A division bench of Appellate Tribunal Inland Revenue, Lahore (ATIR) in ITA No. 2460/LB/2024 dated October 23, 2024 has held that under the tax treaties of Pakistan with United Arab Emirates and United Kingdom the rental income and capital gain derived from these countries by resident Pakistanis are not taxable in Pakistan.
The ATIR has discussed two earlier conflicting judgements of the Tribunal and has followed the first one which was in favour of the taxpayer and has held that under the tax treaties taxing rights over these heads of income have been given to the country where income arises and not to the country where the recipient of income is resident.
Income from Renting Foreign Properties: Knowing Treaty Protection:
The main points of contention center on United Arab Emirates’ (UAE) taxability as well as foreign rental income from the United Kingdom (UK). Mr. Muggo had recorded this rental income as exempt in Pakistan based on the Double Taxation Agreements (DTAs) between Pakistan and foreign countries.
Particularly Article 6 on income from immovable property, the Tribunal examined extensively the DTAs. Under these agreements, it held, the expression “may be taxed“ should be taken to mean that the country where the immovable property is situated has exclusive taxing authority. As such, rental income from UAE and UK properties could only be taxed in those countries instead of Pakistan.
The taxation officer erred in understanding the phrase “may be taxed” used in Article 6.1 and 14.1 of the Treaty by completely taking it out of context due to lack of understanding of the principles of interpretation. The bare reading of aforesaid Articles makes it clear that the words “may be taxed” are used to cater to situations exactly like the case at hand wherein the UAE had not levied tax on the rental income when the treaty was executed or even till date.
The intention of the phrase means if at all a taxpayer may be taxed in such situation where the property from which income is being derived is in one Contracting State and the owner is resident of another Contracting State it will be taxed in accordance with the laws of the State in which the property is situated. If the expression “may be taxed” has given jurisdiction to both the states to tax the same income, then expression “may also be taxed” used in Article 11.2 becomes redundant which cannot be justified.
It is established principle that decision of a division bench is binding on another division bench. In the case of earlier precedent reference application of the department was pending before Lahore High Court and the principle of propriety and consistency warranted that earlier precedent be followed until it is reversed by high court.
Procedural Non-Compliance: Time Limits' Importance:
Another issue in this case was the statutory time limits broken under section 122(5A) of the Income Tax Ordinance, 2001 [Ordinance]. The Ordinance demands for an amendment assessment to be completed 180 days from the date of the show cause notice, with an extension of up to 90 days, provided acceptable grounds are recorded in writing and the taxpayer is given an opportunity to be heard.
Regarding Mr. M. Jahangir Muggo, the Tribunal noted the Commissioner Inland Revenue allowed one but his extension order was procedurally defective. The taxpayer was not provided any opportunity of hearing and the modification of assessment order time-barred and invalid ab initio was not properly noted as the grounds for the extension. The Tribunal’s re-affirmation makes abundantly evident to taxpayers and revenue agencies the extreme need of perfect adherence to statutory timeframes.
A Warning Story for Tax Authorities Regarding Misapplication of Domestic Law:
Strongly rejecting the assessing officer’s erroneous reliance on section 11(5) of the Ordinance to tax the rental income without properly analyzing the overall influence of tax treaties, the Tribunal under section 122(5A) of the Ordinance, the Tribunal further criticised the assessing officer’s attempt to obtain entire documentation from the taxpayer, underlining that such processes must be confined to the assessment of current records and do not enable audit-like fact-finding operations.
The Tribunal noted furthermore that subordinate tax agencies are legally obliged to follow appellate decisions unless reversed by a higher court and that an earlier ATIR order in the “Arshad Gujjar” case had already settled this question in favour of taxpayers. This statement emphasizes once more the importance of consistency and discipline within the tax collecting.
Underlining Legal Certainty: International Tax Treaties' Priority:
This decision’s reiteration of the section 107(2) of the Ordinance overriding influence of international tax treaties once adopted into domestic law is one of its key features. Emphasizing that treaties should be read with a purposive perspective and highlighting their goal to minimize double taxation and enhance cross-border economic cooperation, the Tribunal cited past Supreme Court rules (2023 SCMR 850).
This underlines how tax authorities cannot apply domestic law principles in isolation in circumstances when an applicable treaty provision regulates the taxability of a certain sort of income. Particularly at a period of increasing cross-border investment by Pakistani citizens, the Tribunal’s robust application of these concepts offers taxpayers considerable confidence.
Finally: Managing Treaty Benefits and Foreign Income:
The decision of the Tribunal in ITA No. 2460/LB/2024 provides practitioners and taxpayers with crucial new perspectives. It underlines the significance of respecting the general impact of international treaties, of following legislative deadlines, and of ensuring that assessments are firmly grounded on law and precedent. Foreign-sourced rental income must be managed with the delicacy and care required by international tax law even under the protection of a tax treaty.
For those and businesses generating rental income from overseas assets to ensure correct claiming and support of treaty benefits, meticulous planning and documentation are very essential. Misreading or mishandling such allegations might lead to unjustified litigation and penalty exposure.
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