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Weeks back, I read a tweet that went like this; “I asked some boda guy why he parked within a roundabout, and he said you can’t be orderly in an environment where everyone is out of order.” And a response under that tweet was something like this; “That’s right. It’s difficult to maintain legality as an individual when illegality is the norm. Similarly when corruption is the norm the uncorrupt get ejected from the system.”
This article is not about bodas or corrupt politicians but about corporate corruption and kickbacks in corporate dealings and I am trying to answer one simple question; Are kickbacks in corporate dealings tax deductible as expenses properly incurred in the course of the trade cycle?
The simple general answer is NO. Illegal payments, bribes, and kickbacks are not deductible expenses under Ugandan law, even though at law these illegal trades and earnings are taxable.
However, the answer from me is ‘IT DEPENDS’. And it depends on this one factor; which is, how meticulously the business is being advised. A kickback is a kickback and no amount of sanitisation can give it legitimacy. However in taxation, what matters is that chargeable income is minimised in whatever legal way possible so a payment might be questionable from an ethical point of view, but from a taxation perspective what matters is the character of the transaction at tax reporting.
The culture of corporate corruption in Uganda has taken hold and has many businesses in a messy financial situation as a result of the struggle that comes with accounting and tax treatment of kickbacks. From loan officers in banks who seek to claw back a portion of the funds disbursed to borrowers as a precondition to approving loans, managers in large corporate entities with the ultimate discretion on decisions on who gets contracts to supply services to their employers or account payables and receivables handlers who decides who gets paid and when or which dealer/distributor gets favourable credit terms and so forth. All this is happening and businesses are trapped with the question of how to treat these payments in their books of accounts. And this is mostly SMEs.
Kickbacks and Taxation
Businesses are finding themselves trapped in a double-edged sword situation, where refusing to partake in these illicit transactions means losing lucrative opportunities while succumbing to the pressure to pay kickbacks undermines the financial integrity of transactions and creates a taxation conundrum for the business paying the kickback especially if the kickback forms a sizeable component of the transaction.
And so such businesses are stuck with expenses which they are unable to account for in their tax returns because they can not be explained and yet these expenses were properly incurred in the course of trading but as kickbacks. And they had to choose to pay the kickbacks or lose business opportunities altogether.
And because it’s a kickback the recipient does not want any record of it anywhere. If the business does not pay it then the relationship will suffer because the recipient will probably move the business to another firm which will gladly pay up. So the dilemma is to pay the kickback and the transaction won’t make commercial sense or don’t pay the kickback and risk losing the business altogether. This creates a Catch-22 for businesses, a classic case of heads you lose, tails you lose.
The repercussions of this systemic issue are far-reaching, as businesses find themselves ensnared in a struggle to account for and treat a transaction as wholly legitimate, even though a portion of it is done off record on their side(the kickback component).
Electronic Fiscal Receipting and Invoicing Solution (EFRIS) has added a layer of complexity since the Uganda Revenue Authority now has third-party records from the other party’s filings through the EFRIS system upon which to put the business to account when auditing returns. Of course, the other party will be reporting the transaction in its accounting and tax filings as it happened.
Here’s an illustration;(And this is a hypothetical illustration)
Supposing Company A supplied MTN with advertising services worth UGX 500,000,000/- and charged VAT(18%) of UGX 90,000,000/- and MTN Managers clawed back UGX 90,000,000 as a kickback, this means company A has dug into its own pockets to account for this much VAT worth UGX 90,000,000/- to URA because what was collected as VAT on the transaction was subsequently paid out as a kickback, even though the transaction was competitive on the side of MTN from a commercial point of view.
AND it gets more interesting under income tax; Much as company A just incurred an expense in the course of trade because had it not been for payment of the kickback, it probably wouldn’t have got the contract, but it can not take into account this expense in the computation of its income tax liabilities since the rules of compliance rules kick in to deny the company this deduction since at least on paper, this transaction does not even exist and officially never happened.
Instead, the UGX.90,000,000 will now get taxed as income since on paper, company A was paid UGX.590,000,000/- by MTN and NOT UGX 500, 000,000/- which it actually earned on the transaction.
From the illustration above, it is evident that despite the transaction yielding little to no commercial sense due to the kickback element, the business is compelled to pay tax on it as if it were a legitimate, profitable endeavour. This disjunction between economic reality and tax obligations creates a problematic scenario, forcing businesses to grapple with the paradox of paying taxes on essentially non-existent profits.
I’ve witnessed firsthand the dilemmas faced by businesses compelled to make unscrupulous choices. This a stark reality when legitimate expenses which ordinarily would be paid out as fees incurred during routine business transactions become unsuitable for inclusion in tax returns and leave the business grappling with expenses that, while legitimately incurred in the course of trade, couldn’t be openly acknowledged due to their nature as secret kickbacks to the recipients.
The options presented to these businesses are, either succumb to the demands of corporate corruption or risk losing valuable contracts and relationships integral to the survival of the business. The unspoken agreement is that kickbacks should remain entirely off the record, creating a clandestine network that thrives on secrecy in corporate Kampala.
For businesses caught in this conundrum, the decision to pay the bribe jeopardizes the commercial viability of the transactions, as the added expense distorts the financial structure of the business. On the other hand, refusing to comply with these unethical practices results in the loss of crucial business relationships, with competitors more than willing to pay the demanded kickbacks taking the reins.
So is it possible to deduct kickback payments as expenses?
Of course, there’s a way around this dilemma but it calls for devising a way to give these expenses an accounting and tax treatment that ensures the business gives such a payment an accounting treatment which makes it possible to take the expense into account or at least the bulk of it into account when accounting for tax. The challenge lies in devising tax planning strategies that allow these payments to be accounted for and treated in a manner that aligns with both business sense and legal compliance and this may only be achieved through taking transaction tax advice on all the facts beforehand, or even altering corporate structure altogether.
Certain commercial, legal and tax implications of a transaction as a whole may not easily be obvious to an ordinary businessman until it is too late, not forgetting the likelihood of getting caught up in outright criminalised activities, and so businesses are implored to get into the habit of taking routine advice.