Taxing retained earnings: Align CFC provisions with deeming distribution provisions
ByBenedict Kombaha
Many scholars argue that the strength of an entity is measured by what it retains, not just what it earns. This assertion underscores the importance of retained earnings (RE) to the business community.
These scholars believe that fiscal policy, particularly tax legislation, should be designed in a way that encourages entities to retain earnings, thereby supporting their long-term growth prospects.
In a bid to curb the indefinite accumulation of retained earnings, the Government introduced anti-tax avoidance measures through the Finance Act 2025, which took effect on July 1, 2025. The amendments empowered the Commissioner General (CG) of the Tanzania Revenue Authority (TRA) to deem up to 30 percent of a resident entity's undistributed profits for a period of 12 months as distributed and subsequently impose withholding tax (WHT) on the deemed distributed profits, commonly referred to as deemed dividends. These measures have become widely known as the "deeming distribution provisions".
The deeming distribution provisions have drawn mixed reactions from tax stakeholders. Some argue that they discourage the indefinite accumulation of retained earnings and help plug revenue leakage, while others contend that they discourage businesses from retaining earnings, thereby undermining their long-term growth prospects.
In an effort to strike a balance between preventing revenue leakage and supporting business growth, the Government amended the deeming distribution provisions through the Finance Act 2026, which came into effect on July 1, 2026. The amendments reduced the deeming distribution base from 30 percent to 15 percent of undistributed profits and exempted certain resident entities from the provisions.
The exempted entities include companies listed on the Dar es Salaam Stock Exchange (DSE), financial institutions as defined under the Banking and Financial Institutions Act, insurance companies, and mining companies with executed framework agreements with the Government.
The Government should be commended for adopting some of the amendments proposed by stakeholders. However, some continue to advocate for the complete repeal of the provisions, while others support a further reduction of the deeming distribution base to 10 percent of undistributed profits.
It is worth noting that the deeming distribution provisions do not apply to resident entities covered under Section 96(6) of the Income Tax Act, Cap 332 R.E. 2023, namely resident entities with non-resident shareholders. Some tax experts argue that the rationale for this exclusion is that such entities are already deemed to distribute their undistributed profits to their non-resident shareholders under the Controlled Foreign Corporation (CFC) provisions.
The CFC provisions under Section 96(6) of the Income Tax Act deem 100 percent of the undistributed profits of a resident entity with non-resident shareholders as distributed and impose withholding tax on those deemed dividends.
Taxpayers have strongly challenged the TRA's interpretation of the CFC provisions, particularly regarding deemed dividend distributions. In Tax Revenue Appeals Tribunal (TRAT) Appeal No. 15 of 2023 between Gateway Gaming Limited and the Commissioner General (TRA), the Tribunal agreed with the taxpayers' position, holding that the TRA's interpretation of the deeming distribution provisions was erroneous and invalid in law. The TRA has since appealed the decision to the Court of Appeal, where judgment is still pending.
Without prejudice to the pending CFC case before the Court of Appeal, and notwithstanding calls by some tax experts for the repeal of the CFC deeming provisions under Section 96(6) of the Income Tax Act, it may be necessary to align the CFC provisions with the amendments introduced by the Finance Act 2026.
For example, the CFC provisions deem 100 percent of undistributed profits as distributed, whereas the deeming distribution provisions apply to only 15 percent. In the interest of fairness and equity, it may be appropriate to reduce the CFC deeming distribution base to 15 percent so that it aligns with the deeming distribution provisions.
Furthermore, the deeming distribution provisions exempt companies listed on the DSE, insurance companies, financial institutions and mining companies with executed framework agreements. However, the CFC provisions are silent on whether these exempt entities remain subject to the CFC rules where they have non-resident shareholders.
Will these entities still fall within the scope of the CFC deeming provisions? Greater clarity is needed to avoid unnecessary disputes in future and to ensure consistency with the Government's intention to exempt such entities from the deeming distribution provisions.
