Fungai Mgcini Kuzinya
Our Government is in overdrive with its attempt to attract foreign investment. A major stakeholder in this exercise is the Zimbabwe Revenue Authority (Zimra). The presence of foreign investors in the country presents both opportunities and challenges for the revenue collector.
In order for Zimra to benefit from the presence of foreign investors by meeting and surpassing its revenue collection targets, a dynamic shift in its operation strategy is necessary.
The tax collector needs to enhance its ability to tax companies and persons that reside outside Zimbabwe. It cannot exclusively rely on domestic sources to meet its revenue targets.
Which country has the right to tax a foreign company that has a presence and operations in Zimbabwe?
Is it the country where the company has its head office and its place of central command or is it Zimbabwe, the country where it carries out its day to day operations?
For example, if a Russian company that has its head office in Russia, which office has been in existence for say, the past 50 years, comes to Zimbabwe, opens up a mine and starts operating here, who has the right to tax the revenue generated in Zimbabwe?
The Russian authorities might as well say they have the right to impose the tax because the key decisions made by the major decision makers (the board of directors) are made in Russia.
In addition, the board of directors would be generating an income whilst they reside in Russia.
The argument may rightly go on and state that the same board of directors are using the Russian infrastructure such as roads, health care and banking systems to generate this income.
Hence they ought to contribute to the cost of maintaining the same infrastructure through contributing to the nations’ finances through taxes.
On the other hand, the Zimbabwean authorities may argue that the income is generated from a source within Zimbabwe, as such, the foreign company is using Zimbabwe’s economic, legal and security systems to generate the income.
The result being our tax collector ought to impose a tax according to our laws. Both arguments are sound. Both countries may wish to impose a tax on the corporation.
However, not both countries can effectively do so because that would amount to double taxation. Double taxation tends to scare foreign investors. It is considered a barrier to the free flow of capital and investment.
This scenario is however easy to solve. Both countries can agree to share the taxes. They may agree to divide the taxes equally between themselves or one country may forgo some portion of its taxes because it is collecting revenue through other levies such as royalties.
The aforementioned scenario is not always that simple. There may be an agreement to split the taxes collected in an equitable manner.
However, not all countries impose the same tax rate. Some states impose a lower tax rate than the others.
When that happens, the company that has operations in the country that has a higher tax rate and its head office in a different country that imposes a lower tax rate, can and often will engage in crafty ways to attribute as much of the income to the lower tax jurisdiction (its head office country).
When this happens, our tax officials ought to display special knowledge and skill in order to counter such moves. It becomes imperative that our tax authority identify and counter schemes designed to shift profits from Zimbabwe to other low tax jurisdictions. The ability to shift profits across borders is known as Profit Shifting.
A common way of shifting profits to other countries is the generation of mobile income. Common streams of mobile income are management, services, insurance and intellectual property fees.
They are known as mobile income streams because they can easily relocate from one place to another. You do not need to have a fixed infrastructure in order to generate this sort of income.
All you need is one or two people and lots of money can be shifted from one place to the other. To make sense of this, I will use the same example of the Russian company that comes to invest in Zimbabwe.
Whilst the mining operations continue here in Zimbabwe, the Russian investors may choose to set up another company say in Mauritius.
Mauritius is known to have low corporate tax rates. Incidentally, it is also an investor’s destination of choice. The company set up in Mauritius will only provide management, know-how and insurance cover to the mining concern in Zimbabwe.
Rightfully, the Mauritian company ought to be paid for the services they provide. They will look to the mining concern for payment.
Problems arise when the fees that have to be paid erode the Zimbabwean mining concerns profits to the extent that our tax authority has nothing left to tax.
The owners of both the Zimbabwean and the Mauritian companies, being the Russians, would have moved the income from Zimbabwe, the high tax jurisdiction to Mauritius, the low tax jurisdiction and thus avoid paying taxes. The income generated in Zimbabwe would have been shifted to Mauritius.
However, at the end of it all, the income still belongs to the Russian company.
This is a strategy commonly used by multinational corporations. Those who invest across borders are able to move income around the world with the aim of making high profits after all tax obligations have been met or avoided.
This gives rise to another question; to what extent should a corporation be allowed to organize its affairs in order to pay the least amount of taxes? Taxes are a major source of income for a government.
The government needs this money to provide services to those who reside within its jurisdiction. Once the tax base is eroded through profit shifting a government will not be able to raise taxes that correspond to the economic activity in the country.
Several countries, including Zimbabwe, have attempted to address this problem through the introduction of transfer pricing regulations. The Organisation of Economic Cooperation and Development has identified transfer pricing regulations as an effective way of dealing with profit shifting.
Transfer pricing is an arrangement where subsidiaries of a multinational corporation charge each other for the goods and services they provide to each other.
Our previous example of the Russian, Mauritian and Zimbabwean company is a typical example of where ludicrous transfer pricing practices can take place.
Indeed the Mauritian company will be providing insurance and management consultancy to the Zimbabwe mine but the prices being paid may as well be very high or the services can be irrelevant and constitute fruitless and wasteful expenditure.
The only reason such fees would have been paid is that both companies are subsidiaries to the parent Russian multinational corporation. If the two companies had not been related, there would have been no way the fees would be paid.
There are several not necessarily unlawful ways businesses and individuals often shift profits from one location to the other. Our tax authorities have to catch up and make sure that does not happen.
Advocate Fungai Mgcini Kuzinya LLB LLM is a regional commercial lawyer. He is a Legal Practitioner of the High Court of Zimbabwe and Advocate of the South African and Lesotho High Courts. He can be reached at email@example.com