Welcome once again. Today we are revisiting the topic of taxation. I guess you cannot do without tax as long as you are in business on this earth. I’m not sure whether aliens get involved in tax but they could. In that case the tax could be just as weird and complicated as the tales about alien life we sometimes read about in the press. Far different from what we know about God. So, I’m talking about taxation in real business on earth. I say real business because some folks get involved in some shady things they call business. If you are involved in some shadow dealings possibly you could do without tax. You know I would be the last person to advise you to participate in shady deals.
I’m going further in this taxation idea because there are so many entrepreneurs out there who mess up their enterprises and lives simply because of tax. Some time back I wrote about Key Tax Planning Issues An Entrepreneur Must Know. When tax issues get complicated due to your non-compliance, you have only yourself to blame. By the time it gets to your bank account being controlled by the tax guys, you begin to realize you have carried that game too far. Candidly, I think you do well to have some reasonable level of tax and other regulatory compliance. I’m not telling you to carry all your money and give it to the taxman. If you allow the taxman to insert a huge needle and get too serious with that painful tax (blood) transfusion, it’s up to you. You can regulate that process; less your ignorance works against you.
Today, I want to write about the common tax types an entrepreneur must know. While many entrepreneurs know these very well, and are doing their best to comply, others have no clue and only get to know their non-compliance through Best of Judgment (BOJ) assessments with compounded interest and penalties calculated by the tax authorities. This is not interesting at all. By the time you negotiate your way out of the crisis you will have lost a lot of time and money. The laws also make some of these penalties and interest non-negotiable hence you could be in deep waters. So, what are some of the common tax types an entrepreneur must know? Which tax types are usually found in many tax jurisdictions across the world? The below are some though the list may not be exhaustive as I have not had the privilege to study tax regimes globally.
- VAT/Sales Tax. In most countries, every time you buy an item from a supermarket, shop or supplier there is Sales Tax or Value Added Tax (VAT) that is collected from you. This is also true when you procure a service. It forms part of the price you pay. The percentages of tax as compared to the value of the item differ, and the tax could also go by different names. Supplies could be classified into exempt, zero-rated and standard rated. The exempt attracts no tax, the zero-rated attracts zero tax and the standard rated attracts tax at the standard rate in that jurisdiction. The seller or service provider is meant to collect this tax (output VAT), offset any similar VAT/Sales tax (input VAT) paid on procurement and then pay the balance to the authorities. Documentation guidelines exist for it to be valid, and failure to follow these could cost you. Returns have to be filed monthly, quarterly etc. and payment or claim made within given deadlines. Again, non-compliance could cost you. Recoveries of input VAT could be limited for some items such as capital goods, some imports or where there are both zero-rated and standard rated supplies. It therefore makes sense for a tax payer to procure from other tax paying suppliers otherwise you might not be able to claim some of the input tax you book. Do you know these principles? You better check with tax guys in your jurisdiction to avoid problems for your business.
- PAYE (Pay As You Earn) and other employment taxes. Most forms of employment also generate tax payable to the authorities, though there still appears to be a few countries (probably in the Middle East) where such taxes might not apply. Mr. Entrepreneur, whenever you employ and pay salaries and other benefits to your staffs, the law requires you to deduct tax and remit to the tax authorities. The burden of tax rests with the staffs but you act as an agent of the state to withhold the tax and remit accordingly. Failure to do this leaves the entire burden to you, and you cannot go back later and yap to or penalize your staff. Do you understand this? Has someone advised you regarding this? Are you practicing this? Usually tax bands are used and the higher the salaries the more the tax paid. The rates of tax differ per jurisdiction. Some minimum amount is tax free. Again, returns have to be filed to the authorities regularly and the taxes paid in time, and penalties exist for non-compliance. In some jurisdictions other deductions are allowable and are tax free. These can include contributions to social security and pension funds, allowances for children and dependents, donations to registered charities etc. Benefits such as housing, car and others could be taxable even if they are in kind and not in monetary terms. You need to know these things my dear Entrepreneur!
- Withholding Taxes (WHT). Though PAYE mentioned above is also a form of withholding tax, other forms of withholding taxes exist. Some withholding taxes are final tax while others are not. Withholding tax on payment of dividends, interest, some services, import of goods etc. could be final tax. Withholding tax is also applicable to many supplies of goods and services. The idea here is for the entity paying the supplier to act as an agent of the state or the tax authorities and deduct some tax at the point of payment. This procedure ensures that anybody or entity engaged in business pays some tax to the government, as long as they make supplies to a registered tax payer. This means that the burden of tax rests with the supplier you are paying and not your business Mr. Entrepreneur. However, if you fail to comply – out of ignorance or stubbornness, the burden shifts to you, and you can guess the pain you will feel. You will remit the tax that you deducted upon payment, to the taxman on behalf of your supplier. This is a prepayment of income tax for your supplier. The tax authorities will acknowledge this tax and provide for you a Tax Credit Certificate (TCC) or other documentation to give to your supplier to back up that tax deduction and payment. Your supplier will be able to offset such tax prepayments from his or her income tax liabilities for the relevant period and then pay the balance of tax or carry forward the offset to another year if there is no tax payable in that year. Some supplies could be exempt. Businesses with clean tax records could also be exempt and the tax authorities issue Withholding tax exemption certificates for some tax periods. It’s never permanent because compliance could drop. Such entities can be paid without the deduction as they would have proved their good tax management. Usually WHT is calculated before the VAT element. Some minimum thresholds of value of services and goods could apply. WHT returns and payment have to be made and necessary taxes paid within statutory deadline to avoid penalties.
- Business Income taxes. My dear entrepreneur, I guess you already know that any profitable economic activity attracts tax. Don’t you? Business income tax is very common. The rates and methods of application and calculation differ per tax jurisdiction. Tax is not applied directly on your net profit for the period, as some adjustments (additions and deductions) are made. Amounts added back to income to be taxed include items such as depreciation, provisions, doubtful debts, excessive portions of expenses, expenses or portions of expenses deemed not made in the interest of the business, drawings, poorly documented or supported transactions, disallowed interest etc. Amounts deductible from income before arriving at taxable income include applicable capital allowances on fixed assets procured, release of provisions, losses on asset disposals etc. This implies that tax could be payable even when your business makes losses. Some jurisdictions have minimum tax payable even when you make losses. Additionally, while in some territories you can carry forward losses forever, in others carry forward is limited. The nature of enterprise eg. Limited company, Partnership, Sole Proprietor etc. determines the taxation method applicable and tax rates chargeable. Tax returns that could be quarterly, half-yearly, or yearly must be made and relevant taxes paid within statutory deadlines. Penalties and interest apply for non-compliance. Investment incentives apply in some territories and this could give you benefits of tax holidays, reduced tax rates etc. Investing in economic zones could also give you benefits and make you pay less income tax. Tax is also applicable on rental properties.
- Capital Gains Tax (CGT). This form of tax is relatively new especially in many developing countries though they have been applicable for many decades in the developed world. This is tax charged on capital gains you make as a business or individual. The capital gain is the excess of the consideration to the cost base of the asset. Cost base could be defined differently in different tax jurisdictions. However, it is usually defined as the amount paid or incurred by the taxpayer in respect of the asset, including incidental expenditures of a capital nature incurred in acquiring the asset, and includes the market value at the date of acquisition of any consideration in kind given for the asset. The tax is charged when you dispose of an asset. Please note that disposal here means selling, transferring, redeeming, distributing, exchanging, destroying or even losing. You can trust the tax guys – they are smart I think, but don’t ask me why you should be charged for ‘losing or destroying’ an asset. Ok? Ask the tax man. You might get a good lecture. Examples of transactions that can be applicable include sale of shares, sale of business fixed assets, sale of an entire business etc. Usually the tax is chargeable when you make a profit – which is the normal thing anyway. Candidly, who would want to dispose of value at a loss, unless circumstances are so bad? Again, don’t try to be smart and say that you made a loss when transaction documents indicate that you made profits or gains in that disposal. Some reliefs that allow non-payment or deferment of payment of CGT exist in the law, and you could take advantage of them as may be relevant and applicable. Returns have to be made within a specified time and relevant taxes paid. Penalties and interest charges exist for non-disclosure and non-compliance. I know that many entrepreneurs dispose of their investments sometimes without due regard to this. Isn’t this true? You need to be careful otherwise you have only yourself to blame.
- Import/Export Related Taxes. Entrepreneur, when your enterprise deals in imports and exports, there are usually other sets of taxes that will be applicable apart from the above. These could be in the form of duties, withholding taxes, VAT and other levies. These kinds of taxes related to imports and exports are usually referred to as customs duties. The taxes are usually payable at the time you import or export. I will not go into the details as they are diverse.
- Local government taxes including property taxes. It is also important to note that in many countries there are two steps of government, the central government and the local government. All the above mentioned taxes are usually charged by the central governments. You will also find some taxes charged by the local governments and these could come in different forms and names such as licenses/operating licenses, property taxes, local development levies, education tax, graduated tax, council taxes, environmental levies etc. So, Mr. Entrepreneur, don’t assume that the local guys near you will allow you go free. As long as you are in business, just be mentally prepared for these because they will surely come. You need to give back to society in one way or the other.
Surely – it has been a long write-up today, but I thought it necessary to do so. Many entrepreneurs in different locations worldwide never or hardly pay attention to these issues. More so, people don’t like paying tax. You can’t entirely blame them. If you live in some parts of the world where every week you read stories of government tax monies (big amounts) being stolen and transferred into personal pockets instead of providing value and services to society, then your appetite for paying tax might seriously dwindle. Nevertheless, we live in a world of taxation, and hence some reasonable compliance is expected from all of us. We also enjoy some benefits of taxes such as national security, infrastructure etc. Don’t we? We drive our cars on good (and sometimes terrible) roads. We might also be lucky to enjoy government funded schools, and hospitals (often with inadequate drugs though). They are funded by taxes.
Please my dear entrepreneur; get to know some of these critical things about the above taxes and any other additional ones as the above is not exhaustive. I’m more than sure that this knowledge will help you improve your tax compliance and avoid non-compliance problems in future in your enterprise. You can’t successfully fight or avoid the government, can you? Better be smart and safeguard the future of your business because this single factor of tax non-compliance could easily wipe out your business. I’m not joking by the way! If you look critically in whichever part of the world you live in, I guess you could identify some businesses that went under, or whose operations were severely adversely affected by the taxman. Forewarned is forearmed.
Have a fantabulous new week.
The Wise Entrepreneur