"The president will neither be impeached nor prosecuted on any charges. He will try and stay in Pakistan," the paper quoted the official as saying.
Speculation has been rife Musharraf would quit rather than face impeachment for misrule, though his spokesman, who was not immediately available for comment, has repeatedly denied that.
The long-running crisis surrounding Musharraf's future has heightened concern in the United States and among other allies about the stability of the nuclear-armed Muslim state, which is in the front line of the campaign against militancy.
Musharraf, a close U.S. ally, has been under pressure to quit from the ruling government coalition, led by the party of assassinated former Prime Minister Benazir Bhutto. It said last week it planned to impeach him.
In Washington, White House spokeswoman Dana Perino referred to the report as a "rumor mill". "We've heard the reports and we continue to monitor it," she said, adding that the United States considered the leadership of Pakistan an issue for Pakistanis.
Former army chief Musharraf seized power in a 1999 coup but has been isolated since his allies lost a February election.
A Pakistani newspaper this week said Musharraf was expected to announce a decision to step down on Independence Day on Thursday. Instead, Musharraf issued a call for reconciliation, which he said was essential to tackle mounting economic problems and Islamist militancy.
That appeal apparently failed to check government attempts to force him from power, with one senior coalition official saying preparations to impeach the president were on track.
The political uncertainty is unnerving investors, with the rupee setting a new low of around 75.05/15 to the dollar on Wednesday and stocks hovering near two-year lows.
Financial markets were closed on Thursday.
The Financial Times said Musharraf had demanded he be allowed to retire to his farm in Islamabad and that there be no moves to prosecute him once out of office,
It quoted a senior government official as saying Pakistan's powerful army had insisted Musharraf's demands be met.
Coalition leaders said this week the army, which has ruled for more than half the country's history since its founding in 1947, would not intervene to back its old boss.
Analysts say the army is loathe to step back into the political fray and is unlikely to take any action against the government on Musharraf's behalf.
Reports have cited army commander General Ashfaq Kayani, who Musharraf chose to succeed him when he gave up command last year, as saying he wanted to avoid the controversy over Musharraf.
Asked about the possibility of a military coup in Pakistan, Perino said: "I haven't heard of a military coup ... But I think if they are be moving forward on impeachment proceedings it seems to be within their constitution".