Kenya and the Inclusive Framework

On 8th October 2021, Kenya made the decision not to join the OECD Inclusive Framework on Base Erosion and Profit Shifting (BEPS) that offers a globally accepted unified approach to the tax challenges of the digitalization of the economy, also referred to as Two Pillar approach (the Statement).

The Statement affirms the support for establishing a new global corporate taxation framework with respect to the largest Multinational Enterprises (MNEs), including digital companies. Pillar one aims to ensure a fairer distribution of profits and taxing rights among countries with respect to the largest MNEs, who are known as the “winners of globalization”. Pillar Two seeks to put a floor on tax competition on corporate income tax through the introduction of a global minimum corporate tax that countries can use to protect their tax bases.

In terms of consensus, 137 out of the 141 OECD Inclusive Framework countries and jurisdictions have joined the Statement. The four countries that have not signed up are Kenya, Nigeria, Pakistan, and Sri Lanka. The deal is expected to come into effect in 2024. 

The Statement promises to unlock a fold of benefits for developing countries such as Kenya. In the OECD Report on Developing Countries and the OECD/G20 Inclusive Framework on BEPS for the G20 Finance Ministers and Central Bank Governors (October 2021), OECD statistics indicates that developing countries account for approximately 34% of the Inclusive Framework membership. In terms of Regional composition, African countries account for about 19%. Specific benefits aimed at developing countries include the Subject to Tax Rule (STTR), which prevents companies from avoiding tax on their profit earned in developing countries, as well as simplified and streamlined approach to the application of the arm’s length principle to in-country baseline marketing and distribution activities. Other benefits include a lower threshold for determining the re-allocation of profit under Pillar One to smaller economies, as well as technical assistance to support all aspects of the implementation of the Two-Pillar Solution.

In regards to revenue, the OECD estimates that on average, low, middle, and high-income countries would all experience revenue gains as a result of Pillar One, with the gains expected to be larger among low-income jurisdictions, as a share of current corporate income tax revenues. This would however not be the case for the Kenyan economy, hence the decision to opt-out of the statement and align to the unilateral framework with the primary goal of protecting its revenue base and taxing rights.

Since 2019, Kenya has been working on measures to reel in revenue from taxation of the digital marketplace. Kenya amended its tax laws i.e. the Finance act of 2019 and 2020 to address the gaps in Value Added Tax (VAT) law and Income Tax Act with respect to taxation of the digital economy. Effective 1st January 2021, Kenya implemented the Digital Services Tax (DST) - a tax charged on income derived or accrued from provisions of services through a digital marketplace within its jurisdiction. Under these laws, digital services include the supply of downloadable digital content, subscription-based media, software programs, supplies on online marketplaces, digital media content, data management services, search engine services, among others.

Speaking at the 7th Annual Tax Summit themed “Redefining the Taxation Landscape: Global Trends, Developments & Impact” held on 13th and 14th October 2021, Dr. Terra Saidimu, Commissioner for Intelligence & Strategic Operations at the Kenya Revenue Authority (KRA) cited 89 digital companies actively filing DST in Kenya as at October 2021.

The Inclusive Framework on the other hand has a database of about 100 in-scope companies. This presents an opportunity for countries that were not implementing DST and other related measures, as they will be racking in revenue from otherwise dormant streams i.e. companies operating within their jurisdictions but not meeting the Permanent Establishment (PE) threshold necessary to tax their income.  

The Commissioner further highlighted that only 11 of the 100 in-scope companies operate within the Kenyan jurisdiction. Provisions of the Inclusive Framework require the removal of all DST and other relevant similar measures on all companies. This means that as soon as Kenya assents to the Two Pillar approach, it will immediately lose out on revenue from the 78 out-of-scope companies.

The other issue is that the unified approach has set the standard too high to accommodate the majority of digital companies that operate in low and middle-income economies. To qualify as an in-scope company, MNEs are required to have a global turnover above 20 billion euros and must be operating at a profitability above 10% measured by profit before tax. Further, the MNEs are also required to have derived at least 1 million euros in revenue from the country of operation. For smaller jurisdictions with a GDP lower than 40 billion euros, the nexus is set at 250,000 euros. In the case of Kenya, and possibly other developing economies, the majority of MNEs operating in these jurisdictions do not meet these specifications and are therefore not covered under the Two Pillar approach.

In retrospect, Dr. Saidimu further highlighted that Kenya proposed the reduction of the requisite global turnover from 20 billion euros to 750 Million euros in accordance with the Country-by-Country (CBC) reporting – one of the action points by BEPS Projects that require any MNE trading in any jurisdiction to file their transaction through the CBC reporting procedure. This would increase the number of companies that are in-scope.

The other area of concern is about the mandatory dispute resolution. Kenya has an advanced Alternative Dispute Resolution (ADR) mechanism that is largely working. The adoption of the Two Pillar approach means that Kenya will have to be subjected to the mandatory and binding dispute prevention and resolution mechanisms.

Despite the aforementioned, Kenya believes in the spirit of the Inclusive Framework and the opportunities presented especially to low and middle-income economies. Kenya has continued to engage with the OECD and African Tax Administration Forum (ATAF) to ensure that a mutually beneficial solution is adopted. With that said, Kenya reaffirms her commitment to continue contributing to the global tax policy dialogue, negotiations, and processes to develop options suitable to developing economies on a multilateral basis.