How are employee stock options taxed for employees of Pakistani tech companies, and must the company withhold tax?

Stock options are common pay in Pakistani tech startups, and the Income Tax Ordinance, 2001 has a dedicated section for them. Section 14 separates three moments: the grant of the option, the issue of shares, and any disposal of the option itself. Only the second and third create salary income.

What does the law say?

At grant. Section 14(1) says the value of a right or option to acquire shares under an employee share scheme “granted to an employee shall not be chargeable to tax”.

At issue of shares. Section 14(2) says that where an employee is issued shares under the scheme in a tax year, including by exercising an option, the employee’s salary for that year includes “the fair market value of the shares determined at the date of issue, as reduced by any consideration given by the employee for the shares”, including anything paid for the grant of the option.

Restricted shares. Section 14(3) applies where issued shares are subject to a restriction on transfer. No amount is taxed as salary until the earlier of the time the employee has a free right to transfer the shares, or the time the employee disposes of them. The amount taxed is the fair market value at that time, less the consideration the employee gave.

Selling the option instead. Section 14(5) says that if the employee disposes of the option itself, the gain (consideration received less the employee’s cost of the option) is salary for that year.

Cost for later sale. Section 14(4) sets the employee’s cost of the shares as the consideration paid for the shares, plus any consideration paid for the option, plus the amount taxed as salary under sub-section (2) or (3).

Section 12(2)(b) confirms that salary includes “any perquisite, whether convertible to money or not”.

How is fair market value set?

Section 68(1) defines fair market value as the price the asset would ordinarily fetch on sale in the open market at that time. Section 68(2) says it is determined “without regard to any restriction on transfer”. Section 68(3) lets the Commissioner determine the price where it is not ordinarily ascertainable, which matters for an unlisted startup whose shares have no market.

Section 14(3) and section 68(2) read differently on restrictions. Section 14(3) defers the timing of the charge for restricted shares, while section 68(2) sets how value is measured once it is measured. The Ordinance does not spell out how the two interact for a particular lock-in, and this page does not resolve that.

Must the employer withhold tax?

Section 149(1) requires the person paying salary to deduct tax at the employee’s average rate, computed on the employee’s estimated income under the head “Salary” for the tax year. The amount taxed under section 14 is salary income, so it forms part of that estimate and raises the average rate.

Section 149(1) applies that rate to “the amount paid”. Shares issued under a scheme are not a cash payment, and section 149 does not say how an employer withholds on a share issue with no accompanying cash. The Ordinance is silent on that mechanism. Section 149(1) does allow the employer to adjust for a deficiency arising out of previous deductions, which is one way the text lets later cash payments carry a shortfall.

Worked example (illustrative figures)

Hamza is an engineer at a Karachi startup, paid Rs. 200,000 a month in cash. In tax year 2026 he was granted options over 10,000 shares at an exercise price of Rs. 20 each. He paid nothing for the grant. In tax year 2027 he exercises and the shares are issued, with no restriction on transfer. The fair market value at issue is Rs. 150 a share.

1. Tax at grant, tax year 2026: nil, under section 14(1).
2. Fair market value at issue: 10,000 x Rs. 150 = Rs. 1,500,000.
3. Consideration paid: 10,000 x Rs. 20 = Rs. 200,000.
4. Salary under section 14(2): Rs. 1,500,000 - Rs. 200,000 = Rs. 1,300,000.
5. Total estimated salary for tax year 2027: Rs. 2,400,000 + Rs. 1,300,000 = Rs. 3,700,000.
6. Tax under clause (2) of Division I: Rs. 316,000 + 25% x (Rs. 3,700,000 - Rs. 3,200,000) = Rs. 316,000 + Rs. 125,000 = Rs. 441,000.
7. Tax on cash salary alone would have been Rs. 116,000 + 20% x (Rs. 2,400,000 - Rs. 2,200,000) = Rs. 156,000.
8. Extra tax from the share issue: Rs. 441,000 - Rs. 156,000 = Rs. 285,000.
9. Hamza’s cost of the shares under section 14(4): Rs. 200,000 + Rs. 0 + Rs. 1,300,000 = Rs. 1,500,000.

What if the shares had a two-year lock-in?

Using the same figures, suppose the shares cannot be transferred until a date in tax year 2029, when the fair market value is Rs. 180. Nothing is taxed at issue. In tax year 2029 the salary amount is (10,000 x Rs. 180) - Rs. 200,000 = Rs. 1,600,000. If Hamza sold the shares before the lock-in ended, the charge would arise at the sale instead.

Common mistakes

• Taxing at vesting or grant. Section 14 has no charge at grant. The charge is at issue, or later for restricted shares.
• Ignoring the exercise price. Section 14(2) reduces fair market value by what the employee paid.
• Forgetting the cost base. The amount taxed as salary is added to the cost of the shares under section 14(4), which matters when the shares are sold.

What to check in the official text

Read sections 12, 14, 68 and 149, and the clause (2) table of Division I of Part I of the First Schedule in the official PDF. Tax on a later sale of the shares is a capital gains question under other provisions not covered on this page.