Nigeria: Reciprocity In Tax Administration: Are There Limits?

It is not uncommon for countries to reach bilateral or multilateral agreements to protect their citizens from multiple taxation on the same income, ease international relations and encourage global mobility. One of such agreements is the double tax treaty (DTT) which basically protects companies / individuals against double taxation of the same income and allows taxpayers that have suffered tax on an income in one country to claim foreign tax credit to offset tax liabilities in another country based on the relevant agreement.

Recently, the Federal Inland Revenue Service (FIRS) issued a Circular ("the Circular") titled "Information Circular on the Claim of Tax Treaties Benefits and Commonwealth Tax Relief in Nigeria". The Circular was issued further to the FIRS' public notice communicating the Honourable Minister of Finance, Budget and National Planning ("the Minister")'s approval of the discontinuation of the unilateral application of a uniform Withholding Tax (WHT) rate of 7.5% on dividends, interest and royalties paid by residents of Nigeria and beneficially owned by residents of its treaty partners under the DTTs between Nigeria and other countries.

On the other hand, certain taxpayers in Nigeria have recently encountered setbacks in taking advantage of the foreign tax credits specifically stated in the law. The FIRS' view is that "there must be a corresponding relief of the same manner in the other jurisdiction, in such a way that provides reciprocity between the two countries".

In this article, we examine the concept of reciprocity in tax administration, discuss the critical issues to consider for developing policies hinged on reciprocation, and analyse recent reversals of reciprocal provisions including potential implications for investments.

The Concept of Reciprocity in Tax Administration

The 9th Edition of the Black's Law Dictionary defines reciprocity as "the mutual concession of advantages or privileges for purposes of commercial or diplomatic relations". Going by this definition, the concept of reciprocity in tax administration can be said to be the mutual arrangement between two states to concede advantages and privileges with relation to taxes for the purpose of commercial or diplomatic relations.

In simple terms, Country A and Country B can reach a mutual agreement on how the income earned by individuals / companies who are citizens / residents of either of the countries and work or earn income in the other country should be taxed. Depending on the agreement, the countries can choose to only assess the income to tax in the country where the income was earned (source country) or reduce the percentage of tax to be paid in the source country

From a critical point of view, Nigeria still has a long way to go in terms of its ease of doing business when compared with other countries. Thus, it is important to compare several economic factors such as security index and infrastructural development amongst others before demanding reciprocity from those countries that are typically better ranked for ease of doing business. It is also important to give thought to the quantum of Nigerian capital available in other jurisdictions vis-à-vis foreign capital needed to achieve growth in Nigeria.

Analysis of examples of reversals on reciprocal provisions and potential implications for investments

Prior to the release of the above-referenced Circular, Nigeria had communicated a WHT rate of 7.5% on dividends, interest and royalties paid by residents of Nigeria and beneficially owned by residents of its treaty partners under the DTTs between Nigeria and other countries. However, with the Minister's approval, the rates specified in the tax laws shall apply, except where it exceeds the maximum rate specified in the tax treaty, effective 1 July 2022 as against the previous 7.5% which has been in application in the last 23 years.

On the other hand, Section 44 (1) of the Companies Income Tax (CIT) Act grants Commonwealth Income Tax Relief (CTR) to Nigerian companies that have suffered taxes on income or profits based on a law in force in any country within the Commonwealth or in the Republic of Ireland, provided that the country also provides for same relief in a manner corresponding to the relief granted by the CIT Act. The above suggests that where a Nigerian company is able to prove that the law in force in the other country grants similar relief, the tax authorities in Nigeria should be able to grant the company the CTR.

On the contrary, the FIRS seem to have imposed another provision not expressly stated in the law as part of the conditions to be fulfilled to enjoy CTR. The FIRS is of the opinion that the definition of "Commonwealth income tax" in the CIT Act implies that "there must be a corresponding relief of the same manner in the other jurisdiction, in such a way that provides reciprocity between the two countries". While the CIT Act specifies that there must be a corresponding relief in the law in force in the other country, the phrase "in such a way that provides reciprocal relief between the two countries" is not expressly stated in the CIT Act.

It is important to note that the FIRS also requires taxpayers that fall under the category of Section 44(1) of the CIT Act to prove that the provisions of the law in the foreign countries not only grant similar relief to residents of that country but also to non-residents as granted in Section 44(2) of the CIT Act¹ . The FIRS' basis is that the definition of "Commonwealth income tax" in the CIT Act states that the relief from tax charged both in that country and Nigeria must be "in a manner corresponding to the relief granted by this section".

The FIRS therefore opines that it is not enough for a company that falls within the category of Section 44(1) CIT Act to prove that the law in the other country has similar provisions as Section 44(1) of the CIT Act but must also be able to prove that in line with Section 44(2) of the CIT Act, the law in the other country contains a provision granting relief to a non-resident that derives income from its jurisdiction, which will enable residents of Nigeria deriving income from that jurisdiction to claim CTR on such income.

In our view, the FIRS' interpretation of the definition of "Commonwealth income tax" may be inaccurate and the phrase; "in such a way that provides reciprocity between the two countries", may have been included to further buttress this position. While we understand that the definition references "this section", we doubt that the intention of the lawmakers was to create any mischief given that Section 44 (1) and 44(2) of the CIT Act are separate

provisions. In essence, companies should only be required to prove that the law in force in the other jurisdiction has similar provisions as the sub-section of Section 44, under which they fall and are granted relief.

Recommendation on the treatment of reciprocal provisions

We understand that the essence of tax treaties and foreign tax credits / reliefs between countries and international association of countries is primarily to prevent excessive taxation of foreign income. However, it may be counterproductive for one country to offer more relief to a treaty partner than it receives, as the relief granted to a treaty partner typically translates to lower revenue generation by the other country. Consequently, it is important to evaluate the burden on taxpayers in drafting reciprocal provisions, beyond the quantum of relief granted by a treaty partner.

For instance, a company resident in Nigeria has been charged tax on a particular income in Country A and is seeking CTR from the FIRS in line with Section 44(1) of the CIT Act. While Country A, in its tax laws, has similar provisions to Section 44(1) of the CIT Act, it does not have similar provisions to Section 44(2). This means that the company resident in Nigeria would not be granted CTR and would be charged tax twice on same income because Country A does not have similar provisions to the Section 44(2) of the CIT Act, which is not even the particular sub-section of the law that grants the company CTR. Meanwhile, where a company resident in Country A has been charged tax on a particular income in Nigeria, that company would be able to enjoy the foreign tax credit in Country A, as they have no requirement for similar provisions introduced by the FIRS.

This is particularly burdensome for companies in Nigeria that have operations in other countries as they are exposed to double taxation from time to time. We understand that the tax authorities allow the companies to take the taxes paid as an allowable deduction for CIT purpose. However, this implies that the company would only recover 30% (i.e. the current Companies Income Tax rate) of the amount paid as opposed to recovering 100% when they are granted CTR to offset their tax liabilities.

Conclusion

Nigeria as a developing country needs investments from various sources to boost economic activities and aid growth and development in the country. Therefore, it is important to develop policies that would attract investors and ultimately improve the business environment in Nigeria. Economic policies that would hinder or deter investments should be avoided.

Footnote

1 Section 44 (2) of the CIT Act simply grants similar relief to companies other than a Nigerian company

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