Kenya’s 1.5% DST, which entered into force on January 1, is the first sign of an increasing tax burden on multinational enterprises (MNEs) in the East African country. The Kenya Revenue Authority (KRA) flew in the face of opposition from the US, and suggestions that multinationals would withdraw their services from Kenya, to enact its DST in June 2020. Under economic pressure due to the COVID-19 pandemic, the KRA is unlikely to stop there.
“MNEs are definitely the target,” said Cephas Osoro, partner at Crowe in Kenya. Osoro added that there is a feeling in Kenya that multinational companies have not been paying their fair share of taxes, which the KRA is determined to rectify.
African tax professionals suggested that, while the DST is levied at the low rate of 1.5%, this could increase in the future. “What the government has done is put it at a tax rate that would encourage compliance,” said Clive Akora, partner at KPMG East Africa. The low rate also means that the tax should not do too much damage if it is passed on to consumers.
Taxpayers are less worried about the DST than they were six months ago, perhaps because the KRA has since released guidance enabling businesses to prepare for the tax. Nevertheless, companies are frustrated that the regulations were only released in December, forcing MNEs to react quickly in advance of the first payment date on February 20. “There hasn’t been enough time for people to synthesise,” said Akora.
This time pressure is compounded by specific concerns about the legislation which, although minor, could cause headaches for tax directors within MNEs. An indirect tax manager at one of the FAANG (Facebook, Amazon, Apple, Netflix, Google) companies said that some tax teams are adapting software systems designed for European DSTs in the knowledge that the Kenyan guidelines are likely to change again in the near future. “That’s part of the uphill battle,” they said.
The Kenyan DST covers a broad range of digital services including downloadable digital content, the monetisation of data collected about Kenyan users, the provision of search engine services, and the catch-all: “any other service provided through a digital marketplace”. There are exceptions for government institutions and some licensed financial services providers.
The DST is computed on the gross transaction value and will not apply where the income is subject to withholding tax. For companies with a permanent establishment (PE) in Kenya, the DST can be offset against income taxes.
Kenya’s determination to shore up the tax base
Kenya defied strong opposition from the US to introduce its DST, despite the fact that this threatened its efforts to reach a Kenya-US bilateral trade agreement.
Although discussions over the trade agreement are ongoing, the US argues that DSTs unfairly target the Silicon Valley technology companies. It has condemned countries including India, Italy and Turkey for their DSTs, and has threatened tariffs on France in retaliation to unilateral measures.
Kenya’s determination to push ahead with the DST in the context of this uncertainty sends a strong signal that the KRA will not sacrifice domestic revenue to appease economically powerful countries and companies.
However, there is a suggestion that the KRA softened its proposals in response to warnings in June 2020 that the DST would harm Kenya’s international competitiveness. The FAANG tax manager said that the KRA originally intended to introduce e-invoicing or live reporting for the DST but was persuaded to drop the requirement.
The KRA, like many tax authorities, is becoming more proactive as it seeks to recoup the costs of the COVID-19 pandemic. Osoro said it has become a “very aggressive revenue authority”. This is likely compounded by Kenya’s low tax-to-GDP ratio, which stood at 17% compared to an OECD average of 34% in 2018, according to an OECD report released in November 2020.
However, this aggression is likely to hit domestic companies harder than multinationals, at least initially, because local companies are easier to target. “For MNEs without a PE, it will be difficult for the revenue authority to follow up,” said Osoro. The FAANG tax manager added that in their experience, the KRA is relatively “easy to deal with” because audits are focused more on local establishments.
Queries and issues with the DST
Although tax professionals are broadly confident about complying with the DST, they expect some teething problems in the first few months following February 20. “There are bound to be hiccups here and there,” said Osoro.
Questions have arisen around the exact scope of the DST, prompted by the vague phrase “any other service” in the legislation. In addition, payments must be made in the local currency, which means that MNEs without a PE in Kenya must consider exchange rates and the logistics of payment. Meanwhile, tax advisors continue to warn that, for companies with a Kenyan PE, the DST is essentially an advance tax. This could create cash flow problems for businesses during a time of economic distress.
Tax professionals told ITR that the KRA should change some rules to lessen the compliance burden for MNEs. This could include allowing group registrations for companies that operate a number of different brands, and lowering the number of returns and payments from monthly to quarterly or biannually. Companies would also like to see a threshold introduced for the DST. Without a threshold, companies with low-value transactions in Kenya could face disproportional compliance costs compared to the small amount of revenue that the KRA would gain from them.
African representation in international tax talks
Kenya follows fellow East African countries Tanzania and Uganda in introducing some form of digital tax, as governments grow tired of waiting for an OECD-led multilateral solution on taxing the digital economy. Tax professionals have told ITR that African voices are not given sufficient weight in OECD discussions, and that the continent would be better served by a more inclusive UN solution.
In the meantime, the African Tax Administration Forum (ATAF) supports African countries in introducing unilateral DSTs. Tax professionals said that Kenya’s African neighbours will be watching and deciding whether to make their own move. “Where one country goes ahead of the others, if it is successful, they will copy,” said Akora.
The East African Community (EAC) has also started work on brokering a solution between its six member states, although Osoro said that the bloc has historically struggled to agree on similar treaties. “I have my doubts on its success rate,” he said.
The recently appointed director general of the World Trade Organisation, Ngozi Okonjo-Iweala of Nigeria, could change things for Africa. Okonjo-Iweala is the first African to hold the position, and her influence could help to push the continent’s agenda in international tax talks.
MNEs may face some initial issues as the first payment deadlines for Kenya’s DST approach, but these are likely to be annoyances rather than substantial threats. At 1.5%, the tax is more a declaration of intent than a concerted effort to rake in revenue. However, the fact that Kenya overcame such strenuous opposition to introduce it indicates that the KRA will also push forward on similar measures. Tax directors should expect further changes and an increasing compliance burden from Kenya in the coming years.
If you would like to provide any comments or feedback on this article or the topics discussed, click here to contact the author.
