Dr. Ikramul Haq & Syed Muhammad Ijaz
Pakistan’s tax system is now carrying a crucial contradiction that can no longer be ignored. The State signs Avoidance of Double Taxation Agreements (DTAs) with foreign states to promise certainty, reciprocity and fair treatment to treaty partners and foreign investors, but domestic tax amendments and administrative design are increasingly moving in the opposite direction.
This is a serious departure capable of rendering Pakistan as an unreliable treaty partner state, and violator of international binding agreement. Strangely, not a single non-resident or resident taxpayer has raised this issue. Even the experts in tax, constitutional and international public law have failed to point it out.
The first and persistent violation is through section 152(5) of the Income Tax Ordinance, which reads as under:
“Where a person intends to make a payment to a non-resident person without deduction of tax under this section, other than payments liable to reduced rate under relevant agreement for avoidance of double taxation, the person shall… furnish to the Commissioner a notice in writing…”
The amendment made (highlighted in bold) effectively mandates a notice for waiver even where no tax is required to be withheld under a binding DTA. This is a clear instance of domestic law overreach. The overreach is further entrenched through subsections (5A) and (6), reproduced below, which in pith and substance place a “notice” at par with an exemption certificate.
(5A) The Commissioner on receipt of notice shall , within thirty days, pass an order accepting the contention or making the order under sub-section (6) :
Provided that the Commissioner shall be deemed to have issued the exemption certificate upon the expiry of thirty days and the certificate shall be automatically processed and issued by Iris subject to the condition that in computing the said period of thirty days, there shall be excluded days taken for adjournment by the applicant:
Provided further that the Commissioner may modify or cancel the certificate issued automatically by Iris on the basis of reasons to be recorded in writing after providing an opportunity of being heard.
(6) Where a person has notified the Commissioner of a payment under sub-section (5) and the Commissioner has reasonable grounds to believe that the non-resident person is chargeable to tax under this Ordinance in respect of the payment, the Commissioner may, by order in writing, direct the person making the payment to deduct tax from the payment in accordance with sub-section (2).
It is pertinent to note that, in practice, Commissioners often either keep these notices pending indefinitely or reject them after the expiry of 30 days, thereby triggering unnecessary and avoidable litigation. Even otherwise, remittances are frequently blocked by banks, since the State Bank of Pakistan, in Foreign Exchange Manual, Chapter 14 (Commercial Remittances), ties payments to non-residents to the production of an exemption certificate. The result is a regulatory spider’s web of interlocking provisions that, in effect, subjects’ payments to non-residents to the discretion of Commissioners Inland Revenue and imposes an unwarranted compliance and litigation burden.
This is a blatant violation of Article 24, a provision found in almost all DTAs signed by Pakistan, and it is nothing short of shocking overreach by Federal Board of Revenue (FBR). Even more troubling is the fact that no meaningful voice has been raised against it. As a result, the FBR’s high-handedness, now endorsed by Parliament, has acquired an air of legitimacy (sic).
Article 24(1) of the UN model treaty language:
“Nationals of a Contracting State shall not be subjected in the other Contracting State to any taxation or any requirement connected therewith which is other or more burdensome…”
In Pakistan, the Income Tax Ordinance, 2001 [Ordinance 2001] does, in fact, confer binding force on treaty arrangements. The problem is not lack of recognition; it is internal contradiction within the statutory framework:
“…the agreement and the provisions made by notification for implementing the agreement shall, notwithstanding anything contained in any law for the time being in force, have effect…”
The domestic statute itself recognizes the primacy of treaty obligations. Section 107 confers overriding effect upon agreements entered into by the Federal Government for avoidance of double taxation. The language is unequivocal: the agreement and implementing notification shall have effect notwithstanding anything contained in any other law for the time being in force. This is a classic non obstante clause, and its sweep extends beyond the Ordinance to all inconsistent laws.
Section 107 expressly covers the core treaty functions, including:
- “Relief from the tax payable under this Ordinance;”
- “The determination of the Pakistan-source income of non-resident persons;”
- “The income chargeable to tax in Pakistan in the hands of non-resident persons, including their agents, branches, and permanent establishments in Pakistan…”
Armed with a non obstante clause, this provision overrides inconsistent provisions of all other laws for the time being in force, and not merely the Ordinance, 2001. However, despite this clear statutory primacy given to treaty arrangements, the subsequent legislative trajectory moved in the opposite direction. Through changes in section 107(2), relief that was previously available under section 107 was made subject to the exceptions introduced through the newly inserted section 109, ostensibly as part of anti-avoidance measures. The relevant provisions read as follows:
(2) Subject to section 109, where any agreement is made in accordance with sub-section (1), the agreement and the provisions made by……
Relief available earlier was now tied with exceptions provided under newly inserted section 109 as a part of anti-avoidance measures. Section 109 read as follows:
- Recharacterisation of income and deductions.– (1) For the purposes of determining liability to tax under this Ordinance, the Commissioner may–
(a) recharacterise a transaction or an element of a transaction that was entered into as part of a tax avoidance scheme;
(b) disregard a transaction that does not have substantial economic effect;
(c) recharacterise a transaction where the form of the transaction does not reflect the substance;
(d) from tax year 2018 and onwards, disregard an entity or a corporate structure that does not have an economic or commercial substance or was created as part of the tax avoidance scheme; or
(e) from tax year 2018 and onwards, treat a place of business in Pakistan as a permanent establishment, if the said place fulfills the conditions as specified in sub-clause (g) of clause (41) of section 2.
(2) In this section, “tax avoidance scheme” means any transaction where one of the main purposes of a person in entering into the transaction is the avoidance or reduction of any person’s liability to tax under this Ordinance.
(3) Reduction in a person’s liability to tax as referred to in sub-section (2) means a reduction, avoidance or deferral of tax or increase in a refund of tax and includes a reduction, avoidance or deferral of tax that would have been payable under this Ordinance, but are not payable due to a tax treaty for the avoidance of double taxation as referred to in section 107.
In another reckless move, clause (g) was inserted in subsection (41) of section 2, with corresponding changes made in sections 109 and 152, thereby distorting the very foundation of the definition of permanent establishment as provided in Pakistan’s tax treaties. This marked a major departure from the treaty-based concept of a fixed place of business to the far broader notion of a place of business only, accompanied by an Explanation that effectively goes under the skin of the PE definition contained in the DTAs.
(g) a place of business that is used or maintained by a person if the person or an associate of a person carries on business at that place or at another place in Pakistan and–
(i) that place or other place constitutes a permanent establishment of the person or an associate of the person under this sub-clause; or
(ii) business carried on by the person or an associate of the person at the same place or at more than one place constitute complementary functions that are part of a cohesive business operation.
Explanation.– For the removal of doubt, it is clarified that–
(A) the term “cohesive business operation” includes an overall arrangement for the supply of goods, installation, construction, assembly, commission, guarantees or supervisory activities and all or principal activities are undertaken or performed either by the person or the associates of the person; and
(B) supply of goods include the goods imported in the name of the associate or any other person, whether or not the title to the goods passes outside Pakistan.
Clause (e) in subsection (1) of section 109 inserted (reproduced supra) with insertion of subsection (4B) in section 152 that read as follows;
(4B) The Commissioner may, in case of payment that constitutes part of an overall arrangement of a cohesive business operation as referred to in paragraph (ii) of sub-clause (g) of clause (41) of section 2, on application made by the person making payment and after making such inquiry, as the Commissioner thinks fit, allow by order in writing, the person to make payment after deduction of tax equal to twenty percent of the tax chargeable on such payment under sub-section (1A)
These continuing unilateral changes constitute a direct and serious breach of the Vienna Convention on the Law of Treaties, 1969. The position is not merely questionable; it is legally indefensible considering the Convention’s settled principles:
- Article 26 (pacta sunt servanda): “Every treaty in force is binding upon the parties to it and must be performed by them in good faith.”
- Article 27: “A party may not invoke the provisions of its internal law as justification for its failure to perform a treaty.”
- Article 29: A treaty binds each party “in respect of its entire territory.”
Read together, these provisions leave no room for a contracting state to dilute, override, or neutralize treaty obligations through unilateral domestic legislation, administrative devices, or enforcement practice. Any such attempt is a plain violation of international law and strikes at the foundation of treaty fidelity.
Hence, this very contradiction points to a remedy already built into Pakistan’s DTAs with its treaty partners, namely, Article 25 (Mutual Agreement Procedure). It is not a matter of optional diplomacy; it is a binding treaty remedy. The text is unequivocal:
“Where a person considers that the actions of one or both of the Contracting States result or will result for him in taxation not in accordance with the provisions of this Convention, he may, irrespective of the remedies provided by the domestic law of those States, present his case…”
The phrase “irrespective of the remedies provided by the domestic law” is the strategic opening that Pakistani taxpayers and advisers have consistently underused. MAP can proceed alongside domestic remedies. It does not require the taxpayer to surrender treaty rights at the altar of local process.
Taxpayers often confine their challenge to domestic appellate forums without invoking the treaty channel at an early stage. Equally, treaty partners seldom press systemic concerns unless disputes escalate. The result is institutional silence in the face of incremental erosion.
The broader consequence extends beyond doctrinal purity. Cross-border investment decisions are shaped by predictability. When treaty entitlements are conditioned upon administrative discretion, or when domestic anti-avoidance provisions are framed in a manner that places treaty relief under suspicion, the perception of legal risk intensifies. Pakistan cannot credibly position itself as a reliable treaty partner while simultaneously constructing procedural and definitional devices that narrow treaty operation in practice.
The solution does not require legislative intervention. The legal framework already exists. Section 107 of the Ordinance accords primacy to treaty arrangements. DTAs contain non-discrimination clauses and MAP provisions. The Vienna Convention binds the State at the international plane. What is required is institutional discipline: administrative practice aligned with treaty hierarchy, statutory drafting that respects allocation of taxing rights, and judicial vigilance to ensure that domestic provisions are interpreted harmoniously with binding international obligations.
Where conflict arises, the response must be twofold. Domestically, taxpayers must challenge chargeability and jurisdictional overreach on the basis of section 107 and constitutional principles governing taxation and legislative competence. Internationally, competent authorities must be engaged under Article 25 at the earliest stage. Silence, whether by taxpayers or treaty partners, cannot legitimize inconsistency.
Pakistan’s treaty network was constructed to avoid double taxation, prevent fiscal evasion through cooperation, and promote cross-border economic engagement. If domestic tax design continues to treat treaty relief as an exception to be administratively rationed rather than a right to be honored, the erosion will become structural.
Pakistan’s tax system does not suffer from a lack of treaty law; it suffers from a lack of treaty discipline. The legal architecture is already in place. Section 107 gives treaty arrangements overriding effect. Article 24 protects against discriminatory and more burdensome tax treatment. Article 25 provides a live treaty remedy, and it does so “irrespective of the remedies provided by the domestic law.” The Vienna Convention leaves no room for unilateral dilution of treaty obligations through domestic drafting or administrative practice.
The real failure, therefore, is not textual but institutional. Domestic amendments, anti-avoidance framing, and procedure-heavy withholding mechanisms are being used to build a parallel system one that acknowledges treaties in principle but narrows them in practice. That contradiction is no longer technical. It is structural, and it is dangerous.
In serious treaty conflicts, the response must proceed on two tracks at once: domestically, by challenging chargeability, statutory overreach, and administrative unfairness under the Ordinance and constitutional principles; and internationally, by invoking Article 24 and triggering Article 25 (MAP) at the earliest stage, not as an afterthought. The continued silence of taxpayers, advisers, and treaty partners has only widened the gap and emboldened its misuse.
If Pakistan intends to retain credibility as a treaty partner and remain a serious destination for cross-border business, it must stop treating treaties as diplomatic optics and start enforcing them as binding law under the domestic laws as well.
Treaties are not diplomatic ornamentation. They are binding instruments integrated into domestic law through section 107 of the Ordinance that itself has been mutilated by revenue overreach. The faithful performance of DTAs is a legal obligation, not a matter of convenience. If Pakistan intends to retain credibility in international taxation and sustain investor confidence, it must ensure that municipal law and administrative practice operate in conformity with the treaty discipline it has solemnly undertaken to observe.
Dr. Ikramul Haq, Advocate Supreme Court, specializes in constitutional, corporate, media and cyber laws, ML/CFT, IT, intellectual property, arbitration and international taxation. He studied journalism, English literature and law. He holds LLD in tax laws with specialization in transfer pricing. He was full-time journalist from 1979 to 1984 with Viewpoint and Dawn. He served Civil Services of Pakistan from 1984 to 1996.
Syed Muhammad Ijaz, FCA (ICAP), ACA (ICAEW), LL.B., is a distinguished financial and legal expert with a comprehensive educational background and over 25 years of professional excellence. A Fellow Chartered Accountant (ICAP) and Advocate of the High Court, Ijaz also holds the ACA designation from the Institute of Chartered Accountants in England and Wales (ICAEW) and an LL.B. degree, enhancing his multifaceted expertise in finance, tax, and corporate laws.