Inherited, gifted property under tax net

ISLAMABAD: The Federal Board of Revenue (FBR) has made significant changes in the advance tax of capital gains on disposal of immovable property, paving the way for imposing an inheritance tax, officials said on Friday.

The revenue authority has brought inherited and gifted property under its tax net through an amendment in the Finance Act 2022 to enforce advance tax on seller and buyer and collection of Capital Gains Tax (CGT) on such properties. Tax experts view the action as an imposition of Inheritance Tax. “The federal government cannot collect Capital Gains Tax on ‘Inherited’ property or ‘Gifts’. The act is a violation of the Constitution,” an expert said.

“Irrespective of the need to increase the tax burden on incomes from real estate transactions, some of the changes made are unjustified, arbitrary, and against the principles of fair taxation,” the expert added.

The scope of capital gains tax was extended to the real estate in 2012. In addition to the imposition of capital gains tax on the sale of immovable property, an adjustable withholding tax will also be collected from sellers of immovable property.

The FBR circular clarified that the advance tax has been introduced for the purposes of providing a mechanism for collection of capital gains tax on disposal of immovable property. “The actual quantum of capital gain and tax payable thereon is to be computed at the time of filing of return of income,” the circular said.

“Section 236C is not an independent provision and does not operate in isolation. Since Capital Gains Tax has been imposed only on disposal of properties held for a period up to two years, therefore, advance tax is also to be collected from sellers who held the immovable properties for a period up to two years.”

The FBR, in subsequent years, increased the rate of withholding tax to 1 percent for filers and two percent for non-filers. It was also made applicable on properties sold during four years of their acquisition as capital gains on properties sold after a holding period of more than four years was not taxable.

The Finance Act, 2022 has increased the rate of withholding tax to 2 percent for filers and 4 percent for non-filers and made it applicable on all properties sold irrespective of the holding period.

“This creates an anomaly as the capital gains tax will be applicable only on properties that are sold within six years of the date of purchase,” another tax expert said. “So, the principle laid down in the FBR’s own circular is being violated.”

The withholding tax collected from a person selling a property which is not liable to capital gains tax will be forced to pay an amount of tax that he cannot adjust against his capital gains tax liability and if he has no other income tax to pay at the time of filing income tax return, he will be forced to go through the hassle of obtaining refund of the withheld amount from FBR.

Interestingly, the Finance Bill contained a proposal to extend the scope of withholding tax to properties being sold within ten years of their purchase but in the Finance Act this limit was also removed.

Another surprising change has been the omission of sub-section (4A) of section 37 that imposes capital gains tax. Capital gains tax is imposed on the difference of sale price and the purchase price of the property. In some cases, such as properties acquired through inheritance or gift, the purchase price is zero and the entire sale price would become the capital gain that would increase the burden of taxation.

To remove this hardship, the above-mentioned sub-section (4A) was added in section 37. This provided that in the case of sale of a property that was acquired through gift, inheritance, etc. the fair market value of the property at the time of acquisition of the property will be taken as its cost and capital gains will be determined accordingly.

This legal provision that enabled fair taxation has now been eliminated and now the entire sale price of such properties will be subjected to capital gains tax, creating an unbearable burden of taxation and will amount to imposition of an inheritance tax that the federal government cannot do under the Constitution, they concluded.