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New 30pc dividends tax shocker hits investors

by kenya-tribune

Market News

Times Tower. FILE PHOTO | NMG 

A new 30 percent tax on dividends paid by subsidiary companies has caught investors by surprise, sending some firms into a panic distribution of cash to shareholders to beat the effective date of January 1, 2019.

Amendments to the Income Tax Act through the Finance Act 2018 made it a requirement for Kenyan firms to pay a 30 percent tax on dividends received from their subsidiaries once the proceeds are distributed to shareholders.

A company could previously receive dividends without paying withholding tax provided it maintained an ownership of more than 12.5 percent in the subsidiary.

Most firms listed on the Nairobi Securities Exchange (NSE) #ticker:NSE have structures, including subsidiaries, that will see them pay the new tax. NSE firms pay gross dividends of more than Sh95 billion annually, a substantial part of which will now attract the new levy.

Banks, which in recent years formed non-operating holding companies to overcome regulatory and capital constraints in their previous structures, are among the hardest hit under the new tax measures.

The law is expected to raise billions of shillings in additional revenue for the government but companies are also taking measures to minimise their taxes, including freezing payouts to shareholders or making distributions ahead of enforcement of the tax.

“The main issue is that a dividend paid to a holding company and then paid to ultimate shareholders will be caught by the new tax,” said Nikhil Hira, a director at law firm Bowmans.

“If this was really the intention, a number of the structures in Kenya today have suddenly become more expensive.”

Previously, such dividend payments were liable to a maximum tax of 42.8 percent, but companies rarely paid it since the law also allowed them to build tax credits that would effectively offset the liability.

Accountants have advised their clients on short- and long-term strategies to take to minimise their tax burden in the wake of the changes.

Banking group I&M Holdings, for instance, last week declared a rare interim dividend of Sh1.6 billion or Sh3.9 per share on December 31, 2018, a day before the 30 per cent tax became effective.

“I&M #ticker:I&M decided to bring forward the dividend to shield it from the tax,” a source with direct knowledge of the matter told the Business Daily.

The cash came from the company’s local banking subsidiary I&M Bank (Kenya) Limited, the source added. The dividend will be paid on May 23 to shareholders on record as of February 28.

The amount to be paid is more than the Sh1.4 billion or Sh3.5 per share that the NSE-listed firm paid for the year ended December 2017, underlining the company’s determination to stop the new tax from derailing its distribution to shareholders.

Others facing the same exposure as I&M are Equity Group #ticker:EQTY, KCB Group #ticker:KCB, NIC Group #ticker:NIC, Britam and Centum Investments #ticker:ICDC, owing to their structures as holding companies with several subsidiaries. Mr Hira said that going forward, companies will need to ensure that they focus on making distributions out of gains and profits that have already been taxed if they wish to sidestep the 30 percent distribution tax. “Before making a distribution, it is important to analyse the gains and profits out of which you will make the distribution,” Mr Hira said.

“To the extent the distribution is out of gains and profits that have not been taxed, you will need to pay the 30 percent distribution tax. Careful planning and documentation could potentially avoid this.”

Holding companies whose only source of income is dividends face the biggest penalty when making distributions to shareholders.

Mr Hira said that the law needs to be changed urgently to avoid its unintended consequence of penalising holding company structures.

Banks are among the companies facing the 30 per cent tax bill upon distribution of dividends received from their subsidiaries, with scores of lenders having formed non-operating holding companies to sharpen their management focus and capital allocation processes.

These structures have freed the parent firms to branch out into non-banking businesses, including stock brokerage and property investments.

They also allow banks to overcome the restrictions placed on them under the Banking Act.

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