Finance Act 2019 And The Potential Tax Revenue Flight From State To Federal Government

Yes! The Finance Act 2019 (the Act) has finally been signed into law. Many stakeholders in the tax space have generally applauded the Federal Government (FG) for this bold initiative aimed at aligning our tax laws with global best practices, promoting fiscal equity, supporting MSMEs, amongst others. 

It is also imperative to appreciate the potential increment in tax revenue to governments at all levels, as a result of the increased VAT rate.

While these are seen as steps in the right direction, it is however important for the State Governments (SG), to be conscious of the potential risk of tax revenue shift from the coffers of the SGs to that of the FG, posed by certain provisions of the Act. Effectively, these provisions may whittle down the SGs’ internal revenue generating capacity, not only in the short run but also in the long run.

To start with, there are different vehicles through which business could be carried out in Nigeria. These vehicles are largely classified into incorporated entities (such as companies) and non-incorporated entities (such as enterprises, sole proprietorships, partnerships etc.). Based on the relevant tax laws, the income tax of companies are payable to the FG through the Federal Inland Revenue Service (FIRS). On the other hand, the income tax of non-incorporated entities are payable to the SG through the respective States Internal Revenue Services.

One major aspect of this Act is the introduction of an income tax exemption regime for small companies i.e. companies with less than ₦25m annual turnover are exempted from the payment of income tax. Also, the income tax rate for companies with annual turnover within the range of ₦25m to ₦100m, is now reduced to 20%. Without doubt, this is most commendable.

Laudable as this seems, this could be sending an unintended signal to taxpayers that, it is now more attractive to do business as an incorporated company, as against trading as a non-incorporated entity, given that no corresponding exemption is granted under PITA.

This simply implies that a business enterprise with less than ₦25m annual turnover is liable to income tax payment to its SG, while a company of a similar size is exempted by the Act from paying income tax to the FG. In other words, many of these non-incorporated entities would rather do business as incorporated entities, in order to enable them enjoy the benefits of the exemption afforded by the Act.

Furthermore, as the small companies grow and get bigger in size and operations, the income taxes (by extension withholding taxes) that would ordinarily have been payable to the relevant SGs, if they had stayed unincorporated, would consequently be payable to the FG, thereby potentially impacting the revenue generation of the SGs, with the FG becoming the ultimate beneficiary, in the long run.

On the face of it, the intervention introduced by the Act is a step in the right direction. However, the potential adverse impact on the already porous internal revenue generation capacity of SGs, calls for consideration. It is therefore important for tax administrators at the various state levels to begin to ponder deeply on appropriate measures to put in place to manage this potential risk. Similar amendments to the Personal Income Tax Act that could ultimately neutralize the potential taxpayer’s flight, posed by the new Finance Act, could be the way to go.

CREDIT: This article was written by Oluwaseun Ayangbemi B Sc. ACTI, ACCA (Dip IFR), ACA