Corporate reorganization or corporate restructuring, which are interchangeable terms, has become an increasingly relevant topic in Nigeria in the past year, owing to changes in government policies. (Some of the policies influencing corporate reorganizations include the upward review of the minimum share capital requirement of microfinance banks and insurance/reinsurance companies in Nigeria by the Central Bank of Nigeria and National Insurance Commission, respectively.)
Norley, Swanson and Marshall (2001) define “corporate restructuring” as the reorganization of a company’s ownership, legal framework, and operational structure to make the firm more competitive, earn higher profits and meet business needs. A reorganization may be carried out in the form of a merger (absorption or consolidation), an asset/share acquisition, or a corporate division (such as spin-off, split-off and split-up).
Regardless of the name or form of a corporate reorganization, it is necessary to consider the laws and regulations that permit such reorganizations as well as the tax, regulatory and accounting implications. This article focuses on the tax implications of corporate restructuring in Nigeria in light of the Finance Act, 2019 (Finance Act) signed into law by President Muhammadu Buhari on January 13, 2020.
Prior to the Finance Act, 2019
In ascertaining the tax implications that a corporate reorganization involves, the parties to a reorganization would typically evaluate the provisions of all the relevant tax laws in Nigeria. The applicable tax laws include the Companies Income Tax (CIT) Act, Cap C21, Petroleum Profits Tax (PPT) Act, Cap P13, Capital Gains Tax (CGT) Act, Cap C1, Stamp Duty Act, Cap S8, and Value Added Tax (VAT) Act, Cap VI, Laws of the Federation of Nigeria, 2004 (there are several other provisions that may apply in the event of a business reorganization such as the Land Use Act and other state levies but the provisions we discuss here are those that the authors have deemed to be most noteworthy).
However, while the CIT, PPT, CGT and Stamp Duty Act included provisions which covered the tax treatment in instances where corporate reorganizations occur, there were no provisions on the same in the VAT Act until January 13, 2020, when the Finance Act was introduced.
The provisions of the CIT Act, PPT Act, CGT Act, and Stamp Duty Act are discussed below.
Companies Income Tax Act
Section 29 (9) of the CIT Act contemplates a corporate reorganization as one in which a trade or business carried on by a company is sold or transferred to a Nigerian company for the purpose of better organization of that trade or business or the transfer of its management to Nigeria, and any asset employed in such trade or business is sold or transferred.
The section further offers specific tax concessions/exemptions to such corporate reorganization provided that one of the companies has control over the other or both companies are controlled by some other person or are members of a recognized group of companies. The CIT Act, however, does not define what constitutes a recognized group of companies. The specific concessions include exemption of the trade or business sold or transferred from cessation rules and commencement rules. Further, where any asset employed in such trade or business is sold or transferred, the asset would be deemed to have been sold at tax book values i.e. an amount equal to its tax written down value.
Based on these provisions, qualifying corporate reorganization—which is one between related parties—may be tax neutral in Nigeria, from a CIT perspective.
Petroleum Profits Tax Act
Section 17 of the PPT Act also contemplates corporate restructuring between companies engaged in petroleum operations. The provision of this section is similar to that contained in Section 29 (9) of the CIT Act.
Under the PPT Act, business reorganizations between related parties enjoy certain reliefs including the transfer of assets at no risk of balancing charge exposure. Furthermore, in the case where the transferee company (only) has yet to commence sale of oil in commercial quantity, the first accounting period of the combined entity would be deemed to commence on the transaction date or any day in the month of the transaction—subject to the approval of the tax authorities.
Capital Gains Tax Act
Gains accruing to a person from the disposal of shares are typically not subject to CGT in Nigeria in line with Section 30 of the CGT Act. Where the gains also arise from the acquisition of the shares of a company either taken over or absorbed or merged by another company as a result of which the acquired company loses its identity as a limited company, such gains would also not be subject to CGT as prescribed by Section 32 of the CGT Act. However, for the exemption to hold true, there must have been no cash payment in respect of the shares acquired.
As such, capital gains on acquisition of shares in a corporate reorganization, irrespective of whether they are between related parties, are CGT neutral provided they meet the above condition.
That being said, the CGT Act does not stipulate any specific provisions in respect of assets disposed in a corporate reorganization. Hence, where assets are transferred at a value higher than the historical cost of the assets during a corporate reorganization, CGT may apply.
Stamp Duty Act
Instruments such as documents, agreements, stocks, etc. are liable to stamp duty at the rate prescribed in the Stamp Duty Act. A share transfer form is a dutiable instrument and stamp duty on the transfer of a company’s share capital is levied ad valorem (i.e. proportionately to the value of the underlying transaction). However, the transfer of shares pursuant to a merger is exempt from stamp duty in line with Section 104 of the Stamp Duty Act. In addition, the transfer of property between related parties will not be liable to stamp duty as prescribed by Section 105 of the Stamp Duty Act.
Issues Arising—Tax Risks
The absence of specific provisions in the VAT Act and CGT Act for assets transferred in a corporate reorganization and clear guidance of the Federal Inland Revenue Service (FIRS) basis for determining whether a company is a member of a recognized group of companies, created tax uncertainties around corporate reorganizations. The uncertainty resulted in taxpayers having to make a case that the following concessions be accorded on the transaction when notifying the FIRS of the business reorganization, in line with the provisions of the CIT Act:
- exemption of the application of VAT and CGT on assets transferred during a reorganization;
- confirmation that the companies involved in the reorganization are indeed members of a recognized group of companies.
The subjection of these issues to the discretion of the FIRS thus created tax risks for corporate reorganizations in Nigeria.
Finance Act—Reduction in Tax Risks
The Finance Act has, to a large extent, changed the tax environment for corporate reorganizations as contemplated in Section 29 (9) of the CIT Act and in effect, has reduced the tax risks. The Finance Act, in addition to the existing concessions granted under Section 29 (9) of the CIT Act and Sections 30 and 32 of the CGT Act, as discussed above, introduced a new provision establishing a tax neutrality mechanism. The amendment of Section 29(9) of the CIT Act as well as Sections 42 and 32 of the VAT Act and CGT Act respectively, provides that CIT, VAT and CGT would not apply to assets transferred or sold during a corporate reorganization between related parties. However, this exemption is now subject to a new condition called a “minimum holding period.” It is noteworthy that this condition was not included in the PPT Act, possibly because the regulators do not contemplate a large number of mergers between two oil producing companies, for example.
Based on the Finance Act, the minimum holding period would operate such that to enjoy the tax concessions in the CIT, VAT and CGT Acts, the Nigerian companies must have been members of a recognized group of companies for a consecutive period of at least 365 days prior to the date of the reorganization. The acquiring company must also not dispose of the assets acquired within the succeeding 365 days after the date of the transaction. The Finance Act also goes a step further to define the term “recognized group of companies” as a group of companies as prescribed under the relevant accounting standard.
Review of Practice in Other Jurisdictions
In our view, the minimum holding period requirement is fair and not unusual; countries such as the U.K. and Mexico have similar requirements for a corporate reorganization to be tax neutral.
In the U.K., corporate reorganizations involving the transfer of shares in a subsidiary may benefit from a relief called the “substantial shareholding exemption” (i.e. exemption of capital gain on transfer of shares from CGT) subject to meeting certain conditions, including a minimum holding period. The minimum holding period applies such that the company transferring the shares must have held at least 10% of the shares continuously for at least one year, both before and after the disposal of the shares.
Similarly, a domestic reorganization in Mexico may be tax-neutral where the shares are held for two years. The tax authorities will approve such a transfer which eliminates the tax due, if the seller of the shares is a Mexican entity and the transfer is made in exchange for shares of another Mexican entity.
We commend the government for now including provisions in the VAT Act and CGT Act that cover corporate reorganizations as this shows that the Nigerian tax system supports and does not impede corporate reorganization. The expansion of the coverage of the applicability of tax types to corporate reorganizations by the Finance Act has reduced uncertainty on the attendant tax exposures. Taxpayers are now aware of the forms of corporate reorganization that are either tax neutral or not.
We believe that this will further increase the confidence of investors (both foreign and local) in the Nigerian business environment.
Nonetheless, as Nigerian tax laws evolve and become more comprehensive, taxpayers are advised to seek professional advice on the tax implications of corporate reorganization in making informed decisions.
Oludayo Adeniji is a Senior Manager and Olatoyosi Lawal and Oreoluwa Akinboboye are Senior Tax Advisers with KPMG Advisory Services, Nigeria.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.