Tax Implications Of Raising Capital In Nigeria’s Startup Ecosystem

INTRODUCTION

In Nigeria’s vibrant startup ecosystem, raising capital is a critical milestone that can determine long-term survival and scalability of businesses. At different points, whether while kicking off businesses or scaling, founders are always torn between choosing which of the two legs of a company’s capital structure provides the best possible outcome. In a broad sense, the available options are debt financing and equity financing, and beyond factors like dilution, control, and repayment pressures, the tax implications of each option often tip the scales.

At a first glance, Debt Financing presents an immediate incentive through deductible interest expenses unlike Equity Financing which, rather eventually, unlocks profound investor incentives including potential capital gains tax exemptions and 30% investment tax credits. Notably, this is without prejudice to the fact that early-stage startups, often cash-constrained, lean toward equity financing while startups already generating revenue increasingly explore the debt option

This article examines the tax implications of debt and equity financing for Nigerian startups and highlights the key trade-offs under the current regime

DEBT FINANCING: TAX TREATMENT AND IMPLICATIONS

Deductibility of Interest

The most immediate and central advantage of debt financing lies in the tax deductibility of interest expense. By virtue of S.20(1)(a) of the Nigeria Tax Act (NTA) 2025, interest paid on debt that is wholly and exclusively employed in generating business income is fully deductible subject to the provisions of the Third Schedule to the same Act. In other words, interests on debt are only allowable for deductions when it is incurred wholly and exclusively in the production of the assessable income. The courts have consistently reinforced this principle. In FIRS v. Mobil Producing Nigeria Unlimited, the court emphasized that for an expense to qualify as deductible expense, there must be a clear nexus between the expense and the income-generating activity of the company.¹

For a revenue-generating startup, this deductibility could significantly reduce its Companies Income Tax (CIT) liability. This is, of course, where the startup does not qualify as a small company under NTA which, otherwise, would mean that it shall not be liable to pay CIT pursuant to S.56 of the NTA.

Thin Capitalisation and Transfer Pricing Concerns

Interestingly, the NTA imposes anti-avoidance and thin capitalisation rules that limit the quantum of interest that a Nigerian company may deduct where its debt-to-equity ratio is considered excessive. Thus, by the provisions of Paragraph 1 & 2 of the Third Schedule to the NTA, deductible interest on debt incurred from connected parties are capped at 30% of EBITDA (Earnings before Interest, Taxes, Depreciation, and Amortisation) in the relevant accounting period.

This position has been previously reinforced in the Tax Appeal Tribunal (TAT) ruling in Nigeria Agip Oil Company Limited v. FIRS² where the TAT espoused the principle that interest on inter- company loans is tax-deductible only where the terms comply with arm’s length principles and prevailing market conditions

For startups relying on intra-group financing, this position of the law demands careful consideration and tax structuring.

Withholding Tax on Interest Payments

Interest payments made by a Nigerian company, whether to an individual or corporate lender, attract withholding tax (WHT) at the rate of 10% under the First Schedule to the Deduction of Tax at Source (Withholding) Regulations 2024. WHT is deducted at source and remitted to the Nigeria Revenue Service (NRS) and constitutes a credit against the final tax liability of the recipient. For corporate lenders subject to CIT, this is creditable, whereas for individual lenders, it is the final tax where it is derived from short term securities and corporate bonds pursuant to s.51 (5) of Nigeria Tax Administration Act, 2025.

In the event that the lender is a foreign entity, the applicable WHT rate may be reduced where a Double Taxation Treaty (DTT) exists between Nigeria and the lender’s jurisdiction, and such DTT makes provisions to that effect under its terms.

Consequently, a startup looking to explore debt financing must weigh the tax benefit of deducting interest against the withholding tax cost to the lender, since that cost can influence the interest rate the lender charges.

EQUITY FINANCING: INCENTIVES UNDER THE STARTUP ACT AND NTA.

The Investment Tax Credit

The Nigerian Startup Act (NSA), 2022, significantly enhances the attractiveness of equity financing for startups by introducing investment tax credits of up to 30% for qualifying investors in labelled startups under S.29(2) of the NSA.

For clarity, labelled startups are startups that have been issued with a certificate to that effect by the National Information Technology Development Agency (NITDA).³ To obtain this label, an applicant entity must be registered as a limited liability with the Corporate Affairs Commission (CAC) and satisfy other requirements provided in S.13(2) of the NSA.

The Investment Tax Credit is available to angel investors, venture capitalists, private equity funds, and accelerators/incubators making equity investments in labelled startups. It is computed at 30% of the amount invested and is creditable against the investor’s tax liability for the year of the investment.

Capital Gains Tax Position on Asset Disposals

In addition to the Investment Tax Credit provided to the investors outlined above, the NSA also exempts gains that accrue from the disposal of assets by this class of investors from Capital Gains Tax (CGT), provided the assets have been held in Nigeria for a minimum of 24 months.⁴ Notably, this position has been reiterated under S.162(1)(m) of the NTA. This undoubtedly presents startup investors with a remarkable advantage by allowing them to exit qualifying investments without incurring tax on their gains, thereby improving the attractiveness of early-stage investment.

Withholding Tax on Dividends

Much like interests, dividends are subject to WHT at 10% which when deducted and remitted to the relevant tax authority shall be the final tax due from a non-resident recipient of the dividend payment by virtue of S.51(2) of the Nigeria Tax Administration Act (NTAA) 2025.

Similarly, where dividends are distributed by a Nigerian company and received by an individual after deduction of WHT, the dividend shall be regarded as franked investment income of the person receiving the dividend and shall not be subject to further tax.⁵

Ultimately, when considered together with the NSA’s CGT provisions discussed above, these measures collectively shift investment preferences away from dividend-based returns, which attract immediate taxation, and toward capital appreciation, which may be realized tax-free upon exit. This incentivizes labelled startup investors to focus on long-term value creation and exit- driven returns rather than periodic income, while also encouraging startups to retain earnings and reinvest for growth.

Stamp Duty on Allotment & Transfer of Shares

An often-overlooked cost in equity financing is the stamp duty chargeable on the allotment of shares. Under the Ninth Schedule to the NTA, the allotment of shares attracts a stamp duty on the consideration received at 0.75%. While the rate is relatively modest in percentage terms, it constitutes a real transaction cost on each equity round where the company’s share capital is increased.

Alternatively, where shares are transferred during equity rounds, rather than issued afresh in a manner that avoids dilution, the instruments relating to such transfers are exempt from stamp duties pursuant to section 184(h) of the NTA. However, the recent decision of the Tax Appeal Tribunal (“TAT”) in Oando Oil Limited v. Federal Inland Revenue Service (FIRS) has introduced uncertainty in this regard. In that case, the Tribunal held that Share Purchase Agreements (“SPAs”) are subject to stamp duties and do not fall within the statutory exemption applicable to instruments relating to the transfer of stocks and shares. The TAT drew a distinction between a mere transfer of shares and contractual instruments evidencing the purchase and sale of shares, holding that SPAs constitute separate dutiable instruments.

The decision has significant implications for private equity, venture capital and M&A transactions in Nigeria, particularly where equity investments are structured through secondary share transfers. Nevertheless, the reasoning of the Tribunal has been criticised as adopting a rather narrow interpretation of the exemption provisions, especially given that SPAs are commonly used to effectuate share transfers under Nigerian corporate practice. It is therefore anticipated that the decision will be challenged on appeal and may ultimately be revisited by the appellate courts.

COMPARATIVE ANALYSIS

Considered together, the Nigerian tax framework presents a nuanced trade-off between debt and equity financing for startups. Although debt offers immediate tax efficiency through interest deductibility, this benefit is moderated by thin capitalisation limits and the economic burden of withholding tax on lenders, which may be priced into financing costs.

Equity, on the other hand, imposes upfront tax implications such as non-deductible dividends and stamp duties, but is significantly enhanced by the incentives under the NSA, particularly the availability of investment tax credits and CGT tax exemptions on qualifying exits.

Accordingly, the choice between both financing options, therefore, is less a question of absolute tax advantage and more one of timing and strategy, with debt favouring short-term tax optimization and equity supporting long-term value creation and investor alignment within Nigeria’s evolving startup ecosystem.

CONCLUSION

The practical takeaway for founders is to adopt a favourable strategy at each stage of the business, leveraging equity in the early stages to attract capital and preserve cashflow, while cautiously introducing debt as the business matures. For investors, careful structuring is important to maximize the available incentives including investment tax credits and CGT exemptions particularly where the startup is a labelled startup.

Ultimately, a balanced case-by-case and well-advised approach will be critical in optimising capital structures and driving sustainable growth within Nigeria’s startup landscape.

Footnotes

1 FHC/L/3A/2017

2 (2014) 16 TLRN 25

3 Section 13(1) of the Startup Act

4 Section 29(3) of the Nigeria Startup Act 2022.

5 Section 51(3) of the Nigeria Tax Administration Act 2025

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.