FIRS issues regulations for taxation of institutions offering interest-free financial products and services in Nigeria – Revenue Authorities


The Federal Inland Revenue Service (FIRS or “the Service”) recently issued the Non-Interest Finance (Taxation) Regulations 2022 (“the Regulations”), which provide a framework for the taxation of financial institutions offering financial products and services irrelevant in Nigeria. The regulations, with an effective date of April 1, 2022, were issued under the authority of the FIRS under Section 61 of the Federal Revenue Service Establishment Act (FIRSEA).

On June 9, 2022, the Central Bank of Nigeria (CBN) had issued the Revised Guidelines for the Operation of Non-Financial Instruments to provide a uniform set of rules for authorized institutions to access the Interest-Free Financial Instruments (NFIs) contained in its circulars. : “Guidelines for the Operation of Non-Interest Financial Instruments by the Central Bank of Nigeria” of December 2012 and “Introduction of Two New Instruments – “Funding for Liquidity Facility and Intra-day Facility for Non-Interest Banks” of August 2017 , respectively.

Therefore, the Regulations provide a fiscal and regulatory framework for the operation of the NFIs offered by the CBN for authorized institutions operating under the principles of Islamic commercial jurisprudence to ensure equal treatment of conventional and interest-free financial services and transactions in the Nigeria.

The Regulations are divided into seven (7) parts and deal with twelve (12) different BSS provided by authorized institutions and their tax implications.

We have summarized below the relevant instruments listed in the different product categories and their tax treatments as provided for in the Regulations:

1. Sale-Based Products

The Regulations describe three types of sale-based products, namely:

I. Murabaha (cost plus markup)

Here, a financial institution, at the request of a customer, buys an asset from a seller and resells it to the customer for a markup, also known as Murabaha.

Paragraph 3 of the Regulations requires the financial institution to treat the original purchase price as a loan to the customer. Additionally, the resale price, excluding markup, will be treated as a loan repayment and will not be subject to value added tax (VAT), stamp duty and capital gains tax. (CGT). However, the mark-up element will be treated as interest payable on the loan and subject to withholding tax (WHT). Similarly, the purchase of the asset from the seller will be subject to VAT and WHT respectively.

ii. Istisna or parallel Istisna

Paragraph 4 of the Regulations deals with the Istisna instrument where a financial institution undertakes to finance a client’s project for the construction or manufacture of goods or assets and engages the services of a third party for the construction or manufacture of the goods or assets, then transfers the goods or assets to the customer upon completion.

The Regulations provide that the financing agreement with the customer will be treated as a loan, which will not be subject to VAT and WHT. However, the transaction between the financial institution and the third party will be subject to VAT and WHT, respectively.

In addition, the repayment of the principal amounts (or sum of the Istisna contract) by the client will be treated in the same way as a loan repayment. Consequently, only the increased part, comparable to interest, will be subject to WHT. The Client will treat the capital portion and the mark-up as Qualifying Capital Expenditure (QCE) for income tax purposes in accordance with the provisions of the Second Schedule of the Corporation Income Tax Act (IRS ) (as amended).

iii. Salam or Parallel Salam

Hello refers to the purchase of merchandise for deferred delivery in exchange for immediate payment. Thus, in a Salam contract, the price is paid in full in advance while the delivery of the goods is postponed to an agreed date in the future. Subsequently, the financial institution enters into a contract with a third party to purchase the products.

2. Equity-based products

I. Musharakah

A Musharakah is a joint venture agreement where the financial institution and the client partner, for a limited time, to finance the acquisition of an asset or project, and both share the profits according to a predetermined ratio. However, losses are borne based on the capital contribution. The client may subsequently choose to acquire the financial institution’s share of the partnership.

Based on paragraph 6 of the Regulations, the capital contribution by the financial institution will be treated as a loan, while its share of the profits will be treated as interest on the loan and subject to the same tax treatment as interest on a loan. conventional loan, ie, WHT. Payments made by the client to acquire the shares of the financial institution will be considered a repayment of the loan and would not be subject to tax. However, the agreement to transfer interests from the financial institution to the client will be subject to stamp duty accordingly.

In addition, only the client will be entitled to treat the cost of acquiring the asset or project as a QCE for income tax purposes and to claim deductions for depreciation, in accordance with the second schedule of the law. CIT (as amended). The financial institution may claim its share of the partnership’s loss as an allowable deduction for corporation tax purposes if it can prove, to the satisfaction of the FIRS, that the loss relates to expenses entirely , reasonably, exclusively and necessarily incurred to generate the taxable income. according to the contract.

ii. Reduction of the musharakah

In a decrease in musharakah, the financial institutions‘ share is gradually reduced and reallocated to the client, who ultimately becomes the sole owner of the asset. The Customer will have an exclusive right to own and use the Asset and to pay the Financial Institution periodic rent and consideration to acquire its share of the Asset. The client can treat the asset as QCE for CIT purposes and claim depreciation deductions on the cost of the asset.

Paragraph 7 of the Regulations provides that the amount paid by the financial institution will be treated as a loan to the customer and will not be subject to any tax. However, periodic rent paid by the customer will be treated as interest and submitted to WHT.

In addition, the consideration paid to acquire the financial institution’s interest in the asset will be treated as a repayment of principal and therefore will not be subject to both VAT and WHT. The instrument entered into between the client and the financial institution to transfer the latter’s interest in the asset will, however, be subject to stamp duty accordingly.

iii. Mudarabah as deposit

In this case, the financial institution acts as a fund manager for the capital provided by the client. Both parties share the profits from the use of capital for investment in approved activities in a predetermined ratio.

Paragraph 8 of the Regulations provides that the client’s share of the profit will be treated, in substance, as a return on investment and taxed in the same manner as a conventional return on investment.

3. Rental-Based Products

I. Ijarah wa iqtina (finance lease)

Here, the financial institution acquires an asset from a third party and leases it to the customer, who has the option to purchase the asset when the lease period expires. Property and major maintenance of the asset remain with the financial institution while the customer retains only the beneficial interest in the asset during the term of the lease. The Customer will pay the Financial Institution an agreed periodic rental fee for the use of the Asset.

Paragraph 9 of the Regulations provides that the Ijarah wa iqtina contract will be treated in the same way as a finance lease. Therefore, the customer will capitalize the lease repayment as QCE for corporate tax purposes and claim depreciation deductions accordingly. Rental payments will be subject to VAT and WHT. In addition, any agreement reached between the parties for the transfer of the property at the end of the rental period will be subject to stamp duty.

ii. Ijarah (operating rental)

The major difference in Ijara is that there is no intention to transfer ownership of the asset to the customer at the end of the lease term. Therefore, paragraph 10 of the Regulations provides that in Ijarah, the financial institution will recognize the asset as QCE and claim amortizations accordingly. Periodic lease payments to the financial institution for the use of the asset will be subject to VAT and WHT accordingly. Customer will be entitled to claim the lease payments as allowable expenses for income tax purposes provided the asset is used for the purpose of generating the income subject to tax.

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The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.


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