MANAGING TAX RISK: Are directors liable for unpaid taxes?

What you need to know:

A company is a separate legal entity to its shareholders and directors. And as such, shareholders and directors have no personal liability for the debts of the company.

Are you a director of a company in Tanzania? If yes, then this article may be very relevant to you. Among the major advantages of operating a business as a company is the limited liability feature. A company is a separate legal entity to its shareholders and directors. And as such, shareholders and directors have no personal liability for the debts of the company. This is often termed as a “corporate veil”. However, there are circumstances where the corporate veil can be lifted, and directors may become personally liable. One such circumstance is when a company fails to pay the tax on time.

The tax administration law (The Tax Administration Act, Cap 438) empowers the tax authority (TRA) to collect unpaid taxes from the directors of the company. This is so scaring, isn’t it? The corporate veil does not seem to help when it comes to tax liabilities.

Section 65 of the tax administration law deals liability of managers of entities. Most tax laws give the words “manager” and “entity” their broad meanings. For tax purposes, companies are entities and directors are managers. A manager of an entity is any person who participates alone or jointly with other persons in making senior management decisions on behalf of the entity. Essentially, any person whose directions and instructions affect the entity.

So, provided you fit the definition as a manager of the entity, the tax administration law (Section 65) empowers TRA to collect unpaid taxes of your company from you (regardless of your given title). In practice, it has been uncommon to see TRA exercising this power. But this may now change. Before the change, the director’s liability would fall on persons who were directors of the entity “within a period of twelve months prior to the entity default”. Recently, through the Finance Act, 2018 changes were made and now Section 65(1) of the tax administration law reads as follows:

“Where an entity fails to pay tax on time, a manager or a person who was the manager of that entity during the occurrence of default shall be jointly and severally liable with that entity for payment of the tax.”

One may ask, what was the mischief the change is set to cure? The “Objects and Reasons” part of the bill to the Finance Act, 2018 makes the intentions very clear. The bill states that “section 65 is amended to provide for liability and accountability on managers of entities. Under this amendment, managers of entities shall be held liable and accountable during the time of occurrence of the tax offense”.

The changes send a signal that TRA may start invoking their powers under this provision. But the good news is that the tax administration law prevents TRA from exercising their powers to collect unpaid taxes from a manager (director) if such a director “has exercised the degree of care, diligence, and skill that would have been exercised in preventing the failure to pay tax.” Whilst this is an important condition, it is very subjective. What sort of things would TRA consider as care, diligence, and skill exercised by a director in preventing a failure to pay tax?

The company law (The Companies Act, Cap 212) is a bit clearer on what is expected from directors. Section 185 it states that a “director owes the company a duty to exercise the care, skill and diligence which would be exercised in the same circumstances by a reasonable person having both the knowledge and experience that may reasonably be expected of a person in the same position as the director, and any special knowledge and experience which the director has.” Arguably, it also has elements of subjectivity.