Assessing Uganda’s proposal to exempt start-up businesses from Income Tax

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OPINION

By Edward Balaba

One of this year’s tax proposals tabled by the Minister of Finance before the Parliament of Uganda for consideration is an income tax exemption for start-up businesses established by citizens.

The business income will not be subject to tax for a period of three years. The exemption targets Micro, Small and Medium Enterprises (MSMEs) and enterprises of citizens only.

A citizen for income tax purposes includes citizens of a partner state of the East Africa Community (EAC) or entities incorporated within EAC states, with at least 51% shares held by an EAC citizen.

There is debate among tax policy critics regarding this generous inclusion of all EAC citizens without corresponding reciprocal measures from other states. However, this extended citizen definition could attract investments into Uganda from EAC citizens who are keen on taking advantage of the incentivised tax environment.

To qualify for the exemption, three conditions must be satisfied – being, that the business should be registered with an investment capital not exceeding sh500m; the citizen or their affiliate should not have previously benefited from the exemption; and the citizen should file a tax return including a business information return.

The combined effect of these conditions is to limit the exemption to MSMEs that have formalised both their business registration and tax compliance obligations (return filings).

The specific reference to filing business information returns appears intended to facilitate the disclosure and collection of information for statistics or other official purposes.

At its face value, this tax policy intervention signals deliberate government support for local enterprise and investment by its citizens. The tax savings from this tax relief could be ploughed back to spur business growth at the business level and promote economic growth and economic development at the country level.

However, some preconditions and parameters set for the tax exemption warrant further review and reconsideration.

Notably, it is curious that the tax exemption is valid for only three years.

Contrast this with the indefinite tax exemption provided for largescale investments made by citizens (of over $300,000 or $150,000 for upcountry investments) under specific sectors like commercial farming; agro processing; selected manufacturers; vocational and technical institutes; logistics and warehousing; specialised hospitals, as well as information technology businesses.

The requirements for the indefinite exemption offered to large-scale investments, which include the employment of at least 70% citizens accounting for at least 70% of the wage bill and using at least 70% locally sourced raw materials, would similarly be satisfied by most of the MSMEs.

There is hence no justification for the difference in exemption periods. From a business operational perspective, it takes time for any business to break even, and it is not uncommon to post little or nil profits or even losses in the first years of operation.

Therefore, where a startup business applies for exemption for its initial three years of operation, there may be little or no tax amount to be relieved. The existing tax-deductible expenses, like startup costs, further reduce any taxes payable in the initial period.

This tax exemption period for MSMEs should be longer than the proposed three years.

The requirement that the citizen or their affiliate should not have previously benefited from the exemption will be cumbersome to implement.

No guidance has been provided on how this ‘double–dipping’ will be determined, controlled or monitored.

If an individual enjoys the exemption in an individual capacity, will a company in which that individual is a shareholder with other citizen–shareholders (who have not previously benefited) be precluded from the exemption?

Even more problematic is, what is the meaning of an affiliate? Does it cover relations of every kind? How will URA ascertain these relations to prevent a second bite at the exemption?

Isn’t leaving such a critical issue to the determination and discretion of URA a recipe for controversy?

These issues need to be ironed out to enhance the utility of this tax exemption. Hopefully, the Parliament of Uganda will discharge this obligation before passing the Bill into law.

The writer is a Tax Partner, MMAKS Advocates – ALN Uganda