During the past three months, the Nigerian Tax Appeal Tribunal (TAT) has delivered judgement in two cases of significance for international investors. Ironically, whereas one of these decisions succeeded in clarifying the interpretation of seemingly contradictory legislative provisions, the second judgement in fact created additional uncertainty for taxpayers.
In Nigeria Agip Oil Company Limited (NAOC) v the Federal Inland Revenue Service (FIRS) the Lagos Division of the TAT on September 18, 2014 held that interest on related-party loans incurred by companies carrying out petroleum operations in Nigeria and assessed under the Petroleum Profits Tax Act (PPTA) are tax deductible, provided that such interest bears a market-related interest rate.
NAOC, a Nigerian incorporated company, claimed a deduction in respect of interest payments on a loan granted by its sister company, Eni Coordination Centre S.A, during the 2006 – 2011 years of assessment in terms of section 10(1)(g) of the PPTA. The section provides that all sums incurred by way of interest on any inter-company loans obtained under terms prevailing in the open market shall be deducted in computing the adjusted profit of the company.
The FIRS, however, disallowed the deduction on the basis of section 13(2) of the PPTA, which provides that no deduction shall be allowed in respect of sums incurred by way of interest during a period, where the borrowed money was from a company where a direct or indirect relationship exists between the two companies.
The FIRS rejected NAOC’s objection to additional assessments raised as a result and the case was referred to the TAT. The TAT held that section 10(1)(g) and 13(2) are not necessarily contradictory and should be interpreted in conjunction to mean that interest on an inter-company loan is generally not tax deductible, except if it can be demonstrated that such loan has been obtained under market-related terms.
The deductibility of interest on inter-company loans has been a contentious issue between PSC Contractor Parties and the Nigerian National Petroleum Corporation for some time. The NAOC judgement should resolve this dispute.
Nigerian tax advisors seem to agree that the TAT decision of 18 July 2014 in the case of Oando Plc (Oando) v the FIRS has increased rather than eliminate uncertainty regarding the application of the country’s “excess dividend” tax provisions contained in section 19 of the Companies Income Tax Act (CITA).
In terms of section 19 of the CITA, where a dividend is paid out of profit on which no corporate income tax is payable due to no taxable profit or the taxable profit being less than the amount of dividends paid, the Nigerian company paying the dividend shall be subject to corporate income tax at a rate of 30%, as if the dividend is the taxable profit of the company for the year of assessment during which the dividend is paid.
Oando declared and paid dividends to its shareholders in the 2005 – 2007 years of assessment. The FIRS invoked the provisions of section 19 and assessed the dividends to 30% corporate income tax on the basis that such dividends exceeded the company’s taxable profits for the relevant years of assessment. The FIRS rejected Oando’s objection to the assessment, following which Oando lodged an appeal with the TAT.
The basis for Oando’s appeal was threefold: firstly, the dividends were paid out of retained earnings which had been subject to tax in previous years, secondly, if section 19 is considered to be ambiguous, it should be interpreted in favour of the taxpayer as per the contra fiscum rule, and, thirdly, as the company earned dividend income from its subsidiaries, the FIRS should have considered and applied section 80 of the CITA and the guidance provided by the “Explanatory Notes on the Critical Tax Issues for the operation of Bank Holding Company Structure in Nigeria” (the Explanatory Notes) issued in April 2012.
The FIRS clarifies in the Explanatory Notes that any dividend paid by subsidiary companies within a group to their holding company is franked investment income which would not form part of the holding company’s total profits for tax purposes, including the provisions of section 19. In addition, section 80(3) regards dividends received by a company after the deduction of withholding tax as franked investment income, which should not be subject to further tax, and by extension withholding tax. In light of the above, the Explanatory Notes conclude that to the extent that any holding company’s income consists of dividends received from its subsidiaries, such dividend will not be subject to any further tax.
The TAT held that, irrespective of whether earnings have been taxed previously, where there is no current year taxable profit or taxable profits are less than the amount of dividends declared, such dividends will be taxed at 30% in terms of section 19. In addition, section 19 is clear and unambiguous and should therefore be given its literal interpretation. Section 80(3) and the Explanatory Notes are not of relevance, as the source of the profits from which the dividend has been declared, is not franked investment income received from its subsidiaries.
Taxpayers previously relied on the Lagos Federal High Court judgement of Oando PlC v FBIR (2009) ITLRN 61 as support for the contention that dividends paid from retained earnings should not be subject to tax in terms of section 19 on the basis that such earnings have already been taxed in previous years. The latest decision by the TAT seems to contradict this position, resulting in uncertainty for taxpayers. Hopefully clarification will be provided when the appeal to the case is heard by the Federal High Court.