Olufemi Babem of KPMG Nigeria looks at the new corporate minimum tax provisions and considers the practical issues and challenges they may present for businesses in Nigeria in the current economic climate.
With the passage of the Nigeria’s Finance Act 2019, corporate taxpayers are asking the question: why should a company pay minimum tax to government despite realizing financial and tax losses? It is probably possible to find merit in the views for and against any position taken.
The concept of Corporate Minimum Tax (CMT) is not peculiar to Nigeria, although it is not widely adopted globally. As the name suggests, it represents the least amount of corporate tax that a company should pay in any year to the government. Although CMT is traditionally viewed as an anti-tax avoidance measure, the concept has gained relevance in the light of global discussions on tax morality, with the proponents of CMT arguing that every company should pay a fair amount as tax to government annually to support the continued provision of public goods and services. However, the significant issues that arise in this discourse are, what amount of tax would be considered fair; and fair to which party, the taxpayer or the government?
Typically, a company determines its tax liability by applying the rules stipulated in the tax laws. In some instances, the application of the statutory rules may result in little or no tax liability in the tax year. Thus, opponents of CMT question the rationale behind a company that has no income tax liability based on the correct application of the statutory rules, paying income tax to government using any other basis (especially if such company recorded financial and tax losses for the year). They further argue that government, as a key stakeholder, should partake in the fortune or penury of any company. In the face of this persisting argument, some jurisdictions, like the U.S., have repealed the application of a minimum tax to taxpayers.
However, in the jurisdictions that retain CMT, such as India and Ontario, Canada, the reference basis for calculating the minimum tax is often different. For example, in some jurisdictions, CMT is calculated like a levy, i.e., as a fixed amount or as a fixed percentage of the revenue of the company in any year, and does not consider the financial performance of such company. However, in other jurisdictions, CMT is calculated with reference to the profit before tax, or taxable profit/loss of the company. The taxable profit/loss is adjusted by disallowing some items to derive a revised taxable profit or loss. Also, the minimum tax rates are sometimes lower than the standard corporate income tax rate.
In Nigeria, the tax laws recommend a fixed percentage of turnover for calculating CMT. Prior to the enactment of the 2019 Finance Act in February 2020, CMT was calculated by reference to a combination of indices, including the turnover, gross profit, net asset and paid-up capital. Although a reasonable number of companies in Nigeria were exempted from payment of minimum tax pre-Finance Act 2019, the criticism of the old basis included the fact that non-exempted companies (mainly indigenous companies) were sometimes required to pay tax on accumulated capital (i.e., on net asset or paid-up capital), even when the business was neither profit nor revenue generating. The 2019 Finance Act introduced a new basis for calculating the CMT. The new basis addressed most of the criticisms of the old basis but introduced new challenges, which are discussed below.
Based on the 2019 Finance Act, CMT is now to be calculated as 0.5% of the gross turnover of the company (less franked investment income). Gross turnover is defined as “gross inflow of economic benefits (cash, revenues, receivables, other assets) arising from the operating activities of a company, including sales of goods, supply of services, receipt of interest, rent, royalties.” While companies with gross turnover of less than 25 million Nigerian naira ($64,000) are exempted from CMT, the exemption for companies with at least 25% imported capital has now been removed.
Although the new CMT basis removes the imposition of tax on accumulated capital, it does not consider the profitability and operating and tax profile of the affected companies. Further, the new basis has given rise to a few practical issues, including the following:
The Federal Tax Authority (i.e., the FIRS), in its information circular 2020/04, has clarified that gross turnover for the purposes of minimum tax should include “all operating incomes or revenues anywhere embedded.” However, the CMT illustration used in the circular included incomes from all sources of the company, including income from discontinued operations, income from other non-core operating activities and income from investing activities. While the illustration resulted in increased tax revenue for government, it raises the question of whether “operating income/revenue” means the total income of a company?
It is important to note that the phrase “operating income” is an accounting construct, not a tax or legal construct. In fact, the definition of gross turnover in the Finance Act is an adaptation of the definition of “revenue” in International Accounting Standards (IAS) 18 [which has been replaced by International Financial Reporting Council Standard (IFRS) 15]. In IAS 18, revenue is defined as: “the gross inflow of economic benefits (cash, receivables, other assets) arising from the ordinary operating activities of an entity (such as sales of goods, sales of services, interest, royalties, and dividends).” This definition has been simplified in IFRS 15 (revenue from contracts with customers), to mean increases in economic benefits to an entity during the accounting period arising from its ordinary activities, that result in an increase in equity.
In defining the term “ordinary activities” (or ordinary operating activities), the Financial Accounting Standards Board (FASB) in the U.S., in one of its concept papers, refers to the notion of an entity’s ongoing major or central operations. Also, IAS 7 (Statement of Cash Flow) describes “operating activities” as the main revenue-producing activities of the entity that are not investing or financing activities, especially cash received from customers. Consequently, it should be appropriate to conclude that the “gross turnover” contemplated in the 2019 Finance Act refers to the income of the company from its primary or central business operations (i.e., revenue), as distinct from other sources of income of the company disclosed separately in the financial statements in line with the provisions of IAS 1.
Consequently, the FIRS may need to revisit the definition of gross turnover presented in the circular to ensure consistency with the relevant accounting standards. This issue is likely to spawn controversy which is not good for tax administration. The canon of “certainty” is important to voluntary tax compliance.
Some taxpayers have also taken the view that income and profits exempted from tax under the CITA should be excluded in determining the “gross turnover” for CMT purposes. The CITA defined “tax” as “Tax imposed by this Act.” This implies that any income or profit specifically exempted from “tax” under the Act is exempted from all basis of taxation, including normal profits tax, CMT or any presumptive tax.
However, the introductory provision of the CITA on CMT suggests that the tax would be applicable to a company notwithstanding any other provision of the Act, including the provisions that exempt certain companies, incomes and profits from “tax.” Literally, this would imply that only companies that are exempted from CIT under any other legislation (like the Industrial Development Act), or liable to income tax under other tax laws would be exempted from payment of CMT.
Nonetheless, for companies that are exempt from tax under the CITA (for example, companies engaged in agricultural production), it could be argued that the CITA did not intend to take back the exemption that was offered in one section of the law through another section of the same law. Thus, these companies should still be exempted from payment of CMT during their tax holiday period: and that for incomes and profits that are exempted from tax under the same CITA, it can be argued that the related revenues are implicitly exempted from CMT.
By exempting the “profits” from tax under the CITA, all related revenue and costs become inconsequential for tax purposes. Therefore, the tax base for computing the CMT for these income streams would be nil. This reasoning is supported by the recent amendment to the excess dividend tax rule in the CITA.
This question is relevant to E&P companies that earn revenue from sale of both crude oil and gas, the latter being assessed to tax at 30% under the CITA. A Nigerian court had ruled that the CITA is applicable to the gas business of E&P companies, although both the operation and profits of E&P companies are traditionally liable to tax under the Petroleum Profits Tax (PPT) Act. In the writer’s view, aside from the reduced CIT rate, which is provided as an incentive for gas business in the PPT Act, no other provision of the CITA should apply to the gas business. Notwithstanding, because CMT is a tax on the company rather than on its profits, E&P companies should not be liable to the tax, where they have gas operations.
The new CMT rule is expected to increase the government’s revenue from corporate tax, due to the revised tax basis and the expanded taxpayer base. This would certainly be useful for the government, considering that the estimated budget deficit for the country has further worsened because of the current global economic meltdown caused by the twin shocks of falling crude oil prices and impact of the Covid-19 pandemic.
However, there is need for caution, considering that most businesses would also be negatively impacted by these twin shocks. Many companies are already projecting huge financial losses for the year and are beginning to implement cost-cutting measures to survive. Managing the corporate tax cost would be crucial.
The government therefore needs to take a long-term view of economic sustainability to find the right balance. While it may be difficult to abolish or amend the basis for the computation of the CMT at this time, palliatives that could be considered by the government include an upward review of the gross turnover exemption limit, from 25 million naira to 100 million naira, to cater to the concerns of some medium-sized companies with significant employment potential.
In the long term, the government should consider changing the basis of calculating the CMT from a “revenue” basis to a profit basis, as in Ontario, Canada. This change would certainly address most of the outstanding challenges identified with the current CMT rule and would be relevant in every business/economic context.
Olufemi Babem is Associate Director, Energy and Natural Resources Taxation, KPMG in Nigeria.
The author may be contacted at: olufemi.babem@ng.kpmg.com
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
