Introduction
A phoenix is believed “to be a unique bird that lived for five or six centuries in the Arabian desert, after this time burning itself on a funeral pyre and rising from the ashes with renewed youth to live through another cycle”. Companies that are wound up and then resurrected through formation of a new company or companies that take over the business of such wound up company or companies by way of an analogy can be likened to phoenix birds. Thus upon realizing that the companies which they are managing have accumulated insurmountable tax debts directors would abandon such companies to form a new company or companies which take over the business of the abandoned. Phoenix behaviour is prevalent amongst small to medium enterprises and is largely motivated by the existence of tax debts. The Finance (No.3) Bill of 2018 seeks to address this loophole through amending to s77 of the Income Tax Act by the insertion of subsection (8). The provision makes directors of abandoned or wound up companies accountable for such companies’ tax debts. This piece of legislation was once highlighted in the Finance Bill of 2017, but was never enacted into law. Directors are warned of the tax and personal ramifications of such behaviour. .
Piercing of corporate veil
As alluded to above, after the voluntary winding up of the company, some directors may decide to establish another company to carry on the same objectives of the wound up company or they can choose to operate as sole proprietors of businesses which are almost similar to the wound up company. A director is defined under the 33rd Schedule to the Income Tax Act [Chapter 23:06] as a person, by whatever name he or she may be called, who controls or governs that company; or is a member of a body or group of persons which controls or governs that company; and includes any person occupying the position of director or alternate director of a body corporate. With effect from the year of assessment beginning on the 1st of January, 2019, section 77 (“Recovery of tax”) of the Income Tax Act [Chapter 23:06] is amended by the insertion of the following subsection after subsection (7) —
“(8) If, in Zimbabwe or in its country of formation, incorporation or registration, a company or entity (“the old company or entity”) is wound up voluntarily, or otherwise in circumstances that give rise to a reasonable suspicion that it was deliberately put into liquidation to avoid any tax liability, and—
(a) the directors (or other persons acting in a similar capacity) of the old company or entity (or any of them)—
(i) incorporate or register another company or other entity (hereinafter called the “new company or entity”) that carries out substantially the same business as the old company; or
(ii) operate as sole traders, whether individually or collectively, carrying on substantially the same business as the old company;
(b) the whole or a substantial part of its business and property wherever situated is transferred to another company or entity which will be or has been formed, incorporated or registered under any law;
the directors of the old company or entity (whether or not any of them become directors of or act in a similar capacity in relation to the new company or entity) shall be jointly and severally liable for the amount of any tax due and payable by the old company or entity.”
Implication
This new insertion implies that in the event that a voluntary winding up takes place in a certain company whether in Zimbabwe or in another country where it is established, and the directors choose to establish another company which carries on the same business similar to the one wound up, or they decide to operate as sole proprietors of similar businesses to the one wound up; these directors shall be liable to pay the tax liability of the old company that has been wound up. The same applies if the property or part of the wound up company is transferred to another company; the directors of the old company shall also be liable to bear the tax burden of the old company since the winding up might be viewed by the tax authorities as a tax evasion scheme. Through the insertion of this subsection (8) to section 77 of the Income Tax Act [Chapter 23:06] the Finance Minister is trying to address the issue of tax avoidance and evasion by directors who voluntarily wind up their companies as a way to evade from remitting the tax liability of the company to the fiscus and establish a similar one. This has been an issue of concern to the Zimbabwe Revenue Authority and one of the reasons for the accumulated tax debt which has become irrecoverable. The ZIMRA is thus owed close to US$4 billion by both private and public sector companies.
Conclusion
Failure to address this issue of voluntarily winding up companies could have caused the recurrence of the behaviour of evading tax. The new law is therefore important to the country since it will enable the fiscus to still recover the tax liability of the wound up company from the former directors of that company who would have chosen to continue in the same trade but as a new company.