Imposition Of Unilateral Digital Services Tax Under The Finance Act 2019

The Minister of Finance, Budget and National Planning, Mrs. Zainab Ahmed, as represented by the Director, Technical Department, Mrs. Fatima Hayyatu, at the 2020 Corporate Plan Retreat of the Federal Inland Revenue Service (FIRS) was clear of the avowed determination of the Federal Government to lift at least 100,000,000 Nigerians out of the poverty net through improved revenue generation by agencies like FIRS and the FIRS Chairman, Mr. Muhammad Nami, stated the Service’ goal, in line with this improved revenue generation goal, to increase the tax to GDP ratio to 10% within the next four years.

A sure way by the government in achieving this objective, outside of blocking revenue leakages from tax avoidance through base erosion and profit shifting, is to impose digital services tax on companies having “significant economic presence in Nigeria”. The Vice President, Professor Yemi Osinbajo, was widely reported to have declared,”…most digital and multinational companies do not have a physical presence in Nigeria, yet make significant income in Nigeria from online activities. They pay no tax to Nigeria because they do not have a physical presence in Nigeria, now we are no longer relying on physical presence. Under the new Act (Finance Act 2019), once you have a significant economic presence in Nigeria, you are liable to tax whether you are resident here or not”.

The Finance Act 2019 amends  Section 13 (2) of the Companies Income Tax Act (CITA) in part by the inclusion of a new paragraph (c) to the said sub-section which reads “if it transmits, emits or receives signals, sounds, messages, images or data of any kind by cable, radio, electromagnetic systems or any other electronic or wireless apparatus to Nigeria in respect of any activity, including electronic commerce, application store, high frequency trading, electronic data coverage, online adverts, participative network platform, online payments and so on, to the extent that the company has significant economic presence in Nigeria and profit can be attributable to such activity”.

Before delving into issue relating to conflict which may arise with the governments of the home countries of the largely digital companies to be affected by this provision of the Act, the amended Section (13) (2) of the Finance Act unwittingly provides room for abuse and tax avoidance, which may invariably defeat the purpose of increased revenue generation intended by Act.

There is no definition of what constitutes “significant economic presence” in the Finance Act and the entire nation places reliance on what would amount to a non-resident company having significant economic presence (SEP) on the whims and discretion of the Finance Minister. Such discretion is subject to abuse.  

The definition of what constitutes SEP in the India Income Tax Act is recommended for inclusion in subsequent amendment, if any, by the National Assembly. SEP by Explanation 2A of the Indian Finance Act No. 13 of 2018 reads “ For the removal of doubt, it is hereby clarified that significant economic presence of a non-resident in India shall constitute “ business connection” in India and “significant economic presence “ for this purpose shall mean (a) transaction in respect of any goods, services or property carried out by a non resident in India, including the provision of download of data or software in India, if the aggregate of subject payments arising from such transaction or transactions during the previous year exceeds such amount as may be prescribed; or systematic and continuous soliciting of business activities or engaging in interaction with such number of users as may be prescribed through digital means and the provisos to the explanation are very clear as to the attributable income the tax is prescribed on.

The Indian provision removes all ambiguities as to what a business connection is and when such business connection shall be deemed to be of significant economic presence liable to tax.

Another unintended but grave error which tax practitioners with apt knowledge of tax planning by way of avoidance will exploit is the insertion of the word “company” in Section 13 (2) (c). A literal reading of the subsection suggests that individuals, business names, partnerships and unincorporated business entities are not caught by the provision relating to digital services. A paraphrase of the said subsection provides that only a non resident company and not individuals or other companies not being individuals are caught by the significant economic presence provision since the Act refers only to “company” which “has significant economic presence in Nigeria and profit can be attributable to such activity”.

It is easy for a tax practitioner to advise an intending non-resident company desirous of providing digital services in Nigeria not to constitute itself into a company for the purpose of evading the provision of the Act or to set up a stand-alone business name for the purpose of providing digital services over the Nigerian space. An amendment to this subsection is needful to capture digital services amounting to “business connection” as it concerns individuals and other unincorporated business entities having significant economic presence in Nigeria.

It is not in dispute that notwithstanding the recent decisions by the Courts in some jurisdictions to lean towards the purposive intendment of revenue Acts to defeat tax avoidance and achieve the revenue-generation aim of Governments, literal interpretation still largely applies to the interpretation of tax statutes. The courts will on the whole be reluctant to give their weight to an imprecision in any tax statute to appropriate a citizen’s property, assets or money. The Courts will largely treat only companies as subject to digital tax in the absence of the inclusion of individuals and other bodies therein.

The Finance Act also has inserted by way of amendment to Section 13 (2), a new paragraph (e) which reads “if the trade or business comprises the furnishing of technical, management, consultancy or professional services outside of Nigeria to a person resident in Nigeria to the extent that the company has significant economic presence in Nigeria”. The proviso to paragraph (e) improves on the omission in paragraph (c) in addressing the withholding tax applicable by using the phrase “non-resident recipient” as against the word “company”.

The inelegance in the proviso to paragraph (e) however would seem to suggest any non-resident not captured as a “company” in paragraphs (a)-(e) would still be treated as a “non-resident recipient” subject to withholding tax on income attributable to  Nigeria? While it is clear that the activities mentioned in paragraph (e) are taxable under the withholding tax rate, is it the intention of the Finance Act to subject income generated from digital tax by individuals at the withholding tax rate or the companies’ income tax rate?    

The tax laws in existence have been rendered obsolete by the digitalization of the world economy. While the tax laws are still largely based on physical presence or permanent establishment, businesses have gone across across without the need for the physical presence of the companies in the States where they transact businesses. Rules set in place to regulate transactions between individuals in different countries such as Article 7, Double Taxation Agreement on Business Profits which provides that “The business profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment therein. 

If the enterprise carries on business as aforesaid, the business profits of the enterprise may be taxed in the other State but only so much of them are as attributable to that permanent establishment” are still tied to the rule of permanent establishments while companies are making billions of dollars from countries where they do not have physical presence thereby throwing the international taxation system into chaos.

The Finance Act is an attempt by the Federal Government to take a share of the billions of Naira derived from Nigeria by the largely foreign, specifically American companies such as Google, Facebook, Amazon, Microsoft and emerging Asian companies such as Samsung, Huawei, etc. This in itself should not constitute a challenge but the United States for instance has made it very clear it would fight any attempt to impose any form of digital service tax on the American companies who are largely the targets of this tax including its readiness to impose tariffs on any country that imposes a digital tax on any of its companies. The French Government recently suspended the Digital Services Tax after much pressure from the United States Government whilst the United Kingdom has threatened to commence the application of the Digital Services Tax in April 2020. It is interesting that this tax that the United States fought with all vehemence was to be at the very low rate of 2% or 3%.

It is a known fact that over 130 countries under the aegis of the Organisation for Economic Cooperation and Development continue to meet to strategise on an acceptable resolution on the digital services tax to all parties involved, the unilateral decision of Nigeria to impose and enforce this digital services tax is one to be watched. Outside of the obvious attempt to include such contentious items as online advertising, online payments and participative social media usage in the digital tax net, the will of the Nigerian Government to engage the United States Government in the determination of its fiscal sovereignty is one to watch with keen interest.