Visualising Uganda’s (and others’) tax treaties

Interesting news from Uganda, where the government announced in its latest budget that it has finished formulating its new tax treaty policy, and will be renegotiating treaties that don’t comply. Seatini and ActionAid Uganda will no doubt chalk this up as a success! The news report linked to above also states that the the government plans to amend the awkwardly-worded anti-treaty-shopping clause in its Income Tax Act, although there are clearly still doubts about its application. According to a report in Tax Notes International, there’s an ongoing mutual agreement procedure between the Netherlands and Uganda to try to settle the ongoing Zain capital gains case, which turns on the applicability of that clause. 105_screen_shot_2016_04_29_at_6_11_10_am

So this is good timing for my working paper with Jalia Kangave, based on a submission we made to the Ugandan government’s review, to have been published by the International Centre for Tax and Development.

Here’s a link to that paper on Researchgate

When writing that paper, I thought that Uganda had a pretty good record of tax treaty negotiations, but some new visualisations of the ActionAid Tax Treaties Dataset suggest otherwise. For these I am indebted to Zack Korman, and to tax twitter for introducing me to him. Below are some maps Zach has made using the ‘source index’ I developed for the dataset (read more about that here). Red means a residence-based treaty that gives fewer taxing rights to the developing country, while green means a source-based treaty that gives it more taxing rights.

This slideshow requires JavaScript.

Links to high-res versions of individual images: Uganda map, Uganda bar chart, Vietnam, Mauritius, UK, Nordics

Uganda’s treaties are pretty red, meaning that most of its treaties restrict its taxing rights much more than average. Looking at the breakdown of the index shows that Uganda has some above-average withholding tax provisions, but its treaties are quite a lot worse than average in other areas. The slide show also gives some other countries for comparison. Vietnam’s treaties are mostly green, while Asian countries have got better deals from Mauritius (an offshore financial centre, not a developing country, in this context) than African ones. The UK’s treaties are pretty red, while the Nordics are very interesting: diverse in content, but consistent among themselves, giving good deals to Kenya and Sri Lanka, and worse ones to Tanzania and Bangladesh. This suggests that more source-based treaties with Nordic countries have been up for grabs for tough-negotiating developing countries.

Below I’ve posted some of Zach’s animated maps, on which it’s easier (and interesting) to follow the developments at earlier stages. There’s lots to comment on, but mostly I just keep watching them. The technical service fees map, at the bottom, is especially interesting, as it shows how countries have changed attitudes over time: watch how Pakistan suddenly changes position in the mid 1980s, for example.

World2

Above: All treaties in the dataset (red=residence-based, green=source-based)


Asia

Above: Asia (red=residence-based, green=source-based)


Africa2

Above: Africa (red=residence-based, green=source-based)


Vietnam2

Above: Vietnam (red=residence-based, green=source-based)


UK2

Above: UK (red=residence-based, green=source-based)


Nordic2

Above: Nordic countries (red=residence-based, green=source-based)


Netherlands2

Above: Netherlands (red=residence-based, green=source-based)


Slow WHT

Above: Management, technical service and consultancy fees WHT (green=included, red=excluded)

 

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Revenue foregone through tax treaties in context

In the recent Tax Justice Network Africa report on tax treaties, I had a go at estimating some costs to governments, based on a back-of-the-envelope figure for cross-border dividend and interests payments.  This is similar to the methodology used by SOMO and the IMF. (It’s a bit rough and ready, because some of the return on FDI figures I used will include reinvested profits, not cross-border remittances, but I’ve seen some other more sophisticated working recently that produces roughly similar figures.)

What I didn’t realise when I wrote that report is that both Uganda and Zambia break out withholding tax revenue (which includes taxes on domestic as well as cross-border payments) in their budgets, so we can set these very rough estimates in context. I’ve been curious for a while to know the order of magnitude of the importance of tax treaties.

The upshot is that revenue foregone from the lower tax rates on qualifying dividends and interest in tax treaties (which is just one part of the revenue foregone through tax treaties) is about 15 percent of withholding tax revenue. As WHT revenue is about 40 percent of corporate tax revenue and five percent of total tax revenue, this means the revenue foregone is something like five percent of corporate tax revenue, and a little less than one percent of total tax revenue.  Here’s how I get there.

Estimating revenue foregone

Here’s the table from the TJN-A report. I take figures for the primary return on foreign direct investment and assume that investment from each country gets the same return. Then I apply the tax rate discount in the treaty to that those estimated flows. The revenue foregone using 2012 data is about US$17m in Uganda and US$42m in Zambia.

wht table

Uganda

Here’s the table from Uganda’s budget. The 2011/12 withholding tax (WHT) outturn works out at about US$130m using the exchange rate on 1st January 2012. The revenue foregone of US$17m is about 13 percent of total WHT revenue, or 0.7 percent of Uganda’s total tax revenue.

uganda

Zambia

For Zambia I only have the 2014 budget figures, which we can assume with inflation will be larger than those for 2012, the year for which the revenue foregone is estimated, and hence this will be an underestimate of the proportions. WHT foregone of US$42m is 15 percent of the total WHT revenue of US$280m, or 0.8 percent of total tax revenue (using the exchange rate on 1st January 2014).

zambia

Since these calculations don’t include the revenue foregone through reduced rates of other withholding taxes on portfolio dividends, royalties and technical service fees, never mind all the other ways in which tax treaties curb taxation of foreign investors, it seems reasonable to conclude that the total of all revenue foregone from Uganda and Zambia’s tax treaties is of the order of several percent of their total government revenue. There may be benefits to offset these costs, but the starting point for a cost/benefit analysis of tax treaties is certainly to estimate the costs!

Tax treaties in sub-Saharan Africa: a critical review

The report I authored for Tax Justice Network-Africa is now available. It’s based on field research done a year ago and has been a little while getting into print.

Here’s a link to read it online at academia.edu

Here’s a link to download the PDF

Tax treaties in sub-Saharan Africa report cover

And here’s the introduction:

There is growing attention on the question of tax treaties signed by developing countries. The costs of tax treaties to developing countries have been highlighted in recent years by NGOs such as ActionAid and SOMO. During 2014, an influential IMF paper warned that developing countries “would be well-advised to sign treaties only with considerable caution,” and the OECD, as part of its Base Erosion and Profit Shifting (BEPS) project, proposes to add text to the commentary of its model treaty to help countries decide “whether a treaty should be concluded with a State but also…whether a State should seek to modify or replace an existing treaty or even, as a last resort, terminate a treaty.”

Meanwhile, some developing countries seem recently to have become concerned by the negative impacts of some of their treaties. Rwanda and South Africa have successfully renegotiated their agreements with Mauritius. Argentina and Mongolia have cancelled or renegotiated several agreements. Responding to this pressure, two of the developed countries whose treaty networks have raised concerns, the Netherlands and Ireland, have begun a process of review.

To investigate this apparent shift in opinion among policymakers, and to see what lessons can be drawn by other developing countries, Tax Justice Network Africa commissioned this study of current policy towards tax treaties in Uganda and Zambia, two countries that appear to be questioning past decisions. Fieldwork, which consisted of interviews with government officials and private sector tax advisers, took place in Kampala and Lusaka in September 2014.

Uganda has announced a review of its policy towards tax treaties, while Zambia is renegotiating several of its treaties. The Ugandan review has several motivations, according to finance ministry officials. The lack of a politically enforced policy to underpin negotiations is one concern. “When I go to negotiate, all I have is my own judgement,” according to a negotiator. “We thought that cabinet should express itself.” Officials are also concerned about the taxation of technical services provided by professionals in the oil industry, and are asking questions about the relatively poor deal Uganda got in its as yet unratified agreement with China.

Zambia, it seems, is keen to update very old treaties that were negotiated on poor terms by over-zealous officials in the 1970s. But a recent treaty signed with China on poor terms has created a difficult precedent, dragging down the terms of its recent negotiation with the UK. Zambia is also encumbered with several colonial-era treaties that need urgent attention.

This report is divided into four following sections. Section 2 describes the historical development of sub-Saharan Africa’s tax treaty network, including some of the reasons given for its development. Uganda and Zambia are used as examples. Section 3 looks at some of the core vulnerabilities in the content of tax treaties signed by African countries, set in the context of weaknesses in their domestic laws. Section 4 provides a critical perspective on recent initiatives taken by individual countries, regional organisations and other international organisations.

Section 5 provides recommendations for African countries. In summary, they should:

  • Review all their existing tax treaties and domestic legislation, to identify areas where they are most vulnerable to revenue loss. This should include permanent establishment definitions, protection from treaty shopping, and withholding and capital gains taxes.
  • Formulate ambitious national models by applying a “best available” approach to existing models (EAC, COMESA, UN), current treaties, and domestic legislation, none of which are currently adequate.
  • Identify red lines for negotiations from within these models.
  • Based on investment and remittance data, request renegotiations of treaties that have the greatest actual (or potential in terms of capital gains) cost. These renegotiations should be conducted on the basis of an improved distribution of taxing rights, not a “balanced” negotiation.
  • Cancel these high-impact treaties if the red lines cannot be obtained.
  • Incorporate an assessment of tax foregone due to tax treaties into an annual breakdown of tax expenditures.
  • Ensure that all tax treaties are subject to parliamentary approval as part of the ratification process.
  • Ensure that future updates to provisions of the UN and OECD model treaties, or to their commentaries and reservations/observations, reflect the positions set out in their national models.
  • Strengthen the African model treaties (EAC, COMESA, SADC) so that they act as opposite poles to the OECD model, rather than compromises between the UN and OECD models.

Uganda’s tax treaties: a legal and historical analysis

It’s been a bit quiet on here recently, the result of a busy term at LSE. At least I am at not the only PhD-student-and-tax-blogger whose blog has been suffering from the demands of teaching and research!

This week I’ve been at the International Centre for Tax and Development Annual Meeting, a chance to compare notes with other people working on tax and development, as well as with tax officials from a range of African countries. It’s a great environment to present in, because there is feedback on both an academic level and also from the tax practitioners present.

Here’s the presentation I gave based on my field research in Uganda earlier this year. This is just a taster of what will hopefully result in a couple of full length papers in the new year.

[Link to presentation on Slideshare]

Capital gains tax avoidance: can Uganda succeed where India didn’t?

Zain

Uganda is pursuing Zain for $85m capital gains tax on the indirect sale of its Ugandan subsidiary

I’m writing this post from under a mosquito net on a close Kampala evening. Since arriving on Wednesday I’ve had a whistlestop tour of the issues facing Uganda as it embarks on a review of its tax treaties. So far I’ve met with four tax inspectors, two finance ministry officials, four (count ’em) tax advisers, one academic and three NGO people. I also spoke at an event to launch a a report on Uganda”s tax treaties written by Ugandan NGO SEATINI and ActionAid Uganda.

This post is about “indirect transfers” of assets, where a sale is structured to take place via offshore holding companies, thus escaping capital gains tax. It turns out there is an $85m tax dispute on this between Uganda and the mobile phone company Zain. This is just about the biggest issue in Ugandan tax right now: the tax inspectors are even tweeting about it.

“Indirect transfers” were highlighted in the recent (and generally solid, I thought) OECD report to the G-20 development working group [pdf].* It says:

Developing countries report that the profit made by the owner of an asset when selling it (for example, the sale of a mineral licence) is often not taxed in the country in which the asset is situated. Artificial structures are being used in some cases to make an ‘indirect transfer’; for example through the sale of the shares in the company that owns the asset rather than the sale of the asset itself.

Unfortunately, it is pretty lame on the solutions. As far as I can tell from the G-20 response [pdf], what is going to happen on it is this:

(deep breath…)

As part of its multi-year action plan, the G-20 development working group will consider calling on the OECD, in consultation with the IMF, to report on whether further analysis is needed.

(…and exhale)

I don’t hear the sound of tax positions unwinding.in response to that one.

To remind you, the big daddy of indirect transfer cases is the Vodafone-India dispute. In that case,  according to this handy summary:

In 2007, Vodafone’s Dutch subsidiary acquired the stock of a Cayman Islands company from a subsidiary of Hutchinson Telecommunications International Ltd. (the subsidiary was also located in the Cayman Islands). The purchase price was $11.1 billion. The Cayman company acquired by Vodafone owned an indirect interest in Hutchinson Essar Ltd. (an Indian company) through several tiers of Mauritius and Indian companies.

Like India, Uganda is trying to tax the sale of a mobile phone company when the transaction took place via offshore holding companies:

Zain International BV owned Zain Africa BV, which had equity in 26 companies all registered in the Netherlands, but effectively owning the telephone operator business in as many African countries. One of them, Celtel Uganda Holding BV, owned 99.99 per cent of the Kampala-registered Celtel Uganda Ltd. On March 30, 2010 Zain International BV sold its shares in Zain Africa BV to Bharti Airtel International BV. As all three companies are registered in the Netherlands, and as the transaction was a sale of shares rather than assets, the company said it did not attract capital gains tax.

The cases are of course not identical. For one thing, Uganda is going after the firm that actually made the capital gain. But the Indian jurisprudence is being used in the Ugandan case.

Just last week, an appeal court ruled that the Uganda Revenue Authority does have the jurisdiction to assess and tax Zain on the gain. Zain will now argue that the transaction was exempt. One of its core arguments is sure to be the Netherlands-Uganda tax treaty.

In common with 86% [pdf] of tax treaties signed by developing countries since 1997, this treaty does not contain the UN model treaty provision that would have allowed Uganda to tax gains on the sale of shares in Ugandan companies made by Dutch residents. It may be that Celtel Uganda counts as a ‘property rich’ company because of all its infrastructure assets, in which case Uganda would have been able to fall back on the OECD and UN model provision permitting it to tax those…except (oops!) even that isn’t included in its treaty with the Netherlands. Yes, this treaty is worse for Uganda than the OECD model, never mind the UN.

So instead we come to Section 88(5) of Uganda’s Income Tax Act [pdf] . This is an anti-treaty shopping provision, which denies the benefits of the treaty to a company whose ‘underlying ownership’ is mostly in a third country:

Where an international agreement provides that income derived from sources in Uganda is exempt from Ugandan tax or is subject to a reduction in the rate of Ugandan tax, the benefit of that exemption or reduction is not available to any person who, for the purposes of the agreement, is a resident of the other contracting state where 50 percent or more of the underlying ownership of that person is held by an individual or individuals who are not
residents of that other Contracting State for the purposes of the agreement.

Sounds like Uganda has it in the bag, right? Unfortunately, this matter will turn on whether Uganda’s domestic law can override its treaty commitments. It is quite likely (certain, if you ask Zain’s tax adviser) that a court will decide it cannot. What everyone I have spoken with agrees on (apart, perhaps, from Zain’s tax adviser) is that it would be preferable to have some certainty about this unresolved question.

The URA has recently begun denying treaty benefits under section 88(5), and until now taxpayers have accepted its reasoning. But, speaking in genera terms at the SEATINI/ActionAid public meeting, a tax official said that the URA doesn’t know if its position will stand up to a court challenge. Tax advisers in the private sector say that, as well as the question of treaty override, the meaning of “underlying ownership” needs to be clarified. Because the Zain case has so far been fought on technicalities, “we were robbed of the opportunity to see how it [Section 88(5)] would work in practice,” one told me.

Perhaps the next stage of the Zain case will answer this question. If it does, it should give some welcome guidance to developing countries struggling with these indirect transfers. If they can’t use their domestic law to override their treaties, they will need to insert an anti-abuse clause into their treaties, strengthen their source taxing rights, or consider cancelling them.

This brings us back to BEPS, and the action on tackling treaty abuse. The OECD is proposing a limitation of benefits clause based on that used by the US, which is similar to that in Uganda’s domestic legislation, only a lot more detailed about who is ruled in and out. This would do the trick, but the challenge would be getting it into treaties that have been already signed.

To solve that, the OECD is pushing a multilateral convention to modify treaties all at once, built on a flexible level of commitment. It concedes [pdf] that the multilateral instrument “has not been identified as high priority by developing countries.” For it to work for them, I think it would need two things:

1. Genuine flexibility so that developing countries can opt into only the bits they want, such as the anti-abuse clause.

2. Willingness on the part of high-risk jurisdictions for treaty shopping (in Uganda’s case the Netherlands, Mauritius, and perhaps now the UK) to opt in to the anti-abuse clause as well.

For Uganda, it might not make sense to wait for this, since we are only talking about two or three treaties. It could ask its partners for a protocol containing a limitation of benefits clause right now. Or, of course, it protect itself and raise more revenue by strengthening all its treaties’ capital gains articles, as the UN model provides for in the first place.

*thanks to @psaintamans for the link!

Tax treaty negotiation: what affects the outcome for developing countries? (Part 1)

[T]ax administration and tax policy officials in Uganda are not sufficiently trained in the area of tax treaties and international taxation. As a result, Uganda has a weak tax treaty negotiation team that concludes treaties more intensively reflecting the position of the other contracting state.

A first attempt to answer a question that I’ll be coming back to many times. It’s based on an afternoon spent in the library reading  The Impact of the OECD and UN Model Conventions on Bilateral Tax Treaties, a very heavy tome that thus far I’ve only been able to cherry pick through.

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