Exemption from withholding tax - learning points from Ghana

In very simple terms, withholding tax is tax deducted on payments by a customer (“withholding agent”) to a supplier, and normally the applicable rates range between 5 percent to 15 percent (depending on the type of item of income and whether paid to a resident or non-resident). In the case of a payment to a resident, the purpose of withholding tax is to simplify the collection of tax - for example, 10 percent withholding tax on rent (which applies to payments of rent other than by an individual) or on interest or dividends.  In the case of a payment to a non-resident it is the only mechanism to generate tax bearing in mind that the recipient has no base in the country.

However, I am aware that the withholding tax regime can cause practical challenges. Having worked on secondment with PwC Ghana, it is of particular interest to me to see if there are taxation initiatives or measures in Ghana that might be worth considering replicating in Tanzania. It is of no doubt that there is a mutual dependency between Government and the private sector - with the former expected to facilitate an environment to nurture the latter, and the latter to then drive growth and related tax revenues that will help fund development aspirations of the former.

For a resident payee the withholding tax deducted is in effect income tax paid in advance, and this can cause cash flow costs and resulting financial hardship where the tax deducted exceeds the actual income tax liability. For example, if you incur a 5 per cent withholding tax on professional services, you will automatically be in a tax overpayment situation if your profitability is less than 16.67 percent of turnover (as 30 per cent income tax applied to 16.67 percent brings you to a figure of 5 percent). Ideally, cash would not be tied up as a tax overpayment so that it could be used to employ more resources that could lead to more production and eventually more taxes. A further consideration is the administrative burden of managing and reconciling withholding taxes - although recent online initiatives by the Tanzania Revenue Authority (“TRA”) do help mitigate some of this administrative cost.

So what about Ghana?  Well while it does have a similar withholding tax regime, a key difference is that it does give taxpayers the opportunity to apply for exemption from the resident withholding tax on goods and services. In such a case if the exemption is granted the taxpayer would receive payment with no deduction at source but will still be taxed completely on the received income but with the settlement of the tax being solely by way of payment of instalment tax (during the relevant year) and final tax (at the time of filing the income tax return). Because this exemption is subject to application, there are criteria to be met before a taxpayer can be granted such exemption namely taxpayer registered for all tax types, key persons have TIN, adequate records are kept and maintained, contracts with non-residents submitted timely, all tax returns due have been submitted, self-assessment estimate etc.

Tanzania also has a withholding tax regime that in my opinion should be looked at and if possible, consider introducing exemption on certain payments and such exemption should be given to taxpayers receiving payments upon application and meeting various conditions that may be deemed fit to our tax regime.  Indeed, I understand that under the Income Tax Act 1973 (repealed on the introduction of the Income Tax Act 2004) it was possible to apply for exemption from the then 2% withholding tax on goods and services, subject to certain conditions; and indeed, from 2001 there was automatic exemption from such withholding tax for payments to any payee with a Taxpayer Identification Number (”TIN”). So maybe we should reconsider the possibility of applying for exemption. In addition, perhaps the resident rate on services could be reduced perhaps to 3 percent instead of 5 percent so as to minimise the risk of tax overpayment for those subject to withholding tax.

For a non-resident payee the question of overpayment of Tanzanian tax does not arise as the withholding tax is a final tax.  However the challenge comes with the rate, which can be very high - for example, 15 percent on services is very high if you consider that this is applied to gross revenue and compare this to the prevailing income tax rate of 30 percent. It in effect assumes a profit margin of 50 percent! In addition, in many cases the jurisdiction of the payee will frequently not give credit for the withholding tax deducted in Tanzania - particularly if services have been performed in that jurisdiction. One suggestion would be to reduce the applicable non-resident rate on services - for example, by a half (to 7.5 percent) or a third (to 10 percent).

One point I note from Ghana is that while they also have a high withholding tax rate on services, this is mitigated by a much more extensive double tax treaty network than Tanzania and with these treaties typically capping the rate at 8 percent or 10 percent.  So an alternative approach to help deal with the issue would be for existing treaties that Tanzania has signed to be renegotiated so as to cap the withholding tax rate at similar rates as in Ghana, and to also extend its treaty network with other countries.  A point to highlight is that whilst Ghana has treaties in place with the largest European economies (France, Germany, UK), we do not.

Taxation provides a fundamental source of income for running the government and providing public services. However, on the other side, taxation can have a negative distortionary impact on organisations. It is therefore important to try to levy taxes while minimising the negative impacts on the economy. It is in this context, that I suggest that there is a need to revisit the application of withholding tax on payments to resident businesses in good standing with the TRA and also revisiting the applicable rate. Equally the rate applicable to non-residents is high, and could be reconsidered.

By Noah Silungwe - Manager, Tax Services with PwC Tanzania