Dividend tax controversy ends

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Government allows ERCA to collect tax from undistributed dividend

The Minister of Finance and Economic Development (MoFED) sent a circular to the Ethiopian Revenue and Customs Authority (ERCA), intended to resolve the confusion created after discussions between government and the private sector in June over un-dispersed tax collection.
The Addis Ababa Chamber of Commerce and Sectoral Associations in collaboration with ERCA have also organised an event to discuss the controversial issue.
The MoFED circular is similar to an order from the ministry sent a year ago, instructing ERCA to collect the tax from undistributed dividend.
Experts say the new circular contradicts a speech by Sufian Ahmed, Finance Minister , at a Public Private Conference held on 28th June, and attended by the Prime Minister, Hailemariam Desalegn.
During the conference, Sufian explained that tax shall not be levied on undistributed dividend.
His statement was followed by a great deal of cheers and clapping in approval from participants attending the conference.
On Friday June 29th, a day after the conference, the PM upheld the statement made by the Minister of Finance in a press conference with local journalists.
He clarified his administration’s viewpoint by saying: “There will only be tax collection from dividend that is distributed to shareholders. If the profit is reinvested or added to increase the company’s capital, it will not be taxed.”
According to representatives of the private sector who had strenuously argued against ERCA’s decision, implementation of such a tax collection system is unacceptable.
According to ERCA officials, the minister’s new circular did not mention the exemption of the tax collection from undistributed dividend.
“According to the circular, it allows the tax authority to continue to practice the tax collection it implemented in the past,” one source said.
Girma Tafesse, Director of Branch Offices Supervision and Support of ERCA, told Capital that, based on the new circular, if the dividend is not capitalised or invested on the company, the dividend tax must be paid.
This stance has been held by the ministry and the authority in the past 10 months, since ERCA approached companies to pay their accrued tax from un-dispersed dividend or retain earnings.
Since the end of last year, ERCA and the private sector have been at odds, following the decision of the Revenue Authority to collect tax from ‘undistributed dividend’ or money lying under ‘retained earnings’ in companies’ financial statements.
Since then, the two parties have met a number of times to discuss the matter.
ERCA had insisted that it will continue implementing its decision until the Public Private Conference that was chaired by the PM.
A high-ranking MoFED official, who spoke to Capital after the conference, said that the ministry will not change its position on the implementation of the tax payment on undistributed dividend. “The tax implementation is based on a legal framework,” he argued.
He said the government shall not lift the tax which it expects to collect from undistributed dividends unless companies can come with evidence attesting to the re-investment of the profit or transfer to their capital.
Most companies would leave the undistributed profit under retained earnings on their financial statements.
“Without this plan, even if shareholders did not receive or collect their dividend, it will be considered as distributed,” MoFED has argued.
After Sufian’s speech, the ministry office held several meetings and discussions between stakeholders from different government offices to come up with new circular that may indicate a new direction about the issue or continue on the tax collection from undistributed dividend.
Since last October, the authority has approached several businesses, asking them to pay accrued tax from undistributed dividends after it got assurance from the ministry office it is legally entitled to collect the money.
ERCA says several business have already paid, while they complained about the new tax collection scheme, which they called unusual for any country in the world.
Although the tax claimed by the Authority is 10 per cent of the accumulated net profit that will be divided between shareholders or owners, ERCA has also claimed interest as well as penalty on the unpaid tax since the 2003/04 fiscal year when it launched its dividend tax collection campaign.
It later agreed to drop the interest and penalty for those who agree to pay fully the amount requested by ERCA.
The Authority has identified almost 1,500 companies who are required to pay the levied tax and one third of them have settled.
The introduction of the controversial tax is based on a circular signed by Eshetu Dessie, Deputy Director of Change and Modernization Works at ERCA last October.
The tax arrears collection concerns the registered net profit and undistributed in the form of dividend of the past seven years.
However, the calculation sets aside five per cent of the net profit registered that is legally authorized, and even encouraged, to pass into the capital of the company.
This amount should however not surpass 10 per cent of the registered capital of the company.
Before the implementation of the collection of unpaid dividend tax, the Authority sent the draft proposal to MoFED for review and to check whether it had a legal framework to support it.
After the review, Wasyihun Abate, Head of the Legal Department of MoFED, sent a reply to ERCA in July 2012 stating that, based on the Commercial Code and Tax Proclamation, the Authority could go ahead and collect the stated tax arrears from the companies that did not pay out dividends for their shareholders and kept their net profit as retained earnings on their financial statement.
As per the country’s law, shareholders have to pay 10 per cent tax to the Authority when they collect their dividend from PLCs or share companies.
Alternatively, the company is expected to withhold 10 per cent from their dividend and pay it to ERCA.
Such a move, say analysts, would stifle private businesses as it would drain off their cash flow and working capital, especially for those capital intensive types of commerce.  
Accordingly, the 2002 Income Tax proclamation, section 5, article 34 indicates that:
1) Every person deriving income from dividends of a share company or withdrawals of profit from a private limited company shall be subject to tax at the rate of ten per cent (10%).
2) The withholding Agent shall withhold or collect the tax and account to the Tax Authority.
3) This tax is a final tax in lieu of income tax.