Navigating the intricacies of tax residency in Zambia for corporate entities

Emmanuel Manda

Musa Dudhia & Co | ALN Zambia, Lusaka

emanda@musadudhia.co.zm

Innocent Mung’omba

Musa Dudhia & Co | ALN Zambia, Lusaka

imungomba@musadudhia.co.zm

Introduction

As Zambia continues to position itself as a tax-friendly investment destination, one that's seeing a steady increase in the population, many entities are seeking to expand their business operations into Zambia. However, some of the entities domiciled in countries with no existing double taxation treaty with Zambia may wish to expand their operations into Zambia without creating a tax presence in the country.

Prior to 2018, the concept of ‘central management and control’ determined the tax residency status for foreign corporate entities that were not incorporated in Zambia. However, in an effort to align the country with international practices, this was replaced with the concept of a ‘place of effective management’ (POEM). Accordingly, in terms of Zambia’s Income Tax Act[1] (ITA), a foreign incorporated entity would be considered to be tax resident in Zambia for a particular year if its POEM is in Zambia for that particular year.

The ITA does not, however, define what is considered to be a POEM for the purposes of the ITA, which creates uncertainty as to what would amount to a POEM for tax purposes.

This article, therefore, analyses the intricacies associated with the concept of a POEM for the purpose of ascertaining a corporate entity’s tax residency status in Zambia.

The concept of a POEM in Zambia

Despite the reduction in Zambia’s standard corporate income tax (CIT) rate from 35 per cent to 30 per cent in 2022, Zambia’s CIT rate remains comparatively higher than that of other southern African countries, such as Angola, Botswana and South Africa, which have CIT rates of 22 per cent, 25 per cent and 27 per cent, respectively.[2] For this reason, some foreign entities may wish to expand their operations into Zambia without creating a tax presence in Zambia, especially if the foreign entity’s country of incorporation has not concluded a double tax treaty with Zambia. To effectively achieve this, a foreign entity would have to structure its envisaged expansion in such a way as to not create a POEM in Zambia. In such a situation, how the entity structures its operations is pivotal to determining whether or not the foreign entity’s POEM is deemed to be in Zambia for the particular year in question.

As indicated earlier, the ITA does not define what is considered to be a POEM, which in turn means that the concept of a ‘POEM’ is open to various interpretations. To this extent, following the amendment to the ITA published in 2017,[3] the Zambia Revenue Authority (ZRA) published Practice Note 1 of 2018, wherein it indicated that:

‘Where a person other than an individual is not incorporated or formed under the laws of Zambia, their determination of residence for tax purposes will be based on the POEM Concept. The place of effective management is largely determined by facts and the key guiding principle that will be considered in determining the POEM is the place where key management and commercial decisions that are necessary for the conduct of a company’s business as a whole are made or where they are predominately made.’

Although the ZRA’s guidance appears to be consistent with the Organisation for Economic Co-operation and Development’s (OECD) Principles of Corporate Governance on the concept of a POEM, it could be argued that the guidance provided by the ZRA is ambiguous, inadequate and does not meet the needs of the contemporary business and commercial world. The guidance is ambiguous in the sense that it is unclear as to what constitutes ‘key management and commercial decisions’ as distinct from operational management decisions. In South Africa, for example, the South African Revenue Service (SARS), through an interpretational note, sought to distinguish key management and commercial decisions from operational management decisions in the following terms:[4]

‘Operational management generally concerns the oversight of the day-to-day business operations and activities of a company. Key management and commercial decisions are concerned with broader strategic and policy decisions and tend to be made by members of the senior management team.’

Further, the ZRA’s guidance on what amounts to a POEM is inadequate as it offers no practical guidance in circumstances where it is not easy to ascertain where key management and commercial decisions are made. To illustrate this point, company A has four directors and half of the directors are resident in Zambia, while the other two directors reside and operate from Singapore, and all the company’s meetings during which key management and commercial decisions are made are held via video teleconferencing. In this example, it is unclear as to which place would be considered as the place where the key management and commercial decisions are made.

Further, the concept of a POEM seems to suggest that the POEM may frequently change depending on the movements made by the key decision-makers, which in turn makes long-term tax planning difficult due to frequent changes in the tax residency status of an entity.

It is perhaps a result of the complexities associated with a POEM that has led other OECD members, such as Japan, not to adopt the phrase POEM. In terms of Article 4 of the OECD Model Tax Convention on Income and on Capital, Japan and Korea reserved their position on certain articles in the Model Tax Convention that refer directly or indirectly to the place of effective management and opted to use the term ‘head or main office’ instead of POEM.

The argument could be made that using the term head office or main office provides more certainty and could be useful in instances where the key decision-makers are located in different places and hold meetings using modern technology platforms, such as video teleconferencing. This is because, while key decision-makers may frequently change their locations, the location of the head office would remain the same. This would mitigate against the risk of fluctuations in tax residency, which is crucial to long-term tax planning by entities.

Conclusion

As highlighted above, the lack of a clear definition of a POEM creates uncertainty and potential inconsistencies in regard to its application. As such, Zambia needs to provide more clarity and certainty on the concept of POEM to ensure a more stable and predictable tax environment. This is especially crucial for fostering long-term investment and tax planning, which boosts Zambia's status as a tax-friendly investment destination.