In a likely breakthrough over capital gains tax (CGT)  rate on income from shares trading, the federal government may reduce the tax burden by over 28% and fix the CGT rate at 12.5% for next fiscal year 5% lower than the rate that has to be applied from July.

In return, the government may amend the definition of short-term period for capturing longer periods to make for the losses that it will incur due to the reduction in rates. It could increase the holding period from six months to one year for charging taxes on short-term holdings, official sources in the Ministry of Finance told The Express Tribune.

The likely scenario is emerging following an informal compromise between the bigwigs of the stock exchanges and the federal government, they added.

As per the compromise, the government may reduce the tax rates but it will increase the tenure from six months to one year for short-term selling and from one year to two years for long-term holding period, they added. Likely, under the new arrangement, the shares sold after two years will be exempted from CGT instead of one year.

The proposal to enhance the period is being considered to avert any criticism for giving concessions to a sector that’s taxed far below its potential, according to tax experts. But independent tax experts say the losers will be small retail traders of the shares who will pay higher rates than the prevailing rates.

According to the Income Tax Ordinance, 2001, CGT on shares sold within six months of purchase will go up from existing 10% to 17.5% from fiscal year 2014-15, beginning from July. Under the same law, the CGT on shares sold after six months but within the same year has to go up from existing 8% to 9.5%. The selling of shares after one year are currently exempted from the CGT.

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The new scenario is emerging following an assurance given by Finance Minister Ishaq Dar to the brokers’ representatives during a meeting of the Tax Advisory Council (TAC) held last week.

Budget proposal

According to the proposal that the government may submit to the parliament as part of next year’s budget, the tax rate on shares sold within a year may be 12.5%, which will reduce the tax liabilities of the sellers by 28.5%.

According to the original plan, which has already been amended twice by the previous government, the CGT rate for the outgoing fiscal year should have been 15%. However, the previous government struck a compromise with the brokers and agreed to freeze the tax at 10% while postponing its gradual rise to 12.5%, 15% and eventually to 17.5% on holding period of less than six months.

The rate of CGT on shares sold after one year but within two years could be 10%, which is 5.3% higher than the previously agreed rate of 9.5% for the next fiscal year. Currently, the gains made on shares sold after six months but within one year are charged at the rate of 8%.

According to FBR officials, the CGT collection from the stock market in the first 10 months of the current fiscal year stood at Rs1.5 billion. Last year, the FBR had received Rs1.25 billion. Taxes collected from the stock market do not match the strong performance of the Karachi bourse, experts say.

Karachi Stock Exchange’s (KSE) market capitalisation rose to Rs6.9 trillion by May 8 this year, a phenomenal growth of 37% compared to the corresponding period of previous year, according to figures presented to the federal cabinet by Dar.

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Abdul Qadir Memon, a Karachi-based tax expert who raised the CGT issue during last week’s TAC meeting, had warned that any increase in tax burden over the prevailing rates will be a setback for the capital market. He had suggested that it was not the right time for the tax increase, which may also damage government’s privatisation programme.

Published in The Express Tribune, May 25th, 2014.