The strides in technology experienced globally continue to elicit interest in the tax realms. Tax Authorities have channelled their efforts towards collecting taxes from the technology industry and the Kenya Revenue Authority (KRA) under the direction of The National Treasury is no exception.
This is evidenced by the propositions that were contained in the Finance Bill, 2024 (the Bill). The Bill has been rejected by the President after nationwide protests and been sent back to the National Assembly to dispense with it in its totality, in keeping with the wishes of the Kenyan public. Despite this, we note that one of the proposals in the Bill was to amend Kenya’s Income Tax Act (ITA) to expand the definition of royalty. With respect to software, it was proposed to expand the definition as iterated below: -
“royalty” means a payment made as a consideration for the use or the right to use— (b) any software, proprietary or off-the-shelf, whether in the form of licence, development, training, maintenance or support fees and includes the distribution of the software.
KRA seeks to introduce this change in the wake of a recent case decided by the High Court of Kenya, Seven Seas Technologies Limited V Commissioner of Domestic Taxes, KEHC 358 10 December 2021. The case set precedence on guidelines to determine whether the distribution of software constitutes a royalty. The gist of the case is that the KRA had sought to collect withholding tax on licence payments made by Seven Seas Technologies Limited to Callidus Software Inc (based in USA), on the basis that the payments constituted royalties. The former was a licensed distributor of software for the latter.
The key issue in contention was whether the procurement and consequent sale of copies of the software (referred to as copyrightable material) constituted a royalty. The taxpayer asserted that by purchasing software, it acquired copyrighted material, and it did not in any way acquire the rights to the Intellectual Property, that is, the copyright in the software. In its submission, KRA opined that software cannot be delinked from the medium in which it is embedded. Thus, the taxpayer had essentially acquired the rights to exploit the software which was encompassed in the licence as a distributor.
In determining the case, the court cited that the Organization for Economic Cooperation and Development (OECD) prescribes that in distribution-intermediary transactions, the distributors are paying only for the acquisition of the software copies and not to exploit any right in the software copyrights. More so, the rights of the distributor in such transactions do not constitute the rights to reproduce the software. Therefore, the medium in which the software is embedded is nonconsequential in characterizing the transaction for tax purposes.
Notably, the proposed change in relation to the definition of royalty offers insights into the direction Kenya is seeking to take with respect to the taxation of software. This direction is however, in contravention of international best practice as well as the network of tax treaties that Kenya has entered into with various jurisdictions.
If you wish to discuss these topics, please contact:
Viva Africa Consulting LLP (WTS Kenya)
