Times Tower, the headquarters of the KRA, in Nairobi. FILE PHOTO | NMG
The tax system of a country plays a critical role in attracting foreign investments.
Towards this end, most developing countries have taken steps to streamline their tax systems to reduce grey areas, which are the main sources of tax disputes. Kenya seems to be lagging on this especially when it comes to the contentious issue of value added tax (VAT) on ‘exported services’.
The VAT status of a supply depends on two things: the classification of the supply as per the VAT law (standard-rated, exempt or zero-rated) and the person to whom the supply is made.
Supplies retain their intrinsic VAT character as classified in law unless they are made to persons or institutions exempted from paying VAT or to persons outside Kenya, the latter being “exports”.
For a long time, this principle has been the subject of numerous disputes between the KRA and tax payers especially on what constitutes ‘exported services’.
The current VAT law is imprecise and loosely worded making it open to divergent interpretations. The KRA usually applies the mischief rule of interpretation, taking into account the immense pressure exerted by the government on tax collection targets.
To KRA, every penny they can squeeze out of the taxpayer counts regardless (at least seemingly) of the economic ramifications.
The law defines ‘exported services’ as services provided by a registered person, for ‘use or consumption’ outside Kenya. The phrase “use or consumption” is not defined in law, thus leaving room for divergent interpretation.
The VAT Regulations 2017, which were meant to clarify the law have instead aggravated the situation. They appear to contradict the express provisions of the VAT Act 2013 in an attempt to justify KRA’s position.
According to the rules, an export of service does not include services provided in Kenya but paid for by a person who is not a resident in Kenya. As such, it is not relevant that the person who requested and paid for the services is outside the country and that he will use the advice (in whatever form) to make a decision while outside Kenya.
The taxman has completely ignored the principle of exportation of services. According to him, export of services occurs only if the supplier of the service physically leaves the customs jurisdiction of Kenya and delivers the service to a recipient outside Kenya.
This understanding is erroneous and does not reflect the spirit and intention of the underlying legislation.
In the wake of technological advancements, it is possible to supply a service to a consumer who is outside Kenya.
Most multinationals adopt models that include provision of intra-group services, recharges and shared service centres to cut on operational cost through economies of scale and specialisation.
It is common knowledge that most of these multinationals prefer Nairobi as the best place to set up their head offices. This means that, being the heart of their operations, most of these intragroup services would be performed from Kenya.
Going by KRA’s interpretation, these services would be vatable at the standard rate, making them 16 per cent more expensive. It is this fear of increased cost due to the VAT liability as well as fear of disputes with the KRA that has had immense impact on the decision of their choice of location for head offices.
KRA should adopt a longer term view and not focus only on immediate gains derived from the VAT revenue, in order to support Nairobi as a preferred destination for foreign investors.
Patrick Murimi is Senior Tax Associate at KN Law LLP.
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