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Tax Alert Application of tax treaty benefi ts – White Sapphire case

In December 2017, the High Court delivered its eagerly awaited judgment in the case of White Sapphire Ltd and Crane Bank Ltd vs Uganda Revenue Authority. The case sheds fresh (if inconclusive) light on the issue of when a taxpayer can apply a reduced tax rate under a Double Taxation Agreement, particularly in relation to the limitation on benefi ts provision in section 88(5) of the Income Tax Act.

Background facts Issues In March 2014, Crane Bank Limited (Crane), a The specifi c points of law for determination by Ugandan resident company and licensed bank, the court were framed as follows: paid a dividend of UGX 11.2 billion to its largest 1. Whether WSL was entitled to a reduced shareholder White Sapphire Limited (WSL), a tax rate of 10% in terms of Article 10 of the company incorporated in Mauritius. WSL was DTA. in turn 100% owned by an individual resident 2. Whether WSL was not entitled to the in Kenya. Crane withheld tax on the dividend reduced DTA rate by virtue of section 88(5) at a reduced rate of 10% in accordance with of the Income Tax Act (ITA). Article 10 of the Uganda-Mauritius Double Taxation Agreement (DTA). Judgment The URA contended that WSL did not qualify First issue for the reduced DTA tax rate and accordingly The initial question was whether WSL was a Crane should have withheld tax at the standard resident of Mauritius, and thereby entitled to rate of 15%. On this basis, the Uganda Revenue apply the DTA. Authority (URA) raised an assessment against Crane for the additional withholding tax of 5%, The URA had raised arguments asserting April 2018 amounting to UGX 559 million. Both WSL and that WSL’s Kenyan ownership meant that Crane disagreed with the URA interpretation its effective management was carried out in and fi led a joint suit in the High Court by way of Kenya and therefore it was not resident in appeal against the assessment. Mauritius. However the URA did not make any inquiry nor adduce any evidence as to where the management of the company actually took place and appeared to assume this automatically followed the location of the Kenyan shareholder.

The court did not accept this argument and instead considered the question of residence based on each of the specifi c residence criteria as defi ned in Article 4 of the DTA. This was supported by the defi nition of a resident company in the ITA (which defi nes residence, inter alia, based on the place of incorporation). It was an undisputed fact that WSL was incorporated in Mauritius and accordingly the company was held to be a resident of Mauritius.

Page 1 The URA had also used the fact of effective from July 2014, and whether other State. In the current case this the Kenyan ownership to assert that this meant that the law was being would normally entail WSL applying to the plaintiffs were guilty of “treaty incorrectly applied on a retrospective the competent authority in Mauritius shopping” and therefore the whole basis (i.e. to a dividend paid in March (the Mauritius Revenue Authority) to arrangement constituted tax evasion. 2014). The judge rightly dismissed this resolve the matter via agreement with The court did not accept this line of issue as the 2014 amendments had no the URA. argument, based on the fact that the impact on the underlying question. The Interestingly, the judge did not refer DTA had a clear and binding defi nition relevant provision in section 88(5) was to WSL needing to follow this route of residence. In other words, the in effect in March 2014 and accordingly but rather stated that the duty fell question of treaty shopping was not there was no retrospectivity involved. on the URA to resolve the issue with relevant in determining WSL’s residence. Based on the plain fact that 100% of the Mauritius Revenue Authority. The fi rst issue was therefore answered in the underlying ownership in WSL was Specifi cally the judgment directed that the affi rmative. Namely that WSL, as a held by an individual resident outside the URA Commissioner General should resident of Mauritius and the benefi cial Mauritius, the judge indicated that resolve the matter in collaboration with owner of the dividend, was prima facie section 88(5) applied and therefore it the Mauritius Commissioner of Income entitled to apply the 10% tax rate in followed logically that WSL was not Tax. accordance with the plain terms of entitled to the reduced tax rate under In effect therefore the court ultimately Article 10 of the DTA. the DTA. ruled that the two issues could not be Second issue However as the issue involved a concluded and were instead referred dispute as to the application of the back to the URA for appropriate action The second issue concerned the DTA, the correct procedure for WSL under the MAP procedure. application of the “limitation on to resolve the matter was to follow the benefi ts” provision in section 88(5) of It was hoped that the case might address mutual agreement procedure (MAP) the ITA, which (as worded at the time) the longstanding and contentious issue under Article 10 and 26 of the DTA. restricted the application of a DTA as to whether a country’s domestic Accordingly, the plaintiffs’ action could tax reduction where the underlying law can unilaterally override an not be fi led in the High Court. ownership of the treaty entity was international treaty to which it is a held 50% or more by individuals The MAP is essentially a process party (specifi cally whether Uganda resident outside the treaty country. whereby a person who considers that was entitled to dis-apply a DTA benefi t Clearly WSL, being 100% owned by an a State has applied taxation to him in via the use of section 88(5) of the individual resident in Kenya (rather a manner which is inconsistent with ITA). There are arguments based than Mauritius), was in breach of this the DTA may apply to the competent on international and case law that provision. authority in their State of residence to international treaties are binding in their resolve the matter by mutual agreement own right and should take precedence There was some discussion around the with the competent authority of the over domestic law. amendments made to section 88(2)

Page 2 Unfortunately this question was not These criteria are more subjective addressed by the judge since the parties and therefore capable of alternative made no submissions to this effect. interpretation, and accordingly there However, the judge did state that the is broader scope for disputes on the application of domestic legislation in application of section 88(5) in future. proper context is permitted, indicating The MAP process has always been that such an override can be effective. available as an alternative route to What this means for you challenge the non-application of a DTA benefi t (i.e. it could be pursued The decision impliedly supports the separately from the domestic objection URA’s ability to use section 88(5) to and appeal process). challenge the application of DTA benefi ts where the limitation on benefi ts However, it can entail a long and criteria are breached. We therefore complicated process and may not be expect the URA to continue looking the most appropriate approach in every closely at this issue in their audits. case. The judgment indicates that the courts may be reluctant to decide such However it should be noted that section DTA disputes in future and that the 88(5) was substantially rewritten MAP process should be applied as a fi rst with effect from July 2016, so the resort. relevant criteria is no longer underlying ownership but rather benefi cial It remains to be seen whether the URA ownership and economic substance. will proceed to follow the MAP process or will appeal the ruling to the Court of Appeal.

Let’s talk For further insights please get in touch with your usual PwC tax contact or the following:

PwC Uganda - Tax Services Francis Kamulegeya Country Senior Partner +256 312 354400 / +256 414 236018 [email protected]

Crystal Kabajwara Senior Manager +256 312 3544000 / +256 414 236018 [email protected]

Trevor Lukanga Manager +256 312 3544000/ +256 414 236018 [email protected]

This publication has been prepared as general information on matters of interest only, and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specifi c professional advice. © 2018 PricewaterhouseCoopers Limited. All rights reserved. In this document, “PwC” refers to PricewaterhouseCoopers Limited which is a member fi rm of PricewaterhouseCoopers International Limited, each member fi rm of which is a separate legal entity.

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