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Income tax primarily relates to profits or gains arising from business activities, property ownership and employment. While there are general principles applied in determining what is taxable, overall, a tax rate is applied to a gain. In this regard, items designated for business otherwise referred to as stock in trade are pivotal in determining whether there is a gain or not. Therefore, there is a distinction between assets held for a business, investments which yield taxable income and private property the sale of which is conventionally agreed should not be taxed.
The kind of private property which should not be taxed includes private residences, land used for subsistence farming and other private uses such as family land for future generations, burial grounds etc. What constitutes non-business assets is wide and difficult to define but every tax code attempts to define what constitutes a business asset.
The proposed amendment in Clause 3 of the Income Tax (Amendment) Bill of 2024 introduces a radical shift from traditional taxation of income by introducing a tax on non-business assets which are already covered by the Stamp Duty Act, meaning that the same item is taxed under two different Acts on the same tax base. The proposed amendment introduces Section 5A, which imposes a 5% tax on the profits derived from the disposal of non-business assets. This tax applies to gains resulting from the sale of shares in a private company, land in cities or municipalities (excluding the principal place of residence), and rental properties subject to rental tax under Section 5 of the ITA.
Uncertainties arise as the proposal neither defines a principal place of residence nor provides clarity on its determination. This ambiguity is seen where the sale of land attached to a residence might be exempt for one individual but taxable for another. Consider a scenario where Richard possesses an acre of land in Gayaza inherited from his forefathers. On this land is a residential house with a banana plantation and a portion of it vacant. If Richard opts to sell a portion of the land at UGX5,000,000 to raise tuition for his daughter at the University, the said transaction would not be subject to tax on the basis that it is within the principal place of residence. In contrast, Jane also a resident of Gayaza owns various parcels of private land. One with her residential home, another not adjacent, has a banana plantation that provides food for her family. Jane sells part of the banana plantation at UGX5,000,000 to pay school fees for her school-going children and the purchaser declares the transaction while paying stamp duty. Whereas there is no business gain to be received by Jane who expensed all the money as soon as she received it, URA would not consider the said property as part of the principal place of residence, hence subjecting the proceeds to tax under the proposed Section 5A. This discriminatory treatment of taxpayers contravenes the taxation Canon of equity/fairness which requires that similar individuals be treated similarly.
The proposal distorts the idea of Income tax which is imposed on chargeable income that includes business income, employment income and property income. It seeks to tax items that are ‘non-gainable’ yet they are already exempt under Section 21(1)(k) of the Income Tax Act and subject to Stamp Duty at the time of disposal. Exclusion of certain areas from the provision considered not to be cities or municipalities (consider also, that the idea of municipalities and cities is yet to be operationalised for some areas) amounts to discrimination.
In addition, the Bill treats rental property as a non-business asset yet rental property generates business income. The question is, why such a property is treated as a business asset for purposes of rental tax and on the other hand as a non-business asset for purposes of capital gains tax? Treating rental properties differently for purposes of rental tax and capital gains tax is likely to create uncertainty among taxpayers.
From a legislative drafting point of view, the proposed provision is positioned under Section 5A of the bill, immediately following the Section on rental tax in Section 5 of the ITA. However, the gist of the provision pertains to the disposal of property, which would logically be expected to fall within the scope of Part VI of the ITA that governs gains and losses on the disposal of assets.
Taxing gains from non-business asset disposal has significant implications, potentially stifling investment incentives, distorting market dynamics, and imposing burdensome compliance costs. To navigate these complexities effectively, a balanced approach is essential- one that not only addresses revenue generation but also carefully weighs broader economic impact. Such an approach is vital for fostering sustainable development and ensuring that tax policies support rather than hinder economic growth in an already struggling economy. It could be argued that this proposal is better addressed under the Stamp Duty Act and/or potentially under Local Government. Notably, taxing the sale of shares presents a good policy although implementation poses challenges, particularly regarding valuation.