Legal & Tax Perspective of the Presidential Tax Directive – COVID-19

Posted on March 30th, 2020

With the outbreak of the Coronavirus pandemic come widespread economic challenges affecting the world at large with no country spared. Kenya on its part has seen a decline in economic and business activities following the announcement of the Coronavirus cases in Kenya. In the result, the security of employment and businesses of many Kenyans is uncertain. An even greater challenge faced by companies is the inability to fulfil contractual obligations and more importantly be in compliance with statutory obligations.

It is on this premise that the President in an effort to mitigate the adverse economic effects of the Coronavirus pandemic, directed the National Treasury to implement certain tax reliefs (as set out below) aimed at increasing liquidity in the country.

Pay As You Earn (PAYE)

The President has directed a one hundred percent (100%) Tax Relief for persons earning gross monthly income of up to KES 24,000 and reduction of the highest PAYE rate from thirty percent (30%) to twenty five percent (25%).

This is a good move in ensuring that a taxpayer who earns salary goes home with more disposable income. This will help sustain the common mwananchi in the coming hard times. This directive will however only come into force pursuant to a tax amendment bill being tabled in parliament and the same being enacted.

Value Added Tax (VAT)

The President further directed an immediate reduction of the standard VAT rate from sixteen percent (16%) to fourteen percent (14%), effective 1st April, 2020. The Cabinet Secretary in exercise of his powers under section 6 of the VAT Act has issued Legal Notice Number 35 of 2020 dated 26th March 2020 in terms of the aforesaid directive, which is pending approval by Parliament.

The Kenya Revenue Authority (KRA) was also directed to expedite the payment of all verified VAT refund claims amounting to KES 10 Billion within three (3) weeks or in the alternative to allow for offsetting of Withholding VAT, in order to improve cash flows for businesses in the economy. We must emphasise this VAT Refund Claim only applies to claims that have been verified by KRA and does not extend to contested claims.

Turnover Tax (TOT)

Reduction of the TOT rate from the current three percent (3%) to one percent (1%) for all Micro, Small and Medium Enterprises (MSMEs). The TOT was reintroduced by the Finance Act, 2019. This will provide a major reprieve to taxpayers - entities whose turnover is less than KES 5 Million in a year of income.

Export Processing Zone (EPZ) Enterprises

Further to Presidential directives, the Cabinet Secretary for National Treasury and Planning, on 20th March, 2020, had issued a notice to the Commissioner General of KRA asking that it lifts restrictions of twenty percent (20%) of the total annual production of the EPZs for sale into the domestic market to one hundred percent (100%) with an undertaking that the government pays the dues and taxes to KRA given that there is no legal provision exempting goods from EPZs sold locally from taxes.

The tax and dues payable by taxpayers in the EPZs are charged under the 13th Schedule of the Income Tax Act and the EPZ Act, 1990.  This Presidential directive will allow entities in the EPZs to supply locally all their products in Kenya.

While the move is welcomed and the idea of the government paying taxes and dues on behalf of tax payers to KRA may be economically sound, the same goes against the basic agency principle of ‘a principal being estopped from purchasing its own goods from its agent’. However, it must be noted that this is a temporary measure, pending parliamentary amendments to the law to allow for exemption of EPZs.


This alert is for informational purposes only and should not be taken to be or construed as a legal opinion. If you have any queries or need clarifications, please do not hesitate to contact Lena Onchwari (lena@oraro.co.ke) and Wanjala Opwora(wanjala@oraro.co.ke) or your usual contact at our firm, for legal advice.

Salient Changes Under the Business Laws (Amendment) Act, 2020

Posted on March 30th, 2020

On 18th March, 2020 the President assented to the Business Laws (Amendment) Act, 2020 (the Act). The Act, which came into force on its date of assent, seeks to facilitate the ease of doing business in Kenya by amending various statutes. Below is a summary of the salient changes brought about by the Act, that affect specific sectors:

CONVEYANCING AND REAL ESTATE
Electronic Execution of Documents
The Act recognises the use of advanced electronic signatures and electronic signatures as a valid mode of execution of documents in Kenya. The recognition of electronic signatures is poised to improve the ease at which land transactions are carried out, especially in transactions where the parties are not in Kenya at the time of execution.

The Stamp Duty Act has equally been amended to provide that documents can be electronically stamped, extending the scope of the initial provision which only recognized stamping by a franking machine or an adhesive stamp.

Electronic Registries
The Registration of Documents Act (the RDA) has been amended to recognise electronic filing of documents. The Registrar of Documents is empowered to establish both the Principal Registry in Nairobi and the Coast Registry in electronic form. This is intended to ease the process of applying for registration of documents under the RDA, as one may not require to physically present a document for registration at either of the two Registries.

Abolishment of Land Rate and Land Rent Clearance Certificates
Previously, a person seeking to register an interest in land was required to provide proof of payment of land rates and land rent before registration is effected. An application for registration therefore had to be accompanied with Rates and Rent Clearance Certificates where rent and rates were payable.

The Act has deleted these provisions in entirety implying that it shall no longer be mandatory to produce Land Rent and Rates Clearance Certificates when applying for registration of an interest in land. Transferees therefore have to individually carry out their own due diligence and satisfy themselves that rent and rates have been paid in order to avoid assuming these liabilities.

It is however important to note that although Section 38 and 39 have been deleted from the Land Registration Act, Sections 55 (b) and 56 (4) which require production of a Rent Clearance Certificate and Consent to Lease or Charge prior to registration remain in force. It will, therefore, be necessary to address this disparity going forward, in order to clarify the applicable completion documents in property dealings.

EMPLOYMENT AND LABOUR
Waiver of Registration of Workplaces for new businesses
New businesses with less than one hundred (100) employees can now operate without registration of a workplace for a period of one year from the date of registration of the business. This provision is set to provide small and medium sized enterprises with more time to register their workplaces.

CORPORATE AND COMMERCIAL
Increased threshold for enforcing Squeeze-Out rights in mergers and takeovers
The stake that an acquiring party should purchase before enforcing a squeeze-out has been restored to ninety per cent (90%) from the current stake of fifty per cent (50%). The increase in the squeeze-out threshold seeks to restore the protection of the rights of minority shareholders, especially in listed companies.

Abolishment of the use of common seals in execution
The use of common seals in executing contracts by companies has been abolished. The adoption of this amendment broadens the scope for holding a company accountable for contracts as such contracts may be executed by any person acting under its authority, express or implied authority.

Treatment of bearer shares
Bearers of share warrants can now convert their warrants into registered shares. This provision is poised to recognize and protect the rights of bearers acquired before the coming into force of the Companies Act, 2015.

RESTRUCTURING AND INSOLVENCY
Additional factors to consider when lifting a moratorium in insolvency matters
The Act has included additional factors to consider when the courts seek to lift a moratorium in insolvency. These include, whether the value of the secured creditor’s claim exceeds the value of the encumbered asset, whether the secured creditor is not receiving protection for the diminution in the value of the encumbered asset, whether the encumbered asset is not needed for the reorganisation or sale of the company as a going concern and whether relief is required to protect or preserve the value of the assets such as perishable goods.. The inclusion of these factors is to take into account the different business exigencies of companies under administration.

Information requests by creditors
The Act gives creditors the right to request for information from the insolvency practitioner in respect of the insolvency process. The information rights will provide more transparency in relation to the insolvency process in Kenya.

CONSTRUCTION
Enforcement of the Building Code
The National Construction Authority (NCA) has been authorised to promulgate and enforce the Building Code in the construction industry. Consequently, any matters concerning compliance with the Building Code shall be under the purview of the NCA. The NCA will also have power to promulgate regulations relating to and to conduct mandatory inspections of the construction sites with a view to verify and confirm whether contractors are complying with the construction regulations.

TAX
Investment deductions, exemption of supplies for bulk storage of Standard Gauge Railway raw materials and market protectionism
Companies that incur a capital expenditure of at least Kenya Shillings Five Billion (KES 5,000,000,000) on construction of bulk storage and handling facilities with a minimum capacity of one hundred thousand metric tonnes in relation to the Standard Gauge Railway (SGR), will be entitled to investment deductions equal to one hundred and fifty per cent (150%) of the capital expenditure incurred from the year of first use of the facility.
Additionally, taxable supplies procured locally or imported for the construction of bulk storage in support of the SGR operations are exempted from paying import declaration fees.

Further, a twenty five per cent (25%) tax has been imposed on imported glass bottles under the Excise Duty Act.

The adoption of these amendments is intended to boost businesses for local manufacturers and ultimately grow Kenyan brands.


This alert is for informational purposes only and should not be taken to be or construed as a legal opinion. If you have any queries or need clarifications, please do not hesitate to contact Pamella Ager (pamella@oraro.co.ke), Nelly GitauJacob Ochieng (jacob@oraro.co.ke), Lena OnchwariNaeem Hirani or your usual contact at our firm, for legal advice relating to the Business Laws (Amendment) Act, 2020 and how the same might affect your business.

Kenya-Mauritius Double Tax Avoidance Treaty

Posted on March 19th, 2019

By Walter Amoko | Lena Onchwari

Introduction

Kenya, as is the case with other countries, has entered into a number of Double Tax Avoidance Treaties (DTAs) with an aim of avoiding or mitigating double taxation of persons (both legal and natural) residing in the contracting states but more importantly as a way of encouraging Foreign Direct Investments.

Kenya signed a DTA with Mauritius (a country that has a vast treaty network and favorable tax framework) which was subsequently gazetted by the Cabinet Secretary of Finance via Legal Notice Number 59 of 2014 issued under the Income Tax Act. The Tax Justice Network Africa challenged both the constitutionality of the DTA and Legal Notice before the High Court on multiple grounds including opacity of the process, the need for public participation in the exercise, that it was not for the benefit of Kenya and lack of Parliamentary scrutiny.

The High Court has now given its Judgment. The constitutional challenge to the DTA failed. The High Court found that the DTA had some form of ratification as required since both states agreed to be bound by it and that the process of its formulation was open and transparent. Further the court found there was no basis for faulting want of public participation. However, the Legal Notice that was intended to domesticate it was void because it was not tabled before Parliament within the time required by the Statutory Instruments Act.

Impact

The High court’s decision did not invalidate the Double Tax Avoidance Treaty by declaring it unconstitutional nor did it affect the propriety of anything done under it prior to the invalidation of the Legal Notice. It merely declared the Legal Notice as void for lack of parliamentary scrutiny. The impact of this is that though the DTA is still valid, it does not have legal effect in Kenya.

It is open to the Cabinet Secretary to issue a new Legal Notice in respect of this (and any other similar Legal Notices on any DTAs entered after 2013) and ensure full compliance with the Statutory Instruments Act including presenting it ; with all the required information, on time to Parliament.


Should you require further information on the DTA, please contact Walter Amoko (Partner) or Lena Onchwari (Partner):

Walking a Tight Rope: Thin Line Between Tax Planning and Tax Abuse

Posted on September 14th, 2018

By Walter Amoko | Lena Onchwari

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Globalization has had its bright side. Liberalization of domestic markets as well as the feeble returns in most Western markets has resulted in dramatic growth in foreign direct investment by multinational companies especially across the globe with developing countries receiving a substantial share. This has been of great benefit to developing countries spurring economic growth. Their tax authorities should also be smiling as growth results in more tax revenue. However, this is not guaranteed as tax efficient multi-nationals are astute at avoiding taxes. Consequently, developing countries have seen the need to drastically amend and enact tax laws that will give them a wider tax base, curb tax evasion and mitigate against tax avoidance.

It is noteworthy that despite the statutory obligation to pay taxes, a taxpayer is allowed under law to so arrange its affairs to mitigate its tax liability. This is encapsulated in the statement of Lord Clyde, in the case of Ayrshire Pullman Motor Services & Ritchie v Inland Revenue Commissioners where he stated that; “….No man…. is under the smallest obligation, moral or other, so to arrange his legal relations to his business or to his property as to enable the Revenue [authority] to put the largest possible shovel in to his stores. The Revenue [authority] is not slow – and quite rightly – to take every advantage which is open to it under the taxing  statutes for  depleting the taxpayer’s pocket. And the taxpayer is, in like manner, entitled to be astute to prevent, so far as he honestly can, the depletion of his means by the Revenue [authority]….” This passage recognizes the inevitable game of cat and mouse where the tax authorities seek to legally maximize tax collection while the tax payer seeks to legally reduce his/her tax obligations, with the Courts determining the legality of the transaction or structure when confronted with such matters.

The increased sophistication of financial arrangements to minimize tax obligations and the advancement of tax law to address this has occasioned numerous court decisions on tax planning. The Courts have become more sagacious and have moved away from solely looking at the legality of the transactions on the face of it as they have deemed that approach insufficient, the Courts now also examine the underlying commercial rationale of a scheme to determine whether it amounts to an abuse of law.

In the landmark case of Halifax plc v C & E Commrs (and related appeals), the Court  stated  that ‘…the   application of Community legislation cannot be extended to cover abusive  practices by  economic  operators,  that  is  to say  transactions  carried  out  not   in the context of normal commercial operations, but solely for the purpose of wrongfully obtaining advantages provided  for  by   Community   law. That principle of prohibiting abusive practices also applies to the sphere of VAT….’ The judgment of the court in this case could not be more discerning. The Court opined that  despite  the  legality of a tax planning scheme, the tax payer cannot employ the same without an accompanying commercial purpose as that would be tantamount to an abusive practice. It is therefore pertinent  for the tax payer when formulating a tax planning structure, to take cognizance of the developments in both statutory and juridical law to ensure that the structure will not be deemed to be an abuse of law.

That said, tax planning can be approached from three different angles namely legal, financial and operational.

Legal Structure

A company’s legal structure relates to its ownership or share holding. This is especially important when it comes to withholding taxes on dividends  and most importantly in the  eventuality  of an exit from a country. In the Chinese Chongqing case (State Tax Bureau, 27 November 2008) a Singapore parent company sold to a Chinese buyer its Singapore subsidiary, which was a SPV(special purpose vehicle) that held a subsidiary in China. The Chongqing tax bureau disregarded the Singapore subsidiary and treated the  transaction as a sale by the Singapore parent of the Chinese subsidiary. Consequently, the Singapore parent  company  had to pay income tax in China at a 10% rate on the capital gain from the sale, as if it had sold the Chinese subsidiary directly. The tax bureau was of the view that the Singapore subsidiary had a very small amount of capital and also did not carry on any business activity other than owning the shares of the China subsidiary. Hence, the Singapore subsidiary lacked economic substance.

Financing Structure

Companies finance their operations in two major ways,  intercompany  loans or loans from third party financial institutions. However the  deductibility of the relevant interest expense is governed by certain specific and general anti-avoidance rules.

As already stated above, the Courts expect financing arrangements between companies to be driven by an economic goal. This was reflected in the recent judgment of the Supreme Court of Netherlands dated 5th June 2015  in a case that involved a listed parent company of a South African media group. The parent company issued shares of which approximately 60% of the proceeds were  directly  wired  to its Dutch third-tier subsidiary. From a legal perspective, the proceeds were contributed as capital to a second-tier Mauritian company, which in turn granted an interest free loan to its 100% owned Mauritian subsidiary, the group’s internal financing (low-substance) company. This company lent the proceeds to the Dutch holding company through an interest bearing loan. The Dutch holding company used the proceeds to acquire other companies and claimed interest deduction on the Mauritian Debt. The Supreme Court denied the claim for interest deduction and consequently referred the matter back to a lower Court to determine whether commercial reasons had duly motivated the funding provided by the holding company.

Operational Structure

It is common practice for companies in a group to offer other sister companies services at a cost. These services include management and professional services, marketing services, intellectual property leasing   among   others.   Payments for such services will be allowable deductions in one company  and  may be subject to  taxation  in  another.  It is however prudent to note that the transfer pricing guidelines will apply in such transactions.

The  spaghetti  plate  of  divergent views on  tax  planning  is  not  only  of a legal nature, but also of a moral, economic and political nature. As already discussed above, tax planning or avoidance is not illegal but it may be deemed by the Courts and the revenue authorities to be an abuse of law, in which case the tax payer may be denied the tax advantage they sought to enjoy.

There are proponents, especially the civil society, who consider tax planning to be outright immoral. Such a stance may adversely affect a company’s reputation, especially in cases where there is public outcry. However, such reputational risks can be allayed by putting in place certain measures which among others include intense lobbying and engagement with the government and tax authorities.

Flowing from the above, it is noteworthy that the Courts look at a number of factors in  order  to  determine  whether a company’s tax planning activities amount to an abuse of law. It was the trend that Courts mainly considered whether the structure was highly motivated by a commercial or economic benefit to the company. However a recent judgment of the UK Supreme Court in the case of HMRC V Pedragon plc & 5 others (2015) UKSC added a new twist to this. In the case the court held that it is not sufficient that a transaction has a commercial benefit, this will be open to challenge if the  accrual  of  a tax advantage is established to be the principal aim of the transaction.

In essence, while determining whether a tax planning structure amounts to an abuse of law or not, the Court will now consider two key factors; whether a company wished to obtain a tax advantage and whether the tax planning structure was driven by a commercial benefit. This decision of the Court is mirrored in the recent development of tax legislation in developing countries. For instance the Tax Procedures Bill in Kenya intends to look beyond the legality of the structure or transaction; it seeks to determine the commercial purpose of the same. It essentially lays the burden upon the tax payer to demonstrate the commercial purpose of certain transactions, failure of which the tax payer may be subjected to paying double the tax avoided as a penalty.

Therefore a tax payer should ensure that they structure their affairs in such a way that on one hand they are able to achieve their commercial or economic goals and on the other hand they get to optimally benefit from tax advantages brought about by the structure, without abusing the law.

Unveiled: Kenya’s 2016/2017 Budget Highlights

Posted on August 13th, 2018

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Kenya's eagerly awaited 2016/2017 budget themed, ‘Consolidating gains for a prosperous Kenya’ was read out by the Cabinet Secretary for Finance, Henry Rotich on 8th June, 2016. To meet the country's  goal of achieving a middle-income economy status, the Government aims to improve revenue collection, broaden the tax base, enhance equity and fairness in the tax system. The budget has seen some amendments in tax legislation in an effort to foster growth in certain key sectors of the economy including agriculture, tourism, manufacturing and the private sector as a whole. Some of these amendments are highlighted below:

Income Tax Act (Cap 470)
Personal Taxation (PAYE)
  • While expanding the current PAYE tax bands, the Government has increased the personal relief amount by 10% entitled to an individual taxpayer from KES 13, 944 to KES 15, 360 per annum. In addition, individuals earning low incomes (of maximum KES 121, 969 per annum) will not be subjected to tax on any bonuses, overtime or retirement benefits they receive
    Corporation Tax
  • In an effort to encourage real estate developments to cure the current housing gap, the corporation tax rate of a developer of more than 1000 housing units has been reduced to 20% from the standard corporation tax rate of 30%
  • On matters employment, in the spirit of the amendments made in last year’s budget, the Government has offered an additional rebate that will be claimed on the cost of emoluments paid by employers to at least 10 apprentices who are university graduates for a period of 6 to 12 months. This rebate can be claimed within 3 years
Capital Gains Tax
  • Any transfer of property either between, or a company in which either or both of the spouses or immediate family (including their children and former spouses) holds 100% of the shareholding, will be exempt from capital gains tax
    Residential Rental Income Tax
  • In order to facilitate administration of this tax that was introduced last year, the government will enact residential income tax rules with an aim of providing guidance on filing of returns, remittance of taxes, interest & penalties payable and dispute resolution
  • Furthermore, where a person earns residential income of KES 144, 000 and less in a year, they will be exempted from income tax on this rent
    Tenants as withholding tax agents
  • The Government intends to amend Section 35 of the Income Tax Act (Cap 470) to the effect that the Commissioner will be able to appoint tenants and agents to deduct withholding tax from payment of rent to landlords
    Presumptive Tax
  • The Government has realised there is quite a substantial amount of "untaxed" income from the informal or jua kali sector. To mitigate this it is considering the introduction of a presumptive tax on informal sector income
    Tax Amnesty
  • The Government will grant a tax amnesty to taxpayers who own assets and businesses in other jurisdictions and who intend to reinvest the same in Kenya. This is on condition that the taxpayer files income tax returns for the year 2016, by the end of the year. It is important to note that the Government has given assurances not to investigate or follow-up on the source of income and assets
    Value Added Tax (VAT) Act, 2013
    Withholding VAT
  • The Government has reintroduced withholding VAT, which was deleted by the Tax Procedures Act, 2015 that came into force on 19th January, 2016. Consequently, Government agencies and appointed agents will be required to withhold 6% of the taxable value of the supply and remit to KRA directly. The remaining 10% of the taxable value will be remitted to the suppliers
    VAT tax representatives
  • In the case of a non-resident person, with no fixed place of business in Kenya, the Government will propose procedures for them to be able to appoint tax representatives in Kenya
    Newly exempt supplies:
  • Agricultural sector: In an effort to boost the agricultural sector, some specific raw material used in the manufacture of animal feed will now be exempt from VAT. This will make animal feeds affordable to farmers reducing their cost of production
  • Tourism sector: In order to encourage both domestic and international tourism, the park entry fees paid by the tourists will now be exempt from VAT making them lower. Furthermore, any commissions earned by tour operators will be exempt too
  • Construction sector: Goods for direct and exclusive use in the construction of recreational parks upon recommendation by the Cabinet Secretary responsible for matters relating to recreational parks
  • Health sector: Goods for direct and exclusive use in the construction of specialised hospitals with accommodation facilities upon recommendation by the Cabinet Secretary for Health
  • Manufacturing sector: In an effort to reduce the cost of production in the manufacturing sector, petroleum products will remain exempt for VAT purposes for another 12 months after September, 2016. These products include motor & aviation spirits, oils, kerosene and gas oil. Moreover, liquid gas will also remain exempt.
    Newly zero-rated supplies
  • Sales to Special Economic Zones, which now fall within the scope of what amounts to an ‘export’ for VAT purposes
    Customs duty
    Imports
  • Iron and steel products: A specific import duty of USD 200 per metric ton introduced on a number of imported iron and steel products available in the regional markets for one year
  • Aluminium: To promote the manufacture of aluminium cans, the duty on plates and sheets of aluminium alloys, not available in the region reduced from 25% to 0% under the duty remission scheme, import duty on aluminium cans increased from 10% to 25%
  • Oil or petrol filters for engines:  Increased duty from 10% to 25%
    Duty remissions

    Going forward, duty will be remitted at the rate of 0% on the following:

  • Inputs for the manufacture of matches
  • Inputs for manufacture of solar equipment
  • Bars and rods for manufacture of automobile accessories
  • Aluminium plates and sheets for manufacture of cans
  • Inputs for agricultural equipment
  • Raw sugar for refining into industrial sugar: This will only be for one year, on condition that the refined sugar shall be sold only to manufacturers in the region (with the exception of Tanzania)
Newly exempt
  • Specialised Heating Ventilation and Air-Conditioning equipment used by manufacturers of pharmaceutical products will now be exempt from duty. This is to support the local industry in meeting WHO standards
Removal from Exemptions:
  • Spare parts and accessories for solar equipment are no longer exempted from duty
  • Inputs for agricultural equipment are also deleted from exemptions
Excise Duty Act, 2015
  • Kerosene: Excise duty on illuminating kerosene is now KES 7,205 per 1,000 litres
  • Motor vehicles: The Government intends to introduce excise duty at the rate of ad valorem rate of 20% on the value of a car. This marks a departure from last year when the tax rate was dependent on the age of the vehicle and not its value
  • Cosmetics and beauty products: Excise duty is now imposed at 10% on perfumes, toilet water, make-up, pedicure and manicure products, haircare and shaving preparations. These products were previously exempt
  • Plastic bags: Excise duty at the rate of KES 120 per kg on plastic bags. However, vacuum plastic bags for packing foods, juices, tea and coffee are not subject to excise duty
  • Water: Previously in 2015, water was subject to excise duty at a rate of KES 5 per litre. This includes both tap and bottled water. Subject to amendments to the Excise Duty Act, 2015, tap water is now specifically excluded from excise duty while mineral water and aerated water will continue to attract duty at KES 5 per litre
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Tax Reprieve: Kenya’s New Tax Amnesty Guidelines Released

Posted on July 30th, 2018

By Walter Amoko & Lena Onchwari

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Since June 2016, when Kenya’s Cabinet Secretary for Finance announced that the Government would extend a tax amnesty on foreign income in the annual budget speech, there has been anticipation around the proposed amnesty. Anticipation for the Government to release the related Guidelines, which the Kenya Revenue Authority (KRA) recently did earlier this month. The Tax Amnesty Guidelines on Foreign Incomes (the Guidelines) are intended to provide guidance as to how to take advantage of the amnesty. Under it taxpayers will get a wide blanket of amnesty on foreign income and assets, provided they were disclosed and repatriated. In the Cabinet Secretary’s words, “...Taxpayers who will take up this amnesty shall have all principal taxes, interest and penalties for the income year, 2016 and the prior year’s automatically remitted in total. In addition, the Government will not follow up on the sources of such incomes and assets declared...”

However, the scope of the amnesty as contained in the enacted Finance Act, 2016  which introduced Section 37B to the Tax Procedures Act, 2015 did not track the Cabinet Secretary’s words during the 2016 budget speech,  “... the Commissioner shall refrain from assessing or recovering taxes, penalties or interest in respect of any year of income ending on or before the 31st December, 2016, and from following up on the sources of income under the amnesty where — (a) that income has been declared for the year 2016 by a person earning taxable income outside Kenya; and (b) the returns and accounts for the year 2016 are submitted on or before the 31st December, 2017..." The amnesty under Section 37B is limited, applying to a fairly narrow set of incomes, without any requirement for repatriation.

Under the Guidelines, income is defined as, “..taxable income earned outsider Kenya which would have been taxable in Kenya under Kenyan tax laws if it had been accrued or derived in Kenya or deemed to have been accrued in or derived in Kenya...” In effect the scope of the tax amnesty has been widened to now apply to all forms of income earned abroad that would have been taxable had they been earned in Kenya. The breadth of this widening is reinforced by definition of assets under the Guidelines which includes ,”.....bank deposits, investment portfolio, insurance policies, shares or other property situated outside Kenya and are funded from income derived from or accruing from sources within or outside Kenya including those held under Trust...”

The amnesty also extends to, taxable income earned by the person seeking amnesty from sources outside Kenya; taxable income by a person who resident during the year it was earned, regardless of the present status as well as non-residents,... “in the year in which he earned taxable income outside Kenya and such income would have been taxable under Kenyan tax laws if it had been accrued or derived in Kenya or deemed to have been accrued or derived in Kenya.” Plainly, the issue of the scope of the income covered by the amnesty will require more investigation, reflection and possible litigation not only as to what practical effect of these provisions are, but their legal propriety.

The Guidelines not only require full and accurate disclosure but also, in line with Budget speech, but unlike section 37B, to qualify for the amnesty, those disclosed assets must be repatriated to Kenya.

Other highlights of the Guidelines include:

  • Application must be made by 31st December, 2017 using the prescribed format
  • Stipulations to as who makes the declaration e.g. in the case of trusts, trustees, or settlors; joint declarations permissible by husbands and wives; parents or guardians in case of minors
  • Incomes excluded such as those earned in Kenya; those earned outside Kenya but were declared and already taxed; the applicant is under a tax audit or investigations by the KRA

KRA has undertaken to work with all stakeholders so as to ensure the tax amnesty scheme is a success. This is a promise that all those who might wish to apply for the amnesty as well as their tax and/or legal advisers should take for there are only nine months left.

The Kenyan Government is clearly gearing up for the OECD Common Reporting Standards (CRS) which are expected to come into force in Kenya in the year 2018, latest 2019. The Government has now put on notice all tax payers with foreign assets to put their affairs in order before the CRS takes effect.


If you have any queries or need any clarifications, please do not hesitate to contact Walter Amoko or Lena Onchwari or your usual contacts at our firm, for advice relating to the Amnesty and how it may affect your business and dealings, going forward. For more information on the CRS, read one of our earlier insights here and for a summary of the 2016 budget by our tax experts, click here

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The Finance Bill 2018

Posted on July 29th, 2018

By Walter Amoko & Lena Onchwari

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The Cabinet Secretary for National Treasury and planning, Mr. Henry Rotich, has tabled in parliament the Finance Bill, 2018 which seeks to realize the Governments Big Four Agenda by boosting revenue collection by expanding the tax base in Kenya

Click here to download a summary of the key changes.

 

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New in the Market: Share Buybacks Under the Companies Act, 2015

Posted on June 27th, 2018

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Share buybacks refer to the repurchasing of shares by the company that issued them. Until recently, the concept of share buybacks in Kenya was foreign. However, the coming into force of the Companies Act, 2015 (the Companies Act) introduced the concept to Kenya.

In a typical share buyback transaction, a company buys back its shares and then cancels them and the amount of the company’s issued share capital is diminished by the nominal value of the cancelled shares. This effectively leaves the remaining shareholders with larger stakes in the company.

Rationale

There are several reasons why a company may repurchase its own shares. A common reason is that the company may have some extra money to spend. One of the ways a company can apply surplus funds is to purchase its own shares.

Another reason why a company may repurchase its own shares is to take advantage of undervaluation. If a stock is dramatically undervalued, the issuing company can repurchase some of its shares at this reduced price and then re-issue them at a later date once the market has corrected, thereby increasing its equity capital without issuing any additional shares.

Yet another reason for which share buybacks may be used, is to facilitate the exit of a member through the disposal of his shares, with the company purchasing the exiting member’s shares.

Preliminaries

The company should take into account the following preliminary considerations before carrying out a share buyback:

  • Whether the company’s articles permit the buyback. A companywill be deemed to have authority so long as the articles do not prohibit the buyback
  • Whether there are any private agreements (e.g. shareholder agreements) which may prohibit the company’s ability to purchase its own shares
  •  Whether there are any pre-emption rights which restrict the transfer of shares e.g. there may be a requirement for the shares proposed to be bought back to be offered to existing shareholders before they can be transferred to the company. If triggered, these provisions would need to be complied with or amended before the company undertakes a share buyback
  • Whether there is any prohibition on giving financial assistance which could prevent the company from buying its own shares. Under the Companies Act, a company may give financial assistance for the acquisition of its own shares, so if there is any restriction on the giving of financial assistance in the company’s constitution, this should be removed
  • Whether the company has more than one class of shares. Whether the buyback will result in the variation of the rights attaching to those classes of shares (in which case class consent to vary will be required)
  • Whether there is any banking facility which might restrict the company’s ability to undertake a buyback

In order to give effect to a share buyback, a company must enter into a contract with the shareholder(s) whose shares are to be purchased. It is usually a simple agreement providing for the company to purchase the shares or it can be a contract under which the company may become entitled or obliged to purchase the shares in the future subject to certain conditions being met. It need not be a stand-alone contract and can be incorporated into the company’s articles as a standing authority to buyback.

The terms of the contract should be approved by a special resolution of the company either before the contract is entered into or the contract should state that no shares will be purchased until its terms have been approved by resolution of the shareholders. After the share buyback, the company must lodge a return of purchase with the Registrar of Companies (the Registrar) and after the shares are cancelled a notice of the same must be also lodged with the Registrar together with a Statement of Capital.

Restrictions

The Companies Act has introduced provisions that allow companies limited by shares, whether private or public and companies limited by guarantee with a share capital to purchase their own shares (including redeemable shares) subject to any restrictions or prohibitions in its articles and the provisions of the Act on purchase of its own shares by a company.

Under the Companies Act, a limited company may not purchase its own shares if as a result of the purchase there would no longer be any issued shares of the company other than redeemable shares or shares held as treasury shares. Secondly, a limited company may not purchase its own shares unless they are fully paid and lastly a limited company may purchase its own shares only out of distributable profits of the company or the proceeds of a fresh issue of shares made for the purpose of financing the purchase. A private limited company may however purchase its own shares out of capital.

Types of Share Buybacks

The power of a limited company to purchase its own shares may be exercised in three (3) ways: by an off-market purchase; by a market purchase; by a contingent purchase contract.

(i) Off-market purchases

An off-market purchase is defined as one which is not effected on an approved securities exchange, or one which is so effected but the shares are not subject to a marketing arrangement on the exchange. Principally, therefore, purchases by private and nonlisted public companies and over-the-counter purchases by listed companies are “off-market” purchases.

(ii) Market Purchases

Alternatively, a company may purchase its own shares by a market purchase. A purchase is a market purchase if it is made on an approved securities exchange and the shares are not subject to a marketing arrangement on the exchange. This means that market purchases do not apply to private limited companies.

(iii) Contingent purchase contracts

A contingent purchase contract is a contract entered into by a company and relating to shares in the company, that does not amount to a contract to purchase the shares but under which the company may (subject to any conditions) become entitled or obliged to purchase the shares.

The simplest example of a contingent purchase contract is a “put” option given by a company to one of its own shareholders under whichthe company will become obligated to acquire a certain number of  shares from him at an agreed price if the shareholder exercises the option. Similarly, a “call” option taken by a company will be a contingent purchase contract, since it entitles the company to require the other party to transfer a certain number of shares in the company at an agreed price, if the company chooses to call on him to do so.

Benefits

Share buybacks reduce the number of shares available in the market. This has the potential of increasing earnings per share on the remaining shares, benefiting shareholders. Buybacks can also serve to increase share prices by simply reducing the supply of available shares in the market and as per the demand theory, a lower supply can cause an increase in price in some cases.

Share buybacks can also be used to boost shareholder confidence in the company as the shareholder will view the purchase of undervalued shares by the company as a sign of confidence by the company. Also, when a company’s share price has suffered a significant fall in the market, a buyback can be a good way for a company to cushion its shareholders. Buying back stock can also be an easy way to make a business look more attractive to investors. By reducing the number of outstanding shares, a company’s earnings per share ratio is automatically increased.

Disadvantages

For years it was thought that share buybacks were a positive thing for shareholders. However, there are some downsides to buybacks as well. The impact of buybacks on earnings per share can give an artificial lift to the stock and mask financial problems that would be revealed by a closer look at the company’s ratios. Some have said that companies use buybacks as a way to allow executives to take advantage of stock option programs while not diluting earnings per share. Share buybacks can also create a short-term bump in the share price that some say allows insiders to profit, while other investors might buy in after they see the prices move higher.

Tax

A buyback of shares from a shareholder will trigger capital gains tax at the rate of five per cent (5%) on the gain. The capital gains tax is payable by the shareholder. The company on the other hand will also be liable to pay stamp duty at the rate of one per cent (1%) on the share purchase price when buying back the shares.

Conclusion

The Companies Act has elaborately set out the different ways, a limited company can exercise its power to purchase its own shares and set out the procedure for the same. It should however be noted that the share buyback scheme is novel in Kenya and that there are presently no regulations that govern share buyback transactions, neither have prescribed forms been issued. Be that as it may, the share buyback concept is a welcome development in Kenya, as it is a tool whose benefits far outweigh the disadvantages.

A Tale of Two Countries: A Comparative Look at Trusts in Mauritius and New Zealand

Posted on June 26th, 2018

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Introduction

Trusts have been in existence since the 12th Century from the time of the crusades under the jurisdiction of the King of England. English land owners went to the battlefield, leaving ownership of their lands to the crusaders who would manage the land in their absence. However, the Trust system faced one major challenge; on their return, the crusaders refused to hand over the land to the owners. Unfortunately, as far as the King’s Courts were concerned, the land belonged to the Trustee, who was under no obligation to return it, i.e. the crusader had no legal claim.

What is a Trust?

A Trust is an equitable relationship arising when property is held by a Trustee for the benefit of a third person, a beneficiary, and subject to obligations owed in favor of the beneficiary. As such, a Trust can be described as an entity created for purposes of ensuring that a property interest is held by one person; a Trustee, at the request of another; a settlor, for the benefit of a beneficiary.

A Trustee therefore holds the property subject to personal obligations to manage and apply it in accordance with the terms of the Trust deed for the benefit of the beneficiaries or in the manner prescribed. In a Trust, it is not easy for a Trustee to use the settlor’s property for personal gains. A Trustee who deals with the Trust property inconsistently with the terms of the Trust is personally liable to the beneficiaries for breach of trust and in the absence of any defences; the Trustee will be required to compensate the beneficiaries for the loss.

Trusts can be designed in a way that the benefits of the Trust belong to the settlor in their lifetime ensuring early set off of the management of the Trust.

Family Trusts

A Family Trust is a relationship between the settlor, who creates the Trust and decides what goes into the trust deed (the trustees, who hold title to the Trust assets in their own names and deal with them as instructed in the trust deed) and the beneficiaries, who receive the benefits from the Trust. The income and assets owned by a Family Trust are not owned outright by either the trustees or the beneficiaries. Trust assets only become the property of the beneficiaries when trustees transfer the assets from the Trust to the beneficiaries personally.

Unlike a will, a Family Trust provides continuity of the estate of a deceased person by ensuring that the estate devolves to future generations and more importantly through capable and reliable people. The concept of a Trust is one that involves an owner of a specific property being able to govern how the same property should be used or administered over.

Establishment of a Trust

A Trust is established by way of a Trust deed. The Trust deed, amongst other things, contains the objects of the Trust, the name of the Trust, the properties held under the trust, the power of the trustees, meetings of the Trustees and the Trust’s administration. The Trust deed has to be signed by all the trustees, should be stamped and then registered at the Lands Office under the Registration of Documents Act (Chapter 285 of the Laws of Kenya). Once registered as indicated above, the Trust is duly established as an unincorporated Trust which does not have a legal personality of its own. Thus, the Trust can only own property, enter into contracts or do any other thing in the names of its trustees but not in its own name.

As noted above, an unincorporated Trust does not have a separate legal existence of its own separate from its trustees. Therefore, in order for the Trust to be able to have a separate legal status and be able to own property, enter into contracts and do any other thing in its own name, it has to be incorporated.

The law providing for the incorporation of certain Trusts and related matters is set out in the Trustees (Perpetual Succession) Act, (Chapter 164 of the Laws of Kenya). Section 3 (1) of the Act provides that the trustees who have been appointed by anybody or association established for any religious, educational, literary, scientific, social, athletic or charitable purpose or who have constituted themselves for any such purpose may apply in the manner provided for in the Act, for a certificate of incorporation of the trustees as a corporate body.

Section 5 of the Act provides that for the Trust to attain its own legal personality, an application has to be made to the Cabinet Secretary in charge of matters relating to lands. This application shall be in writing, signed by the person or persons making it, and shall contain the prescribed particulars. This application must be accompanied by the registered Trust deed and the evidence of a parcel of land that is owned or to be owned by the Trust.

A Trust as a tool of Tax Planning

It is noteworthy that Trusts are not only instrumental towards estate planning but can also be used as a tool for tax planning. This is particularly so where the beneficiaries of the estate are resident in different jurisdictions and also where the properties of the estate are situated in different jurisdictions, which may trigger high tax obligations on the estate. In this regard, offshore Trusts have gained popularity as an avenue not only for estate and tax planning but also for purposes of protecting assets from creditors, to postpone the time of vesting of property, to pass on to Trustees the decision of who receives the Trust income or the Trust capital and to enable the settler to choose professional persons to administer and pass on assets according to his wishes, among others.

As such, it is advisable for an estate to consider establishing a Trust in a favorable jurisdiction to mitigate against high tax implications. The question therefore is what are the benefits of establishing a Trust and should one consider a local or an offshore Trust? In Kenya for instance, Trusts are considered to be corporate bodies and therefore they will be taxed at a considerably high rate. As already stated above, an estate may have properties in different jurisdictions; furthermore the beneficiaries of the Trust may be resident in different countries. This may have high tax implications and may also result in double taxation especially considering Kenya’s current double tax treaty network. Therefore, it may be prudent for estates to consider establishing Trusts in other countries, which will not only benefit them from a tax perspective but will also help facilitate estate planning.

While deciding on a suitable location, it is important to consider the regulatory framework and the taxation regime in the respective jurisdiction. In this regard, Mauritius is considered a favourable location for offshore Trusts on the basis of its tax regime, regulatory framework and its proximity to Kenya. New Zealand has also of late become a strong contender in the race towards being the most favourable offshore Trust jurisdiction.

Should we go the Mauritius Way?

Mauritius has integrated its laws on Trusts under the Trust Act of 2001. This law applies to both residents and non-residents of Mauritius and incorporates the latest trends in international Trusts legislations.

Non-residents can set up different types of Trusts in Mauritius. These can either be Trusts with interest in possession, charitable Trusts, purpose Trusts, accumulation and maintenance Trusts, bare Trusts, protective Trusts, discretionary Trusts, employee benefit Trusts and Trusts for the disabled, among others. Discretionary Trusts have proven to be very popular with non-residents due to the optimum flexibility they offer in the organization of the Trust property and for the distribution of income to beneficiaries. A Discretionary Trust is basically a settlement where both capital and income may be paid or applied, at the sole discretion of the Trustee(s), to any one or more of a class of beneficiaries, as the Trustee(s) deem(s) fit.

Mauritius-resident Trusts are taxed at the rate of 15% on their chargeable income (gross income less expenses but before any distribution). They are also eligible for an 80% presumed foreign tax credit on foreign source income and entitled to tax treaty benefits, under the various double taxation agreements between Mauritius and some 33 countries.

An offshore Trust of which the settlor is a non-resident and of which all the beneficiaries are also non-residents, is exempt from income tax in Mauritius, where it has deposited a declaration of non-residence with the local tax authority. Furthermore, non-resident beneficiaries of a Trust are exempt from tax in respect of income under the terms of the Trust, as well as from value added tax, whereas resident beneficiaries having received such income will be taxed at a flat rate of 15%.

Or is New Zealand a better option?

New Zealand is a jurisdiction that has in the recent past gained popularity as a location for offshore Trusts. This is not only because of the favorable tax and regulatory framework that it has in place in relation to Trusts but unlike other traditional tax haven jurisdictions (like Mauritius), New Zealand is a reputable member country of the Organization for Economic Co-operation and Development (OECD) with a highly regarded legal, political and economic environment.

In New Zealand, Trusts are exempt from assessment in respect of tax on income and capital gains arising outside of New Zealand, in the event that the settlor of the Trust is non-resident. Accordingly, the Trustee may make distributions out of a Trust fund established in New Zealand without any withholding or deduction for New Zealand income or capital gains tax.

New Zealand’s tax regime does not have inheritance, wealth or capital gains tax regimes. This means that any creation or transfer of assets to a Trust by a non-resident of New Zealand will not be taxed. Furthermore, the same transaction will not be subject to indirect taxes including gift duty, stamp duty, value added tax as they are not applicable to New Zealand Trusts.

From a compliance perspective, foreign Trusts established in New Zealand are not obliged to file income tax returns with the New Zealand Inland Revenue Department, in so far as they do not have New Zealand sourced income, nor distribution made to a New Zealand resident beneficiary. Moreover, New Zealand has very limited disclosure obligations in relation to the settlor and the beneficiaries. It is also noteworthy that New Zealand, like Mauritius has an extensive network of double taxation agreements in force with its main trading and investment partners.

Conclusion

It is never too late for taxpayers with expansive estates to organize their affairs in a way that not only enables easy and more efficient management of their affairs but also allows them to take advantage of tax planning opportunities that may alleviate the tax burden on both the estate and its beneficiaries. It is therefore a viable option to consider establishing a Trust, and where appropriate consider establishing offshore Trusts in a favourable jurisdiction

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