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Higher business costs loom for firms with units in low-tax states

corporate income tax
10 countries ranked by the World Bank do not charge any corporate income tax. FILE PHOTO | NMG 

Corporations doing business with low-tax countries face increased scrutiny and taxation under the new Income Tax Bill.

The proposed law has changed the definition of transfer pricing to include countries whose tax levels are lower than Kenya’s regardless of whether the transacting parties are related.

Previously rules only applied to parties that were related. It was assumed only related parties could collude to fix prices for purposes of reducing tax.

The revenue authorities only considered or scrutinised a company if any dispute or issue arose, when there were questions as to whether transactions with related parties were done at arm’s length. This meant the prices were not fixed through collusion and could as well have been obtained in the free market.

According to analysis by PricewaterhouseCoopers, the new law will open companies doing business with foreign entities to potential investigation by revenue authorities where the entities operate in a country with lower tax levels than Kenya.

“The bill basically is moving away from the arm’s length principle, which we have known for long to consider the higher prices. This is in the case of lower-tax jurisdictions compared to Kenya. The revenue authority can question the prices. There are chances that disputes could arise on this,” said Titus Mukora, a director and tax partner at PwC.

This comes as the new law increases the level of tax for local companies with profits exceeding Sh500 million annually to a 35 per cent income tax compared to the current 30 per cent.

For foreign companies, the income tax payable is proposed to be harmonised with that imposed on local entities at 35 per cent annually for profits exceeding Sh500 million such that any country where tax is lower than this figure will therefore come under the more restrictive transfer pricing rules.

If the proposed law on income tax at 35 per cent is passed, World Bank data shows that it will be higher than the average tax rate on profit for Europe and Central Asia at 33.1 per cent, East Asia and Pacific at 33.6 per cent, Middle East and North Africa at 32.6 per cent.

At a country level, 10 countries ranked by the World Bank do not charge any corporate income tax.

Mauritius income tax rate stands at 15 per cent while that of Ireland is at 12 per cent. Companies doing business with those in the lower income tax countries will therefore be subject to the proposed law.

Mr Mukora said that clarification will also be needed on whether the transfer pricing report – that is now a requirement – should be made at the time of completing a transaction or at the time of filing annual tax returns.