Banking & Finance

Adherence to Tax Governance & Investment Decisions

There is a general perception that the tax man reaps where he has not sown.  There is some verity in this statement in that the tax man would wait for you to patiently cultivate your business and when it begins to yield fruits, he would demand a slice of your profits.  This slice could be up to 30% if you are a corporation.

In a country such as ours, where corruption is endemic, many corporations would seek different avenues to reduce their taxes. The legal avenues for tax reduction is called tax planning which is an acceptable practice everywhere in the world whereas, the extra legal avenues would constitute tax evasion, a criminal offence.  It is imperative to note that no one has been convicted for evasion yet in Nigeria even where it is proven that companies are engaged in “tax settlement” rather than paying what is due.

A potent example of this is a forensic report of the Nigerian Stock Exchange (NSE) that was widely circulated a while back.  That report mentioned payment of N14million to a certain “Bamidele Nasiru” who is described as a Lagos State Internal Revenue Service (LIRS) Consultant.  This amount was clearly not paid to the LIRS as taxes due to Lagos State but was paid as “settlement” to the consultant to reduce the potential liability of the NSE. Haba! This is the NSE that is supposed to be the very symbol of integrity and regulatory compliance. The perpetrators are still walking the streets as free men.  No wonder it is not happenstance that many companies fail to see the correlation between the value of their stock and their level of tax compliance.

Discerning companies have recognised the extra savings and direct contribution to shareholder value that can accrue from carefully managing and planning the tax process.  Such companies have set up specialist Tax manager roles within the Finance function.  In some really large corporation, the specialist tax role is headed by a Tax Director who has vertical reporting relationship with top management and a horizontal relationship with the Chief Financial Officer.  A high level research we conducted indicated that whereas Multinational companies commonly have a Tax Manager role, most Nigerian owned businesses are yet to recognise the importance of the Tax function.  This is even as Nigerian companies are demonstrating global ambitions across Africa.  Indeed our mini survey revealed that only one bank; a foreign owned bank, has a senior level tax specialist role!  This shows that our corporate titans are yet to come to terms with the primacy of tax planning as a valid tool for enhancing shareholder value.  This may not be unconnected with the low level of tax compliance in the polity.

In reviewing the financial performance of the stocks that are of interest to you, you should pay attention to the company’s level of tax compliance. A rule of thumb ‘for determining the accuracy of tax provisions in the financial statement is to test whether or not the summation of the amounts provided in respect of income tax (whether labelled deferred tax or current year tax) equals the existing tax rate.  Tax rate for non oil exploration & production companies in Nigeria is still 30%.  The wise investor should also pay careful attention to the disclosures in the notes to the accounts. These notes often contain disclosures relating to contingent tax liabilities that could be arising from a tax dispute between the Revenue Authorities and the corporation. 

In 1998, the then Chairman of the US Securities and Exchange Commission (SEC) Arthur Levitt decried the abuse of materiality as a “gimmick” firms use to manage earnings. Hiding under the cloak of materiality, companies would often conceal tax information relating to penalties paid or additional assessments raised by the Revenue.  As firms begin to implement the new International Financial Reporting Standards (IFRS), it should be understood that the real test for deciding what to disclose in a Financial Statement is whether the information would make a difference when considered by a reasonable person.  Clearly, disclosure that a company is undergoing a tax investigation for criminal evasion is information that a prospective investor would consider in making an investment decision. Yet a disclosure of this nature remains a rarity in this clime.

A major concern to professional managers in making tax disclosures is whether or not the accounting disclosure of liabilities arising from ongoing tax disputes would amount to a taxpayer incriminating himself. I do not agree with this assertion.  Adequate disclosures would confer credibility and enhance understandability which is the fulcrum on which IFRS rests.

Now let us bring all the points I have raised above home.  Let us pick the financial statements of the Banks currently driving value in the NSE.  These banks are routinely audited by the various internal Revenue agencies in all states. Indeed, a State Government’s Internally Generated Revenue (IGR) is directly proportional to how many bank branches are in that state. This is a statement of fact! The various Revenue Authorities, deprived of any viable company in their various states rely quite significantly on the additional cash that can be elicited from the banks as additional assessment.  Baring any “settlement” to some consultant, almost all of the banks pay some sort of additional tax assessment every year in respect of employee taxes. The Federal Inland Revenue Service (FIRS) not to be outdone would swoop on the banks for unpaid withholding tax, Value Added Tax (VAT), Capital Gains Tax (CGT) and additional income tax.  If you carry out a cursory review of these financial statements, you would find something in common- blackout with respect to disclosures on contingent tax liabilities.  Until those responsible for accuracy and adequacy of financial information hold these men in grey flannel suits responsible, the average investor would continue to grope in darkness, leaping before he looks.

To every transaction there is a tax

‘Tax governance’ is a subject that cannot be over flogged.  The totality of how a company’s attitude and responses to issues bothering on their tax affairs is an indication of the corporate health and longevity of the business. This is a proven fact.  More importantly however, is that regulators can deduce a lot about a company by understanding its tax governance ethics.  

The Economic and Financial Crimes Commission and the Feral Inland Revenue Service are two agencies of government that can hound a business with poor tax governance ethics.  Just as the cash flow of a business is a major index of its health so is it’s adherence to tax compliance.

Recently, online news medium PREMIUM TIMES reported that Malabu Oil received $1.1bn from the Federal Government as settlement for its claims against the government on certain oil blocks.  The online medium further alleged that immediately Malabu received the money, five companies where paid $336 million (N50bn), $157mn (N24bn), $30 million (N4.5bn), $180 million (N27bn) and $34million (N5.1bn) from Malabu’s Keystone Bank account.  I am not bothered about the legality or otherwise of these payments.  I am happy that in engaging in these transactions, the government purse would immediately increase by a minimum of 10% of the amounts paid by Malabu to these companies.  The Revenue authority is entitled to a minimum of 5% of the amount paid by one company to another as withholding tax (this could rise to 10% depending on the company) and in the case of an oil company, another 5% as VAT whether or not the recipients of the funds have charged VAT.

In practice, many companies engage in transactions without considering the implication of transaction taxes.  Payments from one company to another would either be a fee, dividend or repayment of a loan obligation.  There are consequential taxes for each of these payments.  There would be either a capital gains tax obligation, a withholding tax obligations and or a Value Added tax obligation on most transactions.  Yet in practice many companies ignore these in structuring their contracts.  Sometimes the clause “all payments are net of taxes” is used to explain away the obligation.  This should not be so. 

There are several rent-seeking companies in Nigeria. These companies are incorporated as vehicles for receiving and transferring funds and never worry about filing statutory returns.  No wonder the Corporate Affairs Commission (CAC) recently announced arrangements to strike off another batch of 38,582 companies from the Register of Companies in accordance with section 525 of CAMA.  The Commission reported that only about 32,048 out of 398,453 registered companies and business names contacted to file their annual returns responded to its call.  The rest of them possibly exist as portfolio companies waiting for their turn to be used as vehicles to “chop”.

In December 2011, Nigeria was ranked 143rd of 183 countries in the Transparency International’s Corruption Perception Index 2011.  The many billions of naira reportedly stolen in Nigeria every year are not all stolen in hard cash.  Many of them were moved between various business vehicles and masked as transactions.  It is these transactions that regulators need to start looking at if we are to curb the menace. Many times, regulators need not look very far. 

These transactions are like the proverbial ostrich burying its head in the sand while the rest of its body is glaringly exposed.  If regulators only pay attention to understanding tax governance, they will not need to spend so many hours on investigation.  To every transaction there is a tax. How much tax was paid? That should be the question when you are looking at a transaction to ascertain its legality.  While the answer may not always confirm the legality or otherwise of the transaction, it at least ensures that the country got its cut of the deal.

Eben Akinyemi, an Associate of the Institute of Chartered Accountants of Nigeria and the Chartered Institute of Taxation of Nigeria, is a partner at the transactions advisory firm Stransact Partners.

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