machinery.
3) By not registering the company can also effectively evade from labor union issues. Even
though the number of workers may be small in the beginning, if the company grows with
a large labor force, it would be best to remain under the provincial government’s radar
especially in the growth phase when the government officials would attempt to get undue
benefits.