Kenya’s Court of Appeal declares Minimum Tax Unconstitutional

A few hours ago, the Kenyan Court of Appeal in Civil Appeal No. E591 of 2021, Kenya Revenue Authority v. Stanley Njuguna Waweru, Kenya Association of Manufacturers and Others nullified Kenya’s minimum tax regime adopted in the Finance Act, 2020. The effect of the judgment is that minimum tax is unconstitutional and cannot be enforced.

Section 12D of the Kenyan Income Tax Act was introduced in 2020 to create a new tax, payable quarterly at the rate of 1% of revenues by every company regardless of whether they earn profits or not.

In hearing an appeal to the Court of Appeal from the High Court’s nullification of minimum tax in 2021, the Court of Appeal held that minimum tax was both (i) introduced for an improper and unconstitutional purpose contrary to Article 201(b) of the Constitution of Kenya, 2010 (the Constitution); and (ii) violates taxpayers’ rights to human dignity as enshrined in Article 28 of the Constitution.

Minimum Tax was introduced for an improper and unconstitutional purpose

The Court of Appeal determined that Parliament's rationale for introducing minimum tax was to expand the tax base to have as many people as possible, including loss-making companies, share the tax burden.

In so doing, the Kenya Revenue Authority (KRA), sought to bring to tax certain alleged tax-evading entities that adopt aggressive tax planning structures that allow them to avoid paying corporate income tax on profits by perennially remaining in loss-making tax positions. KRA therefore sought to curb tax evasion by ensuring all loss-making entities must pay minimum tax.

The Court of Appeal upheld the High Court’s finding that minimum tax was introduced for an improper purpose that violates Article 201(b) of the Constitution. Article 201(b) provides that the Kenyan public finance system shall promote an equitable society where the burden of taxation is shared fairly.

By introducing a blanket minimum tax to prevent tax evaders from escaping their obligations as well as to subject all loss-making entities in Kenya to the same minimum tax, innocent loss-making taxpayers would unfairly bear a heavier tax burden than other taxpayers contrary to Article 201 of the Constitution.

Minimum Tax violates taxpayers’ rights to human dignity

Moreover, minimum tax contravenes the right to dignity enshrined in Article 28 of the Constitution. The Court of Appeal reiterated that respect for dignity means not being devalued as a human being or treated in a degrading or humiliating manner as expressed by South African Judge Arthur Chaskalson in his article Dignity as a Constitutional Value: A South African Perspective . As such, there can be no lesser humiliation than the imputation of criminal conduct for one who is grappling with a difficult economic environment.

Accordingly, given that the imposition of minimum tax would lump innocent business that are in a loss-making position with alleged criminal tax evaders, the operation of minimum tax under the impugned section 12D of the Kenyan Income Tax Act violates the innocent taxpayers' right to human dignity.

The Court’s other findings

In the Court of Appeal’s view, imposition of minimum tax does not result in double taxation, as the High Court had found. It was held that the High Court failed to set out which two taxes of a similar nature were imposed on the same income and in the same period to justify the conclusion of double taxation. The Court of Appeal accepted KRA’s submission that once a loss-making entity becomes profitable, minimum tax would no-longer be payable and corporation tax would instead apply.

This conclusion seems doubtful based on the facts of the case. The mere fact of the difference in terminology between ‘minimum tax’ and ‘corporate tax’ does not change their underlying status as both, essentially, corporation tax. Minimum tax is in effect corporation tax paid quarterly and in advance – prior to the taxpayer assessing the ultimate corporate tax liability at year end.

Should an initially loss-making taxpayer turn profitable later in the year, there is no mechanism to recover the minimum tax already paid or take a tax credit or tax deduction in assessing such a taxpayers corporate income tax liability at year-end. Effectively, in addition to paying corporate income tax for the year, the taxpayer will have paid an additional corporate income tax (in the name of minimum tax) of 1% of revenue for the period in which such a taxpayer was loss making. Prima facie, this is double taxation. The Court of Appeal’s finding seems to fly in the face of the fact that these very same revenues that minimum tax is pegged upon will have been subjected to corporate income tax at year end, after duly adjusting for taxable expenses.

Additionally, the issue of the legality or otherwise of the KRA’s Minimum Tax Guidelines which was a key contestation before the High Court appears not to have been considered and determined by the Court of Appeal.

In sum

Punishing business entities who are already battling with a stifled economy because of a few miscreants is the epitome of unfairness. Given the nature of the minimum tax, and the circumstances under which it is to be levied:

• Applying minimum tax on gross turnover as opposed to gains or profit would lead to a situation where a loss-making taxpayer, would bear a heavier burden than on other taxpayers contrary to the spirit of Article 201 of the Constitution; and
• Lumping innocent business that are in a loss-making position with tax evaders in a bid to expand the tax base violates the innocent taxpayers' constitutional right to dignity.

The Court of Appeal therefore upheld the High Court’s declaration that section 12D of the Income Tax Act as introduced by the Finance Act, 2020 and amended by the Tax Laws Amendment (No 2) Act, 2020 is unconstitutional, null and void.

* The author is an Advocate of the High Court of Kenya and a Tax Consultant.