A roundtable on the future of corporation tax and the OECD’s consultation on the impact of digitalization was held in Nairobi on 15 March 2019. The clients attending were from a range of industries including banking, private equity, oil and gas, and logistics.
A theme which emerged was that renegotiating the global accord on international tax is not the highest priority in Kenya or many African countries. The more immediate concerns are about taxation of extractive industries and ensuring adequate capacity within tax authorities to deal with the basics such as collecting income tax and enforcing VAT, especially on cross border transactions. As regards the OECD consultation there was a feeling that the marketing intangibles and the significant economic presence proposals involved complex transfer pricing analyses and may not be suitable in the African context. There was a concern that highly digitalized multinationals were able to sell into Kenya and compete with purely domestic businesses without paying tax locally and so there was some support for a model based on giving taxing rights to where users were based. While it is recognized that the OECD is now operating through the Inclusive Framework, it was noted that the OECD is still seen by some as a developed country initiative where Africa does not have a sufficient voice.
One of the biggest tax issues in Kenya and Africa generally relates to the taxation of mining, extractive industries and commodities
The roundtable opened with a general discussion on the extent to which the existing global accord on international tax was working in the African context. One delegate pointed out that the impact of digitalization is not the biggest issue and, generally speaking, the large digitalized multinationals (MNEs) were not making significant profits in Africa. A bigger issue was how to tax extractive industries given that many African countries are resource rich. Another delegate pointed out the difficulty with applying existing transfer pricing rules to commodities.
A second major theme was the need to improve capacity among tax authorities
Another point raised was that Kenya, like many African countries, still struggles to collect tax that is due. This is partly due to the informal economy but also because, while revenue authorities may understand the theory, there is often inadequate enabling legislation. One delegate noted that he was responsible for a number of countries outside Kenya and in smaller jurisdictions he sometimes knew the law better than the local inspectors who were not used to having to deal with cross-border situations. Bureaucracy was another major issue; for example in Uganda taxpayers are required to file objections to assessments online but then have to print the objection and take it to the tax office for acknowledgment. A general comment was that inspectors struggled to apply laws to new types of transactions they had not seen before. Often tax offices were understaffed and there is a recurring problem that when people are trained they often leave to join industry or one of the advisory firms.
Some concern was expressed about the impact of digitalization on the local economy
Some delegates did raise a concern about the impact of digitalization of cross-border sales on the local economy. It was noted that goods were sold into Kenya from outside directly through the internet raising concerns on the lack of a level playing field with regards to direct taxes where the international companies compete directly with domestic entities. One person highlighted the fact that existing tax systems are based on national boundaries and physical goods and services and so are under pressure due to globalization and the dematerialization of goods and services driven by digitalization.
It was suggested there may have to be a move away from taxing profit in a country to looking at the source of value creation. One person gave the example of an engineer creating something in say Kenya, but that object has no intrinsic value until there is a customer who wants to buy it. If that customer is in London the question arises of where the value is created and how it is split respectively between the invention in Kenya and the sale in London.
The general view was that the marketing intangibles and significant economic presence proposals in the OECD consultation would be hard to apply in the African context
It was noted the marketing intangibles proposal would require a traditional transfer pricing exercise to identify residual profits. It was unclear to what extent a further transfer pricing analysis will be needed to separate out trade intangibles from marketing intangibles and to split the profits between different countries or lines of business. However it was likely that significant benchmarking exercises would be required which are problematic in Africa due to the lack of comparables. Furthermore in many countries there are no laws covering the identification and valuation of intangibles. It was therefore considered that the marketing intangibles route would be very complex to apply in the African context.
For similar reasons there was not much support for the significant economic presence idea and there was a concern that it would be hard for tax authorities to establish when the threshold had been reached to create a taxable presence.
Out of the three proposals in the OECD consultation most support was expressed for the user participation approach
One delegate noted that current international rules tend to allocate taxing rights to where intellectual property is developed. There is therefore a need to look at the location of users who also contribute - in a broad sense - to value creation. There was a general view that the user participation approach would be easier to apply and give a better result to the developing countries, although there was some debate about how users would be identified, whether companies actually collated the required data and how tax authorities would have access to it.
Formulary apportionment was not considered beneficial for developing countries
It was pointed out that using formulary apportionment - whether as a way of splitting the residual profit or as a system to replace corporation tax in its current form in its entirety - may well disadvantage developing countries. To the extent that the apportionment factor focuses on sales, formulary apportionment would tend to benefit larger, richer, consumer jurisdictions. If the factor focuses on the physical presence of employees it may be beneficial to some developing countries. However, highly digitalized businesses would be unlikely to have significant assets or employees in developing countries where they were making sales.
The minimum tax proposals where considered highly complex
It was also thought that the minimum tax proposals - whether at the entity level or the deductible payments level - would cause significant complexities. One suggestion was to have a simpler rule either applying withholding taxes to certain payments or denying a full deduction for certain recharges; it was noted however that this could create double taxation and increase the cost of business.
There was some support for mandatory binding arbitration but still some concern that the OECD was not representative of developing countries
There was a concern that arbitration would be very costly and a question was asked as to who pays the arbitrators. Nevertheless, delegates thought that mandatory arbitration with an independent third party would be beneficial.
It was also noted that some developing countries still view the OECD with suspicion as a developed country, despite the working of the Inclusive Framework. One suggestion was that the UN capacity needed to be strengthened. It was also noted there may be a greater role for the Platform for Collaboration on Tax.
A final provocation from one delegate was whether it would be possible to move away from tax as a constraint system to one where there was greater voluntary compliance. It was noted that the OECD is looking at this area and has recently produced a paper on Tax Morale.
by Chris Morgan
Chris became Head of Tax Policy for KPMG UK in 2011. In this role he was a regular commentator in the press, as well as on radio and TV, led discussions on various representations with HMRC/HMT. In 2014 Chris spearheaded KPMG UK’s Responsible Tax for the Common Good initiative. In September 2016 Chris took on the role of Head of...