High net-worth individuals (HNIs) and business owners set up structures that they hope will ensure their assets and investments are held efficiently to guarantee optimal returns and wealth preservation/ succession. A popular structure generally adopted for this purpose is Private Trust Arrangement. A Private Trust may be set up locally or offshore to warehouse investments of the HNIs within and outside Nigeria. Private Trust ensures confidentiality as regards ownership and management of the Settlor's assets. Private Trusts set up as an irrevocable Trust, protects the assets held in trust from liabilities that may arise against or affect the Settlor in his personal capacity due to bankruptcy, business dissolution etc. Do these attributes still hold, considering the Organisation for Economic Co-operation and Development (OECD)'s Common Reporting Standard (CRS) in relation to automatic exchange of information and the provisions of the Finance Act, 2019? Where the tax authority is privy to information on assets and investments held in a Trust, especially that which is set up in a tax jurisdiction other than Nigeria, are privy to the tax authority, will the income therefrom be taxable in Nigeria?
In this article, we examine the intricacies surrounding disclosure and taxation of income attributable to a Private Trust arrangement with focus on Offshore Trusts.
Taxability of Income from Offshore Trusts in Nigeria
The Personal Income Tax Act 2011 as amended (PITAM) provides that an individual, resident in Nigeria is taxable on his worldwide income. This indicates that the income distributed to a Nigerian-resident Settlor or a Beneficiary from a Trust is taxable in Nigeria. In addition, where the Trust is administered in Nigeria, a risk that the entire income of the Trust will be taxable in Nigeria and not only the amount distributed could arise in certain situations. Paragraph 1 of the second schedule to PITAM provides that the income of a Trust shall be deemed to be income of the Settlor of the Trust where the Settlor retains or has a right over the capital assets of the trust; retains or has a right over the income derived from the capital assets of the trust; makes use of the income of the trust by borrowing from it; and resumes control or the spouse resumes control over the asset or income of the Trust. Hence, the risk that the entire income derived by the Trust will be taxable in the hands of the Settlor will arise in the aforementioned instances.
With respect to Offshore Trust, there is a school of thought that supports the argument that only the amount distributed from an Offshore Trust to a taxable person in Nigeria will form a taxable income in Nigeria and not the entire income derived by the Offshore Trust from the assets/ investments held in trust. Such income will then be exempted from tax where it is brought into Nigeria through Government approved channels, such as the commercial banks.
The second schedule of the PITAM provides that where a Trust retains some of its income (i.e. undistributed income) and the undistributed income is not reinvested by the Trust, such income will become liable to tax in the hands of the Trustee. Will this provision be applicable to an Offshore Trust, considering that the Trust will also be governed by the respective legislations of the country where it is administered? A twist to this is that where the income of a Trust administered in Nigeria is deemed to be the income of the Settlor based on the earlier discussed instances, the Settlor may be held liable for tax payable on such undistributed income. Hence, can we say that a Nigerian-resident Settlor will be liable to tax on the undistributed income from his Offshore Trust especially where it is revocable or discretionary in nature?
Where the relevant state tax authority is of the opinion that any disposition is artificial and fictitious, Section 17 of PITAM empowers the tax authority to disregard the disposition and make such adjustments in respect of the income of such individual or trustee as the tax authority considers appropriate. Section 17(3) of PITAM expressly provides that "for the purpose ofthis section "disposition" includes any trust, grant, covenant, agreement or arrangement". Thus, while income obtainable from Offshore Trust and brought into Nigeria through aGovernment approved channel will be exempted from tax, it is necessary to be mindful of the nature of the Offshore Trust arrangement. This is because although the "disposition" referred to in PITAM cannot be said to include Offshore Trusts, the tax authority can rely on Section 54 of the PITAM to assess the Settlor or Beneficiaries of an Offshore Trust to tax on best of judgement (BOJ) basis.
Personal Income Tax in relation to the Finance Act, 2019 and the DECO
One of the initiatives introduced by the OECD in combating tax evasion, base erosion and profit shifting is the CRS, Locally, the Income Tax (Common Reporting Standard) Regulations ("CRS RegUlations") provides legal basis for the implementation of CRS in Nigeria. CRS is an information standard for the automatic exchange of information on bank accounts between tax authorities of signatory countries. It is an agreement for the automatic dissemination of financial information on resident taxpayer's assets and incomes, in accordance with the standard. In addition, it should be borne in mind that Trustees that perfonn other key financial functions such as depository, custodial services, fund investment etc. fall within the definition of reporting financial institution under the CRS. This portends that financial information of HNls in Nigeria regarding their foreign bank accounts with any reporting financial institution in aCRS participating country will be in the full glare of the Nigerian tax authority. Offshore Trust settlements generally provide these key functions, hence the privacy and confidentiality enjoyed by the Settlor and Beneficiaries may be impacted. Thus where investigations are conducted and the relevant tax authority is able to obtain information on distributions made by an Offshore Trust to an HNI that is tax resident in Nigeria, the relevant tax authority is able to use the information as aguide to subject the HNI to tax on aBOJ basis.
Furthermore, Section 49 of PITAM, based on the amendments by the Finance Act, 2019 provides that banks shall require aperson intending to open abank account for the purpose of such person's business operations to provide atax identification number as aprecondition for opening or for continuous operation of such bank account. The Lagos State Internal Revenue Service has also gone further to link tax payer IDs to the bank verification numbers of Lagos State residents. These developments enable the Nigeria tax authorities to access the financial activities of HNI especially in relation to undisclosed income for tax purposes.
Note that an Offshore Trust will be subject to the dynamics of changing tax, political and business climate of its place of administration. It is important to have clear insight into prevailing practice in any jurisdiction before setting up atrust in such jurisdiction.
There is now an increasing need for taxpayers to pay more attention to how their personal and business affairs are organized especially as it relates to warehousing offshore assets and investments. Taxpayers are also encouraged to seek advice from experienced tax professionals on how to manage their businesses or investment holding structure for tax efficiency purposes, especially in relation to their offshore investments and holding vehicles.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.