At a glance
- Sections 38(2) and 47 of Act 896 should be read as roll-over relief for genuine mergers, amalgamations and re-organisations involving a company’s own assets, not as a blanket exemption for intra-group transfers of shares.
- The current interpretation allows non-resident parent companies to move shares in Ghanaian companies within a group and later dispose of the offshore holding structure without Ghana collecting tax on the economic exit.
- The key statutory distinction is between underlying ownership of an asset and underlying ownership of an entity; sections 38(2) and 47 focus on the former.
- Comparative approaches from the US, UK and Uganda support a narrower reading of re-organisation, centred on asset transfers, share-for-share exchanges or domestic corporate restructurings.
- The GRA should correct its interpretation, revoke inconsistent Private Rulings, and support legislative amendments that define merger, amalgamation and re-organisation clearly and limit the exemption to resident companies.
Introduction
The Ghana Revenue Authority (GRA) needs to urgently update its interpretation of some sections of the Income Tax Act, 2015 (Act 896). These provisions relate to tax exemption when a company realises its assets through a merger, amalgamation or re-organisation. We are aware that some taxpayers conclude that the exemption applies when the parent companies of resident companies are changing within a group. Even the GRA has issued Private Rulings supporting this treatment. That is, if the shares of a resident company are transferred to another entity within the group, because the shares do not go out of the group, that transaction qualifies for tax exemption. In this article, we will demonstrate why that interpretation is wrong and how Ghana is losing precious tax revenue. This article doesn’t consider the effects of a double taxation agreement.
Realisation and its taxation
The law is that whenever a person realises an asset or liability, the person is required to determine if there is a gain or loss from that realisation for the relevant taxes to be paid. Generally, a person realises an asset if the person no longer owns the asset because the asset is sold, exchanged, transferred, distributed, destroyed or surrendered. Sometimes, there may be involuntary realisation due to the wide nature of the definition for realisation. In those cases, the law tries to defer the tax effect through the concept of roll-over relief. One of those cases is where even after the realisation, the same ultimate owner of the asset before the realisation the asset continues to own the asset in some form.
An asset is defined in Act 896 to include any kind of property. This covers tangible and intangible items. It includes the shares of a company being held as an investment by a person and the net assets of a company. Whenever the shares of a Ghanaian company are/ realised, the shareholders must determine if there is any gain for them to pay tax on the capital gain.
The Statutory Overlap: Sections 38(2) v 47
There are two sections in Act 896 that try to defer the tax effect. The first one provides that under a specific situation, we shouldn’t even consider the transaction as leading to realisation while the other provides that any gain from the realisation should be treated as exempt. Section 38(2) provides that
Subsection (1) does not apply to the realisation of an asset accruing to or derived by a company arising out of a merger, amalgamation or re-organisation of the company where there is continuity of underlying ownership of the asset of at least fifty percent.
The relevant elements of this provision are that
- The company directly owns an asset.
- The company no longer directly owns the asset.
- The reason for ceasing to own the asset is because the company is involved in a merger, amalgamation or re-organisation.
- The company continues to indirectly own at least 50% of the asset.
- The company should not be treated as realising the asset
Section 47 of Act 896 also provides that
The gains on realisation of an asset accruing to or derived by a company arising out of a merger, amalgamation or re-organisation of a company is exempt from tax where there is continuity of at least fifty per cent of the underlying ownership in the asset.
The same elements for section 38(2) are relevant for section 47. Here too, any gain that a company derives from realising its asset is exempt from taxes once the gain is from a merger, amalgamation or re-organisation if the company continues to indirectly own 50% of the asset. It is obvious that these two provisions deal with the same matters and Parliament created a duplication. Section 47 mirrors what was contained in the Internal Revenue Act, 2000 (Act 592) and should have been enough. Section 38(2) is unnecessary. If Section 38(2) prevents realisation in those conditions, how can there be a calculation of a gain for section 47 to even be triggered?
The Offshore Loophole: Revenue Loss in Practice
Non-resident companies which hold shares in Ghanaian companies often rely on the provisions above to enjoy tax exemptions. After enjoying the exemption, tax revenue is eventually lost when these entities sell of their interest in the Ghanaian company. To achieve this, there is a two-step process. The first step involves a non-resident company holding the shares of the Ghanaian company transferring the shares to another entity within the group. This entity may be created purposely to receive these shares. The second step is that the shares of the transferee entity is then sold to a third party.
In the first step, instead of paying taxes on the transfer of the shares, the company would claim it is simply undertaking a group re-organisation and that it underlying ownership of the Ghanaian company has not changed. As a result, the transferor company enjoys tax exemption on the transfer of the shares. In the second step, the original owner of the Ghanaian company sells the shares of the transferee company and therefore exits Ghana. Ghana receives nothing from the entire transaction since Ghana cannot tax non-resident companies engaged in indirect sale of shares.
From the illustration above, ABC LTD fully owned the Ghanaian company. ABC LTD was therefore subject to tax on any capital gain it makes on the sale or transfer of these shares. To avoid this tax, ABC LTD chooses not to sell the shares to the third party directly. It creates a new company, XYZ LTD and transfers the shares in the Ghanaian company to it. This transfer ordinarily is taxable in Ghana. However, ABC LTD would argue that it still has an indirect ownership of the Ghanaian company and so the underlying ownership of the Ghanaian company hasn’t changed. Afterwards, ABC LTD sells the shares of XYZ LTD to third party.
The argument in Step 1 relies on a meaning of re-organisation to enjoy the exemption. It also identifies ABC LTD as undergoing a re-organisation. It further considers shares as the asset described in sections 38(2) and 47. ABC LTD, as a shareholder of a resident company, has been able to sell off its interest in the company without paying any tax in Ghana. What Ghana will be entitled to do is to proceed under section 62 of Act 896 to treat the resident company as realising all its assets and liabilities because its underlying ownership has changed by more than 50%. This provision essentially restates the tax assets and liabilities of the resident company to market values. While Ghana may enjoy tax on any gain, the gain will be fully recovered by the resident company through a step-up in the values. This will be covered in detail in another article. The bottom-line is that Ghana will end up with no tax revenue from this disposal.
What is a merger?
Unfortunately, Act 896 does not define merger, amalgamation and re-organisation. The GRA has also indicated in its Practice Note that it will rely on the Companies Act for the meanings of these words. Indeed, these words are legal words and can only be understood from corporate law.
The Companies Act, 2019 (Act 992) defines mergers in two main ways. It says
“merger” includes merger by
(a) absorption by which the undertaking, property and liabilities of one or more companies, including the company in respect of which a scheme is proposed, are to be transferred to another existing company; or
(b) formation of a new company by which the undertaking, property and liabilities of two or more companies, including the company in respect of which the scheme is proposed, are to be transferred to a new company and the consideration envisaged for the transfer is shares in the transferee company receivable by a member of the transferor company with or without any cash payment to that member
The definition in (a) is what is commonly considered as a merger. Here, one company is absorbed by another company. Definition (b) is also considered as amalgamation. This is where two or more companies contribute their assets and undertakings into a newly formed company. That is, it is the new company that absorbs the two companies.
What really happens during a merger?
Act 992 provides that from the effective date of the merger proposal, all the assets and liabilities of the transferor company are transferred to the transferee company. That is, the net assets of one company are absorbed by the other company or the new company. The transferor company therefore becomes empty. This action of transferring the net assets triggers realisation. Ordinarily, the transferor company should have received consideration for realising its net assets. It is the gain from this transfer that Act 896 sought to exempt from tax.
However, in reality, the consideration will not be received by the transferor company. Act 992 requires the transferor company to be dissolved by the Registrar of Companies without winding up, since there is nothing to sell or distribute. So, who then receives the consideration? It is the shareholder of the transferor company who will receive either cash or shares in the transferee company. If the transferor company does not receive the consideration, how do we check if the transferor company continues to hold 50% of the underlying ownership of the net assets it transferred?
From the post-merger scenario above, ABC LTD realised its net assets. ABC LTD therefore is liable for tax on any capital gain. However, the exemption will apply. The main thing to check is if there is continuity of at least 50% in the underlying ownership of the net assets transferred to XYZ LTD. Underlying ownership is a legal concept that is defined in Act 896 in two senses.
“underlying ownership”
(a) in relation to an entity, means membership interests owned in the entity, directly or indirectly through one or more interposed entities, by individuals or by entities in which no person has a membership interest; or
(b) in relation to an asset owned by an entity, is determined as though the asset is owned by the persons having underlying ownership of the entity in proportion to that ownership of the entity;
The first sense relates to underlying ownership of an entity. This traces the individuals or entities with no individual as shareholder that ultimately own the Ghanaian company. The tracing is done through all entities who directly or indirectly control the Ghanaian entity. The second sense is in relation to an asset. Here, the law is identifying the individuals who ultimately own the assets that a Ghanaian company has. The focus is not on owning the Ghanaian, since that is what is in the first sense. The second sense deals strictly with assets. Each time Act 896 uses the expression underlying ownership, it clearly qualifies it to show whether it is referring to the underlying ownership of an entity or an asset.
Sections 38(2) and 47 are both clear that they are referring to continuity of at least 50% in the underlying ownership of the asset. From the illustration above, underlying owners of the net assets of ABC LTD have not changed. The underlying owners simply followed wherever the net assets went. Assuming the shareholders of ABC LTD become minority shareholders of XYZ LTD, then the exemption cannot apply. This principle applies the same way to amalgamation. In amalgamation we expect the shareholders of the two existing companies to hold at least 50% of the interest in the new company. Else, the exemption cannot apply.
In an amalgamation too, although the transferor companies will be dissolved, the underlying owners of their assets have not changed. They have moved to the new company. This meets the conditions for the exemption. The exemption applies only to the transferor company. It does not apply to anyone else. Once the company which is the transferor is dissolved, the exemption ends. Subsequent transactions must be separately analysed for taxes. One key thing is that in both a merger and an amalgamation, it is the resident company that is realising its own net assets and potentially deriving a gain that will be treated as exempt from taxes.
What is re-organisation?
The word re-organisation is a common word that can be used in different ways. In its simplest form, it means to organise again. The context in which it is used helps shape the applicable definition. Let’s look at a few definitions in the tax laws of United States, United Kingdom and Uganda.
Definition from US
In the US, the term re-organisation is defined for the purposes of providing conditions for which gains from those defined activities may not be taxed or may be treated specially. Section 368 of the Internal Revenue Code provides that
For purposes of parts I and II and this part,
the term ‘‘reorganization’’ means—
(A) a statutory merger or consolidation;
(B) the acquisition by one corporation, in exchange solely for all or a part of its voting stock (or in exchange solely for all or a part of the voting stock of a corporation which is in control of the acquiring corporation), of stock of another corporation if, immediately after the acquisition, the acquiring corporation has control of such other corporation (whether or not such acquiring corporation had control immediately before the acquisition);
(C) the acquisition by one corporation, in exchange solely for all or a part of its voting stock (or in exchange solely for all or a part of the voting stock of a corporation which is in control of the acquiring corporation), of substantially all of the properties of another corporation, but in determining whether the exchange is solely for stock the assumption by the acquiring corporation of a liability of the other shall be disregarded;
(D) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor, or one or more of its shareholders (including persons who were shareholders immediately before the transfer), or any combination thereof, is in control of the corporation to which the assets are transferred; but only if, in pursuance of the plan, stock or securities of the corporation to which the assets are transferred are distributed in a transaction which qualifies under section 354, 355, or 356;
(E) a recapitalization;
(F) a mere change in identity, form, or place of organization of one corporation, however effected; or
(G) a transfer by a corporation of all or part of its assets to another corporation in a title 11 or similar case; but only if, in pursuance of the plan, stock or securities of the corporation to which the assets are transferred are distributed in a transaction which qualifies under section 354, 355, or 356
For our purposes, the definitions above show share-for-share exchanges and asset-for share exchanges. None of them involves simply transferring the shares of a subsidiary to another subsidiary.
Definition from the UK
In the UK, section 126 of the Taxation of Chargeable Gains Act 1992 defines re-organisation in the following terms:
(1)For the purposes of this section and sections 127 to 131 “reorganisation” means a reorganisation or reduction of a company’s share capital, and in relation to the reorganisation—
(a)“” means shares held before and concerned in the reorganisation,
(b)“new holding” means, in relation to any original shares, the shares in and debentures of the company which as a result of the reorganisation represent the original shares (including such, if any, of the original shares as remain).
(2)The reference in subsection (1) above to the reorganisation of a company’s share capital includes—
(a)any case where persons are, whether for payment or not, allotted shares in or debentures of the company in respect of and in proportion to (or as nearly as may be in proportion to) their holdings of shares in the company or of any class of shares in the company, and
(b)any case where there are more than one class of share and the rights attached to shares of any class are altered.
(3)The reference in subsection (1) above to a reduction of share capital does not include the paying off of redeemable share capital, and where shares in a company are redeemed by the company otherwise than by the issue of shares or debentures (with or without other consideration) and otherwise than in a liquidation, the shareholder shall be treated as disposing of the shares at the time of the redemption.
This definition focuses on changes to the stated capital of the company. The HMRC also provides guidance that a company may re-organise its shares by making bonus issues, rights issues or re-organisation of the value of existing shares. It requires the company to continue to exist and that fact is different from what is expected during mergers and amalgamations. Further, the company itself does not derive any capital gain from issuing shares. The definition deals with tax issues for shareholders who have undergone the re-organisation. Therefore, this definition will be odd in the context of sections 38(2) and 47 and so is not suitable for our purposes.
Definition from Uganda
Uganda’s Income Tax Act is clearer on this issue. Its section 76(3) provides that
Where a resident company or a group of resident companies is re-organised without any significant change in the underlying ownership or control of the company or group, the Commissioner General may—
(a) permit any resident company involved in the re-organisation to treat the re-organisation as not giving rise to the disposal of any business asset or the realisation of any business debt, as the case may be; and
(b) determine the cost base of any business asset held, or business debt undertaken, by the resident company after the re-organisation in order to reflect the fact that no disposal or realisation is treated as having occurred.
Section 76(4) of the Ugandan Income Tax Act provides an elaborate definition for the word re-organisation. It says:
For purposes of this section, “re-organisation” means—
(a) a transaction in which a person transfers their assets to another person, other than an individual controlled by the transferor or the shareholders following which the stock of the transferee is distributed;
(b) a transaction in which a person, whether for payment or not, is allotted shares in or debentures of a company in respect of and in proportion to, or as nearly as may be in proportion to, their holdings of shares in the company and in any case which there is more than one class of shares, and the rights attached to shares of any class are altered;
(c) a merger or amalgamation where, all or substantially all the assets and liabilities of one or more transferor companies are transferred to a single transferee company, where the transferor company ceases to exist by operation of law;
(d) a transaction which two or more companies transfer their assets and liabilities to a single newly established company; or
(e) corporate division through which all or substantially all the assets of one company are transferred in exchange for shares to at least two or more newly established or pre-existing companies, except where the assets are already in the hands of a subsidiary.
The first thing to note from Uganda is that it is clear that the exemption applies solely to the re-organisation of the resident companies. It does not apply to the non-resident parent company. Further, the definition of re-organisation covers what we considered as a merger and an amalgamation above. The whole transaction is localised to the resident company. Additionally, with the exception of definition (b), which deals with rights issue an alterations, all the other definitions require transfer of assets and in exchange, shares are received.
A key difference between Ghanaian and Ugandan laws is that whereas Ghana’s law defines underlying ownership in two senses, Uganda’s law only defines it in one sense. There is no definition for underlying ownership in a asset in Uganda’s laws. So, in section 76(3) above, the condition for the exemption is that there should be no significant change in the underlying ownership of the company. This small difference is re-aligned by the specificity in the Ugandan provision requiring the relevant company to be resident and the transfer must relate to assets. This achieves the same result as underlying ownership of an asset.
Why the current interpretation that intra-group share transfer qualifies for exemption must be rejected
The first reason why intra-group share transfers cannot qualify as re-organisation is that such a transaction is very different for mergers and re-organisations. One of the aids to interpretation of a law is that a word is to derive its meaning from the surrounding words. That is, with the list, “mergers, amalgamation or re-organisation” we can interpret each word by looking at any of the two other words. We have clear meanings for merger and amalgamation, so we can use those meanings to understand re-organisation. Mergers and amalgamations require transfer of assets by a company. So, re-organisation here too must involve transfer of assets. In fact, mergers and amalgamations of themselves, are re-organisations, as shown by the definitions from the US and Uganda.
Another reason why intra-group transfers won’t qualify for the exemption is that sections 38(2) and 47 require a company to be deriving the gain. Not an individual or any other type of person, only a company. Going by the argument of intra-group transfers, why can’t the exemption apply to individuals? If indeed these provisions apply to the shareholder of the Ghanaian company, why can’t that shareholder be an individual. Assuming the non-resident individual owns shares in a Ghanaian company and transfers those shares to another company they own, this exemption will not apply to them. This is because the law requires the person deriving the potential gain to be a company. The individual who is in the same situation as a company that is a shareholder will end up paying tax on any potential gain. It is evident that the law never intended companies to be exempt and individuals to be taxed. This means that the interpretation that the word “company” used in the law refers to the shareholder is wrong. Rather, the company deriving the gain is the resident company.
Further, the asset described in the relevant sections are not shares. They are assets being employed by the transferor company before it transfers them. We arrive at this conclusion because of how these sections qualify the expression underlying ownership. In section 38(2), the law says, “…where there is continuity of the underlying ownership of the asset of at least fifty percent.” Section 47 also says, “…where there is continuity of at least fifty percent of the underlying ownership in the asset.” Both require the meaning of underlying that relates to an asset. This means these sections are not referring to shares since there is a separate definition for underlying ownership of an entity. Indeed, Act 896 uses underlying ownership of an entity in section 33 (thin capitalisation), section 62 (change in ownership), section 69 (disposal of petroleum rights) and section 83 (disposal of mineral rights). So, we cannot interchange underlying ownership of an entity for underlying ownership of an asset. In Uganda, although underlying ownership of an entity was used, it was further qualified to relate to an asset.
There are two forms of realisations that occur in a merger or amalgamation. The first is that the company itself realises its assets when it transfers them. Secondly, the shareholders of the transferor company also realise their shares when they cease being owners of the transferor company. However, these shareholders are not the focus of sections 38(2) and 47. This is because a different provision, section 46 may apply to them. Section 46 deals with situations where a person realises an asset but replaces that asset within a year. In mergers and amalgamations, the shareholders of the transferor company realise their shares in that company but acquire the shares in the transferee company and so are not taxable on the realisation. The tax effect is deferred till they realise their shares in the transferee company. This provision only applies to the extent that the person will continue to be taxable in Ghana when they realise the replacement asset. In intra-group transfers, it is possible for a company to realise the shares of a Ghanaian company and re-acquire another company. However, this person must be taxable when it realises the shares of the replacement company. If it will not be taxable in Ghana, this provision will not apply. The effect is that for this provision to apply to intra-group transfers, the person must have acquired another resident company as its replacement asset.
The intention of the law is to grant a relief, where the tax effect is simply passed on to the other entity. Essentially, the tax effect is deferred. Section 45 of Act 896 also provides for a different kind of roll-over relief, where there is a transfer of an asset between associates. The conditions specified there include both the transferor and the transferee being associates and resident in Ghana, and there must be at least 50% continuity in the underlying ownership in the asset. We submit that this same condition of residency applies to sections 38(2) and 47. We can also see the residency condition in the Ugandan law. A company undergoing a merger, amalgamation or re-organisation must cease to exist at the end of that single transaction.
Conclusion
The legislative intent behind sections 38(2) and 47 of Act 896 is to provide a roll-over relief for genuine domestic corporate restructurings. The relief is similar to what we have for transfer of assets between resident associates. These sections were not designed to give foreign multinational groups a free pass on indirect offshore transfers. To protect domestic revenue, the GRA must urgently issue a Practice Note to address these matters. It must also revoke all Private Rulings it gave on this matter.
Since Act 896 is currently being reviewed, we recommend that these provisions are tightened. The tax law should define mergers, amalgamation and re-organisation or link them to Act 992. Further, it should be clear that the company to be exempted will be the resident company only.
