Pakistan

Tax issues of corporate amalgamations, mergers & acquisitions

Huzaima Bukhari & Dr. Ikramul Haq*

INTRODUCTION

In the era of globalization, cross-border amalgamations, mergers and acquisitions are very important for the international corporate growth and integration of world-wide business. The pace of such transactions has been rather sluggish in Pakistan, partly because of unfavourable or complicated corporate and tax laws and largely due to the absence of corporate culture[1]. However, in the last few years, the policymakers have tried to catch up fast with other nations by rationalising tax and corporate laws[2] and providing swift mechanism for implementation of any scheme of merger, takeover, demerger, acquisition, arrangement and reconstruction. This article, however, is confined to important tax implications[3] of such transactions under the Income Tax Ordinance, 2001 [hereinafter, “the Ordinance”].

Unlike the repealed Ordinance [Income Tax Ordinance, 1979], a number of incentives have been provided in the new Income Tax Ordinance [made effective from 1^st July 2002] for amalgamating and amalgamated companies on the fulfillment of certain conditions. These incentives are elaborated by Federal Board of Revenue (FBR, formerly (CBR), Central Board of Revenue)[4] in its various [5]Circulars e.g. Circular No. 1 of 2007 and 2005, 17 of 2004 and 7 of 2003, which can be summarised as under:

• expenses on merger/amalgamation will be allowed;
  • there will be continued availability of unabsorbed depreciation; and
  • no bar is imposed on transfer/carry forward of losses of merged entities.

The above referred benefits prior to 1^st July 2005 were confined to amalgamations between public companies or companies incorporated under any law other than the Companies Ordinance, 1984. This restriction was relaxed through Finance Act 2005 by allowing that one of the merging companies can be a private limited company. [6]Section 2(1A) of the Ordinance exclusively defines the terms “amalgamation”. The Finance Act, 2005 widened the scope of definition clause by extending it to companies, owning and managing industrial undertakings, in either case one of them, should be a public company. In 2007, the facility was further extended to “companies engaged in providing services not being trading companies”. The FBR explained the scope of amendment in Circular No 1 of 2005 as under:

“Originally, the term amalgamation was defined under section 2(1A) as “merger of one or more banking companies or non-banking financial institutions or insurance companies.

The scope of this definition has been extended to the industrial sector as well where amalgamation takes place on or after July 1, 2005.

Furthermore, previously both the merging companies had to be either public companies or companies incorporated under any law other than the Companies Ordinance 1984. This restriction has also been relaxed by allowing one of the merging companies to be a private limited company”.

As per conditions laid down in section 2(1A) and explained by FBR, in any amalgamation/merger scheme, the one company can be a private limited company but at least one should be a “public company”. This expression is defined in section 2(47) of the Ordinance as under:

“public company” means –

(a)        a company in which not less than fifty per cent of the shares are held by the Federal Government or Provincial Government;

(ab)      a company in which not less than fifty per cent of the shares are held by a foreign Government, or a foreign company owned by a foreign Government;  

(b)        a company whose shares were traded on a registered stock exchange in Pakistan at any time in the tax year and which remained listed on that exchange at the end of that year; or

(c)        a unit trust whose units are widely available to the public and any other trust as defined in the Trusts Act, 1882 (II of 1882).”

A non-listed company, as evident from above, is not covered in the definition of “public company”. Therefore, non-listed companies cannot take benefits provided in [7]sections 20(3) and [8]57A as in both sections, the expressions “amalgamated company” or “amalgamating companies” are to be read as defined in the Ordinance itself i.e. in section 2(1A).

The main tax exposure under any scheme of merger and amalgamation can be chargeability under the head Capital Gain [[9]section 37 of the Ordinance]. The amalgamating company as “going concern” is to be treated as “capital asset” under section 37(5) of the Ordinance. The transfer of “going concern” in any scheme of amalgamation, merger or acquisition will be “disposal” within the ambit of [10]section 75(1) of a “capital asset” [ as defined in section 37(5)] at fair market value [section 68] and resultant gain, if any, will be taxable in the manner provided in section 37(2) that is:

Gain = consideration [in this case fair market value] minus cost [section 76(2)].

Where asset is disposed of after one year gain will be reduced by I/4^th.

In section 37(5) of the Ordinance, the word “capital assets” is defined to mean “property of any kind held by a person, whether or not connected with a business”, but does not include:-

1. stock-in-trade (not being stocks and shares), consumable stores or raw material held for the purpose of business;
2. any property with respect to which the person is entitled to a depreciation deduction under section 22 or amortization deduction u/s 24;
3. any immovable property ; and
4. any movable property excluding capital asset specified in sub-section (5) of section 38 held for personal use by the person or any member of the person’s family dependent on the person.

There is a wealth of case law in Pakistan and India that a “going concern” on sale or transfer by way of merger/amalgamation becomes movable asset and is taxable under the head ‘Capital Gains’, although part of deal may be sale of immovable property, which  otherwise falls outside the ambit of federal taxation. In the following cases, it is held that any ‘industrial undertaking’ as a ‘going concern’ is not an immovable property:

(i)      ‘Capital asset’ will definitely include an ‘undertaking’ – Indian Bank Ltd. v. CIT [1985] 153 ITR 282 (Mad.).

(ii)     Running business is a capital asset- A business as a going concern would constitute a capital asset – CIT v. F.X. Periera & Sons (Travancore)(P.) Ltd. [1990] 184 ITR 461 (Ker.).

In [11]Premier Automobiles Ltd v Income Tax officer, the Bombay High Court held as under:

“For the purposes of computing assessable profits, one has to go by the provisions of the Income-tax Act. If the income/profit is the long-term capital gain, one has to take original cost with indexation. For short-term capital gain, one has to take the amount shown under the Block of Assets on the first day of the previous year. Lastly, the valuation of assets done by the transferee – PPL in this case is not for determining value of individual assets but for allocating the price of various assets in their books of account. Therefore, the Sale Value assigned by the transferee for the purposes of their books of account cannot constitute the basis for computing income/profits of PAL under the Income-tax Act. In the case of sale of business as a whole, there is no allocation of price to any particular assets and, therefore, the computation of capital gains in such a case is done on the business as a whole which business itself is a capital asset”[12].

Other tax issues may relate to admissibility or otherwise of expenses, deductions and allowances, and continuation of depreciation on assets acquired from the amalgamated company. In this regard, the relevant sections are:

1. Section 22(5)—to determine cost of assets for depreciation purposes in the hands of amalgamating company.
2. Section 23(5)(c)—Non availability of initial depreciation for any plant or machinery acquired from the amalgamating company.
3. Section 29 & 29A—Non availability of bad debts acquired from the amalgamating company.

The legislature provided tax neutrality in the case of certain corporate mergers under [13]section 97 read with [14]clause (62) of Part IV of the Second Schedule to the Ordinance. These provisions provided waiver in respect of capital gain on disposal of asset between the wholly-owned companies. Prior to 29th August 2006, for extending the benefit of tax waiver, this section specifically required that both resident companies, one being transferor and the other being transferee of assets, must belong to a wholly-owned group of resident companies at the time of disposal to avoid capital gain taxation. At the time of merger of Standard Chartered Bank (non-resident entity) with a local resident bank, Union Bank, relaxation was given by inserting clause (62) in Part IV of the Second Schedule to the Ordinance vide SRO 885(I)/2002 dated August 29, 2006 by removing this restriction. From 29th August 2006 onwards many non-residents companies took benefit of section 97 as condition that the transferor should be resident company and/or belong to a wholly-owned group of resident companies was removed through exercising delegated powers. However, the other conditions of section 97 were maintained. In other words, facility was extended to non-resident companies as well to avoid any taxation under the head capital gain in the case of mergers, demerger and acquisitions in terms of section 97 and clause (62) of Part IV of the Second Schedule to the Ordinance. ABN-AMRO Bank NV of the Netherlands [now acquired by RBS) also took advantage of this concession. It bought 97% shares of a local resident bank (Prime Commercial Bank Limited) and later on merged its existing branch network with subsidiary renamed as ABN-AMRO Bank (Pakistan) Limited.  In the wake of these mergers and acquisitions, in 2007, a new [15]section 97A was inserted to facilitate non-taxation on disposal of assets under any scheme of arrangement or reconstruction taking place in terms of sections 282L and 284 to 287 of the Companies Ordinance, 1984 subject to various conditions. This enactment is aimed at accelerating the corporate growth in Pakistan as companies engaged in schemes of arrangement or reconstruction, approved by their respective regulators, under the law, will not be subjected to any taxation under the Ordinance in respect of any such transactions. For the first time, tax incentive has been provided to absorb sick units and less viable entities into healthy companies to achieve higher economic growth. The government has finally realised that it is essential to facilitate the corporate sector to absorb the losses of sick units, if higher growth rate is to be attained and sustained.

The FBR in its Circular No. 1 of 2007 has explained that section 97A would apply to any “Scheme of Arrangement and Reconstruction”, approved on or after 1st July 2007. It salient features are that:-

1. No gain or loss shall arise on disposal of assets by one company to another company under a Scheme of Arrangement and Re-construction under sections 282L and 284 to 287 of the Companies Ordinance, 1984 or section 48 of the Banking Companies Ordinance, 1962.
2. In case of disposal of shares issued and vested under Scheme of Arrangement and Reconstruction, the cost of the shares shall be the cost prior to the operation of the scheme.
3. The scheme should have approval from:

                (a)        High Court;

            (b)        State Bank of Pakistan; or

            (c)        Securities and Exchange Commission of Pakistan, as the case may be;

Discussions on above provisions show that Pakistani Income Tax Law now provides tax neutrality in the case of amalgamations, mergers, takeovers, reconstructions and rearrangements etc between companies, whether resident or non-residents, subject to certain conditions that conform to international practices.

However, in case “amalgamation” scheme is not covered under definition clause [section 2(1A)], chargeability under section 37 will arise. In such a transfer no benefit of tax neutrality will be available as envisaged in [16]section 79 that enumerates situations where no gain or loss on the disposal of an asset takes place. In any proposed merger scheme not covered in section 2(1A) or the neutrality provisions, namely, section 97 and 97A, there will be application of section 37 read with [17]sections 75, 76 and 77 of the Ordinance in the hands of amalgamated company. The tax officials will tax capital gain by resorting to these sections, if not exempt under the law. They will determine fair market value [as defined in section 68 of the Ordinance] of the “going concern”, or consideration received [section 77(1)] whichever is higher. On disposal [section 75(1)] after deducting cost [section 76] from consideration, capital gain, if any, will be taxed in the hands of transferor.  There will also be retrieval of depreciation allowed on assets on disposal at the time of merger as provided in section 22(8) of the Ordinance. The value of assets will be determined as per section 22(5) of the Ordinance. The amalgamating company not covered in the definition clause mentioned above will not be entitled to any benefit envisaged in section 20(3) and 57A of the Ordinance.

It is thus advisable that a sound tax planning is made before any scheme of amalgamation, merger or acquisition is prepared as there can be substantial financial ramifications in such transactions in terms of tax obligations for both the companies (transferor and the transferee). In order to avoid any harmful tax impact, there may be a need to restructure the entire transaction to make it tax efficient. It should be kept in mind that it is not a simple case of transfer of shares from one entity to another or to surrender management and assets from tax point of view. As discussed above, there are a host of tax issues that are bound to arise in such transactions under certain statutory provisions that include stringent anti-tax avoidance measures [e.g. sections 59B, 90, 98, 105, 106, 108 and 109] contained in the new Income Tax Law in Pakistan.

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*Senior partners of Huzaima & Ikram, Lahore-based, international tax firm, member of TAXAND

[1] Tax Reform Agenda: Open Letter to Prime Minister, Tax Review, Lahore, Pakistan, April 2006.

[2] Section 282L and sections 284 to 287 of the Companies Ordinance, 1984.

[3] For comparison purposes, tax treatment of amalgamation/merger as embodied in U.K and India, can be useful as all the three countries have common income tax legislative history and principles. The experience of UK in this area vis-à-vis Pakistan could be reviewed with regard to (1) implications of acquiree company, (2) implications for shareholder of the acquiree company, (3) implication for the acquiring company, and (4) implication for the shareholder of the acquirer. Taxation of mergers and acquisition even in the U.K is a complex subject. In UK, tax implication of mergers and acquisitions result from the purchase of shares rather than purchase of individual assets. The main reasons for this complexity are the group relationship of companies for purposes of taxation. These three main groups are:

1. Advance corporation tax group,
2. The tax relief group, and
3. The capital gains tax group.

Any acquisition may create a group or change an existing relationship. There is similar tax group relationship for value added tax and stamp duty.  These three types of group companies are:

• In type (a) group, parent-subsidiary relationship is defined with more than 50% i.e. 51% of shares held.  Parent may surrender advance group tax paid by it to its subsidiaries for offsetting against their own composite tax liabilities.
• In type (b) group, 75% shares are held in the subsidiary, loss may be transferred by parent to subsidiary company. Parent owns shares as investment rather than trading asset.
• In type (c) group, 75% shares in subsidiary are held and assets are transferred within the group. Capital gains or loss do not arise unless asset is transferred out of group.

Tax implication of U.K upon acquiree company and its shareholders and acquirer company and its shareholders cab briefly be as under:

• Acquiree company

Acquiree Company is the one being merged with the acquirer company and is entitled to group relief in advanced corporate tax on the basis of the company’s relationship. On acquisition, the acquiree company becomes part of a new tax group and accordingly will surrender/receive the group relief. Profit and losses and gains are apportioned on a time basis between two notional accounting periods i.e. before and after the merger. Group relief is available to notional accounting period when the company was a group member. The 1984 Finance Act had allowed continuance of these practices.  In case acquiree is making losses on acquisition, the acquirer may have the benefit of tax relief only if the trade of acquiree continues for profits. Past losses are not eligible for group relief. In order to take advantage of carry forward losses the acquirer should turn the acquiree’s business around into profitability.

As regard capital gains tax, group’s assets may be transferred within group without a charge to taxation. This practice resulted into tax avoidance – first transfer the assets to subsidiary and then from subsidiary, whose shares were sold to new owner and new owner would transfer the assets to his new company. This loophole has been plugged.

• Shareholders of the acquiree

Disposal of shares chargeable to capital gains tax except where it is part of bona fide reorganization plan will take place only on compliance of the following conditions:  (i) Shares in company A are exchanged for shares or debentures of another company B; and (ii) where original holding in the company is cancelled in return for new shares or debentures issued in proportion to original holding; (iii) Company A must hold more than one-quarter of the ordinary share capital of company B, and (iv) the issue of shares must be made by company A as a result of general offer to members of company B on the condition that A will have control over B.

Recognition might involve transferring assets at less than market value by a subsidiary to its parent company constituting a deprecation transaction; and subsidiary might pay substantial dividend to parent affecting the value of the shares significantly.  These types of manipulations are checked through provisions in capital gains legislation.

• Acquirer Company

As regards Corporation Tax, practice of notional accounting as stated in the case of acquiree company is equally applicable to acquirer company so far as Corporate Tax relief is concerned.  As regards Capital Gains tax, there may arise a situation when the acquirer may sell off the acquiree and claim the relief of roll over of gains.  This relief is available under U.K’s Law on the sale of chargeable assets for the new assets acquired for a sum equal to the disposal proceeds of the original cost. The relief is available only when the old and new assets are used in trade carried out by the same company or member Group Company as single trade.

• Share holders of acquirer

The shareholders of acquirer company have no incidence of taxation as a consequence of merger or takeover by the acquirer company.

[ Note: In Pakistani Income Tax Ordinance, 2001, capital gains of listed companies are exempt from tax under clause (110), Part I of the Second Schedule up to 30^th June 2008, however, in the case of banking companies from 1 January 2009 short-term ( disposed within one year) are taxable @35% and long-term  are taxed at reduced rate of 10%].

Tax implications in India

In India, income tax is most vital amongst all tax laws which affect the amalgamation of companies from the angle of tax saving and treatment of the same in books of accounts. Section 2(1B) of the Indian Income Tax Act, 1961, reproduced below, defines amalgamation only from this angle.

2(1B) “amalgamation”, in relation to companies, means the merger of one or more companies with another company or the merger of two or more companies to form one company (the company or companies which so merge being referred to as the amalgamating company or companies and the company with which they merge or which is formed as a result of the merger, as the amalgamated company) in such a manner that–

1. all the property of the amalgamating company or companies immediately before  amalgamation becomes the property of the amalgamated company by virtue of the amalgamation;
2. all the liabilities of the amalgamating company or companies immediately before the amalgamation become the liabilities of the amalgamated company by virtue of the amalgamation:
3. shareholders holding not less than nine-tenths in value of the shares in the amalgamating company or companies (other than shares already held therein immediately before the amalgamation by, or by a nominee for, the amalgamated company or its subsidiary) becomes shareholders of the amalgamated company by virtue of the amalgamation,

otherwise than as a result of the acquisition of the property of one company by another company pursuant to the purchase of such property by the other company or as a result of the distribution of such property to the other company after the winding-up of the first-mentioned company.

The term is defined under the Indian Act with the objective to encourage amalgamation in public interest and as such the meaning of the term amalgamation includes not only merger of one or two companies to form one company but also the merger of one or more companies with another existing company.  This amendment was made in the definition by Finance Act, 1967 with similar provisions in the Gift Tax Act to favour mergers of uneconomic units with other financially sound units in the interest of increased efficiency and productivity and also to remove certain tax liabilities on amalgamating company and its shareholders. In India section 72A read with section 2(1B) of the Income Tax Act, 1961 is aimed at encouraging voluntary merger of sick units with healthy units which are capable of implementing a viable revival scheme. But no such incentive were provided in Pakistan till 30^th June 2007 (for detail discussion see article Tax incentives for acquiring sick units by Dr. Ikramul Haq, Business Recorder (www.brecorder.com), September 20 & 21, 2003.

Both in India and the U.K., the legislature never approved amalgamation as a means to avoid tax but its real aim has been to encourage corporate mergers/amalgamations for industrial development of the countries. According to the above definition, any combination of the corporate units will fall under the definition if the following three conditions have been fulfilled viz. (i) all the property of the amalgamating company should be vested in the amalgamated company; (ii) all the liabilities of the amalgamating company should become the liabilities of the amalgamated company; (iii) shareholding of not less than 9/10^th of shares in value in the amalgamating company should become the shareholding of the amalgamated company. All the three conditions are to be fulfilled to make a business combination, a merger. The same position has now been incorporated in Pakistani Income Tax Ordinance, 2001 under section 97A with effect from 1^st July 2007.

[4] Apex Revenue Authority for federal taxes in Pakistan.

[5]               The Circulars are binding on all tax officials working under FBR in terms of section 214 of the Income Tax Ordinance 2001, except those who perform appellate functions. Taxpayers can take benefit of them even if they are against the law, but any circular imposing extra tax burden or adversely affecting tax rights or obligations can be challenged by taxpayers before the appellate authorities or High Court by invoking constitutional jurisdiction under Article 199 of the Constitution of Pakistan.

[6]                  “amalgamation” means the merger of one or more banking companies or non-banking financial institutions, or insurance companies or companies owning and managing industrial undertakings or companies engaged in providing services and not being a trading company or companies in either case at least one of them being a public company, or a company incorporated under any law, other than Companies Ordinance, 1984 (XLVII of 1984), for the time being in force, (the company or companies which so merge being referred to as the “amalgamating company” or companies and the company with which they merge or which is formed as a result of merger, as the “amalgamated company”) in such manner that;–

                        (a)        the assets of the amalgamating company or companies immediately before the amalgamation become the assets of the amalgamated company by virtue of the amalgamation, otherwise than by purchase of such assets by the amalgamated company or as a result of distribution of such assets to the amalgamated company after the winding up of the amalgamating company or companies; and

                        (b)        the liabilities of the amalgamating company or companies immediately before the amalgamation become the liabilities of the amalgamated company by virtue of the amalgamation

.

[7] “Subject to this Ordinance, where any expenditure is incurred by an amalgamated company on legal and financial advisory services and other administrative cost relating to planning and implementation of amalgamation, a deduction shall be allowed for such expenditure”.

[8] 57A. Set off of business loss consequent to amalgamation.– (1) The accumulated loss under the head “Income from Business” (not being a loss to which section 58 applies) of an amalgamating company or companies shall be set off or carried forward against the business profits an gains of the amalgamated company and vice versa up to a period of six tax years immediately succeeding the tax year in which the loss was first computed in the case of amalgamated company or amalgamating company or companies.

          (2)     The provisions of sub-section (4) and (5) of section 57 shall, mutatis mutandis, apply for the purposes of allowing unabsorbed deprecation of amalgamating company or companies in the assessment of amalgamated company and vice versa:

          Provided that the losses referred to in sub-section (1) and unabsorbed depreciation referred to in sub-section (2) shall be allowed set off subject to the condition that the amalgamated company continues the business of the amalgamating company for a minimum period of five years from the date of amalgamation.

          (3)     Where any of the conditions as laid down by the State Bank of Pakistan, or the Securities and Exchange Commission of Pakistan or any court, as the case may be, in the scheme of amalgamation, are not fulfilled, the set off of loss or allowance for depreciation made in any tax year of the amalgamated company or the amalgamating company or companies shall be deemed to be the income of that amalgamated company or the amalgamating company or companies, as the case may be, for the year in which such default is discovered by the Commissioner or taxation officer, and all the provisions of this Ordinance shall apply accordingly.

[9]  37. Capital gains.- (1) Subject to this Ordinance, a gain arising on  the disposal of a capital asset by a person in a tax year, other than a gain that is exempt from tax under this Ordinance, shall be chargeable to tax in that year under the head “Capital Gains”.

           (2)      Subject to sub-sections (3) and (4), the gain arising on the disposal of a capital asset by a person shall be computed in accordance with the following formula, namely:-

A – B

where-

A          is the consideration received by the person on disposal of the asset; and

B          is the cost of the asset.

           (3)      Where a capital asset has been held by a person for more than one year, the amount of any gain arising on disposal of the asset shall be computed in accordance with the following formula, namely:-

A x ³/₄

where A is the amount of the gain determined under sub-section (2).

           (4)      For the purposes of determining component B of the formula in sub-section (2), no amount shall be included in the cost of a capital asset for any expenditure incurred by a person-

                     (a)      that is or may be deducted under another provision of this Chapter; or

                     (b)      that is referred to in section 21.

        (4A)      Where the capital asset becomes the property of the person-

                     (a)      under a gift, bequest or will;

                     (b)      by succession, inheritance or devolution;

                     (c)      a distribution of assets on dissolution of an association of persons; or

                     (d)      on distribution of assets on liquidation of a company,

                      the fair market value of the asset, on the date of its transfer or acquisition by the person shall be treated to be the cost of the asset.

           (5)      In this section, “capital asset” means property of any kind held by a person, whether or not connected with a business, but does not include-

                     (a)      any stock-in-trade (not being stocks and shares), consumable stores or raw materials held for the purpose of business;

                     (b)      any property with respect to which the person is entitled to a depreciation deduction under section 22 or amortisation deduction under section 24;

                     (c)      any immovable property; or

                     (d)      any movable property (excluding capital assets specified in sub-section (5) of section 38) held for personal use by the person or any member of the person’s family dependent on the person.

[10] 75. Disposal and acquisition of assets.- (1) A person who holds an asset shall be treated as having made a disposal of the asset at the time the person parts with the ownership of the asset, including when the asset is-

                     (a)      sold, exchanged, transferred or distributed; or

                     (b)      cancelled, redeemed, relinquished, destroyed, lost, expired or surrendered.

           (2)      The transmission of an asset by succession or under a will shall be treated as a disposal of the asset by the deceased at the time asset is transmitted.

           (3)      The application of a business asset to personal use shall be treated as a disposal of the asset by the owner of the asset at the time the asset is so applied.

        (3A)      Where a business asset is discarded or ceases to be used in business, it shall be treated to have been disposed of.

           (4)      A disposal shall include the disposal of a part of an asset.

           (5)      A person shall be treated as having acquired an asset at the time the person begins to own the asset, including at the time the person is granted any right.

           (6)      The application of a personal asset to business use shall be treated as an acquisition of the asset by the owner at the time the asset is so applied.

           (7)      In this section,-

                                “business asset” means an asset held wholly or partly for use in a business, including stock-in-trade and a depreciable asset; and

                                “personal asset” means an asset held wholly for personal use.

[11]             [2003] 129 TAXMAN 289 (BOM).

[12]          The Court held that in case of sale of Itemized Assets, the Assessing Officer has to allocate the total amount not only to land, building, plant and machinery but to also all Other Assets and only then the computation of capital gains could be said to be correct. In the case of sale of Itemized Assets, the Department will have to work out the cost of each item separately.

[13] 97. Disposal of asset between wholly-owned companies.- (1) Where a resident company (hereinafter referred to as the “transferor”) disposes of an asset to another resident company (hereinafter referred to as the “transferee”), no gain or loss shall be taken to arise on the disposal if the following conditions are satisfied, namely:-

• Both companies belong to a wholly-owned group of resident companies at the time of the disposal;
• the transferee must undertake to discharge any liability in respect of the asset acquired;
• any liability in respect of the asset must not exceed the transferor’s cost of the asset at the time of the disposal; and
• the transferee must not be exempt from tax for the tax year in which the disposal takes place.

(2)           Where sub-section (1) applies –

• the asset acquired by the transferee shall be treated as having the same character as it had in the hands of the transferor;
• the transferee’s cost in respect of the acquisition of the asset shall be –
  • in the case of a depreciable asset or amortized intangible, the written down value of the asset or intangible immediately before the disposal;
  • in the case of stock-in-trade valued for tax purposes under sub-section (4) of section 35 at fair market value, that value; or
  • in any other case, the transferor’s cost at the time of the disposal;
• if, immediately before the disposal, the transferor has deductions allowed under sections 22, 23 and 24 in respect of the asset transferred which have not been set off against the transferor’s income, the amount not set off shall be added to the deductions allowed under those sections to the transferee in the tax year in which the transfer is made; and
• the transferor’s cost in respect of any consideration in kind received for the asset shall be the transferor’s cost of the asset transferred as determined under clause (b), as reduced by the amount of any liability that the transferee has undertaken to discharge in respect of the asset.

(3)           In determining whether the transferor’s deductions under sections 22, 23 or 24 in respect of the asset transferred have been set off against income for the purposes of clause (c) of sub-section (2), those deductions shall be taken into account last.

(4)           The transferor and transferee companies belong to a wholly-owned group if –

(a)   one company beneficially holds all the issued shares of the other company; or

(b)   a third company beneficially holds all the issued shares in both companies.

[14] (62)     The following provisions of Section 97 shall not apply in case of transfer of assets on amalgamation of companies or their business or acquisition of shares, requiring that transferor:

(a)           be resident company; and

(b)           belong to a wholly-owned group of resident companies,

Provided that:

(i)            the transferee resident company shall own or acquire atleast 75% of the share capital of the transferor company or the business in Pakistan of the transferor company;

(ii)           the amalgamated company is a company incorporated in Pakistan

(iii)          the assets of the amalgamating company or companies immediately before the amalgamation become the assets of the assets of the amalgamated company by virtue of the amalgamation, otherwise than by purchase of such assets by the amalgamated company or as a result of distribution of such assets to the amalgamated company after the winding up of the amalgamating company or companies;

(iv)          the liabilities of the amalgamating company or companies immediately before the amalgamation become the liabilities of the amalgamated company by virtue of the amalgamation; and

(v)           the scheme of amalgamation is sanctioned by the State Bank of Pakistan, any court or authority as may be required under the law.

[15] Disposal of asset under a scheme of arrangement and reconstruction.– (1) No gain or loss shall be taken to arise on disposal of asset from one company (hereinafter referred to as the “transferor”) to another company (hereinafter referred to as the “transferee”) by virtue of operation of a Scheme of Arrangement and Reconstruction under sections 282L and 284 to 287 of the Companies Ordinance, 1984 (XLVII of 1984) or section 48 of the Banking Companies Ordinance, 1962 (LVII of 1962), if the following conditions are satisfied, namely:–

              (a)      the transferee must undertake to discharge any liability in respect of the asset acquired;

              (b)      any liability in respect of the asset must not exceed the transferor’s cost of the asset at the time of the disposal;

               (c)      the transferee must not be exempt from tax for the tax year in which the disposal takes place; and

              (d)      scheme is approved by the High Court, State Bank of Pakistan or Securities and Exchange Commission of Pakistan, as the case may be, on or after first day of July, 2007.

          (2) No gain or loss shall be taken to arise on issue, cancellation, exchange or receipt of shares as a result of scheme of arrangement and reconstruction under sections 282L and 284 to 287 of the companies Ordinance, 1984 (XLVII of 1984) or section 48 of the Banking Companies Ordinance, 1962 (LVII of 1962) and approved by:

              (a)      the High Court;

              (b)      State Bank of Pakistan; or

               (c)      Securities and Exchange Commission of Pakistan, as the case may be, on or after first day of July, 2007.

          (3) Where sub-section (1) applies–

              (a)      the asset acquired by the transferee shall be treated as having the same character as it had in the hands of the transferor;

              (b)      the transferee’s cost in respect of acquisition of the asset shall be–

                      (i)      in the case of a depreciable asset or amortised intangible, the written down value of the asset or intangible immediately before the disposal;

                     (ii)      in the case of stock-in-trade valued for tax purposes under sub-section (4) of section 35 that value; or

                    (iii)      in any other case, the transferor’s cost at the time of the disposal;

               (c)      if, immediately before the disposal, the transferor has deductions allowed under sections 22, 23 and 24 in respect of the asset transferred which have not been set off against the transferor’s income, the amount not set off shall be added to the deduction allowed under those sections to the transferee in the tax year in which the transfer is made.

          (4) In determining whether the transferor’s deductions under sections 22, 23 or 24 in respect of the asset transferred have been set off against income for the purposes of clause (c) of sub-section (2), those deductions shall be taken into account last.

                (5) Where sub-section (2) applies and the shares issued vested by virtue of the Scheme of Arrangement and Reconstruction under sections 282L and 284 to 287 of the Companies Ordinance, 1984 (XLVII of 1984) or section 48 of the Banking Companies Ordinance, 1962 (LVII of 1962) and approved by the Court or State Bank of Pakistan or Securities and Exchange Commission of Pakistan as the case may be, are disposed of, the cost of shares shall be the cost prior to the operation of the said scheme.

[16]  79. Non-recognition rules.- (1) For the purposes of this Ordinance and subject to sub-section (2), no gain or loss shall be taken to arise on the disposal of an asset-

            (a)       between spouses under an agreement to live apart;

            (b)       by reason of the transmission of the asset to an executor or beneficiary on the death of a person;

            (c)       by reason of a gift of the asset;

            (d)       by reason of the compulsory acquisition of the asset under any law where the consideration received for the disposal is reinvested by the recipient in an asset of a like kind within one year of the disposal;

                     (e)      by a company to its shareholders on liquidation of the company; or

                     (f)      by an association of persons to its members on dissolution of the association where the assets are distributed to members in accordance with their interests in the capital of the association.

           (2)      Sub-section (1) shall not apply where the person acquiring the asset is a non-resident person at the time of the acquisition.

           (3)      Where clause (a), (b), (c), (e) or (f) of sub-section (1) applies, the person acquiring the asset shall be treated as-

                     (a)      acquiring an asset of the same character as the person disposing of the asset; and

                     (b)      acquiring the asset for a cost equal to the cost of the asset for the person disposing of the asset at the time of the disposal.

           (4)      The person’s cost of a replacement asset referred to in clause (d) of sub-section (1) shall be the cost of the asset disposed of plus the amount by which any consideration given by the person for the replacement asset exceeds the consideration received by the person for the asset disposed of.

[17]  76. Cost.- (1) Except as otherwise provided in this Ordinance, this section shall establish the cost of an asset for the purposes of this Ordinance.

           (2)      Subject to sub-section (3), the cost of an asset purchased by a person shall be the sum of the following amounts, namely:-

                     (a)      The total consideration given by the person for the asset, including the fair market value of any consideration in kind determined at the time the asset is acquired;

                     (b)      any incidental expenditure incurred by the person in acquiring and disposing of the asset; and

                     (c)      any expenditure incurred by the person to alter or improve the asset,

but shall not include any expenditure under clauses (b) and (c) that has been fully allowed as a deduction under this Ordinance.

           (3)      The cost of an asset treated as acquired under sub-section (6) of section 75 shall be the fair market value of the asset determined at the date it is applied to business use.

           (4)      The cost of an asset produced or constructed by a person shall be the total costs incurred by the person in producing or constructing the asset plus any expenditure referred to in clauses (b) and (c) of sub-section (2) incurred by the person.

           (5)      Where an asset has been acquired by a person with a loan denominated in a foreign currency and, before full and final repayment of the loan, there is an increase or decrease in the liability of the person under the loan as expressed in Rupees, the amount by which the liability is increased or reduced shall be added to or deducted from the cost of the asset, as the case may be.

           (6)      In determining whether the liability of a person has increased or decreased for the purposes of sub-section (5), account shall be taken of the person’s position under any hedging agreement relating to the loan.

           (7)      Where a part of an asset is disposed of by a person, the cost of the asset shall be apportioned between the part of the asset retained and the part disposed of in accordance with their respective fair market values determined at the time the person acquired the asset.

           (8)      Where the acquisition of an asset by a person is the derivation of an amount chargeable to tax, the cost of the asset shall be the amount so charged plus any amount paid by the person for the asset.

           (9)      Where the acquisition of an asset by a person is the derivation of an amount exempt from tax, the cost of the asset shall be the exempt amount plus any amount paid by the person for the asset.

         (10)      The cost of an asset does not include the amount of any grant, subsidy, rebate, commission or any other assistance (other than a loan repayable with or without profit) received or receivable by a person in respect of the acquisition of the asset, except to the extent to which the amount is chargeable to tax under this Ordinance.

          77.      Consideration received.- (1) The consideration received by a person on disposal of an asset shall be the total amount received by the person for the asset or the fair market value thereof, whichever is the higher, including the fair market value of any consideration received in kind determined at the time of disposal.

           (2)      Where an asset has been lost or destroyed by a person, the consideration received for the asset shall include any compensation, indemnity or damages received by the person under-

                     (a)      an insurance policy, indemnity or other agreement;

                     (b)      a settlement; or

                     (c)      a judicial decision.

           (3)      The consideration received for an asset treated as disposed of under sub-section (3) or (3A) of section 75 shall be the fair market value of the asset determined at the time it is applied to personal use or discarded or ceased to be used in business, as the case may be.

           (4)      The consideration received by a scheduled bank, financial institution, modaraba, or leasing company approved by the Commissioner (hereinafter referred to as a “leasing company”) in respect of an asset leased by the company to another person shall be the residual value received by the leasing company on maturity of the lease agreement subject to the condition that the residual value plus the amount realised during the term of the lease towards the cost of the asset is not less than the original cost of the asset.

           (5)      Where two or more assets are disposed of by a person in a single transaction and the consideration received for each asset is not specified, the total consideration received by the person shall be apportioned among the assets disposed of in proportion to their respective fair market values determined at the time of the transaction.