Value Added Taxation on Intangibles in Nigeria: Prospects And Challenges

The Global Intangible Finance Tracker found that 52% of the overall enterprise value of all publicly traded companies worldwide resides in intangibles, with a total worth of US$57.3 trillion. That's huge right? This article looks at the posture of the Nigerian VAT law on Intangibles.

Introduction

The advancement of technology and the flux of economies have resulted in shifting the focus from tangibles to intangible assets. The liberalization and globalization of the economy has brought in new methods and arrangements in commercial enterprises in Nigeria. In order to expand their reach, multinational entities (MNEs) enter into various kinds of tie ups with domestic companies. In this manner, domestic companies reap the benefit of strong technical knowledge base, brand value, customer base of these multinational companies. These multinational companies in turn receive royalty payments and license fees as consideration for the use of such supplied intangibles. In Nigeria, it has been a subject of debate whether supply of intangibles attracts VAT. This debate is extended in this article with a view of reconciling the different positions and analyzing the effect of suggested reforms under the proposed Finance Bill[1].

An intangible asset is an asset that we can't see, feel and touch. This means that they are assets which are not physical in nature. Examples include goodwill, brand recognition and intellectual property, such as patents, trademarks, natural resources, copyrighted works, franchises, designs, trade secret, confidential information and know-how, [2]. A royalty is a legally-binding payment made to an individual, for the ongoing use of his or her originally created intangible assets[3]. As an example, if a payment is reserved by a person (Company A) who grants a patent, license to use or a similar right to another person (Company B) who in turn pays for the use of such patent, license to use or similar right, the payment made by Company B is usually referred to as a royalty.

Under the Value Added Tax Act, the litmus test for ascertaining if a transaction is subject to VAT is ‘whether there was a supply of a good or service”[4]. It has been argued that that “good” or “service” here impliedly includes intangible assets. It is also argued that ‘intangible assets’ are intangibles simpliciter. This divergent schools of thought is best illustrated with the two cases below.

CASE OVERVIEW

a. CNOOC & SAPETRO v FIRS[5]

Here, SAPETRO was the sole PSC contractor to NNPC in OML 130 PSC. Typically, a PSC contractor provides the funds for project development and is entitled to production as compensation. SAPETRO assigned 90% of its PSC contractor’s interest to CNOOC. FIRS attempted to collect VAT from the transaction. CNOOC filed a suit at the Federal High Court (the “FHC”) challenging FIRS’ decision. The FHC agreed with CNOOC that the transaction was not liable to VAT because PSC contractor’s interest was neither a good nor service. The FHC held that PSC contractor’s interest consists of rights and therefore constituted incorporeal property. The case therefore suggests that where the supply is not for a good or service, it is not subject to VAT.

b. VODACOM v FIRS[6]

In contrast with the decision of the FHC in CNOOC, the recent case of Vodacom v FIRS appears to suggest that payments/ royalties arising from transacting in intangibles is subject to VAT treatment. In the case, Vodacom challenged a VAT assessment imposed on it by the FIRS in respect of a transaction involving the supply of satellite network bandwidth capacities (an intangible) by a non-resident company. Although the bandwidth was received through Vodacom’s transponders in Nigeria, Vodacom challenged the assessment on the ground that the transaction was not subject to Nigerian VAT because Section 2 of the VAT Act only imposes VAT on services rendered in Nigeria and this supply was not performed in Nigeria but was only received in Nigeria.

Vodacom filed an appeal at the Tax Appeal Tribunal and subsequently at the Federal High Court (FHC) but Vodacom lost at both levels. Dissatisfied with the FHC’s decision, Vodacom appealed to the Court of Appeal. The Court of Appeal held that Vodacom was liable to self-assess and remit VAT on the said transaction. In giving its decision, the Court of Appeal recognized the fact that although the satellite network was in the orbit, the bandwidth was received in Nigeria through Vodacom’s transponders. Thus, the service was rendered in Nigeria and liable to Nigerian VAT.

Case Analysis

It is this author’s view that the proper question was not articulated for determination before the court in Vodacom’s case, therefore the question of the applicability of the Value Added Tax Act to intangibles cannot be said to have been adjudicated upon in reference to the Vodacom case, as it was not even in issue. A careful reading of the Vodacom case shows that the gravamen of the case is whether the supply of ‘bandwidth services’ was ‘rendered’ in Nigeria for it to be considered as an imported service. The premise therefore was already faulty as the arguments canvassed in the case implicitly assumed that the supply of bandwidth capacity amounts to a service.

The question that ought to have been raised and determined is ‘Whether a supply of bandwidth capacity amounts to a supply of good or service under the VAT Act’ We believe that if this question was raised and answered, it will have the effect of fundamentally altering the jurisprudence of the Vodacom case and settling the dust on the applicability of VAT on intangibles. However, it is abecedarian law that the court cannot raise issues without recourse to the arguments of parties [7] In Finnih v. Imade[8], the Supreme Court held; “it is accepted that in our adversary system of the administration of Justice, where the Judge is at all times expected to play the role of an unbiased umpire, he cannot raise any issues of facts suo motu, and proceed to decide the matter on such issues without hearing the parties.” It is in this light that the Court of Appeal reached its decision, based on the questions raised before it, as a result the Vodacom’s case does not form sound precedent on ascertaining the applicability of VAT on intangibles. This is premised on the principle that only when the res of the transaction is a supply of goods or services can VAT liability arise.

The Federal High Court (FHC) decision in CNOOC’s case on the other hand, reflects this accurate interpretation of the law.

For proper perspective, The VAT Act defines “supply of goods” to mean any transaction where the whole property in the goods is transferred or where the agreement expressly contemplates that this will happen and in particular includes the sale and delivery of taxable goods or services used outside the business, the letting out of taxable goods on hire or leasing, and any disposal of taxable goods.[9] The Act also defines “supply of services" to mean any service provided for a consideration, while “taxable goods and services” means goods and services not listed in the First Schedule of the VAT Act.[10] The combined reading of these definitions suggest that once a transactional item or asset is not a good or service, it is not subject to VAT and it is immaterial that there was a supply.

It is pertinent to note that the term “service” was not defined under the Act, therefore what amounts to a service, in the absence of a definition under the law, becomes a question of fact. A service comprises of human exertions. Examples of human exertion include dancing, working, courier and transportation generally, advisory, cooking and consultancy. However, a distinction should be made between services and the creations or products of services. All man-made items are the products of services. But the products themselves do not constitute services.[11]

As stated earlier, where an item does not fall specifically under the classes of goods and services, the proper approach is to exclude the applicability of the VAT Act. Examples of products that may neither be a good or service include goodwill, franchise, intellectual property, brand name, bandwidth capacity. Therefore payments made therefrom should ordinarily not be subject to VAT, as they do not fall within the definition of “goods” nor “service” This is in accordance with the tax principle that revenue laws are typically construed literally and ambiguities in the law are resolved in favor of the tax payer[12]

Intangibles- a tax gold mine

That the current VAT Act does not contemplate intangible assets is not a surprise as it was drafted at a time intangibles had little worth. In 1975, intangibles were estimated to make up 17% of the value of the S&P 500.[13] This is in contrast with the current valuation of intangibles. The Global Intangible Finance Tracker found that 52% of the overall enterprise value of all publicly traded companies worldwide resides in intangibles, with a total worth of US$57.3 trillion. In some sectors like cosmetics, internet and software, media, and drinks, intangibles account for 80-90% of enterprise value[14]

Also, with the emergence of new technologies such as collaborative economy and cryptoassets disrupting traditional value chains and creating complex uncertainties such as whom the VAT burden would fall, whether or not VAT would be chargeable in peer-to-peer structures involving no tangible remuneration, which value the VAT would be based on and how it should be charged, our local VAT Act has to be effectively drafted to deal with challenges of the new economy and prevent severe tax leakages.

With the introduction of the Finance Bill, it appears that prayers are answered as the Bill, which seeks to amend the various tax laws, amends the Value Added Tax Act by expanding  the definition of ‘goods’ and ‘services’. The Bill amends section 47 of the VAT Act by defining “goods” to mean:
  1. all forms of tangible properties that are movable at the point of supply, but does not include money or securities; and
  2. any intangible product, asset or property over which a person has ownership or rights, or from which he derives benefits, and which can be transferred from one person to all other excluding interest in land.
“Services” on the other hand means anything other than goods, money or securities which is supplied excluding services provided under a contract of employment.

This change brings royalty and license payments arising from supply of intangibles such as goodwill and intellectual property to a consumer in Nigeria subject to Nigeria VAT. Also captured by this new amendment is the more usual transactions for supply of intellectual property to consumers, especially supplies of digitized goods –  books, music, software or movies purchased for example on Apple Music, Amazon, Spotify, Netflix. It is noteworthy that in the context of the amendments under the Finance Bill, online streaming activities will qualify as “supply’’ for the purposes of VAT.

This amendment will also be critical to business to business transactions, especially upon acquisition of company assets. Hitherto, acquisitions of company intangible assets such as brand name, trade names, and customer data, lists and relationships and goodwill were not subject to VAT. This has led to a huge loss of potential revenue for the government. With this amendment, it is hoped that Nigeria gets a fair tax share of such transactions.

Conclusion

The inclusion of the applicability of VAT on intangibles as provided in the Finance Bill has significant enforcement implications at both national and international levels for the Federal Inland Revenue Service (FIRS).  The very term “intangible” is broad and could assume hydra headed dimensions, more especially in the digital era. For the Federal Inland Revenue Service, ensuring compliance through current enforcement methods will be akin to a medieval Roman warrior engaging in a futuristic Star Wars combat. 

Tax administrations have to become truly digital. There is no middle cause. No other alternative. Digitization is key for the FIRS to apply relevant data for targeting and selecting risks and threats to this stream of revenue. This is more important as most transactions for intangibles are digitized. Digital tax enforcement mechanisms such as real time monitoring and intelligence gathering has to be efficiently utilized to track payments that arise from trading intangibles. It is one thing for legislation to provide for a thing, it is another for tax administrations to ensure compliance. It is hoped that the idea of revenue generation as envisioned by this amendment will be achieved optimally.

This article was written by Chiedozie Kelechi Ogbu, ACIArb