DAR ES SALAAM: THE government should exempt licensed banks and financial institutions from thin capitalisation rules, align taxation of nonperforming loans with prudential standards and issue clear guidance on bad-debt treatment as part of measures to improve certainty in the financial services sector.
In its Pre-Budget Newsletter: Financial Services Sector, PwC said several long-standing tax challenges continue to affect banks and microfinance institutions, creating disputes, increasing compliance costs and potentially limiting the sector’s ability to support economic growth through lending.
The advisory firm said tax rules need to better reflect the economic substance of banking operations, where deposits and other funding sources are not conventional debt but essential components of financial intermediation.
PwC identified thin capitalisation rules as one of the major areas requiring reform ahead of the 2026/27 national budget.
The firm said the application of the 7:3 debt-to-equity ratio to banks, where deposits and bond funding are treated as debt, has resulted in the disallowance of interest costs incurred in ordinary banking activities.
“Statutorily exclude BOTlicensed banks and financial institutions from thin capitalisation rules, aligning with East African comparators,” PwC proposed in the newsletter.
According to PwC, banks operate under strict regulatory requirements imposed by the Bank of Tanzania (BoT), including obligations relating to liquidity management, capital adequacy and financial stability.
As a result, reducing reliance on deposits is not a practical option because deposits are central to banks’ role as financial intermediaries.
“Banks also face unique risks such as credit risk, liquidity risk and market risk, and restricting their ability to borrow through the application of thin capitalisation rules can limit their capacity to lend,” PwC stated.
The firm warned that increased funding costs could affect lending capacity, economic growth and broader financial inclusion efforts by making credit more expensive.
PwC suggested that Tanzania could consider approaches adopted by other East African countries, particularly Kenya, where licensed banks are excluded from certain interest limitation rules.
“Kenya’s approach of excluding licensed banks from its EBITDA-based interest limitation demonstrates a practical solution that preserves the anti-avoidance purpose while recognising the uniqueness of the banking sector,” the newsletter said.
The report also highlighted challenges affecting microfinance institutions, particularly the treatment of concessionary funding from development partners and international organisations.
PwC said loans provided to microfinance institutions by resident or non-resident organisations, including international development partners and nongovernmental organisations, are currently included in debt calculations for thin capitalisation purposes.
The firm proposed expanding debt exclusions to cover accredited concessionary funders providing loans to microfinance institutions.
“This would ensure that interest incurred on concessionary funding extended by accredited international NGOs and development partners qualifies for full deductibility under the Act,” PwC recommended.
According to the firm, allowing such deductions would reduce the tax burden on microfinance institutions and remove capital constraints that limit their ability to provide affordable financial services.
PwC also called for urgent action on regulations governing bad-debt write-offs, saying uncertainty remains despite previous budget announcements.
The absence of regulations defining “reasonable steps”
for bad-debt recovery has contributed to disagreements between taxpayers and tax authorities during audits, even where banks have complied with BoT prudential requirements.
ALSO READ: Private sector credit growth surges 18 per cent
“Fast-track issuance of the Regulations (or guidance) confirming to BOT standards or deem compliance where prudential criteria are met,” PwC proposed.
The firm said aligning tax rules with prudential standards would provide clarity on when banks can recognise bad debts for tax purposes and reduce unnecessary disputes.
Another area requiring reform is the taxation of interestin-suspense on non-performing loans (NPLs).
PwC said BoT regulations require banks to stop accruing interest income once loans are classified as non-performing and instead transfer such interest to suspense accounts because recovery is uncertain.
However, the firm noted that tax treatment continues to create a mismatch by taxing interestin-suspense on an accrual basis under the Income Tax Act.
“Amend the ITA to exclude interest-in-suspense from taxation while loans are non-performing under BOT classification, with tax triggered only on reversal to performing status,” PwC recommended.
The firm argued that taxing unrealised interest creates cashflow pressures for banks without necessarily generating sustainable tax revenue, as such income may never be recovered.
PwC further proposed VAT reforms affecting microfinance services, arguing that fees directly linked to lending operations should receive treatment similar to core financial services.
“Expand the definition of ‘financial services’ to include fees that are integral to microfinance operations and introduce an explicit VAT exemption for financial services supplied by microfinance institutions,” the newsletter stated.
The proposals come as stakeholders await the 2026/27 national budget, with the financial services industry seeking reforms that improve tax certainty while supporting lending, financial inclusion and economic expansion.
PwC said addressing these issues would create a more balanced tax framework by recognising the regulatory environment under which financial institutions operate while maintaining the government’s revenue objectives.