Is there tax when a partnership firm is converted into a private limited company?

Converting a partnership firm into a private limited company is, for income tax, a disposal of the firm’s business assets to the company. Section 96 of the Income Tax Ordinance, 2001 provides that no gain or loss arises on that disposal if every one of its conditions is met. In the parsed text, section 96 is printed inside the section 95 block, which gives the same relief to a sole proprietor. The rules are from the Ordinance as amended to 30 June 2026.

What does section 96 require?

Section 96(1) applies where a resident association of persons disposes of all the assets of a business of the association to a resident company. All of these conditions must be satisfied:

Clause	Condition
(a)	The consideration received by the association is a share or shares in the company, other than redeemable shares.
(b)	The association must own all the issued shares in the company immediately after the disposal.
(c)	Each member must have an interest in the shares in the same proportion as the member’s interest in the business assets immediately before the disposal.
(d)	The company must undertake to discharge any liability in respect of the assets transferred.
(e)	Any such liability must not exceed the association’s cost of the asset at the time of the disposal.
(f)	The fair market value of the shares must be substantially the same as the fair market value of the assets, reduced by liabilities the company takes on.
(g)	The company must not be exempt from tax for the tax year of the disposal.

What carries over to the company?

Section 96(2) sets out the consequences when the conditions are met:

• Character. Each asset keeps the character it had in the association’s hands.
• Company’s cost. Depreciable assets and amortised intangibles come in at written down value immediately before the disposal. Stock-in-trade valued for tax purposes comes in at that value. Any other asset comes in at the association’s cost.
• Unused deductions. If the association was taxed separately from its members and had depreciation, initial allowance or amortisation deductions on the transferred assets that were not set off against its income, the unused amount is added to the company’s deductions in the tax year of transfer. Section 96(3) says those deductions are taken into account last when deciding what was set off.
• The association’s cost of its shares. For one share, the cost of the assets transferred less liabilities taken over. For more than one share, that amount divided by the number of shares.

How does it work in practice?

Before conversion, section 92(1) taxes the firm separately from its partners. After conversion, section 94(1) taxes the company separately from its shareholders. Section 96 bridges the two by keeping the tax values unchanged, so there is no gain charged at the moment of transfer.

Note the ownership structure the conditions produce: the firm itself holds the shares, and the partners hold their interests through the firm. Section 96 does not say what happens when the firm later passes those shares to the partners. If that happens on dissolution, section 79(1)(f) gives non-recognition where assets are distributed in accordance with the members’ interests in capital, subject to section 79(2), which excludes a member who is non-resident when acquiring the asset.

Worked example (illustrative figures)

Malik Brothers is a Sialkot surgical instruments firm. Tariq holds 60% and Usman 40%. They form Malik Surgical (Private) Limited, a resident company that is not exempt, and transfer the whole business to it for ordinary shares.

Made-up figures immediately before transfer:

Asset	Tax value
Machinery (written down value)	Rs. 12,000,000
Stock-in-trade (value for tax purposes)	Rs. 5,000,000
Land (firm’s cost)	Rs. 8,000,000
Total	Rs. 25,000,000

The company takes over a bank loan of Rs. 3,000,000 on these assets.

1. Liability test, clause (e). Rs. 3,000,000 does not exceed the firm’s cost of the assets. Met.
2. Company’s cost, section 96(2)(b). Machinery Rs. 12,000,000, stock Rs. 5,000,000, land Rs. 8,000,000.
3. Firm’s cost of its shares, section 96(2)(d). Rs. 25,000,000 minus Rs. 3,000,000 = Rs. 22,000,000. The company issues 2,200,000 shares, so each share costs the firm Rs. 22,000,000 divided by 2,200,000 = Rs. 10.
4. Ownership, clauses (b) and (c). Malik Brothers holds all 2,200,000 shares, and Tariq and Usman are interested in them 60:40, matching their interests in the assets before.
5. Unused depreciation. If the firm had Rs. 1,500,000 of depreciation on the machinery not yet set off, that amount is added to the company’s depreciation deductions for the tax year of transfer.
6. Value test, clause (f). Assume the shares are worth about the same as the assets’ market value less the loan. The section says “substantially the same” and gives no percentage.

What if …?

What if one condition fails? Section 96 does not apply, and the transfer is treated under the ordinary rules on disposal of business assets. Those rules are not worked through on this page.

What if the firm has business losses brought forward? Section 96(2)(c) carries over only unused depreciation, initial allowance and amortisation deductions. It says nothing about other business losses, and this page does not resolve whether they pass.

What if a sole proprietor, not a firm, is converting? Section 95 gives the parallel rule for a resident individual, with the individual owning all the shares.

Common mistakes

• Issuing shares directly to the partners. Clause (b) requires the association to own all the issued shares immediately after the disposal.
• Using redeemable shares. Clause (a) excludes them.
• Transferring only the valuable assets. The section applies to all the assets of a business.
• Revaluing assets in the company’s tax books. Section 96(2)(b) fixes the company’s cost at the firm’s tax values.

What to check in the official text

Read section 96 (printed with section 95) and sections 79, 92 and 94 in the official PDF. Company registration with SECP, stamp duty, provincial property transfer taxes and sales tax registration are outside this corpus and are not covered here.