The provisions of the Companies Income Tax Act on taxation of dividend paid by a company have given rise to more controversy than any other tax provision in Nigeria at this time.
The phrase “excess dividend tax” (EDT) was coined from the interpretation of section 19 of the Companies Income Tax Act (CITA), LFN 2004 (amended in 2007). This section states that:
“Where a dividend is paid out as [this word should have been “of.” This correction was adopted by the Federal High Court and the Court of Appeal while reviewing the various cases on this section] profit on which no tax is payable due to —
(a) no total profits; or
(b) total profits which are less than the amount of dividend which is paid, whether or not the recipient of the dividend is a Nigerian company,
is paid by a Nigerian company, the company paying the dividend shall be charged to tax at the rate prescribed in subsection (1) of section 40 of this Act as if the dividend is the total profits of the company for the year of assessment to which the accounts, out of which the dividend is declared, relates.”
Dispute over Interpretation
The interpretational dispute hinges on whether the above provision imposes tax on dividend paid by a company, irrespective of the tax attribute of the profits out of which the dividend is paid.
I will discuss the two views on this provision, and consider the statutory purpose of the section.
The Literal View
This view is held by the Nigerian tax authority and supported by a judgment of the Federal High Court (FHC) Lagos in Oando PLC v Federal Inland Revenue Service Appeal No: FHC/L/6A/2014. The proponents of this view argue that the provisions of section 19 are clear and unambiguous, and it is an anti-avoidance tax provision which should be interpreted literally.
This view rests on the position that section 19 potentially considers the dividend as a taxable profit of the company in the year of assessment it is paid. The proponents of this view argue that the purpose of this section is to tax dividend paid to shareholders if it is higher than the taxable profit of the company.
The arguments for this view were summarized by Justice I.N. Buba of the FHC as follows:
- Section 19 is applicable whenever the dividend paid out by a company in a year of assessment exceeds its total profit/taxable profit for that year. When a company pays out dividend that exceeds its taxable profits in any year, it represents to all stakeholders that its profit for the year is equal to the amount of the dividend paid.
- In applying section 19, the source of the profit out of which the dividend is paid is not relevant, as long as the dividend exceeds the company’s total profit for the year of assessment in which it is paid out.
- The literal application of this section does not result in double taxation because the taxable profit for the year (if any) is deducted from the dividend paid to compute the “excess of dividend” or “excess profit” that is subject to additional tax.
The Contextual View
Proponents of this view claim the doctrine of absurdity, i.e., in law, strict literal interpretations of statutes can lead to seeming absurdity or to results that are contrary to principles of natural justice.
Justice Fasanmi of the Court of Appeal, in Nigerian Breweries PLC v The Governor of Oyo State & Ors (2011) LPELR 4610 CA, held that the cardinal principle of interpretation of words in a statute is that, if the words of a statute are clear, the court must give effect to the literal meaning. However, if the literal meaning may result in ambiguity or injustice, a court of law, which is also a court of justice, may seek internal aid within the body of the statute or external aid from the statute in pari materia in order to resolve the ambiguity or avoid injustice.
This view builds on the argument that the literal interpretation of section 19 does not harmonize with the entire CITA, i.e., it is not consistent with the interpretation of other provisions of the CITA on taxation of profits and dividend in Nigeria, especially section 18(c) (exemption of certain dividends from further tax), section 23 (profits exempted), and section 80 (deduction of tax from dividend).
Other arguments include:
- The tax attribute of the profits out of which the dividend is paid is an important consideration in the application of section 19. The first step in evaluating whether this section will apply to dividend paid by a company is to determine that, though the profits out of which the dividend is paid are taxable, no tax is paid/payable on such profits due to no total profits or total profits which are less than the dividend amount. Hence, profits that have previously been subject to income tax, or profits specifically exempted from tax under the CITA should not come under the purview of section 19. This is aptly illustrated by section 17(3) of the Industrial Development (Income Tax Relief) Act (IDA), LFN 2004, as it relates to profits from pioneer activities. This section states that “So much of the amount of any dividends so debited to the account as are received by a shareholder in the pioneer company shall,…, be exempt from tax in the hands of that shareholder and shall for the purposes of the principal Act (i.e., the CITA) and the Personal Income Tax Act, be deemed to be paid out of profits on which tax is not paid or payable” (additions in brackets and emphasis are the author’s). In essence, the reason no tax is payable on any dividends paid by a pioneer company in line with this section is because the profits are exempt from tax under the CITA.
- The literal interpretation is not equitable. By simple illustration, if we assume a company recorded distributable profit of $50 in 2017 financial year (FY) that was not subject to tax in that year because there was no taxable profit. But in 2018 FY, the company recorded a taxable profit of $100, and pays out the $50 distributable profit from 2017 FY to its shareholders as dividend. Section 19 will not be triggered in 2018 FY based on the literal interpretation. However, if we assume that the company paid tax on the distributable profit of $50 in 2017 FY, but recorded no taxable profit in 2018 FY, the $50 will be subject to tax again in 2018 in line with the literal interpretation. The literal interpretation may therefore result in double taxation of profits, because profits that have previously been subject to tax may be assessed to tax twice at the rate of 30 percent as demonstrated above.
- While section 19 is an anti-avoidance provision, it is remedial in nature rather than penal. This section is not meant to discourage companies from paying dividend to shareholders, or to penalize them for doing so. Rather, it empowers the government to levy a tax on distributable profits which had not been previously subject to income tax for the specific reasons stated in the section.
Discerning the “Spirit of the Law”
If a provision of the law is capable of two contesting interpretations, it may be necessary to determine its purpose by reviewing the history of the law, the applicable conditions at the time of enacting the law, and the mischief the law was expected to solve. Usually, to do this, one may need to review previous versions of the law, or speeches/explanatory memoranda of the lawmakers when the section was enacted.
The provision on taxation of dividend as the total profits of a company was first introduced in Nigeria by a Military Decree—Finance (Miscellaneous Taxation Provisions) Decree 4 of 1985 (Decree 4). Decree 4 amended the CIT Decree 1979, and formalized certain tax measures and tax incentives. Paragraph 21 of Decree 4 amended section 16 of the CIT Decree 1979 by substituting it with the following:
“In the case of a company which is neither a Nigerian company nor engaged in a trade or business in Nigeria at any time during a year of assessment:
(a) no tax shall be charged on it for that year in respect of any dividend received by it from a Nigerian company apart from the tax withheld under section 59B of this Act;
(b) where however the dividend is paid out of profits which have not been subjected to tax whether the recipient of the dividend is a Nigerian company or not, the company paying the dividend shall be charged to tax at the rate prescribed in subsection (1) of section 28 as if such dividend is the total profits of the company for the year of assessment which relates to accounts out of which the dividend is declared; (emphasis the author’s)
(c) nothing in this Act shall confer on such company or on the company paying the dividend the right to repayment of tax paid by reason of the provisions of this section.”
Unfortunately, the explanatory notes at the end of Decree 4 did not provide specific insight on the introduction of section 16 in the CIT Decree 1979. However, this section was further amended by the Finance (Miscellaneous Tax Provisions) Decree 12 of 1987.
The amendment clarified section 16(b) above, by stating the conditions that may result in no tax being paid on the profits out of which the dividend is paid. These conditions are: the non-existence of a total/taxable profit, or total/taxable profits that are less than the dividend paid (these are the same circumstances contained in section 9 of the CITA).
The total/taxable profits of a company comprise only its sources of profits which are chargeable to tax under the CITA. Hence, any source of profit that is not liable to income tax will not form part of the total/taxable profits of the company. Therefore, it appears that the trigger for this section is that the dividend is paid out of distributable profits which are taxable, but on which no income tax is/has been paid.
Based on section 43(1) of the CITA (introduced by section 30 of the CIT Decree 1979), companies are required to issue a certificate to their shareholders describing the profit(s) out of which the dividend is paid, and the shareholder’s profit entitlement. The profit(s) should be analyzed according to the accounting period(s) they relate to, among other information.
Companies would need to maintain a memorandum analysis of their distributable profits on an annual basis, to aid the proper tracking of the profits declared as dividend, and the application of the EDT. This seems to be the basis for the concluding part of section 19 of the CITA, which stipulates that the dividend will be taxed as if it “… is the total profits of the company for the year of assessment to which the accounts, out of which the dividend is declared, relates.”
The reporting format adopted for disclosure purposes could be similar to the format in Table 1:
It is often said that if a legislative provision is capable of two or more justifiable interpretations, the legislative intention is presumably the one which is most just and reasonable or equitable, provided that it does not materially alter the subject matter.
Thus, the question that needs to be answered by the superior courts in Nigeria is, which interpretation/view fulfills these demands, i.e., most just and equitable? It is important that the courts consider and evaluate the current views on the subject with an equitable outcome in mind.
Further, as advocated in many quarters, the National Assembly needs to urgently review and amend this section to simplify it and remove any perceived ambiguities. Considering that this issue is a significant area of concern for many businesses, a deliberate and quick amend of the section would certainly improve the tax and general business environment going forward.
Olufemi Babem is an Associate Director, Energy and Natural Resources Unit, Tax, Regulatory and People Services Division, KPMG Nigeria.
The author may be contacted at: firstname.lastname@example.org