Tax planning and management refers to the processes and schemes by which taxpayers arrange their affairs and businesses in such manner as to attract the lowest possible tax rates under applicable tax laws. It is the art of limiting the amount of tax payable without breaking the law. It involves optimization of marginal tax rates using devices and tools such as trust arrangements, corporations, charitable entities, deductible expenses, tax exemptions, capitalization of profits, residency rules, and profit shifting arrangements. Tax planning and management differs from tax evasion1, which is a crime under the law.
Nigerian law recognizes the right of taxpayers to arrange their affairs in such manner as to avoid or minimize their liability to tax. However, in exercising this right, taxpayers are obliged to maintain minimum ethical standards and observe the limits set under applicable tax legislation in Nigeria.
This article reviews the legal basis, limits, and ethics of tax planning and management activities in Nigeria. It also recommends options for effective management of the tax affairs of individuals and corporate entities, without breaching the law.
Legal basis for tax planning and management in Nigeria
In G. M. Akinsete Syndicate v Senior Inspector of Taxes, Akure2, the Supreme Court recognised that a person may use lawful means to avoid tax; what he may not do is to try to evade tax. This attitude of the Nigerian courts towards tax planning and management is traceable to Lord Clyde’s famous “liquor for tax avoidance goons” in the English case of Ayrshire Pullman Motor Services v IRC3 (“Ayrshire“), where His Lordship held that:
“… The Inland Revenue is not slow – and quite rightly – to take every advantage, which is open to it under the taxing statutes, for the purpose of 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 Inland Revenue.”
Nigerian courts have also followed the decision of the English court in Duke of Westminster v CIR4 (“Duke of Westminster“), where Lord Tomlin made his famous “Holy Grail of Tax Avoidance” pronouncement thus:
“Every man is entitled, if he can, to order his affairs so that the tax attaching under the appropriate Acts is less than it otherwise would be”.
Thus, the decision in Duke of Westminster, which was also decided on the strength of Ayshire, reaffirmed the position that once a tax planning scheme is valid, the courts would uphold the scheme on the basis that taxpayers are entitled to manage their affairs in such manner as to avoid or minimize tax. In JGC Corporation v FIRS (2016) 22 TLRN 37, the Federal High Court, Lagos Division, upheld the rights of taxpayers to embark on tax planning exercises and structure their business transactions in such manner as to reduce or eliminate their liability to tax.
Limits of tax planning and management activities in Nigeria
Tax planning and management is legal and acceptable under applicable Nigerian tax law. However, in order to prevent abuse or deliberate acts of tax evasion to the detriment of the Government, provisions are contained in relevant tax statutes in Nigeria; limiting the extent to which taxpayers may exercise their right to plan and manage their tax affairs. Specifically, the regimes limiting this right can be found in certain statutory instruments including:
- General Anti-Avoidance Provisions (“GAAPs“)5 set out in the various tax legislations;
- Income Tax (Country by Country Reporting) Regulations 2018 (the “CBCR Regulations“);
- Income Tax (Transfer Pricing) Regulations 2018 (the “TP Regulations“); and
- Income Tax (Common Reporting Standard) Regulations 2019 (the “CRS Regulations“).
2.1 The GAAPs
The GAAPs are designed to prevent deliberate schemes for avoiding tax. To this effect, a tax authority is allowed to strike down a transaction, dip the full length of the largest taxing shovels into the taxpayer’s accounts, and scoop therefrom the full amount of taxes due on the taxpayer’s income; where the transaction:
- is fictitious, artificial, or a sham;
- presents no real commercial value;
- is specifically designed to avoid or minimize tax, or
- is not conducted at arm’s length between related parties where one has control over the other.
Although GAAPs had been useful in the past, it appears that they are insufficient in addressing the complexities of modern tax planning and management; particularly in relation to Base Erosion and Profit Shifting (“BEPS“) practices. BEPS practices refer to tax planning strategies that exploit gaps and mismatches in tax rules across different countries to artificially reduce tax base or shift profits from higher tax jurisdictions to low or no-tax locations where there is little or no economic activity, thus eroding the tax base of the higher tax jurisdictions. As BEPS generally revolves around arbitrage between domestic taxation rules, it was found that tackling its negative effects would require improvement in transparency and international cooperation on tax matters.
To this end, the Organization for Economic Cooperation and Development (“OECD“) coordinated a reform process following which several action policies were proposed in its 2015 report, which include:
- Requiring taxpayers to disclose their aggressive tax planning arrangements;
- Making dispute resolution systems more effective;
- Preventing the artificial avoidance of Permanent Establishment (“PE”) status for tax purposes;
- Strengthening controlled foreign company rules; and
- Re-examining transfer pricing documentation.
Nigeria participated in the OECD reform process and has been largely influenced by revolutionary tax policies proposed by the OECD and this, in effect, has resulted in the issuance of the CBCR Regulations, the TP Regulations, and the CRS Regulations by the Federal Inland Revenue Service (“FIRS“).
High net-worth individuals (HNIs) and business owners set up structures that they hope will ensure their assets and investments are held efficiently to guarantee optimal returns and wealth preservation/ succession. A popular structure generally adopted for this purpose is Private Trust Arrangement. A Private Trust may be set up locally or offshore to warehouse investments of the HNIs within and outside Nigeria. Private Trust ensures confidentiality as regards ownership and management of the Settlor’s assets. Private Trusts set up as an irrevocable Trust, protects the assets held in trust from liabilities that may arise against or affect the Settlor in his personal capacity due to bankruptcy, business dissolution etc. Do these attributes still hold, considering the Organisation for Economic Co-operation and Development (OECD)’s Common Reporting Standard (CRS) in relation to automatic exchange of information and the provisions of the Finance Act, 2019? Where the tax authority is privy to information on assets and investments held in a Trust, especially that which is set up in a tax jurisdiction other than Nigeria, are privy to the tax authority, will the income therefrom be taxable in Nigeria?
In this article, we examine the intricacies surrounding disclosure and taxation of income attributable to a Private Trust arrangement with focus on Offshore Trusts.
Taxability of Income from Offshore Trusts in Nigeria
The Personal Income Tax Act 2011 as amended (PITAM) provides that an individual, resident in Nigeria is taxable on his worldwide income. This indicates that the income distributed to a Nigerian-resident Settlor or a Beneficiary from a Trust is taxable in Nigeria. In addition, where the Trust is administered in Nigeria, a risk that the entire income of the Trust will be taxable in Nigeria and not only the amount distributed could arise in certain situations. Paragraph 1 of the second schedule to PITAM provides that the income of a Trust shall be deemed to be income of the Settlor of the Trust where the Settlor retains or has a right over the capital assets of the trust; retains or has a right over the income derived from the capital assets of the trust; makes use of the income of the trust by borrowing from it; and resumes control or the spouse resumes control over the asset or income of the Trust. Hence, the risk that the entire income derived by the Trust will be taxable in the hands of the Settlor will arise in the aforementioned instances.
With respect to Offshore Trust, there is a school of thought that supports the argument that only the amount distributed from an Offshore Trust to a taxable person in Nigeria will form a taxable income in Nigeria and not the entire income derived by the Offshore Trust from the assets/ investments held in trust. Such income will then be exempted from tax where it is brought into Nigeria through Government approved channels, such as the commercial banks.
The second schedule of the PITAM provides that where a Trust retains some of its income (i.e. undistributed income) and the undistributed income is not reinvested by the Trust, such income will become liable to tax in the hands of the Trustee. Will this provision be applicable to an Offshore Trust, considering that the Trust will also be governed by the respective legislations of the country where it is administered? A twist to this is that where the income of a Trust administered in Nigeria is deemed to be the income of the Settlor based on the earlier discussed instances, the Settlor may be held liable for tax payable on such undistributed income. Hence, can we say that a Nigerian-resident Settlor will be liable to tax on the undistributed income from his Offshore Trust especially where it is revocable or discretionary in nature?
Startup businesses all over the world are experiencing a boom in various industries ranging from manufacturing, transportation, hospitality and even the financial industry. In Nigeria, there has been significant increase in small businesses. It is also important to note that small businesses make up a very large portion of the Nigerian economy. Startups have influenced innovation and contributed to the economy in various industries. The Founders of such business in Nigeria focus on creating innovative ways of providing solutions to perceived problems while relying heavily on the use of technology. Nigeria, being an emerging economy, provides viable market for startups to thrive. Despite all these, research has shown that only 30% of startups will make it to their tenth year based on several reasons. Some of such failures range from wrong business model to no market for product, poor financial management, ignoring tax compliance etc.
This article however focuses on problems resultant from poor understanding of financial and tax management for startup businesses in Nigeria. Most times, startups fail to keep proper financial records of their business from inception. The Founders focus primarily on the product and market development, but fail to understand the underlying financial flow of the business. This is key to success of the financial and tax management of the business. Owners of these businesses fail to see financial and tax management as a tool necessary to build the foundation of their businesses. Thus, they do not allocate adequate and sufficient resources to bookkeeping and finance department.
Importance of Financial and Tax Management
Most startups rely heavily on investors, whether Angel investors or Venture Capitalist (VC) in raising funds to develop their products and services, grow their business and limit their investment risk in series of investment rounds. However, Investors majorly depend on Financial Statement (FS) to determine whether the business is viable for investment. Therefore, startups must keep records of all transactions which will be analysed into reliable and meaningful financial information for investors to make decision.
Proper financial management also provides sufficient information to help startups determine their tax liabilities and implement a favorable tax plan for their business. Often times, most startups fail to comply with tax laws and regulations largely due to lack of financial information. Some others even fail to register for federal and state taxes. As the business continues to grow with huge profit, the businesses are exposed to large tax liabilities and penalties, which may eventually cripple the survival of the business.