Tax or not to tax Unit Trust Fund profits

Players warn that the move could discourage the growing savings culture

Kampala, Uganda | JULIUS BUSINGE | Over the past few years, Uganda started experiencing a surge in the local population, especially youth interested in saving, growing their capital for future investments through the Unit Trust Funds.

This is because Unit Trust Funds offer slightly better returns on their savings compared to commercial banks and microfinance institutions.

However, the government’s proposal to impose 5% and 15% withholding tax rates on the profit (interest/dividends) earned by members from their contributions to unit trusts in Uganda effective July 1, 2023, if passed into law is raising anxiety.

The income tax amendment bill 2023 has since been tabled in parliament by the Minister for Finance, Planning and Economic Development, Matia Kasaija.

The government is proposing a 5% withholding tax on members with total contributions not exceeding Shs100 million, while a 15% withholding tax will be imposed on members with over Shs100 million.

Killing young industry

Zac Kisesi, the head of alternative channels at UAP Old Mutual, one of the service providers of Unit Trusts Fund told the Independent in an interview that they have already received negative sentiments from their clients who get their hard-earned money from businesses that are taxed and then invest it in unit trusts. He said the proposal tantamount to an element of ‘double’ taxation.

“The industry is young with only 50,000 retail investors,” he said “It only gained momentum three years ago and people are just getting to the culture of saving. We are not against paying the tax, but the timing for this proposal is not right.”

Kisesi said the government needs to support the industry by educating the public on the need to do more saving through schemes like unit trusts for now, instead of introducing disincentives like taxes.

“…otherwise people will not save, they will start keeping their money at home,” he added.

Similarly, Aeko Ongodia, the founder and chief executive officer of Xeno Investment said, if the government goes ahead to pass this proposal into law, ‘it will just kill the industry’.

He suggested that the government defers this proposal for now and instead put in place incentives for growing the industry.

“We need 3-5 years from now to grow the industry to reach 500,000-1,000, 000 participants before we can think of taxing unit trust income,” he told The Independent.

Ongodia said the government should support the private sector to roll out educative investment literacy programmes targeting potential members of the public to save more and invest in unit trusts.

He also said the government should ensure that the regulatory regime is accommodative to support homegrown investment solutions being driven by local players, instead of relying on foreign firms that have hidden business motives.

Following Kenya’s footsteps

If Kasaija’s tax proposal goes through, Uganda will have joined its sister East African Nation, Kenya. Currently, Kenya taxes a uniform 15% levy on unit trust income although the latter’s industry is more developed in terms of participants than Uganda’s.

Rwanda on the other hand, collective investment schemes are exempted from withholding tax on payments or other methods of extinguishing an obligation applicable to dividends.

This suggests that an income distributed to the holders of shares or units in collective investment schemes is exempted from paying withholding tax applicable to the issuance of dividends which stands at 15% under current income tax law.

In an attempt to streamline investment, CIS registered investors in accordance with applicable investment rules, upon fulfilling certain conditions, can enjoy some fiscal incentives including a 3% preferential corporate income tax and 0% preferential withholding tax on dividends, interest, and royalty payments.

Uganda first attempted to tax collective investment schemes starting last year but the industry regulator, Capital Markets Authority literally opposed the decision.

“It is our understanding that Section 21(1) (t) of the Income Tax Act exempts the income of a Collective Investment Scheme from tax to the extent of distribution of the income. The purpose of this exemption is to encourage savings which are still at a relatively low base in Uganda. The introduction of a withholding tax on income earned by investors in Unit Trusts to the contrary is a disincentive for savings,” CMA said in a statement last year.

CMA further said, engagements with the Ministry of Finance, Planning and Economic Development were underway for policy guidance to ensure that the tax policy related to the CIS industry is clarified and there is a consistent interpretation and application of the ITA by all industry practitioners. CMA executives that spoke to The Independent described the new proposal as ‘sensitive’ and had not answered our questions by press time.

Government’s response
In a response via Twitter, Ramathan Ggoobi, the Permanent Secretary and Secretary to the Treasury (PSST), who commands a substantial number of followers on the social media platform said the new tax initiative is an alignment with the taxes imposed on other investment vehicles such as bonds and securities.

“Taxation should not be used to prefer one investment to another or distort choices on where a person invests his money; that is all this measure is intended to achieve,” Ggoobi said. He said the decision ‘is an alignment’ and that return on investment is always taxed.

He added: “If you invest part of your net salary and get dividends, it is taxed at 15%, if you save it and get interest it is taxed at 15%.”

Ggoobi also said, currently the tax law provides a 30% tax on the collective investment schemes ‘if it does not distribute the money with an accumulation of investment’ but the investor receives tax-free income when it is paid to them.

“It is this anomaly we are proposing to correct,” he added. Ggoobi’s submission sparked debate with some agreeing with him and others not.

Like Ggoobi, Paul Lakuma, a senior research fellow at the Makerere University-based Economic Policy Research Centre says: “People should pay this tax; good enough they are not taxing capital, they are taxing profit.”

He, however, said the government need to put in extra efforts towards putting in place a very conducive environment to support investments to enable unit trusts to grow and be able to meet their tax obligations.

“Let’s contribute tax to enable the government to deliver services,” he said, “If they were taxing capital that would be double taxation, problematic.” He faulted the government on the taxpayer-education gap, saying, people are resisting new tax proposals because of the limited education about them.

“The messaging about the intent of new taxes is poor and that is where the government needs to improve,” he said.

Meanwhile, Robert Ssuuna, a tax consultant told The Independent, the new proposal has both positive and negative sides.

On a positive, he said, it would broaden the tax base by getting into the new catchment area that is currently not paying tax. It would also bring about some bit of fairness for other investors doing similar work and are taxed.

On the ugly side, Ssuuna said, the new proposal may discourage investments in unit trusts and can be subject to abuse by wise investors who may choose to hold as many accounts in the same unit trust or different unit trusts to avoid the tax by not hitting the threshold of Shs100million.

“Whereas people are likely to fear this tax in the short run, globally it is not a bad practice to tax passive income,” he said.

Ssuuna said the implementers of the new proposal would have to be very cautious not to violate privacy investment rights while sharing client information for those holding accounts in different unit trusts.

Latest data from CMA indicates that the value of the Collective Investment Schemes (CIS) – where unit trusts belong – grew by 13.7% to Shs1.30 trillion in Assets Under Management (AUM) at the end of June 2022 compared to Shs1.15trillion at the end of March 2022.

Analysis of CIS account types indicates that the largest growth was registered in the Umbrella Funds which constitute 70% of the total CIS Assets Under Management.

The Umbrella Funds are invested in interest-bearing securities such as treasury bills, treasury bonds, corporate bonds, and fixed deposits with approved financial institutions. Other popular CIS account types are; the Balanced Fund, Money Market Fund, Fixed Income Fund, and Equity Fund. CISs offer a channel through which investors can earn a return on passive investments.

CIS also ensure that investors enjoy the benefits of having their savings managed by professionals. There are also the benefits of risk diversification, lower transaction costs, and access to a wide variety of securities investments with a small sum of at least Shs100, 000. The other advantage is that the money invested in a Unit Trust can be withdrawn anytime by the owner.