Nigeria's tax framework and its implications for businesses

Nigeria, like other nations, has rules and regulations governing the operation of corporate entities in the country. A foreign entity intending to do business in Nigeria is required by the Companies and Allied Matters Act (CAMA) to incorporate a Nigerian company for that purpose. Branch operations or offices of foreign companies are not allowed in the country except in rare circumstances involving government projects, where specific exemption for branch offices may be granted by the authorities.

Basic Requirements

The Corporate Affairs Commission (CAC), established by the CAMA, is the agency charged with the responsibility of registering and regulating the operations of corporate entities in Nigeria. The CAC is also responsible for registering business names and incorporated trustees. Nigerian companies are required to file annual returns alongside other relevant information relating to changes in corporate status, directorship, company name, etc.

In addition to the above, corporate entities are also required to obtain business entry approvals and permits from relevant government agencies and sector bodies. Furthermore, a company intending to offer its shares to the public must comply with regulations issued by the Securities & Exchange Commission and the Nigerian Stock Exchange.

Other regulations supplement CAMA with respect to some specific industries. For instance, banks are regulated by the Central Bank of Nigeria, which is charged with the responsibility of administering the Banks and Other Financial Institutions Act. Likewise, the insurance industry is overseen by a separate body, the National Insurance Commission.

One-Stop Support

In general, companies often encounter difficulties navigating through the legal, administrative and regulatory frameworks, and the procedures and requirements for business entry and activities in Nigeria. In a bid to alleviate the difficulties encountered by entities intending to do business in the country, the Nigerian Investment Promotion Commission (NIPC), the federal agency established to promote, coordinate and monitor investments in Nigeria, has a one-stop investment centre (OSIC).

OSIC is an investment facilitation mechanism that brings relevant government agencies together in one location, coordinated and streamlined, to provide efficient and transparent services to investors. It provides investors with a single location from which to obtain the relevant documents and approvals that are statutorily needed to set up a business in Nigeria. The primary aim of the OSIC is to remove the obstacles and bureaucratic hurdles usually faced by investors in setting up and running a businesses.

Duty to Pay

Alongside regulatory requirements, tax regulations also apply to corporate entities in Nigeria. All companies doing business in Nigeria (both resident and non-resident) are required to register with the Federal Inland Revenue Service (FIRS) for income tax and value-added tax (VAT) purposes, as well as with states’ Internal Revenue Services for employees’ income tax purposes. There are also requirements to register for pension contribution and the national housing and industrial training funds.

Overall, the regulatory environment in Nigeria can be quite challenging and difficult to navigate. Hence, companies (both new and existing) must pay particular attention to regulatory compliance and when in doubt consult professionals.

Nigeria has two major corporate income taxes: the companies income tax (CIT) and the petroleum profits tax (PPT). Other taxes include tertiary education tax, capital gains tax and information technology tax.

Companies Income Tax

The Companies Income Tax Act (CITA) governs the taxation of companies other than those carrying out petroleum operations. A Nigerian company is liable to tax on its worldwide income, while a non-resident company is charged tax on the income attributable to its Nigerian operations only. The tax is self-assessed on a preceding year basis, i.e., the accounting period preceding the government’s fiscal year. However, a number of special rules apply on commencement, cessation and change in accounting date of a company.

CIT is computed at a rate of 30% of tax-adjusted profit. Generally speaking, the underlying principle for deductibility is that expenses must be “wholly”, “reasonably”, “necessarily” and “exclusively” incurred by a business in generating taxable profits.

Incentives include tax holidays offering exemption for a number of years, zones for free trade and export processing (also governed by subsidiary legislations), accelerated capital allowances, investment tax allowances, employment and infrastructure incentives, as well as other special concessions for gas utilisation projects. Tax losses can be carried forward indefinitely for all companies except insurance companies, where they are restricted to four years.

A company which has no tax payable may be liable to either a presumptive minimum tax or tax on dividends paid if the dividends exceed the company’s taxable profits. Minimum tax does not apply to companies engaged in agricultural business or companies with at least 25% imported equity capital or those in their first four calendar years of commencement.

Failure to pay and file tax returns within the time limits specified in the CITA attracts certain penalties and interest. Based on the Tax Administration ( Self-Assessment) Regulations 2011, tax can be paid in not more than three instalments (previously six) on dates to be approved by the FIRS.

Petroleum Profits Tax

PPT is levied on the income of companies engaged in upstream petroleum operations. The principal legislation is the PPT Act, but this is complemented by the Deep Offshore Inland Basin Production Sharing Contract Act for Production Sharing Contracts (PSCs).

The PPT rate varies depending on the contract type and years of operation from the date of commercial production. The tax rate is set at 65.75% in the first five years of operation and 85% afterwards. Special rates apply to PSCs (mostly 50%). Tax is assessed on the actual year basis. Monthly tax estimates are required to be filed in arrears of two months and the actual tax returns must be filed within five months after the end of the accounting period.

Others Taxes

Tertiary education tax is payable by all Nigerian companies at 2% of assessable profit (tax-adjusted profit before capital allowances).

Information technology tax is payable by GSM service providers, telecommunications companies, cyber companies, internet providers and financial institutions with turnover of N100m ($610,000) and above. The tax rate is 1% of profit before tax.

Capital gains tax of 10% is applicable on the disposal of chargeable assets. Shares are exempted from this category of tax.

Value-Added Tax

The standard VAT rate on goods and services is 5%, the lowest in the Economic Community of West African States (ECOWAS). The rate is expected to increase to about 15% in the near future to ensure harmonisation with other countries in ECOWAS and in line with the approved National Tax Policy focus on indirect taxation. The scope and coverage of VAT is extremely broad and applies to all imported, supplied or manufactured goods and services in Nigeria, except those that are specifically listed as exempt or zero-rated.

VAT is substantially invoice based and therefore tends more towards accrual basis. VAT payable is the difference between VAT charged on supply of goods and services (output VAT) and VAT incurred on purchases or imports meant for direct resale (input VAT). VAT incurred on fixed assets, general overhead and services is not claimable but may be expensed or capitalised as the case may be.

A taxable person is required to register for VAT on commencement of business. A VAT number (now covered by the tax identification number, TIN) is assigned to every registered person and must be stated on all VAT invoices. Non-resident companies doing business in Nigeria are required to register for and charge VAT on all their taxable supplies in the country. VAT charged by a non-resident company is withheld and remitted to the tax authorities by the resident customer. In all cases, government agencies as well as oil and gas companies are required to withhold VAT on their incoming invoices.

VAT Exemptions

Only a few items are exempted from VAT in Nigeria. These include exported services, medical and pharmaceuticals products, basic food items, baby products, medical services, plays and performances conducted by educational institutions as part of learning, and materials and equipment imported for use in downstream gas activities.

Suppliers of exempt goods are not required to charge VAT on their sales and cannot claim input tax for VAT paid on their purchases. Non-oil exports are zero rated for VAT purposes. Goods and services for use in export processing zones (EPZs) or freeport zones are not liable to VAT on the basis that these zones are outside the scope of Nigerian VAT rules.

The due date for payment of VAT is the 21st day of the month following the relevant month of supply. In practice, a registered person must submit a nil return where no VAT able transaction has taken place in any particular month.

A registered person who disputes a VAT assessment has a right of appeal to the Tax Appeal Tribunal. An appeal against the tribunal’s decision may be made to the Court of Appeal within 30 days after the date on which the decision was given, setting out the grounds on which the decision is being challenged.

Personal & Other Taxes

The legal framework for the taxation of individuals and unincorporated entities in Nigeria is the Personal Income Tax Act (PITA), CAP, LFN 2004 as amended. PITA is administered by the state governments except in respect of persons employed in the Nigerian armed forces and the police other than in a civilian capacity; officers of the Nigerian foreign services; residents of Abuja; and non-residents who derive income from Nigeria. These categories of individuals are liable to pay their personal income taxes to the FIRS.

Resident individuals are taxed on their worldwide income while non-residents are liable for tax only in respect of income derived from Nigeria. A person is regarded as resident in Nigeria for personal income tax purposes if he or she spends 183 days or more in Nigeria within any 12-month period. Expatriates who come into Nigeria on expatriate quota positions are regarded as tax residents from the first day.

Taxable individuals (other than employees) are required to file tax returns with the relevant tax authority within 90 days of the beginning of each year. Such returns must indicate total income from all sources in the preceding year. PITA provides for the administration of employee taxes under the pay-as-you-earn system. By this method, employees’ taxes are deducted and remitted to the tax authority by their employers. Annual returns by the employer must be made by January 31 in respect of the preceding year.

Employee taxes must be remitted within 10 days of the month following payment of salaries. Taxes assessed by the tax authority must be paid or objected to within 30 days from the date of notice.

Benefits & Deductions

Taxable individuals are entitled to a relief of N200,000 ($1220) or 1% of gross income, whichever is higher, plus 20% of gross income as non-taxable personal relief.

Taxable benefits in respect of assets, other than accommodation, provided by the employer to the employee is 5% of the cost of such assets or 100% of actual rent paid. In the case of accommodation, taxable benefit is the annual value as determined for local rates purposes or as otherwise established by the relevant state tax authorities.

Tax-deductible expenses include life insurance premiums, pension contributions and national housing fund contributions. Medical benefits provided by the employer under the National Health Insurance Scheme and gratuities are not taxable.

Other taxes relating to individuals include capital gains tax, development levy and withholding tax, especially on franked investment income, such as dividends, where withholding tax is the final tax. There are also a number of social security contributions in Nigeria such as the industrial training fund and employee compensation insurance (1% each of payroll cost by employer), national housing fund (2.5% of basic pay by employees) and monthly pension contribution. The Pension Reform Act of 2014 raised the minimum contribution by employers to 10% of total emoluments as defined in the employee’s contract of employment provided it is not less than the sum of basic salary, housing and transport allowances; employees must contribute a minimum of 8%.

Reporting Requirements

The principal legal framework for the preparation of financial statements in Nigeria is the CAMA LFN 2004. The act empowers the registrar of companies at the CAC to monitor compliance with reporting requirements and impose sanctions for non-compliance. Nigerian companies must file audited accounts with the registrar on an annual basis. The accounts must comply with the International Financial Reporting Standards (IFRS).

The Financial Reporting Council of Nigeria (FRCN) is the agency under the Federal Ministry of Trade and Investment responsible for, among other things, developing and publishing accounting and financial reporting standards to be observed in the preparation of financial statements of public entities in Nigeria, and for related matters. The FRCN is empowered to enforce compliance with IFRS by public interest entities through imposition of fines and sanctions.

The Nigerian Stock Exchange Act, Nigerian Deposit Insurance Corporation Act, Banks and Other Financial Institutions Act, Investments and Securities Act, Securities & Exchange Commission Rules and Regulations, and the Nigerian Insurance Act, among others, supplement the Financial Reporting Council Act in regulating financial reporting responsibilities of different types of companies operating in Nigeria.

Fiscal Aspects of Special Economic Zones

A special economic zone (SEZ) is a geographical region within a country that has economic laws that are more liberal than the nation’s typical economic laws. SEZs cover a broad range of more specific categories of zones, including free trade zones (FTZ), export processing zones (EPZ) and free zones.

Nigeria currently has a number of SEZs. The Nigeria Export Processing Zones Act of 1992 established the Nigeria Export Processing Zones Authority (NEPZA), which is the body that oversees the licensing, monitoring and regulation of these zones. There are three types of licences granted by NEPZA:

• Free Zone Developers Licence: Granted to either a public or private entity for the establishment, operation and management of a free zone;
• Free Zone Enterprise Licence: Granted for an entity to undertake approved activity within the zone.
• Activities include manufacturing, trading and providing services; and
• Export Processing Factory/Export Processing Farm Licence: Granted to export-oriented enterprises located within the Customs territory with capacity to export over 75% of production.

There is a wide range of permissible enterprises across a number of different industries, from oil and gas to manufacturing and construction, that are entitled to set up operations at the country’s various free zones. Some of the fiscal incentives available to approved enterprises include:

• Complete tax holiday from federal, state and local government taxes, rates, Customs duties and levies;
• Repatriation of foreign capital investment in the zones at any time including any capital appreciation of the investment;
• Remittance of profits and dividends earned by foreign investors in the zones;
• Duty-free import of raw materials and components for goods destined for re-export;
• Duty-free introduction of capital goods, consumer goods, machinery, equipment and furniture;
• Rent-free land at construction stage;
• 100% foreign ownership; and
• Waiver of import and export licences.

The Nigeria Export Processing Zones Act precludes the need to charge VAT or deduct withholding tax on transactions except sales to and purchases from unapproved enterprises or companies operating in the Customs area. While the tax incentives provided by the act to approved enterprises may seem to imply a blanket tax exemption, in practice it is the income derived from the activities within the SEZ that qualify for these tax exemptions. For income derived within the Customs territory, Nigerian taxes will apply. Where applicable, the approved enterprise should file its tax returns with the FIRS through the NEPZA.

The extent of FIRS’s jurisdiction over companies operating in SEZs is unclear. In practice, however, approved enterprises are often the subject of tax audits, especially regarding VAT and withholding tax.

Prospects for Reform of the Tax Code

Nigeria’s economy is hugely dependent on crude oil revenue. Given the volatility of oil prices and the rising government expenditure in view of works to improve existing poor infrastructure, the government at all levels is now focusing more on taxation as a more reliable source of revenue for sustainable development.

For many years most of the main taxes levied in the country – CIT, personal income tax, capital gains tax, VAT and tertiary education tax – have contributed just a small fraction of total government revenue. The exception, of course, has been income from the PPT, given the economy’s reliance on hydrocarbons.

Many of the laws on which the tax system is based are obsolete and unfit for modern-day economic realities. Tax administration is clogged with bottlenecks, making it difficult and expensive for taxpayers to meet their obligations.

In 2002 a study group was constituted to appraise the tax system. Among its recommendations were:

• Introduction of a National Tax Policy;
• Taxpayer identification; focus shift from direct to indirect taxation; and
• The amendment of various tax laws. These recommendations were accepted and in 2004 a working group was inaugurated to implement these reforms. This led to the amendment of the CIT and VAT Acts in 2007, and enactment of the FIRS Establishment Act granting autonomy to the FIRS.

The National Tax Policy was approved by the Federal Executive Council and the National Economic Council in 2010. The National Tax Policy is aimed at simplifying the tax system and improving compliance. The policy advocates a gradual shift from direct to indirect taxation, the introduction of electronic tax filing; rationalisation of tax incentives; and the elimination of multiple taxation. To facilitate a smooth transition to the new regulations, the tax authorities are intensifying efforts to educate the public on tax matters through various stakeholders meetings, seminars and conferences. It is expected that more reforms will be made in the coming years.

Mergers & Acquisitions

Business combinations, including mergers and acquisitions (M&A), require that the investor carries out a due diligence exercise to ensure an informed investment decision. Typically, a due diligence exercise will focus on key deal breakers, potential risks and other factors that may be useful in the negotiation process.

Generally, M&A could be carried out through share deals and asset deals. Asset deals are quite common in the upstream oil and gas sector, with increasing divestment by oil majors from onshore assets. Asset deals are also quite common in the power and telecommunications sectors, with the sale of power plants and the reorganisation of the tower assets of many telecommunications companies.

The major due diligence issues are the tax consequences of the divestment by the seller such as capital allowance recoupments and capital gains tax, which may be factored into the pricing of the asset because the buyer is able to claim tax benefits on the amount paid to acquire such assets.

Due to the enormous tax costs of some of these types of transactions, investors often use complex structures to obtain tax reliefs. On asset deals, the historical tax issues for the seller are not too important except to model any incremental costs for changes in compliance after acquisition.

For share deals, the tax issues are usually more complex. This requires a detailed tax due diligence to be undertaken to anticipate and mitigate tax liabilities through indemnities and warranties. Buyers have to understand the attitude of the target entity towards tax compliance, since most tax due diligence issues result from the target's existing approach to tax compliance. This is important in view of the relatively low level of tax compliance in Nigeria, which is partly due to weak tax enforcement on the part of the authorities. It is also useful to evaluate the effectiveness of the tax function, quality of tax personnel, competency of tax advisers and overall attitude of management to corporate governance in assessing potential tax risk.

Assessing Complaince Challenges

Oftentimes there are challenges around incomplete and poor record keeping by target companies. These businesses are sometimes unable to substantiate their claims of tax compliance, especially filing of returns and remittances of tax liabilities. This stems in part from the difficulty of obtaining evidence of tax paid both from third parties and the tax authorities.

In assessing the tax exposures of a target, investors should consider industry-specific issues that may affect the target’s tax position. An example of this could be an aggressive industry position on a tax matter or class action on industry-specific tax issues. A purchaser may also need to evaluate the risk associated with ambiguous tax rules that might create uncertainties in the interpretation and application of tax laws as well as variances between the letter of the law and what occurs in practice.

Common risk areas are transaction taxes such as VAT and withholding tax where compliance is generally low or sometimes overlooked by taxpayers. In group situations, transaction taxes on inter-company transactions are often taken for granted or treated wrongly. There are also non-compliance issues associated with employee taxes (and social security contributions), especially with expatriate staff.

The motives of a business combination and the risk appetite of the investor will usually drive the focus and approach of the due diligence exercise. An investor who is unwilling to take on the liabilities of the target would generally prefer an asset deal to a share deal. In some cases, however, an asset deal may not totally shield an acquirer from the tax liabilities of the target. For instance, under the PPT Act, the tax authority is empowered to recover tax liabilities relating to assets transferred from the acquirer if in its view the transaction was consummated for the purpose of avoiding tax.

With respect to the acquisition of government-owned enterprises the need for a thorough due diligence is even more important as most government corporations are not diligent in matters of tax compliance. A common remedy is to seek an indemnity to cover identified and potential tax liabilities as a pre-condition to the acquisition.

Capital Markets Development Package

The major capital market in Nigeria is the Nigerian Stock Exchange. Since its establishment in 1961, the exchange has grown from a listing of 19 equity stocks to over 200 securities as of December 31, 2013, including both corporate and government bonds as well as a number of foreign listings.

The Nigerian capital market experienced significant growth following its deregulation in 1993 and the subsequent removal of restrictions on foreign participation. Foreigners are now permitted to participate both as investors and capital market operators on the bourse. Generally, there is no limit on the percentage of foreign holdings in a Nigerian company.

Despite the significant growth of the 1990s and the past decade, the Nigerian Stock Exchange has suffered from global and local financial crises that have resulted in significant losses in the value of listed shares. With less than $100bn in total market capitalisation, the exchange is still relatively underdeveloped and largely unsophisticated.

Measures taken by the exchange’s authorities to boost activity on the bourse include the enhanced use of technology, extended trading hours, real-time price movement report, implementation of a faster settlement and delivery system for transactions in listed shares, and improved transparency.

Furthermore, the bureaucracy involved in listing securities on the exchange has been minimised and the transaction costs of trading in shares have been reduced to encourage more activity on the bourse, especially in the secondary market.

Incentives to Invest

The most significant incentive designed to encourage participation in the Nigerian capital market is the tax exemption from capital gains on disposal of shares and stocks. There is also an income tax exemption on income earned from debt instruments such as government and corporate bonds. In addition, withholding tax on dividend (which does not exceed 10%) is the final tax in the hands of investors. These measures and incentives have served to boost activity in the capital market, by increasing efficiency, transparency and investor confidence.

While the Nigerian capital market has in all respects made good progress, there are still desired improvements to further develop the market. For instance, the listing of both local and foreign companies on the exchange is still low and this requires improvements in various aspects of the market led by the market, the Securities & Exchange Commission, as well as the federal government to attract more listings.

The most important factor will be to improve the quality of the oversight function of the Nigerian Stock Exchange and ensure greater transparency to prevent share manipulations and other malpractices by issuers, stockbrokers and investors in general. Streamlining the conditions for initial listing and further reducing transaction costs of trading in the secondary market would also support growth. A good starting point in this regard could be the removal of stamp duty on securities traded in the capital market.

OBG would like to thank THE REPORT Nigeria 2015