What counts as a cottage industry for sales tax, and can a small power loom or weaving unit avoid registration?

A small weaving or power loom unit stays outside sales tax registration only while it is a “cottage industry”, and that status depends on four tests passed together: no industrial gas or electricity connection, a residential location, ten workers or fewer, and turnover of Rs. 8 million or less a year. Fail one test and the unit is an ordinary manufacturer that section 14 requires to register.

What does the law say?

Section 2(5AB) of the Sales Tax Act, 1990 defines “cottage industry” as a manufacturing concern which fulfils each of these conditions:

Condition	Words of section 2(5AB)
(a)	does not have an industrial gas or electricity connection
(b)	is located in a residential area
(c)	does not have a total labour force of more than ten workers
(d)	annual turnover from all supplies does not exceed eight million rupees

The figure in (d) was changed to eight million by the Finance (Supplementary) Act, 2022.

Section 14(1)(a) then lists, among those required to register, “a manufacturer who is not running a cottage industry”. So the cottage industry definition is the dividing line. A concern that meets all four conditions is not caught by section 14(1)(a). A concern that fails any one of them is a manufacturer under section 14(1)(a), and there is no separate turnover threshold to fall back on.

How does it work for a power loom unit?

Weaving is manufacture under section 2(16), which covers any process that converts an article into another distinct article. A unit that turns yarn into grey cloth is a manufacturing concern whether it owns the yarn or weaves on job work, because section 2(17) defines a manufacturer “whether or not the raw material … are owned by him”.

Of the four tests, the connection test usually decides the matter for power looms. Condition (a) is about the type of connection, not the size of the bill. A unit running looms on an industrial electricity connection fails (a), even with three looms and two workers.

Condition (d) counts turnover “from all supplies”, so job-work charges, sales of cloth and any other supplies of the concern are all counted.

Worked example (illustrative figures)

Two units in the same mohalla of Faisalabad:

Unit A (Nadeem’s looms). Six power looms in a residential street on a domestic electricity connection, no gas connection, eight workers including Nadeem. Annual supplies: weaving charges Rs. 4,200,000 plus cloth sold Rs. 2,300,000 = Rs. 6,500,000.

• (a) no industrial connection: met
• (b) residential area: met
• (c) eight workers, not more than ten: met
• (d) Rs. 6,500,000, not more than Rs. 8,000,000: met

Unit A is a cottage industry and section 14(1)(a) does not require it to register.

Unit B (Shahid’s looms). Same street, ten looms, and the electricity company has installed an industrial meter. Nine workers, turnover Rs. 7,000,000.

• (a) industrial electricity connection: not met

Unit B fails (a), so it is not a cottage industry, whatever its size. It is a manufacturer required to register under section 14(1)(a).

Yarn purchases by Unit A. Unit A buys yarn worth Rs. 1,000,000 from a registered spinning mill. Normal sales tax at 18% = Rs. 180,000. Because Unit A has no registration number, section 3(1A) adds further tax at four percent: Rs. 1,000,000 x 4% = Rs. 40,000. Total tax charged = Rs. 220,000, and as an unregistered person Unit A cannot claim any of it back as input tax, because section 8(3) says no person other than a registered person shall deduct or reclaim input tax.

What if …?

What if I take on extra workers for a big order? Condition (c) says the concern must not have a total labour force of more than ten workers. The Act does not say over what period that is measured or whether a short-term increase counts. The text does not resolve it.

What if turnover crosses Rs. 8 million mid-year? Condition (d) refers to “annual turnover” but section 2(5AB) does not define the twelve-month period or say from when registration becomes due once it is crossed.

What if I want to export? Section 14(1)(d) separately requires registration of “an exporter who intends to obtain sales tax refund against his zero-rated supplies”. A cottage unit that wants refunds on exports falls under that category.

What if FBR believes I no longer qualify? Section 14(2A) allows the Commissioner, after inquiry and a hearing, to register a person compulsorily.

Common mistakes

• Thinking small size is enough. All four conditions must be met; a small unit with an industrial connection fails.
• Counting only cloth sales. Condition (d) counts all supplies, including job-work charges.
• Assuming job work is not manufacturing. Section 2(17) applies whether or not the unit owns the raw material.
• Ignoring the further tax. Buying from registered mills without a registration number attracts the extra four percent under section 3(1A), subject to any notification excluding the supply.

What to check in the official text

Read section 2(5AB), (16) and (17), section 3(1A) and section 14 of the Sales Tax Act. Section 3(1A) lets the Federal Government exclude supplies from further tax by notification; any such SRO is outside this corpus. Income tax on a small unit is a separate matter under the Income Tax Ordinance.