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MARK RUHINDI
Kenya’s High Court has recently delivered a key decision in the battle over VAT in the ride-hailing/digital platform economy, that risks far-reaching ripple effects across East Africa’s digital commerce landscape.
The landmark decision fundamentally reclassifies digital platforms as primary suppliers of gig-economy services for VAT purposes. This brings them fully into the VAT net and forces gig workers/entrepreneurs and small merchants into VAT compliance, with potentially far-reaching consequences for the growth, structure, and taxation of the East African digital economy.
CASE: COMMISSIONER OF DOMESTIC TAXES V SENDY LIMITED, INCOME TAX APPEAL NO. E137 OF 2024.
The Court ruled that Sendy, the firm that operated a logistics marketplace platform, is the principal supplier of transport services rendered by third parties operating through its platform, and thus liable for VAT on the full value of customer payments.
The Court has therefore effectively redefined the nature of digital platform business models, with far reaching commercial and tax structuring implications across the entire digital commerce sector.
The facts:
The dispute arises out of an audit of the taxpayer’s affairs which resulted in a tax assessment and demand for VAT in the sum of Kshs 82,248,150.74.
The case for the taxpayer was that KRA’s audit had fundamentally bastardised and mis-characterised its business model. The taxpayer contended that it does not provide transport services but rather operates as a technology company that provides a digital marketplace, or rather an online platform that connects independent third-party transporters with customers requiring delivery services.
The taxpayer’s revenue was therefore limited to a commission charged to the transporters for the use of the platform, and it had duly accounted for and remitted VAT on this commission income.
This contention was upheld at first instance before the Tax Appeals Tribunal and it is this decision of the Tribunal that has now been overturned by the High Court, and KRA’s tax assessment upheld as validly raised.
The decision:
One of KRA’s key arguments made in the course of the proceeding is reproduced verbatim below, and will be central to this commentary. That argument was also upheld by the Court and formed the basis of the decision.
That argument is as follows:
“The Respondent(SENDY LTD) is the principal supplier of the transport service. This is demonstrated by the degree of control it exercises over the entire transaction. The Respondent controls the customer relationship through its digital application, dispatches the nearest available driver, determines the price, issues the demand for payment (RFP), and most critically, collects the full consideration for the service directly into its own bank accounts. The subsequent payment made to the driver is merely a disbursement or cost of sale, not a remittance of funds belonging to the driver.”
My Analysis:
I must point out at the onset that I find this argument from a revenue body quite problematic and rather simplistic as far as modern commerce is concerned.
And my quarrel is precisely with the fact that the revenue authority appears to say that a business should not outsource, or is rather penalising outsourcing. The argument and the Court’s decision therefore ignores modern outsourcing and e-commerce platform value chains, for tax collection expediency, with far reaching commercial implications which I will revert to later in this commentary.
Modern commerce is so layered that some of the largest enterprises on earth outsource up-to 70% of their operational tasks to third party independent contractors. From Marketing, customer relations, payments, legal, accounting etc.
In the digital commerce age for example, there’s no longer a need to have a brick and mortar locus in-quo service center in some industries and these are all commercial realities that fiscal policy makers and indeed judicial officers must always take into account when handing down decisions of this nature.
Secondly, tax law does not operate in a vacuum. The general rule is that tax characterisation of transactions must always follow general law rules in other areas of law such as the law of contract, sale of goods, labor law among other areas of law.
There must always be an express deeming tax rule in the form of a legal provision before a general law provisions can be discarded.
For example, before a gig economy hustler is categorised as being an employee of an e-commerce platform for tax purposes, some of the indicia of an employee-employer relationship in labor law must be present in the relation that exists between the two parties.
For a VAT obligation to arise, the key indication is a contractual obligation between two parties, the supplier and the recipient of the supply.
If it can be proved in general law, that the contract for provision of a transport service was between the gig economy hustler and the end consumer, then the VAT supply can only have been made by the gig economy hustler, and NOT the intermediary who only provided outsourced services that made it possible for the supply to happen.
For some categories of digital platforms, control of a transaction by the platform might put in place a contract between the firm operating the platform and the end consumer but this is not always the case.
The primary question that must guide is, who contracts to provide the underlying supply? Control of pricing and payments alone does not create principal status. Drivers scaling through digital platforms may remain independent suppliers even on tightly controlled platforms.
The entity that bears performance risk under contract law and has the obligation to supply, and is the principal for VAT purposes. The key test therefore is whether the platform operator promises transport, or only facilitation of the process leading to the provision of transport by the actual contractor.
Therefore, CONTROL alone cannot be used as a yardstick for the existence of a VAT supply in law. The VAT system adheres to these general law principles and failure to take them into account when levying tax might simply lead to a distortion of the tax system.
It might therefore become necessary for internet companies operating these digital platform firms to recalibrate their own tax structuring, and specifically to take technical assistance that will enable them better understand some of these technical nuances underlying their business models.
Regional gig-economy, e-commerce and digital services taxation implications of the decision.
The immediate tax implication is that we now have two VATable transactions in every ride or delivery processed through a digital platform operating a similar business model. These are;
- Supply from motor vehicle owner to tech platform (input VAT for the platform)
- Supply from tech platform to end consumer (output VAT to the tax authorities on full final consideration paid by the end consumer)
This new reality is problematic from a commercial point of view, taking into consideration the nature and level of tax sophistication of most African economies.
The other immediate implication is that thousands of gig-economy participants have been hit with a VAT compliance shock overnight, and the reason is simple; e-commerce platforms lose input VAT if they trade with non-compliant taxpayers. Exposure to commercial activities of too many Non-VAT traders or informal taxpayers makes the platform’s business model commercially unviable and wipes out margins.
And yet many entrepreneurs in the gig economy operate without certainty of sales, and a large proportion never cross the VAT threshold at all.
The digital marketplace has until now been hailed as the new African growth engine, with recent data indicating upwards of 24% of GDP in economies like Kenya being attributed to the digital gig economy.
The decision adopts the judicial positions in the EU(a more mature market) and loses sight of the fact that in those markets, platform operators also own fleets and supply directly to consumers unlike in East Africa where their role is principally in market creation, not market participation.
And the fact that in East Africa, those firms do not own the assets generating the value sought to be taxed. The vehicle, the fuel, the service, all belong to the gig worker. Following EU judicial positions blindly, copy and paste style might not work for our economies, or at least yet.
The reason for this is simple; The VAT neutrality principle collapses in the case of East Africa. This is because in the EU, input VAT is almost fully recoverable for the digital platform operator, because supply chains are VAT-dense since most vendors are VAT-registered as default.
In the case of East Africa, an e-commerce platform such as the one in the facts, VAT becomes, not a tax on value added, but a tax on the existence of the platform.
The Court also seems to prioritize revenue integrity over economic neutrality and completely disregards developmental tax policy for a fragile digital ecosystem. It is also likely to create double taxation and compliance chaos.
The ultimate result is stagnation and less gig work, fewer SMEs and entrepreneurs scaling beyond neighbourhoods, higher consumer prices and ultimately less tax collected both under direct and indirect tax.
Therefore what may appear like a triumph for short-term revenue mobilisation for KRA, has not only harmed long-term revenue mobilisation strategies like third-party-data taxpayer profiling, but effectively it has also penalised outsourcing and digital scaling and jeopardises the region’s most inclusive economic channel, and risks slowing digital economic growth, especially in: Ride-hailing, Logistics, E-commerce, Creator platforms, Digital marketplaces.
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