[2024] KETAT 1319 (KLR)

Cummins Car & General Limited v Commissioner of Legal Services and Board Coordination (Tax Appeal E450 of 2023) [2024] KETAT 1319 (KLR) (Civ) (6 September 2024) (Judgment)

Neutral citation: [2024] KETAT 1319 (KLR)

Republic of Kenya

In the Tax Appeal Tribunal

Civil

Tax Appeal E450 of 2023

E.N Wafula, Chair, Cynthia B. Mayaka, RO Oluoch, AK Kiprotich & T Vikiru, Members

September 6, 2024

Between

Cummins Car & General Limited

Appellant

and

Commissioner of Legal Services and Board Coordination

Respondent

Judgment

1. The Appellant is a duly licensed company incorporated in Kenya in 2015 whose principal activity is the sale of power generators, commercial engines and spare parts for the power generators and commercial engines. These products are sourced from CMI Africa affiliates in India and the United Kingdom (UK).

2. The Respondent is a principal officer appointed under and in accordance with Section 13 of the Kenya Revenue Authority Act, and the Authority is charged with the responsibility of among others, assessment, collection, accounting and the general administration of tax revenue on behalf of the Government of Kenya.

3. On 23rd March, 2023, the Appellant was issues with an assessment for Kshs. 119,328,977. 00 being Income tax for the period 2017 year of income

4. The Appellant objected to the notice of assessment on 28th April, 2023.

5. The Respondent vide a letter dated 26th June, 2023 partially allowed the Appellant’s objection.

6. The Appellant being dissatisfied with the objection decision, filed a Notice of Appeal dated 25th July, 2023 on 8th August, 2023.

The Appeal 7. The Appeal is premised on the following grounds as stated in the Memorandum of Appeal dated 8th August, 2023 and filed on the same date:i.That the Respondent erred in law and fact in failing to find that the Comparable Uncontrolled Price (CUP)method used to price the products purchased by Cummins Car & General (Kenya) Limited (CCG Kenya)from CMI Africa Holdings B.V.(CMI Africa) was the appropriate pricing method for these products.ii.That the Respondent erred in fact by failing to recognize that the 5% markup applied on the services offered by the Appellant to Cummins Car & General Holdings Limited (CCG Holdings) was determined based on a detailed benchmarking exercise conducted and documented in the Transfer Pricing Policy, as opposed to applying the simplified method for low value adding services.iii.That the Respondent erred in law and fact in its assertion that CCG Kenya had under-declared incomes arising out of inter-company transactions.iv.That the Respondent failed to recognize that stock transfers had been done by CCG Kenya to Car &General Trading Limited (CGTL) at cost and that receipts made by CGTL on behalf of CCG Kenya and payments made on behalf of CGTL by CCG Kenya during and shortly after the joint venture, were as a result of CGTL remaining as the key contracting party and these were not incomes chargeable to tax in the books of CCG Kenya.v.That the Respondent erred in law and fact in failing to recognize that a portion of the amount assessed for purposes of Corporate income tax related to contra entries, being debit entries made in the inter-company transactions ledger, but which were all reversed and booked in the correct ledgers.vi.That the Respondent erred in law and fact in failing to recognize that the transactions between CCG Kenya and Safaricom are transactions between unrelated parties and are therefore not controlled transactions within the Income Tax Act.vii.That the Respondent erred in law and in fact by confirming the assessment on the Appellant contrary to the supporting documentation provided in the notice of objection.viii.That the Respondent erred in law and in fact in failing to find that CCG Holding has economic substance in Mauritius and is effectively managed from Mauritius.

Appellant’s Case 8. The Appellant’s case is premised on the following documents:i.The Appellant’s Statement of Facts dated and filed on 8th August, 2023 together with the documents attached thereto.ii.The Appellant’s written submissions dated 25th March, 2024 and filed on 2nd April, 2024 together with the authorities attached thereto.

9. The Appellant stated that CCG Kenya is a wholly owned subsidiary of Cummins Car and General Holding Limited (CCG Holdings), a company incorporated in Mauritius. CCG Holdings was formed as a joint venture between CMI Africa Holding BV (CMI), a company incorporated in Netherlands and Car & General Trading Limited (CGTL), a company incorporated in Kenya.

10. That per the assessment letter, the KRA stated that the basis of issuing the assessment was as follows:-i.That the use of Comparable Uncontrolled Price (CUP) method based on the prices charged by CMI Africa affiliates to CGTL prior to establishment of the joint venture under CCG Holdings in relation to purchase of products by CCG Kenya from CMI Africa affiliates for the year of income 2017 was inaccurate since the difference in the period of the two (2) transactions could have a material impact on the price as the circumstance of the transactions could have changed by virtue of passage of time;ii.That CCG Kenya purchases tangible goods from CMI Africa affiliates, namely power generators, commercial engines and spare parts for the power generators and commercial engines and resells the products to third parties without physically altering the products and consequently the most appropriate transfer pricing method for this transaction is the resale price method (RPM);iii.That from a review of the intercompany ledgers in relation to transactions between CCG Kenya and CGTL for the year of income 2017, there were debit and credit balances of Kshs. 2,444,508,240. 00 and Kshs. 2,302,924,444. 00 respectively. That the KRA treated the debit balance of Kshs. 2,444,508,240. 00 as arising from invoices issued to CGTL but not declared as part of the income and consequently assessed additional income (corporate) tax on the same;iv.That the services offered by CCG Kenya to CCG Holdings are part of the core activities of the group, since the core business of the CCG Group is the distribution of CMI products. That these services are therefore not low value adding and a mark-up of 5% would not be applicable; andv.That the commission earned on sales to Bidco Africa Limited was 15% and 18%, while the commission on sales to Safaricom was at 1%. That the KRA revised the rate of commission applied on the Safaricom income from 1% to 15% giving rise to additional taxes.

11. That through its letter dated 28th April, 2023, CCG Kenya objected to the entire assessment issued by the KRA and sought for KRA to vacate the assessment in its entirety on the premise that the main comparability factors taken into account in applying the CUP method in relation to the two transactions did not change inspite of the slight difference in time of the two transactions.

12. That the 5% markup was determined based on detailed economic and functional analysis and benchmarking carried out and was not arrived at as a result of adopting the simplified method for low value addition services, the use of the lower rate of commission in relation to the Safaricom transaction was because the transaction lost value due to higher freight and clearance charges that eroded the margin and the additional costs had to be absorbed by the Company and part of the amount of Kshs. 2,444,508,240. 00 that KRA has assessed tax on was not part of the Company's taxable income.

13. That through its letter dated 26th June, 2023, the Respondent upheld the entire assessment save for additional assessment on intercompany balances of Kshs. 213,374,983. 00 and Kshs. 11,800,218. 00 in relation to inter-company sales and other income, respectively. That as per the Objection decision, the additional income (corporate) tax assessed was Kshs. 109,196,106. 00.

14. That per the Respondent’s objection decision, it maintained the following positions:i.That the CUP method was not the appropriate transfer pricing method since it may not have taken into consideration the material differences likely to have been occasioned by the time difference between the comparable transactions. That further, due to the anticipated creation of the joint venture, prices prior to the formation of the joint venture may not have been at arm's length. That in that regard, the Respondent asserts that the correct pricing method would have been RPM.ii.That the services offered by CCG Kenya to CCG Holdings relate to CCG Holding's core business and do not qualify as low value-adding services. That the mark-up of 5% prescribed under the OECD Guidelines would therefore not apply.iii.That the Appellant under-declared income arising from various inter-company transactions such as contra entries, transfer of stocks from CCG Kenya to CGTL, receipts made on behalf of CCG Kenya and payments made on behalf of CGTL. That the debit entries in the inter-company ledger represent incomes that were earned by CCG Kenya from the provision of various services and should therefore be subject to corporate income tax and Value Added Tax and that the burden of proof that a duly issued invoice was not claimed as an expense by the party it was issued to lies on the issuer.iv.That the low margins received on the Safaricom incomes were occasioned by a discount of 10% which affected the income of CCG Kenya but was allowed by Cummins under the Distributorship Agreement dated 1st December 2012; andv.CCG Holdings has no economic substance in Mauritius and is instead managed and controlled from Kenya hence is tax resident in Kenya.

15. The Appellant submitted as follows regarding the various issues raised by the Respondent.Transfer Pricing method applicable on the purchase of products by CCG Kenya from CMI Africa and Rate of mark-up applied on services offered by CCG Kenya to CCG Holdings

16. That CCG Kenya sells power generator sets, commercial engines and spare parts. These products are purchased from CMI affiliates in the UK and India for resale to third parties.

17. That prior to the joint venture arrangement, CGTL purchased similar products from CMI affiliates to which it was not related at the time. That accordingly, CUP method was selected as the most appropriate method to determine the arm's length price applicable on purchases of the products by CCG Kenya from CMI affiliates after establishment of the joint venture which made the entities to be related parties.

18. That the fact that CGTL Kenya previously purchased the products from CMI affiliates to which it was not related at the time was used as the internal comparable as it was an uncontrolled transaction in relation to similar items under similar circumstances.

19. That Paragraph 2. 15 of the OECD TP Guidelines provides that where it is possible to locate comparable uncontrolled transactions, the CUP method is the most direct and reliable way to apply the arm's length principle. That an uncontrolled transaction is comparable to a controlled transaction for purposes of the CUP method if one of the two conditions is met:i.none of the differences (if any) between the transactions being compared or between the enterprises undertaking those transactions could materially affect the price in the open market; orii.reasonably accurate adjustments can be made to eliminate the material effects of such differences.

20. That in its Objection decision, the Respondent merely alleged that the use of the CUP method might not have taken into account material differences occasioned by the time lapse between the two transactions without specifying the alleged material differences.

21. That in applying the CUP method while comparing the two transactions, the main comparability factors taken into account in applying the CUP method in relation to the two transactions were the products involved, sales volumes and payment terms. That despite the slight difference in time of the two transactions, these factors did not change; CCG Kenya purchases similar products in the same volumes and under the same terms from CMI affiliates as did CGTL.

22. That the only change in relation to the transaction is that after establishing the joint venture, the prices charged by CMI affiliates to CCG Kenya are fairly lower than those previously charged due to increased efficiency arising from the new structure and a commercial decision to reduce the prices of the products in order to compete effectively in the market.

23. That in addition, the functions performed by CCG Kenya in relation to the purchase and sale of the products are indeed comparable to those of CGTL prior to the joint venture. That the team and structure were also maintained. That therefore, the use of the CUP method to price the purchase of products purchased by CCG Kenya from CCG Holdings is indeed the most preferred.

24. That notwithstanding the above, the Respondent in conducting its benchmarking analysis selected companies which do not trade in similar products as CCG Kenya. That the aforementioned benchmarking of CCG Kenya products to dissimilar products negatively affected the comparability under the analysis conducted by the Appellant and resulted in the erroneous profit margin of 20. 35% which is way above the average market margin usually realized by CCG Kenya in its business.

25. That in addition, the Appellant incurs significant workshop or service costs and import costs in relation to distribution of the products which costs are booked as cost of goods in the Company's financial statements. That the workshop or service costs are the costs incurred in servicing the gensets and the reason behind including the workshop costs in the cost of goods sold is to cover labour income which has no direct costs.

26. That the Appellant enclosed its management accounts detailing the workshop costs. That as per the excerpt of the Company's audited financial statements for the year 2017, the Company realized gross margins of 7. 71%. That the Appellant enclosed an excerpt of its 2017 financial statements to its pleadings.

27. That in conducting its own benchmarking analysis, the Respondent did not consider the special circumstances of the Appellant's business, including the accounting treatment of workshop and import costs. That this further rendered the margins determined under the Respondent's benchmarking erroneous.Rate of mark-up applied on services offered by CCG Kenya to CCG Holdings

28. That CCG Kenya applied a mark-up of 5% on the services performed on behalf of CCG Holdings. CCG Kenya performs the following services on behalf of CCG Holdings:i.placing inventory orders from the factory and providing logistical support during importation;ii.invoicing customers and reconciliation of overseas creditors and trade payables; andiii.management of dealers.

29. That the mark-up applied in pricing the services offered by CCG Kenya to CCG Holdings was arrived at through a bench-marking analysis conducted and documented in the Transfer Pricing Policy.

30. That contrary to the Respondent's assertion therefore, the 5% mark-up was not arrived at as a result of adopting the simplified method for low value addition services as alleged by the KRA. That the mark-up was determined based on detailed economic and functional analysis and benchmarking carried out under the Transfer Pricing Policy.

31. That the KRA's assertions are therefore incorrect. That in addition, since the Respondent has not disputed how the mark-up was arrived at as documented under the Transfer Pricing Policy, the assertions have no basis.

Under-declaration of Income 32. That the Respondent assessed additional income (Corporate) tax of Kshs. 2,219,333,335. 00 on several inter-company transactions on the basis that the amounts constituted taxable income and CCG Kenya raised valid tax invoices for all of these transactions. That these transactions are considered separately below:i.Contra entriesSummary KES Explanation

Share premium entries 875,473,215. 00 Corresponding debit and credit entries made in the share premium account. The net effect was zero.

Funds received from Cummins for CGTL 458,078,061. 86 This relates to debtors transferred at the point of the JV formation. (Debtors invoiced in CGTL Jan-Mar 2017 and which were then transferred to CCG net of VAT).

Safaricom generator invoices 147,317,162. 00 Corresponding debit and credit entries made in the debtor account.

Invoice for stock transfers to CGTL 32,875,978. 00 This was reversed and recorded correctly under stocks transfers.

Stock transfers invoiced and credit note issued 32,534,410. 00 This was reversed and recorded correctly under stocks transfers.

Invoice issued and reversed (Not factored in inter-company transactions) 78,406,442. 24 This was issued in error and was reversed in the books of CCG Kenya

Total 1,624,685,268

33. That the effect of the contra entries was to completely reverse the accounting entry in one ledger and to make a subsequent entry in another ledger. That the Appellant contended that the contra entries were a complete reversal of the accounting entries made in the inter-company transactions ledger and had a zero net effect.

34. That the Appellant enclosed the following information in support of the Appellant's above position:i.excerpts of the audited financial statements for the year 2017 showing the net related party balances amount of Kshs. 141,583,000. 00. ii.a summary of the related party balances that ties to the figure in the financial statements.iii.CGTL's ledger showing that the contra entries were not booked as expenses therein and consequently no deduction was claimed on the entries by CGTL.

35. That the Respondent therefore erred in law and fact in assessing additional income (corporate) tax on the contra entries and the assessment ought to be vacated in its entirety.

Receipts on behalf of CCG Kenya and payments on behalf of CGTL 36. That during the formation of the joint venture and for a couple of months thereafter, trade debtors were transferred to CCG Kenya.

37. That for reasons that some of the customers had already developed relationships with CGTL and wanted to retain CGTL as their key contracting party, CGTL remained as the party responsible for offering the service to the customer. That, to its pleadings, the Appellant enclosed internal email correspondence proving that certain key customers had requested to continue trading with CGTL until the contract lapsed.

38. That CCG Kenya was then tasked with the receipt of payments from the debtors on behalf of CGTL and to then remit the payments to CGTL and other CMI affiliates.

39. That accordingly, payments collected by CCG Kenya from the debtors would not amount to sales made by CCG Kenya and the Respondent cannot therefore seek to bring these amounts to tax under the Corporation tax regime.

Stock Transfers 40. That the Respondent assessed an amount of Kshs. 139,902,149. 00 as the amount which was earned by CCG Kenya from the transfer of stock to CGTL and which ought to have been subject to additional income (corporate) tax.

41. The Appellant asserted that the transfer of stocks did not amount to taxable income. That this is because at the point of formation of the joint venture, the business of CGTL was transferred to CCG Kenya as a going concern. That this included all of its assets and liabilities.

42. That post the joint venture, as outlined above, certain customers insisted on retaining CGTL as the approved service provider or key contracting party. That this was pending the onboarding CCG Kenya as a service provider. That to that end, CCG Kenya transferred stock to CGTL at cost to enable it to keep trading with such customers. That invoices raised by CCG Kenya to CGTL on transfer of the stock were raised at cost.

43. That CGTL then sold the products to the consumers at a margin. That the invoices raised by CGTL to the respective customers were inclusive of an agreed margin to cover for the commission. That CCG Kenya then raised an invoice to CGTL for the full margin or commission earned on sale of these products and declared these as revenues in its books.

44. That accordingly, the commissions earned from the sale of the products to the customers were recorded in the books of CCG Kenya and were subjected to corporate income tax. That by way of illustration and to support the Appellant's assertion, the Appellant enclosed its invoices relating to a transaction between CCG Kenya, CGTL and Bidco. That under this transaction, the purchase order was issued by Bidco to CGTL. That CCG Kenya then transferred the generators to CGTL at cost and issued an invoice in this regard. That CGTL then sold the generators to Bidco at a margin and issued an invoice for this. Later CCG Kenya raised an invoice for commission to CGTL.

45. That based on the above, the Respondent erred in law and fact in subjecting the amount relating to stock transfers to Corporate income tax. That this should be set aside.

Commissions on Safaricom Income 46. That the Respondent revised the rate of commission applied on the Safaricom income from 1% to 15% giving rise to additional taxable income of Kshs. 11,233,581. 00. That the basis of the additional assessment is that the commission earned on sales to Bidco Africa Limited was 15% and 18% and therefore there was no justifiable basis for the commission on sales to Safaricom to be at 1%.

47. That the Appellant gained a lower rate of commission since at the formation of the joint venture, the Safaricom transaction lost value due to higher freight and clearance charges that eroded the margin, and the additional costs could not be passed to the customer hence the loss has to be absorbed. That to support the Appellant's position that the Safaricom transaction lost value, it enclosed the following documents to its pleadings:i.letter of award of contract by Safaricom to CGTL dated 1st July, 2016, being an award to supply the two gensets that were subsequently supplied in 2017. ii.the invoice for supply of the gensets to Safaricom.iii.the costing sheet for the gensets referred that were supplied to Safaricom under the award.iv.copies of other Safaricom invoices.

48. That notwithstanding the explanation above, CCG Kenya and Safaricom are unrelated parties dealing at arms-length and there are no legal restrictions as to how they price their transactions since this would be influenced by the parties' interests and other market factors. That where two or more unrelated and unaffiliated parties agree to do business, acting independently and in their self-interest, they will typically price their transactions without interference.

49. That further, the Respondent erroneously relied on the discount policy in the Distributorship Agreement dated 1st December, 2012 in asserting that discounts in relation to the products are granted by CMI affiliates and should therefore not have been borne by CCG Kenya.

50. That the discount policy which the Respondent refers to only applies within the Group and would in this case apply as between CCG Kenya and CMI affiliates. That accordingly, any such discounts would only arise at the point where CCG Kenya purchases products from CMI affiliates and not at the point where CCG Kenya sells the products to third parties in Kenya.

Substance concerns in relation to operations of CCG Holdings 51. That CCG Holdings is legally incorporated in Mauritius as a private company limited by shares. That all board meetings to deliberate on critical affairs of CCG Holdings are held in Mauritius and all key decisions regarding CCG Holdings are taken in Mauritius.

52. That further, the CCG Group operates full line dealerships through its various subsidiaries in Tanzania, Uganda, Rwanda, Burundi and South Sudan. That the dealerships operate independently without CCG Kenya's involvement and their incomes are taxed in their various countries of operation. CCG Kenya's main role with regard to CMI is the provision of services for which it is fully remunerated. That the incomes received from the provision of services to CMI are taxed in Kenya.

53. That the Respondent's assertion that CCG Holdings lacks substance in Mauritius is therefore unsubstantiated and factually incorrect.

54. The Appellant relied on the following authorities to buttress its case:i.Unilever Kenya Ltd v Commissioner of Income Tax [2005] eKLRii.HMRC v Development Securitles Limited [2020] EWCA Civ 1705iii.The Commissioner of Income Tax Bombay Vs Nandlal Gandalal, 1960 AIR 1147iv.Mansarovar Commercial Pvt. Ltd. vs Commissioner of Income Tax Delhi C.A No 5769v.M-Kopav Commissioner of Domestic Taxes TAT No. 65 of 2023vi.Laerstate BV v R&C Commrs [2009] TC 00162

Appellant’s Prayers 55. The Appellant prayed that the Tribunal:i.Sets aside the assessment and demand of Kshs. 109,196,106. 00 issued via the Objection decision; andii.Costs of the Appeal.

Respondent’s Case 56. The Respondent’s case is premised on the hereunder filed documents:-i.The Respondent’s Statement of Facts dated 8th September, 2023 and filed on the same date together with the documents attached thereto.

57. That the Respondent’s assessing team was correct that the CUP method may not have taken into consideration material differences caused by the passage of time. That the more time that elapses, the more likely it is that other factors such as changes in market, in rates of exchange, in costs etc., will need to be considered in any comparison.

58. That Paragraph 2. 14 of the OECD TPG states that;“The CUP method compares the price charged for property or services transferred in a controlled transaction to the price charged for property or services transferred in a comparable uncontrolled transaction in comparable circumstances.”

59. That further, due to the anticipated creation of the joint venture, the prices prior to the formation of the joint venture may not have been entirely at arm's length.

60. That Paragraph 1. 36 of the OECD Guidelines lists economically relevant characteristics or comparability factors as;i.Contractual terms of the transactionii.The functions performed by each of the parties to the transaction, taking into account assets used and risks assumed.iii.Characteristics of property transferred or services provided.iv.Economic circumstances of the parties and of the market in which the parties operate.v.The business strategies pursued by the parties (e.g an anticipated Joint Venture).

61. That the Transfer pricing method-the Resale Price Method (RPM) evaluates the arm's length nature of the transfer price in a controlled transaction by reference to the gross profit margin (the ratio of gross profit to net sales) realized in comparable uncontrolled transactions.

62. That RPM is ordinarily used in situations where one entity (the reseller) purchases tangible goods from a related entity and the reseller does not physically alter the tangible goods or add substantial value to the goods and the applicability of RPM is thus limited because of differences in accounting practices affects the reliability of data applied at the gross margin level.

63. That the Respondent's benchmarking was based on transactions in relation to sale of machineries and generators which is similar to the business of CCG Kenya which deals in generators and their spare parts. That the level of comparability under RPM is not as strict as that of CUP.

64. That Chapter 7 of the OECD TPG contains the guidance on the intra-group services. In particular, Paragraph 7. 45 of the OECD TP Guidelines states that;“Low value-adding intra-group services for the simplified approach are services performed by one member or more than one member of an MNE group on behalf of one or more other group members which 1. are supportive,

2. are not part of the core business of the MNE group (i.e. not creating the profit-earning activities or contributing to economically significant activities of the MNE group).”

65. That in relation to under-declaration of income, valid tax invoices were issued to a different taxpayer and hence the income ought to have been declared.

66. That proof of the fact that the invoice that was issued was not claimed as an expense by the party who it was issued to or otherwise lies on the issuer and thus the valid invoices (debits) constitutes a business income under Income Tax Act and taxable supply under Value Added Tax Act.

67. The Respondent analyzed the debits as follows:# Description Our Comments

Contra entries These entries affected both the debit and credit balances resulting in a net zero effect. Valid Tax Invoices were issued to a different taxpayer and hence proof of reversal or otherwise lies on the issuer and thus constitutes a business income under Income Tax Act and taxable supply under Value Added Tax Act

Payments made on behalf of CGTL Payment of installation materials and other operating expenses The company made payments on behalf and therefore can claim expenses on behalf. You did not provide instructions that they were unable to pay by themselves

Receipts on behalf of CCGK The receipts relate to money received from CGTL on behalf of CCGK CCG Kenya is a separate taxpayer who would transact on their own behalf. Provide instructions that they were unable to collect on themselves

Inter-company sales These were sales made by CCG Kenya to the group entities and these were declared as part of the 2017 revenues and taxed This is dropped

Stock transfers These are stocks that were transferred to CGTL post the joint venture since CGTL customers preferred to deal with CGTL. The stocks were transferred at cost Valid Tax Invoices were issued to a different taxpayer and hence proof of reversal or otherwise lies on the issuer and thus constitutes a business income under Income Tax Act and taxable supply under Value Added Tax Act

Other income This income relates to sales commissions earned by CCG Kenya and miscellaneous income. This is dropped

Total 2,444,508,537

68. That the low margins were occasioned by a special discount of 10%. That the discount affected the incomes by CCGK yet they were allowed by Cummins Inc. through the distributor Car & General (k) Ltd. That as per the distributorship agreement dated 1st December 2012, Prices and terms of sale are the responsibilities of Cummins.

69. That the Appellant did not provide the discount approval details for this transaction including correspondences between the Cummins Inc. and the distributor.

70. That the Appellant also did not provide the product price lists and discount policy by Cummins Inc. in 2016/17 and the 2016/2017 Business Plan mentioned in item 6. 3 of the Agreement to show that the discounts were part of the plan.

71. That the Respondent’s comments in regard to the place of effective management are tabulated below;i.The business operations are conducted in Kenya by CCG-K. The actual business in not carried out in Mauritius thus tax residence cannot be there. JV Agreement states that JV is just a Holding Company while CCG-K the Operating Company (OpCo). In the JV definitions of “Territory", the countries mentioned do not include Mauritius.ii.This issue is detailed in Clause 10 of the JV Agreement and in particular Paragraph 10. 4 which state that the Mauritius Directors are merely appointed so as to comply with laws in Mauritius.C&G Trading Limited (A Kenyan Company) holds 50% of shares CCG-M which represents a significant control. Further, its Director Vijay Gidoomal doubles as the Director and board member for CCG-M.iii.CCG-M has the registered address 19 Cybercity Unit 5ABC, 5th Floor, Standard Chartered Tower Ebene Mauritius. This is the registered address of JTC Fiduciary Services (Mauritius)Limited, a management company which also doubles up as the CCG-M company secretary. CCG-K, the OpCo, has a fixed place of business with offices and a warehouse in Nairobi.iv.That Appendix B of Distributorship Agreement dated 21st April 2020 reveal the central management team is Kenyan. That the Shared Service recharge year for 2017 shows that 22 out of 24 senior management staff are Kenyans and 21 of them domiciled in Kenya.v.The 3 Meeting Minutes attached to the 2017 objection reveal that Vijay (Director - who is Kenyan) and 2 key management officers (Sangoro and Kahindi) are the key people updating the other directors and making recommendations). The above personnel were present in all meetings and they are the critical team that has not been changing.vi.That the covid-19 Global Travel Restrictions meant that all the meetings from March 2019 to July 2021 were held via teleconference hence Kenyan team did not travel. That even if they did travel, courts have ruled that such travel to rubber stamp a decision can give rise to management and control.vii.That to allow further interrogation of this issue, the Respondent requested the Appellant to provide;i.Copies of passports for all directors of CCG-H showing the entry and exit stamps by Mauritius for the period 2018-2021. ii.All minutes of the meetings held in Mauritius for the period 2018-2021

72. That the Appellant’s conclusion is that the Respondent's argument that CCG Holdings has no economic substance is inaccurate, incorrect in law and fact and cannot be substantiated since:i.All the board meetings held by CCG Holdings were held in Mauritius and the directors deliberated on key company issues such as compliance reports, preparation of the financial statements and the conduct of the financial statements audit, the business strategy, and a review of the business performance. That all of these go to the core of the business.ii.That CCG Mauritius has eight directors of various nationalities out of which one resides in Kenya, three in South Africa, three in Mauritius and one in the United Arab Emirates. That the fact that a majority of the directors do not even reside in Kenya further demonstrates the position that CCG Holdings is not resident in Kenya.iii.That CCG Holdings is legally incorporated in Mauritius as a private company limited by shares.

73. That the Appellant through themselves and/or their agents, were at all times in the course of the audit, notified and given every opportunity to engage with the officers of the Respondent as can be demonstrated by the correspondences exchanged.

74. That the Appellant herein has failed to produce the documents as required despite being reminded to do so.

Respondent’s Prayers 75. The Respondent prayed that:i.The Appeal be dismissed with costs.ii.The Honourable Tribunal upholds the Respondent's decision to charge tax.iii.The Respondent's humbly prays that this Tribunal confirms the assessment.

Issues for Determination 76. The Tribunal has carefully considered the pleadings and documentation filed by both parties and is of the view that the issues falling for its determination are:-i.Whether the Respondent was justified in concluding that CCG Holdings lacks substance in Mauritius and the entity is therefore taxable in Kenyaii.Whether the Respondent was justified in imposing a different Transfer Pricing method on the Appellant’s transactionsiii.Whether the Respondent was justified in uplifting the commission earned by the Appellant from its transactions with Safaricom

Analysis And Findings 77. The Tribunal having determined the issues falling for its determination will proceed to analyse them as detailed hereunder. The Tribunal, however, due to the explanation below, has realised that it needs to clarify what the tax under dispute was before undertaking the analysis of the issues for determination as listed.

A review of the tax under dispute as per the objection decision 78. In the course of reviewing the parties’ pleadings, the Tribunal has noted that the initial assessment related to the following aspects of the Appellant’s business:i.Contra entries.ii.Payments made on behalf of CGTL.iii.Receipts on behalf of CCGK.iv.Intercompany salesv.Stock transfersvi.Other income

79. The Tribunal further notes that the Respondent relinquished its demands on a number of the issues raised in its initial assessment resulting in a residual confirmed tax assessment.

80. However, upon the Tribunal analyzing the parties’ arguments, it has established a significant distinction between the parties’ averments. While the Appellant referred to a residual confirmed tax position of Kshs. 109,196,106. 00 which is the subject of its Appeal; the Respondent claimed that while it partially allowed some of the taxes objected to by the Appellant, it confirmed a tax liability amounting to Kshs. 2,256,758,765. 00 as per its Statement of Facts.

81. The Respondent’s Statement of Facts at Paragraph 79 stated, inter alia, as follows as part of its conclusion:“The taxes payable are as summarized below:”DETAILS Principal Tax Penalties Interest Total

Corporation Tax 1,437,612,780 71,880,639 747,265,346 2,256,758,765

WHT - - -

Total 1,437,612,780 71,880,639 747,265,346 2,256,758,765

82. The Tribunal has reviewed the Respondent’s objection decision and notes that in its conclusion under a heading named “Our Decision”, the Respondent through a table concluded that the tax payable was Kshs. 109,196,106. 00 in Corporation tax. The table is reproduced herein below:Details Principle Tax Penalties Interest Total

Corporation Tax 109,196,106 109,196,106

WHT -

Total 109,196,106 109,196,106

83. In this regard, the Tribunal confirmed that the tax in dispute before the Tribunal is Kshs. 109,196,106. 00.

84. Having established the tax in dispute, the Tribunal, hereinafter, delves into the issues for its determination.

i. Whether the Respondent was justified in concluding that CCG Holdings lacks substance in Mauritius and the entity is therefore taxable in Kenya 85. The Tribunal notes that CCG Holdings is legally incorporated in Mauritius as a private company limited by shares.

86. The Appellant argued that the CCG Group operates full line dealerships through its various subsidiaries in Tanzania, Uganda, Rwanda, Burundi and South Sudan. That the dealerships operate independently without CCG Kenya's involvement and their incomes are taxed in their various Countries of operation. That CCG Kenya's main role with regard to CMI is the provision of services for which it is fully remunerated. That the incomes received from the provision of services to CMI are taxed in Kenya.

87. The Respondent on its part asserted that CCG Holdings lacks substance in Mauritius is therefore unsubstantiated and factually incorrect.

88. The Tribunal notes that while the Appellant submitted that all key decisions regarding CCG Holdings are taken in Mauritius, and while it provided a register of directors that did not include the Kenyan directors that it named in its Statement of Facts as well as a drawing of the company structure, it did not provide documentation or evidence to prove that key decisions are made in Mauritius. Further, while it provided the Group structure, it did not provide any legal documents to confirm the averments it highlighted in its diagrammatic presentation.

89. Section 30 of the TAT Act provides as follows regarding burden of proof:“In a proceeding before the Tribunal, the appellant has the burden of proving—(a)where an appeal relates to an assessment, that the assessment isexcessive; or(b)in any other case, that the tax decision should not have been made or should have been made differently.”

90. Section 56 of the TPA also states as follows regarding burden of proof in tax appeals:“(1)In any proceedings under this Part, the burden shall be on the taxpayer toprove that a tax decision is incorrect.”

91. The fact that failure by the Appellant to discharge its burden of proof would result in the confirmation of the tax assessed against it was stated in the Kenya Revenue Authority v Man Diesel & Turbo Se, Kenya [2021] eKLR where it was stated as follows:“The party that carries the burden of proof must produce evidence to meet a threshold or “standard” in order to prove their claim. If a party fails to meet their burden of proof, their claim will fail. “Burden of Proof” at the Tax Court is somewhat unique. At the Tax Court, a taxpayer is required to disprove an assessment by the Commissioner. In other words, a Taxpayer challenging a tax assessment will need to collect and present evidence in order to disprove the Commissioner’s position. This is the basic principle.”

92. Due to the foregoing, the Tribunal finds that the Appellant did not discharge its burden of proof in relation to substance concerns relating to the operations of CCG Holdings. i. Whether the Respondent was justified in imposing a different Transfer Pricing method on the Appellant’s transactions 93. The genesis of this dispute was the imposition of a different Transfer Pricing method by the Respondent on the Appellant’s transactions as well as the raising of assessments relating to various aspects of the Appellant’s business transactions.

94. The Appellant, on its part, averred that the Respondent erred in law and in fact in raising the assessments that it did.

95. The Tribunal, in a bid to determine the most appropriate Transfer Pricing method for the Appellant’s transactions, as presented by the two parties has reviewed the OECD Transfer Pricing Guidelines (TPG) for Multinational Enterprises and Tax Administrations, 2022.

96. The Tribunal analysed the issues presented as follows:Transfer Pricing method applicable on the purchase of products by CCG Kenya from CMI Africa and rate of mark-up applied on services offered by CCG Kenya to CCG Holdings

97. The Tribunal has established that CCG Kenya sells power generator sets, commercial engines and spare parts. It further notes that these products are purchased from CMI affiliates in the UK and India for resale to third parties.

98. The Tribunal further notes that prior to the joint venture arrangement, CGTL purchased similar products from CMI affiliates to which it was not related at the time. That accordingly, CUP method was selected by the group affiliates as the most appropriate method to determine the arm's length price applicable on purchases of the products by CCG Kenya from CMI affiliates after establishment of the joint venture which made the entities to be related parties.

99. The Tribunal notes that the fact that CGTL Kenya previously purchased the products from CMI affiliates to which it was not related at the time was used by the Respondent as the internal comparable as it was an uncontrolled transaction in relation to similar items under similar circumstances.

100. Chapter II Part II of the OECD TP Guidelines provides the following pertaining to the CUP method:“Paragraph 2. 14 “CUP method compares the price charged for property of services transferred in a controlled transaction to the price charged for property or services in a comparable uncontrolled transaction in comparable circumstances...".

101. Paragraph 2. 15 of Chapter II of the OECD TP Guidelines further states that:-“an uncontrolled transaction is comparable to a controlled transaction (i.e. it is a comparable uncontrolled transaction) for the purposes of the CUP method if one of the two conditions is met:a)none of the differences (if any) between the transactions being compared or between enterprises undertaking those transactions could materially affect the price in the open market; orb)reasonably accurate adjustments can be made to eliminate material effects of such difference”.

102. Further, the OECD TP Guidelines under Chapter II, Part IA, Paragraph 2. 2 states that:“The selection of a TP method always aims at finding the most appropriate method for a particular case. For this purpose, the selection process should take account of...the degree of comparability between controlled and uncontrolled transactions, including the reliability of comparability adjustments that may be needed to eliminate material differences between them. No one method is suitable in every possible situation, nor is it necessary to prove that a particular method is not suitable under the circumstances.”

103. The OECD TP Guidelines Paragraph 2. 27 states as follows:-“The resale price method begins with the price at which a product that has been purchased from an associated enterprise is resold to an independent enterprise. This price (the resale price) is then reduced by an appropriate gross margin on this price (the “resale price margin”) representing the amount out of which the reseller would seek to cover its selling and other operating expenses and, in the light of the functions performed (taking into account assets used and risks assumed), make an appropriate profit. What is left after subtracting the gross margin can be regarded, after adjustment for other costs associated with the purchase of the product (e.g. customs duties), as an arm’s length price for the original transfer of property between the associated enterprises. This method is probably most useful where it is applied to marketing operations.”

104. The Tribunal in reviewing the CUP method, while comparing the two transactions, has established that the main comparability factors to take into account in applying the CUP method in relation to the two transactions are the products involved, sales volumes and payment terms. That while there exists a slight difference in timing of the two transactions, this adjustment was considered by the Appellant to be insignificant.

105. The Tribunal in reviewing the Resale Price Method (RPM) in relation to the transactions in question notes that as per Paragraph 2. 27 of the OECD TP Guidelines highlighted above, the resale price method begins with the price at which a product that has been purchased from an associated enterprise is resold to an independent enterprise.

106. The Tribunal notes that in analyzing the RPM, in a bid to establish an arm’s length price, the resale price should be reduced by an appropriate gross margin on this price (the “resale price margin”) representing the amount out of which the reseller would seek to cover its selling and other operating expenses and, in the light of the functions performed (taking into account assets used and risks assumed), make an appropriate profit. That adjustments for other costs associated with the purchase of the product (e.g. customs duties) must be made in establishing the arm’s length price for the original transfer of items between the associated enterprises. That this method is probably most useful where it is applied to marketing operations.

107. Further, the Tribunal notes that while the Respondent identified RPM as the correct method for the Appellant’s transactions. In its analysis, the Respondent did not consider the significant workshop costs incurred in servicing the gensets, service costs and import costs incurred in the distribution of the company’s products. The Tribunal has established that the Appellant incurred these costs based on its management accounts and its financial statements which detailed these workshop costs.

108. The foregoing analysis as well as the review of the OECD TP Guidelines by the Tribunal leads the Tribunal to conclude that the Respondent did not consider various factors in the Appellant’s transactions including workshop costs and service costs which would be key in making a finding for RPM as the appropriate method as per the OECD TP Guidelines Paragraph 2. 27.

109. The Tribunal in the circumstances concludes that the Appellant did not make adjustments for the timing difference under the CUP method and therefore was not justified in using the same. Further, while RPM is the more appropriate method for this transactions based on Paragraph 2. 27 of the OECD TP Guidelines, the Respondent did not make adjustments for other costs associated with the purchase of the product. In regard to the Appellant’s transactions, these costs were workshop costs and service costs associated with distribution of the Appellant’s products.

110. As a result of the foregoing, the Tribunal finds that the Respondent was justified in making adjustments to the Appellant’s TP method. However, it must make the necessary costs adjustments as per Paragraph 2. 27 of the OECD TP Guidelines.Under-declaration of Income based on contra entries, receipts and payments made on behalf of CCG Kenya, inter-company sales, stock transfers and other income.

111. While this issues were analyzed in the parties’ pleadings as well as the Appellant’s submissions, the Tribunal will not delve into them as the amount raised by the Respondent amounting to Kshs. 2,219,333,335 did not find its way into the Respondent’s conclusion in its Objection decision.

Commissions on Safaricom Income 112. The Tribunal notes that the Respondent revised the rate of commission applied on the Safaricom income from 1% to 15% giving rise to additional taxable income of Kshs. 11,233,581. 00. The basis of the additional assessment was that the commission earned on sales to Bidco Africa Limited was 15% and 18% and therefore there was no justifiable basis for the commission on sales to Safaricom to be at 1%.

113. The Appellant averred that it gained a lower rate of commission since at the formation of the joint venture, the Safaricom transaction lost value due to higher freight and clearance charges that eroded the margin, and the additional costs could not be passed to the customer hence the loss had to be absorbed.

114. The Tribunal notes that in a bid to support its position that the Safaricom transaction was independently costed based on actual costs as well as freight and clearance charges. In this regard, the Appellant enclosed the following documents to its pleadings:i.A letter of award of contract by Safaricom to CGTL dated 1st July, 2016, being an award to supply the two gensets that were subsequently supplied in 2017. ii.The invoice for supply of the gensets to Safaricom.iii.The costing sheet for the gensets referred that were supplied to Safaricom under the award.iv.Copies of other Safaricom invoices.

115. The Tribunal further notes that CCG Kenya and Safaricom are unrelated parties dealing at arms-length and there are no legal restrictions as to how transactions between the two parties are priced. In this regard, the Tribunal posits that the Respondent has no obligation to re-write contracts between parties in a bid to collect additional taxes.

116. On the issue of presumptions in relation to taxes, the Tribunal relied on the Judgement of Hon. Korir J in Republic v Kenya Revenue Authority Exparte Bata Shoe Company Kenya Limited [2014] eKLR where the Court quoted the locus classicus case of Cape Brandy Syndicate v Inland Revenue Commissioner [1921] 1 KB 64 by stating as follows:“The correct approach to be adopted by a court when interpreting a taxing statute is that set out in the advice of the Privy Council delivered by lord Donovan in Mangin v Inland Revenue Commissioner [1971] AC 739: First, the words are to be given their ordinary meaning. They are not to be given some other meaning simply because their object is to frustrate legitimate expectation tax avoidance devices. As Turner, J said in his (albeit dissenting) judgement in Marx v Inland Revenue Commissioner [1970] NZLR 182 at 208, moral precepts are not applicable to the interpretation of revenue statutes. Secondly, ‘….one has to look merely at what is clearly said. There is no room for any intendment. There is no equity about tax. There is no presumptions to a tax. Nothing is to be read in, nothing is to be implied. JUDGMENT: TAT NO. 281 OF 2020 –JIPSY CIVIL & BUILDING CONTRACTORS LTD v COMMISSIONER OF INVESTIGATIONS & ENFORCEMENT Page | 27 One can only look fairly at the language used.’ (Per Rowlatt in Cape Brandy Syndicate v Inland Revenue Commissioner [1921] 1 KB 64 at 71 approved by Viscount Simons LC in Canadian Eagle Oil Co. Ltd v Regeim [1945] 2 ALL ER 499, [1946] AC 199 Thirdly, the object of the construction of a statute being to ascertain the will of the legislature, it may be presumed that neither injustice nor absurdity was intended. If therefore a literal interpretation would produce such a result, and the language admits of an interpretation which would avoid it, then such an interpretation might be adopted. Fourthly, the history of an enactment and the reasons which led to its being passed may be used as an aid in its construction. ….Hence, the governing principle in this. When constructing a taxing or other statute, the sole function of the court is to discover the true intention of Parliament. In that process, the court is under a duty to adopt an approach that produces neither injustice nor absurdity: in other words, an approach that promotes the purpose or object underlying the particular statute albeit that such purpose or object is not expressly set out therein.”

117. The Tribunal, as a result of the foregoing, finds that the assessments in relation to commissions on Safaricom income were not justified.

Final Decision 118. The upshot of the foregoing analysis is that the Appeal is partially merited. Consequently, the Tribunal makes the following Orders: -a.The Appeal be and is hereby partially allowed.b.The Respondent’s Objection decision dated 26th June, 2023 be and is hereby varied in the following terms:i.The assessment in relation to substance concerns in relation to operations of CCG Holdings be and is hereby upheld.ii.The assessment in relation to the Transfer Pricing method applicable on the purchase of products by CCG Kenya from CMI be and is hereby upheld. However, the Respondent shall only apply it by making adjustments for costs as per the Tribunal’s findings.iii.The assessment in relation to commissions on Safaricom income be and is hereby set aside.iv.The Respondent is hereby directed to recompute the tax assessment based on the Tribunal’s findings under (i) to (iii) above within Thirty (30) days of the date of delivery of this Judgment.c.Each Party to bear its own costs.

119. It is so ordered.

DATED and DELIVERED at NAIROBI this 6th day of September, 2024ERIC NYONGESA WAFULACHAIRMANCYNTHIA B. MAYAKA DR. RODNEY O. OLUOCHMEMBER MEMBERABRAHAM K. KIPROTICH DR. TIMOTHY B. VIKIRU MEMBER MEMBER