KENYA SETS THE STAGE FOR IMPLEMENTATION OF THE DIGITAL SERVICES TAX
As the OECD and G20 countries continue to deliberate on finding a consensus on a universally acceptable framework for the taxation of the digital economy, Kenya is moving ahead with a unilateral tax on digital services. The laborious roll out of statutory measures to facilitate the taxation of income over the last few years demonstrates the challenges that await the actual implementation of the measures from 1 January 2021.
Kenya first contemplated subjecting income accruing in the digital sector to tax in 2019, when the Finance Act 2019 (the “FA 2019”) amended the Income Tax Act to specifically provide that income accruing through a digital market place is chargeable to income tax. The FA 2019 introduced the definition of a “digital marketplace” to mean a platform that enables the direct interaction between buyers and sellers of goods and services through electronic means. Further, it provided that the Cabinet Secretary (CS) of the National Treasury shall make regulations to provide for the implementation mechanism.
Fast forward to 2020, Parliament enacted the Finance Act 2020 (the “FA 2020”) which inter alia introduced a Digital Services Tax (the “DST”) with effect from 1 January 2021 which is payable by persons whose income from the provision of services is derived from or accrues in Kenya through a digital market place.
The DST will be chargeable at the rate of one point five percent (1.5%) of the gross transaction value of the service and is payable at the time of the payment transfer for the service to the service provider. The Report by the Finance Committee of the National Assembly on the FA 2020 stated that the exchequer anticipates raising KES 2 Billion from the DST. The DST is an advance tax for resident persons and non-resident persons with a Permanent Establishment (PE) in Kenya and a final tax for non-residents with no PE in Kenya.
Pursuant to the requirement to publish regulations on the implementation mechanism for the tax on digital services under the Income Tax Act, the CS recently published the Income Tax (Digital Service Tax) Regulations, 2020 (the “DST Regulations”). We highlight the salient features below:
The DST Regulations will apply to a wide range of digital services that individuals and businesses consume every day. They propose to apply to “streaming and downloadable services of digital content; transmission of data collected about users which has been generated from such users’ activities on a digital marketplace, however monetized; provision of a digital marketplace, website or other online applications that link buyers and sellers; subscription-based media including news, magazines and journals; electronic data management including website hosting, online data warehousing, file-sharing and cloud storage services; supply of search-engine and automated helpdesk services including supply of customized search engine services; tickets bought for live events, theatres, restaurants etc. purchased through the internet: online distance teaching via pre-recorded medium or eLearning, including online courses”.
In addition, the DST regulations are proposed to apply to any other service provided or delivered through an online digital or electronic platform but excluding such services that are subject to withholding tax under the Income Tax Act. This means that payments made for sales promotion, marketing and advertising services chargeable to withholding tax under the Income Tax Act will not be subject to the DST. It is important to note that this is a wide definition that is likely to net a wide range of digital services to the DST.
An interesting exclusion from the chargeable services, are the services provided by a licensed financial service provider carrying out online services which facilitate payments, lending or trading of financial instruments, commodities or foreign exchange. This is likely because the licensing requirements require the players in the sector to be established in Kenya thus creating the necessary nexus for taxation.
The DST Regulations propose that a person shall be subject to DST if the person provides or facilitates provision of a service to a user who is located in Kenya. A user will be deemed to be located in Kenya if they (a) access the digital interface from a terminal (device) located in Kenya; (b) pay for the service using a credit/debit facility by a Kenyan company; (c) acquire the services using an IP address registered in Kenya or an international mobile phone country code assigned to Kenya; or (d) have a business, residential or billing address in Kenya.
We note that the DST regulations do not state whether these requirements are cumulative or disjunctive, we however think that they are disjunctive and provided any of the threshold is met, the person shall become chargeable.
Gross Transaction Value
As highlighted earlier, the FA 2020 introduced DST to be chargeable on the gross transaction value of a service. However, there was no definition of gross transaction value.
The DST Regulations propose to distinguish the gross transaction value of services provided by (i) a digital service provider, to be the payment received as consideration for the services and (ii) a digital market place provider, to be the commission or fee paid for the use of the platform. For context, the DST Regulations distinguish the two providers by drawing the line between direct providers of digital services and providers of platforms that allow for the interaction of buyers and sellers of digital services.
Whereas this distinction is to be applauded, we think it is inadequate and should be further defined. Further, the DST Regulations fail to recognize that certain platform owners also provide services directly to consumers and the Regulations should thus include such hybrid digital service providers, although it may be implied that the gross transaction value will be determined in accordance with the specific payments.
An important proposal on the gross transaction value, is that it will not be inclusive of the Value Added Tax (VAT).
The DST Regulations stipulate that payment of DST shall be the liability of the digital service provider or any person that collects the payments for digital services. This is particularly peculiar where a digital service tax agent is appointed, as they are merely agents/intermediaries of the State, which is essentially different from the traditional withholding tax regime that focuses on the payor.
The DST Regulations provide that a non-resident person without a PE may appoint a tax representative to account for the DST. Interestingly, whereas the Income Tax Act stipulates that the DST will be payable at the time of making the payment for the service, the DST Regulations propose that a tax representative appointed by a non-resident without a PE will be required to remit the tax due by the 20th of the month following the end of the month that the service was offered. There appears, therefore, to be a contradiction between the Income Tax Act and the regulations which will need to be addressed before the regulations are ratified.
Digital Service Tax Agents
The FA 2020 amended the Tax Procedures Act, 2015 (the TPA) to provide for the appointment of digital service tax agents to deduct, collect and remit the DST collected. The DST agents seem to be the compliance messiahs that the Kenya Revenue Authority (the KRA) is depending on for effective implementation of the DST. The DST Regulations propose the creation of a digital service tax collection service that DST agents will use to collect and remit the DST to KRA. Where a DST agent is appointed by the Commissioner, a digital service provider may be required to use a payment service provider that is connected to the DST collection service of an appointed DST agent for processing payments made in respect of the digital services provided.
It appears from the DST Regulations that KRA will roll out a digital service tax collection service that will give it visibility of the payments and transactions related to digital services in what might turn out to be an important enforcement mechanism. KRA has been struggling with gaining visibility of digital services transactions, thus creating an enforcement hurdle. As the pandemic tilts transactions towards digital payments and as the digital economy slowly integrates into the main economy eroding any need to ring fence it, the collection service may become the most important data source for the KRA. This is however dependent on its implementation and data protection issues.
Returns and Records
The DST Regulations propose that digital service providers or their tax representatives submit a return indicating the value of transactions and the tax be remitted by the 20th of the month following the end of the month that the digital service was offered. As mentioned above, there does seem to be a contradiction between the provisions of the law and what is proposed by the regulations. In addition, a person required to deduct, account and remit the DST to KRA will be required to keep records for a period of five years from the end of the reporting period.
Offences and Penalties
Lastly, the DST Regulations propose that a person who fails to comply with the Regulations may be liable to restriction of access to the digital market place in Kenya until such obligations are fulfilled. This is may not be a sufficient penalty as consumers could easily use Virtual Private Networks (VPNs) to bypass the restrictions. But on the other hand, VPN services are also likely to be covered under chargeable services.
The Proposed DST Regulations sets the stage for the implementation of the DST beginning 1 January 2021 and Kenya will be joining countries such as Japan, India, Turkey and Angola that have proceed to enact unilateral digital tax laws. The net effect is that consumers may end up paying higher costs for digital services or businesses in the digital sector might absorb the cost at the expense of their bottom lines. Whereas we anticipate enforcement challenges due to inter alia the lack of visibility by KRA of digital transactions related to digital services and the inadequacy of punitive measures for non-residents without a PE in Kenya – any additional revenue collected by the exchequer is a positive step as Kenya grapples with a fiscal crisis. In addition, the DST achieves the constitutional principle of equity by subjecting foreign players in the digital sector that have long taken advantage of the inadequacy of the traditional tax framework by paying zero or nominal tax on income derived from Kenya.