Nigeria has no specific law relating to taxation of leasing companies. Leasing organisations are therefore subject to the tax laws applicable to all companies, although there are specific sections on leasing such as those relating to capital allowance claimable on leased assets.
Basically, two types of lease exist for tax purpose. A lease is either a tax lease or a non tax lease. A tax lease is one which qualifies for tax purposes while the non tax lease is one which is considered to be a loan. Generally, in some countries (including Nigeria) considered as “substance” countries, guidelines have been made to distinguish between these two types of leases.
If a lease has features such as a purchase option that indicate ownership, it will be treated as a purchase or loan. Thus, it could be said that a finance lease under this circumstance would not qualify as a true lease, since the true intention of the parties is for the lessee to own the asset at the end of the transaction. Operating lease with its characteristics, is regarded by the tax authorities as a true lease and would entitle the lessor to claim tax depreciation and the lessee, the rent expense.
Some of the laws that have direct impact on leasing include:
1. Companies Income Tax Act (Cap C. 21, LFN 2004)
2. Value Added Tax Act (Cap VI, LFN 2004)
3. Capital Gain Tax Act (Cap CI, LFN 2004) as amended
4. Equipment Leasing Act 2015
According to the Equipment Leasing Act 2015, “Finance Lease is a lease involving rental payment over an obligatory period sufficient in total to amortise the capital outlay of the lessor and also give the lessor some benefits”
“Operating Lease means a lease involving rental payment over an obligatory period but the equipment is not wholly amortised during the non-cancellable period if any, of the lease, and the lessor does not rely for his profit on the rentals in the cancellable period”.
The Federal Inland Revenue Service (FIRS) had in April 2010 issued a circular “Guidelines on the Tax Implications of Leasing” pursuant to the provisions of these Acts, to explain the principle guiding lease arrangement in Nigeria.
Under the Guideline:
1. Finance Lease Treatment for Lessor
Lease rental is made up of the interest and capital portions. The interest portion of the rental earned by the lessor, constitutes taxable income in the hand of the lessor and the capital portion is a repayment of initial investment and has no tax implication. Also, the lessor is not allowed to claim capital allowance (Tax depreciation) on the leased assets. Only the lessee is allowed to make such claim. If the lessor makes such claim, it will be disallowed by the FIRS. The basis for this, is that the lessee is regarded in substance as the owner of the asset since all risks and rewards of ownership are transferred to him.
However, in practice the lessee may not have any use for such allowance because of low income to offset such allowance and therefore it is being canvassed by some stakeholders in the leasing industry, that tax authorities should follow the “form” of the transaction, regarding the lessor as the owner of the asset and thus entitling him to claim capital allowance as is done in many other countries, to serve as a major incentive to drive the development and growth of leasing. In these ‘form’ type of countries, the policies are formulated with the objective that leasing should be incentivised to grow. The essence being to motivate lessors to do more leases.
i. With Holding Tax (WHT) is computed only on the interest portion of the total lease payment due from the lessee. The lessor receives lease rental less 10% WHT. The credit note is issued in the name of the lessor who can use it to offset its income tax liability for the relevant period.
ii. Value Added Tax (VAT) is not imposed on interest earned by the lessor; the interest is a return on investment of the lessor and as such is not liable to VAT.
iii. Capital Gain Tax (CGT) is imposed on any capital gain realised if an asset is disposed at the expiration of the lease period.
2. Finance Lease Treatment for Lessee.
The Companies Income Tax Act (CIT) regards the interest portion of the periodic lease rental and other related expenses such as insurance; maintenance cost as deductible expenses for income tax purposes
Also, the lessee is entitled to claim capital allowance on capital portion of the value of the leased assets
i. Withholding Tax (WHT) is withheld by the lessee at 10% on the interest portion of the lease rental and remitted to FIRS.
ii. Value Added Tax (VAT) on the purchase of the asset is regarded as input tax and should be capitalised with the cost of the asset.
iii. Capital Gain Tax (CGT) will not be applicable to the lessee unless the gain arose from the sale of his interest in the lease. However, the lessee will be liable to CGT if the leased asset was sold by him after exercising the purchase option.
3. Operating Lease Treatment for Lessor
i. The total lease rental received or receivable by the lessor is income and it’s wholly taxable and the lessor is entitled to claim capital allowance on the leased assets
ii. Withholding Tax (WHT) computed on the total lease rental must be deducted from the sums due from the lessee. The Withholding tax due is at 10% of the total rental income due on the lease
iii. Value Added Tax is imposed on the lease rental income. The lessor is obliged to include a 5% VAT charge on its invoice to the lessee.
4. Operating Lease Treatment for Lessee
i. The Rental charges and other associated expenses are allowable deductions for tax purposes. Capital allowance cannot be claimed by the Lessee.
ii. WithholdingTax (WHT) at 10% of the rental payment to the lessor shall be withheld by the lessee and remitted to the relevant tax authority.
iii Value Added Tax (VAT) charged by the lessor on the lease rental is not an input tax to the lessee; it is to be charged to the Profit & Loss Account.
Capital Allowance under Leasing
i Operating Lease
Paragraph 18(1b) of the second schedule to the Companies Income Tax Act (CAP C.LFN 2007) provides that “ where a company owning an asset leases that asset to any person under operating lease contract for use wholly, exclusively, necessarily and reasonably, for the purpose of a trade or business carried on by such person, the provision of this schedule shall apply as though the expenditure were incurred for the purpose of a trade or business carried on by the owner or Lessor and as though the owner or Lessor were using the asset for the purpose of such last mentioned trade or business in the way in which and for the period or periods during which the asset is in fact in the first mentioned trade or business “
“In essence, capital allowance can only be made by the lessor under an operating lease arrangement.”
ii. Finance Lease
In the case of a finance lease, paragraph 18(2) of the second schedule to the Companies Income Tax (CAP C.21 LFN 2007) provides that “ where however an asset is acquired by any hirer or lessee under a finance lease contract the term of which provides for the transfer of ownership, risks and reward to the hirer or lessee, the provisions of this schedule shall in the same way as it applies to an asset acquired by any owner or lessor of an asset for the purpose of his trade or business but shall so apply subject to the following modifications that is to say:
- The qualifying expenditure within the provisions of this schedule shall be limited to the amount of the total lease payments due from the hirer or lessee during his basis period, excluding in the computation of such qualifying capital expenditure any interest or charges payable under the contract,
- Any reference in this sub paragraph to any owner/lessor or any asset shall be construed as including a reference to the hirer or lessee under finance lease contract and as excluding a reference to the person leasing the asset to the hirer or lessee under the contract”
Based on these provisions, the FIRS would only allow the lessee to claim capital allowances under finance lease. However, Section 36 of the new Equipment Leasing Act (2015) appears to give the lessor entitlement to capital allowance in both finance and operating leases. The law also limits the qualifying expenditure to the total lease payments due from the lessee to the lessor. Thus, interest charges payable by the lessee to the lessor is not a qualifying capital expenditure and does not qualify for capital allowances.