Many countries especially in the developing world, including could be underdeveloped partly because of tax evasion and avoidance through trade mis-invoicing, money laundering, transfer pricing, treaty shopping and Double Taxation Agreements (DTAs).
This is very common with Multinational Companies which at the face of it look to be helping in developing the underdeveloped, in reality they come to drain them of their resources.
A good example would be the Double Taxation Agreements (DTAs) which are currently depriving Uganda a fair share of revenue of its resources.
Uganda, like many other developing countries with little or low negotiating power has heavily suffered the consequences of DTAs.
Double Taxation Agreements (DTAs) are tax treaties between two countries that determine which country has the right to tax specific international / cross-border transactions. While DTAs do not create new taxes, they regulate taxation rights when more than one country has the opportunity to tax the same income.
Traditionally, developing countries enter into DTAs with wealthy countries as part of the efforts to attract foreign investment and Multinational Companies (MNCs).
Due to the negotiating experience gap between wealthy and developing countries, and the technical complexity of the treaty, DTAs often result in developing countries surrendering important taxation rights and generating unexpected revenue losses over the years.
In line with the objective of preventing double taxation, DTAs normally restrict the possibility of a country to tax a cross-border transaction. This restriction is often imposed on the developing countries where the economic activity originated, known as the source country.
DTAs restrict or fully prevent the capacity of a source country to levy taxes known as withholding taxes (WHT) on different forms of cross-border payments, including dividends, interest, royalties and technical fees.
As a result, Multinational Companies are able to shift profit out of developing countries, paying very little or no tax.
Currently, Uganda has DTAs with 9 countries: Mauritius and Netherlands which are the most common, Italy, Denmark, India, Norway, South Africa, United Kingdom and Zambia.
A foreign corporation conducting business in Uganda is subject to taxation under Income Tax Act. A foreign corporation that operates through a branch is subject to the standard Uganda corporate income tax as well as an additional tax on the profits repatriated to the country of origin or incorporation.
The Income Tax Act imposes a withholding tax of 15% on all payments made to non-resident persons who derive any dividend, interest, royalty, rent, natural resource payment or management charge from sources in Uganda. A tax is withheld by the payer at a rate of 15% of the gross amount before I payment or remittance of the amount is made.
In order to avoid paying taxes to Uganda, many Multinational Companies that wish to conduct business in Uganda, first open up branches in one of the mentioned countries that have Double Taxation Agreement (DTA) with Uganda.
In case of Mauritius for instance, in order to ensure that the income of a tax payer of both States is taxed only once, both Uganda and Mauritius entered into an agreement, a Double Taxation Agreement (DTA).
The said agreement is titled “The Convention between the Republic of Mauritius and Government of the Republic of Uganda” for avoidance of double taxation and prevention of fiscal evasion with respect to taxes on incomes.
A Multinational Company from any country, seeking to invest in Uganda will first register and get incorporated in Mauritius and then open up in Uganda.
In December 2017, the High Court delivered a judgement in the case pitting White Sapphire Limited and Crane Bank against Uganda Revenue Authority (URA).
The case involved the issue of whether tax payer can apply for a reduced tax rate under a Double Taxation Agreement (DTA), particularly in relation to the limitation on benefit provision in Section 88(5) of Income Tax Act of Uganda.
In March 2014, Crane Bank Limited, a Ugandan resident company and licensed Bank paid a dividend of 11.2 billion shillings to its largest shareholder, White Sapphire Limited, a company incorporated in Mauritius.
White Sapphire Limited was in turn 100% owned by an individual resident in Kenya.
Crane Bank withheld a tax on the dividend at a reduced rate of 10% in accordance with Article 10 of the Uganda – Mauritius Double Taxation Agreement.
The URA contented that White Sapphire Limited did not qualify for the reduced DTA tax rate and accordingly, Crane Bank should have withheld tax at the standard rate of 15%. On this basis, URA raised an assessment against Crane Bank for the additional withholding tax of 5%, amounting to 559 million shillings.
Both White Sapphire Limited and Crane Bank disagreed with URA interpretation and filed a joint suit in the High Court by way of appeal against the assessment.
The issues in Court were; whether White Sapphire Limited was entitled to a reduced tax rate of 10% in terms of Article 10 of DTA, and also whether White Sapphire Limited was not entitled to the reduced DTA rate by virtue of section 88(5) of Income Tax Act of Uganda.
Section 88(2) of Income Tax Act states that, to the extent that the terms of an international agreement to which Uganda is a party are inconsistent with the provisions of Income Tax Act apart from sub section 5 of section 88 which deals with tax avoidance, the terms of the International Agreement prevail over provisions of Income Tax Act.”
The initial question was whether White Sapphire Limited was a resident of Mauritius and there by entitled to apply the Double Taxation Agreement?
The URA had raised arguments asserting that White Sapphire Limited’s Kenya ownership meant that it’s effective management was carried out in Kenya and therefore it was not a resident in Mauritius.
However, URA did not make any inquiry nor adduce any evidence as to where the management of the company actually took place and appeared to assume this automatically following the location of the Kenyan shareholder.
The Court did not accept this argument and instead considered the question of residence based on each of the specified residence criteria as defined in Article 4 of the Double Taxation Agreement. This was supported by the definition of a resident company in Income Tax Act which defines residence, among other things based on the place of incorporation.
It was an undisputed fact that White Sapphire Limited was incorporated in Mauritius and accordingly, the company was held to be a resident of Mauritius.
URA also used the fact that Kenyan ownership to assert that the White Sapphire Limited and Crane Bank were guilty of “Treaty Shopping” and therefore the whole arrangement constituted tax evasion.
The Court did not accept this line of argument based on the fact that the Double Taxation Agreement had a clear and binding definition of residence. In other words, the question of Treaty Shopping was not relevant in determining White Sapphire Limited’s residence.
The first issue was therefore answered in affirmative, namely; that White Sapphire Limited, as a resident of Mauritius and beneficial owner of the dividend was entitled to apply the 10% tax rate, and not 15% in accordance with plain terms of Article 10 of DTA.
Under Treaty Shopping, a multinational company seeking to do investment in a particular country will open up a branch in another country that has a DTA with the country it seeks to invest in, in order to avoid or paying low taxes.
A good example here is Heritage Oil which is incorporated in the Bahamas but when it wanted to carryout oil exploration in Uganda, it first set up a branch and registered in Mauritius because Mauritius has a DTA with Uganda
This would give rise to what many Ugandans came to know as “PRESIDENTIAL HANDSHAKE.”
In the 2011 case filed in the Tax Appeals Tribunal by Heritage Oil and Gas limited against Uganda Revenue Authority (URA) in respect of an application challenging an income tax assessment of 404,925,000 USD against Heritage Oil and Gas limited by URA arising out of sale and purchase agreement where Heritage sold it’s shares in product sharing agreement, and a joint operating agreement to Tullow Uganda Limited.
Briefly, the facts of the application agreed on by the parties are that; Heritage was incorporated in the Bahamas and later registered as a tax resident by continuation in Mauritius in 2010.
On January 26, 2010, Heritage entered into a sale and purchase agreement with Tullow where the former transferred it’s 50% interest to the latter.
On July 6, 2010, URA issued an assessment of 404,925,000 USD as income tax
On July 26, 2010, Heritage executed an addendum to the sale and purchase agreement.
On August 18, 2010, Heritage objected to the assessment and on November 12, 2010, URA made an objection decision.
Heritage being dissatisfied with the objection, filed this application.
One of the issues were, whether the sale of the Heritage’s 50% interest to Tullow was taxable in Uganda?
Heritage contented that the sale of assets took place outside Uganda and therefore the income cannot be attributed to activities in Uganda because what took place in Uganda was after the purchase price had been determined.
The Tribunal, having heard the evidence, ruled that Heritage was incorporated in the Bahamas and later registered in Uganda.
Although, Heritage was registered in Uganda, it was not a resident person as it did not meet the requirements in section 10 of Income Tax Act.
Secondly, although, one of the witnesses told the Tribunal that Heritage files its tax returns in Mauritius, it was registered by continuation in Mauritius.
On March 15, 2010 which was after it had entered into sale and purchase agreement, apparently, it appeared that Heritage was filing tax returns in Mauritius before it was registered.