Business restructuring is one of the corporate strategies used by management in ensuring profit maximisation within a business organisation, and ensuring tax optimal contribution to the government.
Business restructuring generally may take the form of financial restructuring, mergers, de-mergers, takeover, portfolio restructuring, operational restructuring, divestment, etc. Depending on the objectives of management, any, or a combination of the above forms of restructuring may be used by management in achieving its desired end.
During a restructuring, it is typical that the legal ownership of assets, and the beneficial ownership of shareholdings in a company may move around, thereby resulting in certain tax implications either for the entities moving around assets, or for the beneficial owner of shares sold, or released.
Generally, where assets move between two or more entities during a restructuring, certain taxes are implicated, and must be paid to the relevant tax authorities. These taxes include Value Added Tax (VAT) chargeable on the sale of goods, Capital Gains Tax (CGT) payable on gains accruing from the disposal of chargeable assets, balancing charge where the disposal amount of the assets exceeds the tax written down value (TWDV) of the assets, and stamp duties payable on instruments of transfer, or increase in share capital to accommodate a restructuring.
Notwithstanding the implicated taxes listed above, section 29(9) of the Companies Income Tax Act (CITA), section 42 of the Value Added Tax Act (VATA); and section 32 of the Capital Gains Tax Act (CGTA) all as amended by the Finance Act 2019 (FA 19), and section 104 of the Stamp Duties Tax Act (SDA) provide for certain reliefs to be enjoyed by related entities involved in a restructuring exercise, for the purpose of better management, and where such entities have been so related for at least 365 days before, and after the restructuring.
Dissecting the reliefs in section 29(9) CITA, the most important relief is the provision that the asset disposed, will be deemed to have been transferred at a value equal to the TWDV of the asset. The tax advantage of the transfer of the assets at TWDV, is the fact that balancing charge will not be applicable, since the difference between the TWDV, and the deemed disposal value will be zero.
It is also important to note that, the exemption from the application from commencement and cessation rule, may no longer be relevant since the amendment of section 29(3) and (4) by FA 19 whose application no longer results in double taxation of commencement and cessation profits.
The provisions of the law on the exemptions from VAT, and CGT, as provided by the VATA, and CGTA respectively, was an introduction by the FA 19.
In the case of the exemption relating to CGT on chargeable assets prior 2019, the old section 32 of the CGTA provided that where shares are exchanged for monetary compensation in a restructuring, gains from the disposal of shares shall be liable to tax.
However, CGT will not be applicable in the instance of shares exchanged for shares (bear in mind that CGT was not applicable on gains from disposal of shares at this time). Fast forward to 2021, the provision of the old section 32 no longer exists, as gains from disposal of shares are now taxable under the new section 32 of the CGTA, as amended by the Finance Act 2021.
Prior to FA 19, there were no specific provisions in the VAT Act exempting assets exchanged in a related party restructuring from VAT, and the FIRS used their discretion in granting this exemption on a case-by-case basis. The FA 19 has now provided for a clear exemption in section 42 of the VATA.
To give clarity to tax implications in mergers and acquisition, the FIRS had issued two information circulars; information circular (IC) 2021/10 (clarification on commencement and cessation rules and business organisation), which was issued after the enactment of FA 19; and IC 2006/04 (Tax Implication of Mergers and Acquisition). The IC 2021/10 only gave explanatory notes in its paragraphs 4, on the requirements expected from applicants seeking to enjoy the restructuring exemptions under the law.
As made clear by the IC 2021/10, applicants seeking these exemptions must apply to the FIRS in writing and must prove to the FIRS that the participating entities in the restructuring enjoy common control and have been so related for not less than 365 days.
Where the conditions are met, the circular provides as follows; (a) commencement and cessation rule will not apply to the restructuring; (b) assets will be deemed to have been transferred at TWDV; (c) VAT will not apply on the transfer of assets; and (d) CGT will not apply to the transaction. It should be noted that the IC 2021/10 focused only on the amendments introduced by the FA19.
In essence, it is important to visit the IC 2006/04, and this writer will focus only on the relevant provisions of the IC 2006/04 which were not highlighted in the IC 2021/10.
The IC 2006/04 clarified the position of the FIRS, with respect to other tax issues which arise during restructuring, and which are not clear by the letters of the laws. One of such issues is the treatment of unabsorbed capital allowance, and losses during restructuring.
Whilst these may constitute a deferred tax asset in the books of one, or both merging entities; or the absorbed entities, and may form a part in the positive valuation of purchase consideration, the FIRS stated in the IC 2006/04 that it will not permit the use of the deferred tax assets by an entity, other than the original entity which owned the deferred tax assets.
This implies that companies going through restructuring with valuable deferred tax assets, should consider making an entity with sizable, deferred tax assets, the surviving entity, whilst also ensuring that such choice, meets its overall commercial objectives.
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Other issues addressed by IC 2006/04 is the non-deductibility of restructuring expenses, such as payment to Securities and Exchange Commission, Nigeria Stock Exchange, Central Bank of Nigeria, and fees paid to professionals like lawyers, stockbrokers, financial advisers etc. as this do not meet the conditions for deductibility under section 27 of the CITA.
It is also important to point the exemption from the payment of stamp duties, on increased share capital, where the restructuring meets the condition as provided in section 104 of the SDA. The IC 2006/04 also referred to the tax indemnity provision in section 29(9) of the CITA, and this must be given by the surviving entity.
Business restructuring is a veritable tool in ensuring operational efficiency and advancing the business objective of management in ensuring increased returns to shareholders. Before undertaking a restructuring, and in making a decision on whether to go by way of an asset or share deal, management must undertake a tax efficiency analysis of such restructuring options, to ensure that the chosen strategy brings the best optimal returns to shareholders.
Obajimi, a lawyer and chartered accountant, writes from Lagos
