Exchange Losses and Tax Deductions: What Ghana’s New Amendment Means for Businesses
Exchange Losses and Tax Deductions: What Ghana’s New Amendment Means for Businesses
Introduction
This blog examines the implications of the latest amendment to Income Tax, the inconsistencies it introduces, and its potential impact on businesses operating in Ghana.
The tax treatment of foreign exchange losses in Ghana has undergone a significant shift with the introduction of the Income Tax (Amendment) Act, 2023 (Act 1094). Before this amendment, both realised and unrealised foreign exchange losses were deductible for tax purposes, whiles subject to the finance cost limitation. However, Act 1094 introduced a critical change to Section 25 of the Income Tax Act 2015 (Act 896), explicitly disallowing the deduction of unrealised foreign exchange losses.
Changes to the Treatment of Foreign Exchange Losses
Prior to Act 1094, the general tax treatment of foreign exchange losses allowed both realised and unrealised losses to be deducted. These losses were still subject to the finance cost limitation (Section 16 of the Income Tax Act), which placed a cap on the amount of financial costs, including foreign exchange losses, that could be deducted in a given tax year.
With the passage of Act 1094, an additional restriction has been introduced: unrealised foreign exchange losses are now entirely disallowed as tax deductions. This means that only realised exchange losses, those that occur when a transaction is settled, can be deducted. Effectively, this removes unrealised foreign exchange losses from the scope of the finance cost limitation altogether. Instead of limiting their deductibility, the law now outrightly disallows them, regardless of a company’s financial exposure to currency fluctuations.
Implications of the Amendment
The new restriction significantly affects businesses, particularly those engaged in international trade and transactions involving foreign currencies. Companies operating in sectors that rely on imports, exports, or foreign financing will bear the brunt of this change, as they frequently encounter foreign exchange fluctuations that impact on their financial performance.
One key implication is the delay in tax relief for affected businesses. Previously, businesses could account for foreign exchange losses as they occurred, even if they had not yet been realized. Now, they must wait until a loss is settled before it can be deducted. This increases tax liabilities in the short term, as businesses may face higher taxable income despite experiencing currency depreciation.
Inconsistent treatment of Foreign Exchange Gains
A significant concern arising from this amendment is the silence regarding the treatment of unrealised foreign exchange gains. While unrealised losses have been explicitly disallowed as deductions, the law does not provide clarity on whether unrealised gains should equally be disallowed or taxed.
Also, the absence of a clear directive from the Ghana Revenue Authority (GRA) on the taxation of unrealised foreign exchange gains only exacerbates this issue. Without an official practice note or administrative guideline, businesses and tax practitioners are left to navigate this ambiguity, potentially leading to disputes with tax authorities in the future.
Realised and Unrealised Forex Gains and Losses. How are they determined?
Foreign exchange gains and losses occur when fluctuations in exchange rates affect the value of transactions or balances denominated in foreign currencies. These can be categorised into realised and unrealised foreign exchange movements. Realised exchange gains or losses occur when a foreign currency transaction is settled, such as when a company pays off a foreign-currency-denominated liability or receives payment from a foreign customer.
In contrast, unrealised exchange gains or losses arise when exchange rate fluctuations affect outstanding balances on foreign currency transactions that have not yet been settled. These unrealised amounts are often reflected in financial statements but do not involve actual cash flows.
Conclusion and Recommendation
The amendment to Section 25 of the Income Tax Act, introduced by Act 1094, increases tax liabilities for businesses engaged in international trade and foreign-denominated transactions by disallowing unrealised foreign exchange losses. This could discourage cross-border trade and investment, particularly for businesses already facing economic uncertainty.
To ensure consistency and fairness, tax authorities should issue clear guidance to align the treatment of unrealised foreign exchange gains with that of losses. Establishing this balance would create a fairer tax framework, providing some relief to taxpayers while enhancing predictability in tax compliance.