My foreign client withheld tax on my payment. Can I claim credit for it in Pakistan?

Some foreign clients, usually companies following their own country’s rules, deduct tax before paying a Pakistani freelancer. The natural question is whether that deduction counts in Pakistan. The Income Tax Ordinance gives a clear answer for the usual final-tax route and a conditional answer for everyone else.

What does the law say?

Final-tax route: no credit. Section 154A(2) makes the tax an authorised dealer deducts from your export proceeds a final tax “upon fulfilment of the following conditions”. The list ends with clause (d): “no credit for foreign taxes paid shall be allowed.” For tax year 2027, the deduction is 0.25% of proceeds for PSEB-registered software, IT and IT-enabled services exporters and 1% in any other case, under Division IVA of Part III of the First Schedule.

Normal rules: section 103. Section 103(1) allows a resident taxpayer who “derives foreign source income chargeable to tax under this Ordinance in respect of which the taxpayer has paid foreign income tax” a credit equal to the lesser of:

• the foreign income tax paid; or
• the Pakistan tax payable in respect of that income.

Section 103(2) works out the Pakistan tax on the foreign income by applying your average rate of Pakistan tax to your net foreign-source income. Section 103(8) defines “foreign income tax” to include “a foreign withholding tax”, and the average rate as Pakistan tax before this credit as a percentage of taxable income.

Limits. Section 103(3) applies the credit separately to each head of income. Section 103(6) says unused credit is not refunded, carried back or carried forward. Section 103(7) allows the credit only if the foreign tax is paid within two years after the end of the tax year in which the income was derived.

Is my freelance income foreign-source at all?

This is the step many people skip. Section 103 only applies to foreign-source income. Section 101(2) says business income of a resident “shall be Pakistan-source income to the extent to which the income is derived from any business carried on in Pakistan.” A freelancer who does the work from Sialkot or Hyderabad for a client in Germany appears, on that text, to be carrying on the business in Pakistan. If so, the income is Pakistan-source and section 103 would not reach it. The Ordinance does not deal with freelancers specifically on this point, and this page does not settle it.

Worked example (illustrative figures)

Adeel builds mobile apps from Hyderabad. A client abroad paid him the equivalent of Rs. 1,500,000 in tax year 2027 after deducting foreign withholding tax of Rs. 225,000. He is not PSEB-registered.

On the final-tax route (section 154A):

1. Division IVA rate, any other case: 1%
2. Tax deducted by his bank: Rs. 1,500,000 x 1% = Rs. 15,000, final if the conditions are met.
3. Foreign tax credit: nil, under section 154A(2)(d).

Under normal rules, assuming the income were foreign-source (both the Pakistan tax figure and the source assumption are illustrative):

1. Taxable income: Rs. 4,000,000. Pakistan tax before credit, assumed: Rs. 400,000.
2. Average rate under section 103(8): Rs. 400,000 / Rs. 4,000,000 = 10%.
3. Pakistan tax on the foreign income under section 103(2): Rs. 1,500,000 x 10% = Rs. 150,000.
4. Credit: lesser of Rs. 225,000 and Rs. 150,000 = Rs. 150,000.
5. Unused Rs. 75,000 is lost under section 103(6).

If the income is Pakistan-source under section 101(2), step 4 does not happen at all.

What if …?

What if I opt out of final tax to claim the credit? Section 154A(3) lets a person opt out of final taxation, exercised every year when filing the return. That moves you to the normal rules, but the credit still depends on the income being foreign-source under section 103(1).

What if the client can refund its own withholding? Whether a foreign country refunds or reduces its withholding is a matter of that country’s law or a tax treaty, neither of which is held in this corpus.

What if I claim the credit while also treating the tax as final? Clause (d) is one of the listed conditions in section 154A(2). Claiming foreign tax credit sits against that condition.

Common mistakes

• Deducting the foreign tax from the 1% bank deduction. Section 154A(2)(d) rules this out on the final-tax route.
• Assuming any income from a foreign client is foreign-source. Section 101(2) looks at where the business is carried on.
• Claiming more than the Pakistan tax on the income. Section 103(1) caps the credit at the lesser figure, and the excess cannot be carried forward.

What to check in the official text

Read section 154A(2) and (3), and section 103 in full, including the definitions in sub-section (8). Read section 101(2) on source. Check Division IVA of Part III of the First Schedule for the rates. Tax treaties and the foreign country’s own withholding rules are not in this corpus.