Question Tag: Foreign Exchange Loss

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  • 6 Marks

AT – Nov 2020 – L3 – Q3a – International taxation

Tax implications of a loan from a parent company and foreign exchange losses for Mandy Ltd, a subsidiary of Menkay Incorporated.

The following information is relevant to Mandy Ltd (Ghana), a subsidiary of Menkay Incorporated, a company resident in Japan.

Following Mandy Ltd’s operational challenges, a loan of US$1,500,000 was secured from its parent company in 2019 year of assessment.

Additional information relevant to Mandy Ltd’s operations:

Description Amount (GH¢)
Interest on loan paid in 2019 300,000
Foreign exchange loss 105,000
Equity:
Share capital 150,000
Retained earnings 300,000
Total equity 450,000

Exchange rate: 1US$ = GH¢5.73

Required:
Determine the tax implication of the above transaction.


  • 6 Marks

AT – Nov 2016 – L3 – Q3a – Business income – Corporate income tax

Analyze the treatment of interest and foreign exchange loss under thin capitalization rules.

a) The current level of government borrowing has become a topical issue for discussion, causing observers to wonder whether borrowing is good or bad. In the light of this, you are required to:

Below is the capital structure of Nyameke Ghana Limited for the 2014 year of assessment:

GH¢
Equity 20,000,000
Loans 80,000,000
Total 100,000,000

The loans were taken by Nyameke Limited from the parent company based in Nigeria. During the year under review, the subsidiary paid GH¢700,000 as interest on the loan and also incurred an exchange loss of GH¢500,000 on the repayment of a loan taken earlier from the parent company.

Required:
Determine how the above transaction will be treated for tax purposes. (6 marks)

This is a case of interest and foreign exchange loss being subjected to thin capitalization rules. The thin capitalization rules typically limit the amount of interest that can be deducted for tax purposes based on a prescribed debt-to-equity ratio.

  • Thin Capitalization Ratio: The prescribed debt-to-equity ratio is 2:1. This means that the allowable debt is twice the equity amount.
  • Calculation of Allowable Debt:Allowable Debt=2×20,000,000=40,000,000 GH¢\text{Allowable Debt} = 2 \times 20,000,000 = 40,000,000 \text{ GH¢}
  • Interest Deductibility: Since the total debt is GH¢80,000,000, only GH¢40,000,000 is allowed for tax purposes. The interest that can be deducted is proportional to the allowable debt.Interest Allowed=(40,000,000×700,00080,000,000)=350,000 GH¢\text{Interest Allowed} = \left(\frac{40,000,000 \times 700,000}{80,000,000}\right) = 350,000 \text{ GH¢}
  • Interest to be Disallowed: The remaining interest of GH¢350,000 (GH¢700,000 – GH¢350,000) is disallowed.
  • Withholding Tax on Interest: The withholding tax on the total interest of GH¢700,000 at 8% is:Withholding Tax=700,000×8%=56,000 GH¢\text{Withholding Tax} = 700,000 \times 8\% = 56,000 \text{ GH¢}
  • Foreign Exchange Loss: The allowable foreign exchange loss is also proportional to the allowable debt.Allowable Foreign Exchange Loss=(40,000,000×500,00080,000,000)=250,000 GH¢\text{Allowable Foreign Exchange Loss} = \left(\frac{40,000,000 \times 500,000}{80,000,000}\right) = 250,000 \text{ GH¢}
  • Foreign Exchange Loss to be Disallowed: The remaining GH¢250,000 (GH¢500,000 – GH¢250,000) of the foreign exchange loss is disallowed.

Summary:

Item Total (GH¢) Allowable (GH¢) Disallowed (GH¢)
Interest 700,000 350,000 350,000
Foreign Exchange Loss 500,000 250,000 250,000
Withholding Tax on Interest 56,000 – –
  • 12 Marks

AT – Nov 2019 – L3 – Q1a – Tax planning

Analyze the tax implications of a loan arrangement under thin capitalization rules for Kelkadadi Ltd.

The management of Kelkadadi Ltd, a company resident in Ghana since the year of assessment 2007, is a wholly owned subsidiary of Danlerigu Ltd, a company resident in Nigeria. The Finance Manager of Kelkadadi has invited you as a final level three candidate of ICAG and also a Tax Intern with Danlerigu to analyze the transaction below and provide tax implications thereon.

Kelkadadi Ltd contracted a loan of $10 million from Danlerigu Ltd to help it meet its operational activities. The balance standing on the loan account at the beginning of 2018 stood at $5 million and $4.1 million at the end of 2018 year of assessment. The exchange rates are as follows:

  • Year Start (2018) $1 = GH¢5.20
  • Year End (2018) $1 = GH¢5.21

The extract of the financial statement at the beginning of the year 2018 was as follows:

  • Stated Capital: GH¢200,000
  • Retained Earnings: GH¢1,235,000
  • Capital Surplus: GH¢40,000
  • Share Deals: GH¢30,000

Interest on the debt paid during the year amounted to GH¢90,124 and foreign exchange loss on the loan repayment stood at GH¢147,000.

Required:

Write a memo on the possible tax implication(s) on this arrangement to the Finance Manager.

MEMO

TO: Tax Manager
FROM: Tax Intern
DATE: 7th July 2019
SUBJECT: Tax Implication on Thin Capitalization Rules

INTRODUCTION
Following your request for me to provide the tax implication on the thin capitalization, I furnish as follows:

ISSUES
Kelkadadi Ltd is a subsidiary of Danlerigu and any loan that is granted shall be subject to Thin capitalization rule which states that the debt secured should not be more than 3 times the equity of the entity.
In this particular situation, the debt exceeds the three times. Consequently, the interest paid or payable that exceeds the 3:1 ratio shall be added to income and taxed and also the foreign exchange loss paid or payable.
Additionally, the total interest paid or payable attracts a withholding tax at the rate of 8%.

Summary of Interest
Total Interest: GH¢90,124.00
Interest Allowable: GH¢14,922.45
Interest to be disallowed (difference): GH¢75,201.55
From W2 as attached, total interest of GH¢90,124.00 shall attract interest at 8% which is (90,124.00 * 8%)=GH¢7,209.92
Interest of GH¢75,201.55 shall be disallowed, meaning it should not be an allowable deduction out of GH¢90,124 with GH¢14,922.45 allowable.

Summary of Foreign Exchange Loss
Total Foreign Exchange: GH¢147,000.00
Foreign Exchange Allowable: GH¢24,339.81
Foreign Exchange unallowable: GH¢122,660.19
From W3 as per the schedule attached, the total foreign exchange loss of GH¢147,000 only GH¢24,339.81 shall be allowable with GH¢122,660.19 not allowable for tax purposes.

CONCLUSION
In conclusion, the attached schedule will aid your comprehension of the issues as stated above.
Thank you.
Yours faithfully,

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