Capital gains tax war stalls trading at Nairobi bourse

Stock market investors will not trade shares at the Nairobi Securities Exchange (NSE) for nearly a month beginning Friday having become the biggest casualties of the capital gains tax war between the stockbrokers and the Kenya Revenue Authority. 

UPDATE: Stockbrokers shelve threat to stop NSE trade.

The brokers on Thursday announced that they had resolved to suspend trading at the NSE from February 20, 2015 until March 18 when the High Court is expected to announce its decision on a petition they filed against the Kenya Revenue Authority (KRA) over the modalities of collecting the capital gains tax (CGT).

The decision, made during a meeting of all brokers, is set to leave the Nairobi bourse with the biggest interruption of trading yet in its 60-year history.

“This shall ensure that members uphold the rule of law and do not disobey the law. It also allows for the creation of an avenue for consultations with the relevant authorities to find a way of complying with the law in its entirety,” Willie Njoroge, the Kenya Association of Stockbrokers and Investment Banks (Kasib) chief executive, said in a circular to members.

“In the meanwhile, consultations shall continue with the relevant authorities with the aim to finding a solution.”

But the NSE said the market will open Friday morning regardless of the brokers’ decision not to trade.

READ: Stockbrokers resolve to stop trading at NSE for a month

Capital markets regulator the CMA said it was set to meet the stockbrokers, the NSE and the Central Depository and Settlement Scheme (CDSC) last night to find modalities of “protecting the systemic stability of the markets”.

The Capital Markets Authority (CMA) said each stockbroker had a legal responsibility to render services in accordance with the law and regulatory responsibilities attached to their licences, pointing to a possible action against failure to comply. 

“Under the law the only entities with the power or authority to halt or suspend trading at a securities exchange are the CMA or the NSE in consultation with the CMA. At this time neither we nor the NSE have issued any directions relating to the suspension of trading at the exchange,” the regulator said in a statement.

“In the event they do not intend to render services they should notify the regulator and each client of their intention. They are further required to satisfy the CMA as to the measures they have put in place for purposes of protecting the interests of their clients and investors generally.” 

The NSE trades billions of shillings worth of shares every day and a whole month’s closure will leave investors with tens of billions of shillings in unrealised capital gains and lost trading opportunity.

The NSE traded an average of Sh36 billion worth of equities per month and Sh84.4 billion of bonds per month in 2014.

Mr Njoroge said the stockbrokers, under the licensing terms, are required to take in clients’ orders and that it will be up to individual brokers to decide whether to continue taking the trading orders even as they keep off the market.

READ: KRA, brokers talks on capital gains tax collapse

Cessation of trading by stockbrokers will have an impact not only on their earnings — from trading commissions — but also on the financial position of institutions such as the CMA and the CDSC whose operations are financed from the commissions.

With equities commissions capped at 2.1 per cent and bonds at 0.035 per cent, the market players could lose up to Sh800 million in the shutdown.

The action is also likely to affect the shilling, whose strength is mainly supported by foreign exchange inflows from the stock market. Foreign investor participation in the bourse has been rising gradually since the beginning of the month, providing significant support for the local currency.

Investor confidence also expected to take a beating with far-reaching effects in the capital markets that have only recently managed to grow their activity.

Housing Finance, the mortgage lender that opened the trading of its rights yesterday, tops the list of casualties of the shutdown.

Stockbrokers said resolving the CGT dispute was important because their tax advisers and legal teams have said they risk being sued by clients over the tax deductions.

“No broker will be making payments or remittances for the tax to meet today’s deadline. This is simply because we do not have clear systems to collect the tax,” said Kestrel Capital chief executive officer Andre DeSimone.

“We have received legal opinion telling us that we should not be withholding this tax because we risk legal action from clients.”

Kasib argues that there is no statutory basis for members to collect and remit the tax under Section 35(5) of the Income Tax Act and that the Finance Act, 2014 deleted subsections that would have allowed them to do so.

The KRA, however, maintained that the obligation to collect the tax remains with the brokers, in the absence of any stay being issued by the courts stopping provisions of the law.

KRA deputy commissioner in charge of policy James Ojee said that while cessation of trading is an internal matter for the stockbrokers, the taxman was committed to finding a lasting solution to the problem.

“In absence of any stay order we expect them to implement the law as provided for,” Mr Ojee said. 

The dispute over the modalities of collecting the tax landed in court after the stockbrokers and the KRA failed to agree on an out-of-court settlement.