Rethinking Tax Treaty Policy in Africa Post-AfCFTA

The African Continental Free Trade Agreement (AfCFTA) which came into force on 30 May 2019 creates the single African economy which makes the AfCFTA the largest free trade agreement in history. The AfCFTA is in line with the continental goals and aspirations of the African Union’s Agenda 2063. According to a report by the United Nations Economic Commission for Africa (UNECA), by eliminating import duties alone, the AfCFTA has the potential to boost intra-African trade by 52.3 percent. This figure is remarkable when we consider that intra-African exports currently stand at an abysmal 16.6 percent which is disappointingly low when we consider the figures from other regions of the world such as Europe and Asia where it is 68 percent and 59 percent respectively.

With intra-African trade increasing exponentially and various African markets opening up to each other for the first time, African businesses will have the opportunity to trade across various African markets. It will also be possible for investors from outside the continent to establish businesses in one country and have the opportunity to trade from that country with other African countries. This is attractive especially for consumer-focused businesses given the sheer population and resultant market size on the continent. As a result of this increased access to other African markets, an important question for investors and businesses (currently not covered by the AfCFTA) will be the issue of taxation of profits. Businesses and investors will have to consider whether their profits will be taxed doubly. With the removal of tariffs and trade barriers in the implementation of the AfCFTA, double taxation of profits can act as a disincentive to trading across markets. For instance, will a Nigerian business accessing the Ghanaian, Zambian and Kenyan markets be required to pay taxes on its profits to the Governments of these countries and the Nigerian government at the same time?

Fortunately, it is possible for governments to encourage foreign investment and cross-border economic activity by signing Double Tax Agreements (DTAs). When countries A and B sign DTAs with one another, they are able to allocate taxing rights for trade that occurs with a resident of country A in country B’s market and vice versa. By so doing, they are able to ensure that investors and businesses operating in both countries are not doubly taxed on their profits. Consequently, through the DTAs (with the risk of double taxation out the door), these countries are able to attract foreign investors. Although an existing DTA framework is not the only factor investors look at, it is one of those factors. Security, infrastructure, etc., also play a role. Countries also use DTAs to avoid tax evasion. When taxing rights are effectively allocated in a DTA, it is easier to enforce a tax obligation on a business operating across the markets of the DTA parties.

However, it is also worth mentioning that DTAs have been exploited by foreign investors and multinational enterprises to achieve double non-taxation or payment of so little in corporate taxes, globally. Foreign investors and multinational enterprises (MNE) are able to do this by a plethora of sophisticated tax avoidance strategies. These strategies have come to be referred to in international taxation as Base Erosion and Profit Shifting (BEPS). The most popular strategy adopted is the registration of the businesses of the foreign investor or MNE in tax havens. Thus, when an investor resident in a tax-haven does business in another country which the tax-haven has a DTA with, it is able to shift its profits to the tax haven where they are either not taxed or end up paying little in corporate taxes. This has made various governments cautious when signing DTAs with other countries, particularly countries that have reputations for being tax havens. The most recent example of this in the media was the Mauritius leaks incident which revealed that various MNEs and foreign investors exploit the DTAs various governments have with Mauritius to avoid the payment of taxes in the markets in which they operate.

This therefore begs the question, if DTAs can be a good thing for African governments for the purpose of attracting trade and investments in the single African economy, how can they be utilized effectively to also prevent base erosion and profit shifting? This is crucial since African governments are hopeful that the AfCFTA will be a good thing for their economies even if they have to eventually forego the public revenues that would otherwise be received from import duties and tariffs. This is particularly important since most African economies are import driven. With this focus on how to ensure that AfCFTA does not lead to dwindling public revenues for African governments, three strategies are proposed to ensure an effective tax treaty policy in Africa.

First, African governments have to simply commit to doing the work by signing more DTAs with African governments. When you consider the three largest economies in Africa, the DTA framework with other African countries is worrisome. For instance, Nigeria currently has a DTA with only one African country; South Africa. The number is a bit more impressive in South Africa where it currently stands at twenty three and six in Egypt. This pales in comparison to the tax treaty framework between European Union (EU) member states for the top three EU largest economies of Germany, the UK and France. While this might easily be explained by the fact that African governments were previously not trading with one another, it is clear that there is policy and political support on the continent to drive intra-African trade. Accordingly, it is important that African governments commit to increasing their tax treaty framework with one another. This can either be done by adopting the approach of signing bilateral DTAs as is common or adopt the approach of signing a multilateral trade agreement as is the case with the Nordic countries. Both approaches have their relative advantages and disadvantages.

Second, ancillary to commitment from African countries, African countries will be required to travel the nine yards by concluding all the constitutional and legal requirements to give effect to the DTAs they sign. This is particularly important for dualist countries who are required to ratify international agreements before they can be binding upon them. A good example of this is Nigeria that has signed DTAs with other African countries such as Kenya, Mauritius, Ghana and Cameroon but is yet to ratify them. The benefits in signing these DTAs cannot be exploited until they are ratified.

Third, African governments have to ensure that the adoption of the policy to increase its DTA framework does not cause its DTAs to be exploited by foreign investors and MNEs for BEPS activities. To achieve this, African governments will be required to ensure that these DTAs are negotiated by experts. This is important as the Organisation for Economic Cooperation and Development (OECD) estimates that Africa loses an estimated USD 50 billion in taxes to BEPS activities annually, which is more than what it receives in foreign aid. Fortunately, there is a lot going on globally on fighting BEPS activities and preventing treaty abuse for the purpose of BEPS activities. Africa can take advantage of the global consensus and politically-charged atmosphere to ensure that its DTAs with other African countries and the rest of the world is water-tight. They would also be required to renegotiate the existing DTAs to prevent their exploitation for BEPS.

Admittedly, renegotiating current DTAs one after the other to prevent their exploitation for BEPS may be time-consuming and expensive for African countries to undertake. Interestingly, the OECD has provided the opportunity for countries to amend all their DTAs at once through the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (MC-BEPS). Through this project, countries signed on to it are able to renegotiate the provisions of the DTAs they are signed to all at once. This review will help amend provisions which may be subject to abuse or exploited for tax avoidance. This obviates the need to begin to renegotiate DTAs one after the other. Only a few African countries have signed on to MC-BEPS. It is important that more African countries adopt this approach to undertake a review of their DTAs and where necessary, ratify the necessary agreements upon completion of the process.

Conclusively, it is important to note that with the removal of tariffs and import duties across the continent, the absence of clearly defined taxing powers for the increased cross border trading activities can be chaotic. While the lack of a comprehensive DTA framework could be excused in the olden days of almost non-existent intra-African trade, that excuse will not suffice going forward. African governments should therefore try to begin to shore up the DTAs they have with one another, ensure that they do all that is required to give full legal effect to existing DTAs and take advantage of the current MC-BEPS project to renegotiate existing DTAs where necessary.

The views expressed in this article are those of the author alone and not the Future Africa Forum.