[2023] KETAT 302 (KLR)

Ermer Limited v Commissioner of Customs & Border Control (Appeal 180 of 2022) [2023] KETAT 302 (KLR) (Civ) (26 May 2023) (Judgment)

Neutral citation: [2023] KETAT 302 (KLR)

Republic of Kenya

In the Tax Appeal Tribunal

Civil

Appeal 180 of 2022

RM Mutuma, Chair, E.N Njeru, RO Oluoch, D.K Ngala & EK Cheluget, Members

May 26, 2023

Between

Ermer Limited

Appellant

and

Commissioner of Customs & Border Control

Respondent

Judgment

Background 1. The Appellant is a limited liability company duly incorporated under the Companies Act of the laws of Kenya and is involved in the business of distribution of solar energy products and services, sale of carpets, upholstery, textiles and general merchandise.

2. The Respondent is a principal officer appointed under the Kenya Revenue Authority Act, Cap 469 of the Laws of Kenya, and under Section 5(1) of the Act, the Respondent is an agency of the Government for collection and receipt of all tax revenue, and the enforcement and administration of the statutes set out under the Schedule to the Act.

3. The dispute herein arose when the Appellant was issued with a demand notice dated 25th November 2021 for Kshs 4,790,929. 52 following a desk audit by the Respondent on the Appellant’s imported solar water heating systems which the Respondent stated as misclassified under tariff code 8419;19:00.

4. The Respondent stated that the Appellant’s imported solar water heaters have an electric heating component and are thus dual systems water heaters correctly classifiable under tariff code 8516:10:00 in accordance with GIR 1 and Explanatory Notes to Heading 8516.

5. The Appellant made an application for review of the said demand notice on 20th December 2021.

6. The Respondent issued its review decision on 12th January 2022 in which it confirmed that the Appellant’s imported solar water heaters were dual system water heaters thus classifiable under HS code 8516:10:00, and therefor confirmed the demand notice.

7. Dissatisfied with the Respondent’s review decision, the Appellant preferred the Appeal herein in the Tribunal.

The Appeal 8. The Appellant filed its Memorandum of Appeal on 24th February 2022 and set out the following grounds of appeal :-i.That the Respondent’s demand notice dated 25th November 2021 and the review decision dated 12th January 2022 are arbitrary, unlawful and therefore null and void.ii.That at the time of importation of the dual water heating system, the taxpayer correctly classified the dual water heating system under the tariff code 8419;19;00 and accordingly, the Commissioner erred in law and fact in classifying the dual water heating system under tariff code 8516:19:00. iii.That there is no dispute that the dual water heating system is majorly and almost exclusively designed to operate on the solar system as its main component. Therefore, there is no basis whatsoever as to why the Commissioner has chosen to employ HS code 8516. 16 slotted for electrical component. Accordingly, the Respondent erred in law and fact in classifying the dual water heating system as electrical instead of solar.iv.That the Respondent erred in law and fact in failing to recognize that the EAC /CET, 2017 version does not provide for HS code for the dual water heating system and that its trite law that where there is a lacuna in the tax code, the issue must be resolved in favour of the taxpayer.v.That the Commissioner’s decision leading to the demand is contrary to established principles of interpreting the tax code and the Respondent erred in law and fact in failing to resolve the issue in favour of the taxpayer by employing HS code No. 8419. 19. 00 which is zero rated.vi.That the Commissioner erred in law and fact in relying on the Explanatory Notes from the World Customs Organization which were issued way after the Appellant purchased and sold the dual water heating equipment, and which interpretation has no force of law.vii.That the Respondent erred in law and fact by purporting to retrospectively rely on the Explanatory Notes of the World Customs Organization contrary to the general rule that statutes and laws and rules cannot operate retrospectively.viii.That the Respondent erred in law and fact in failing to hold that the dual water heating panel did not fall among those equipment classified under Chapter 85 of the East African Community Common External Tariff, 2017, and that even the Respondent wanted to employ the ejusdem generis rule, still the imported goods could not be grouped among those specified in Chapter 85. ix.That the Respondent erred in law and fact in failing to recognize that the fresh assessments and demands made will exert unnecessary and illegal expenses on the Appellant who had already sold the goods based on a zero-rated coding.x.That the Respondent erred in law and fact by ignoring the fact that the main component in the dual water heating system is the solar panel and not the electrical element and that in fact the electrical element was an option in the event the solar panel failed. The ‘option’ could not therefore take precedence over the ‘principal’.xi.That the Respondent erred in law and fact by holding, without any expert evidence and contrary to the proper interpretation of the goods, that “without electrical element, the system will not be effective in heating water when the solar energy is inadequate” and that “the system will only work perfectly without solar component”, when in fact the reverse is true.xii.The Respondent erred in law and fact failing to consider that its conduct of re-coding the items meant that Kenya will adopt its special and unique HS coding contrary to the universal standard set by the Harmonized Commodity Description and Coding system developed by the WCO, and accordingly, its conduct is discriminatory since the Appellant is assessed on a different scale as compared to every other person across the globe.xiii.That the Respondent erred in law and fact by imposing a principal tax of Kshs 4,790,929. 52.

9. By reason of the foregoing grounds, the Appellant prayed to the Tribunal to allow its Appeal and set aside the Respondent’s review decision dated 12th January 2022.

The Appellant’s Case 10. The Appellant has set out its case on its Memorandum of Appeal filed on 24th February 2022, the Statement of Facts filed on 24th February 2022 and the Written Submissions filed on 12th January 2023.

11. The Appellant stated that the Government of Kenya, in a bid to reduce the energy consumption and alleviate the burden on the taxpayer in offsetting energy bills in addition to encouraging utilization of clean energy did ask people to use solar heating systems. It is on this basis that the Appellant ventured into the importation of the subject products.

12. The Appellant stated that at the time of importation of the dual water heating systems, it correctly classified the dual water heating system under the tariff code 8419:19:00.

13. The Appellant stated that that the dual water heating system is designed to operate predominantly and almost exclusively on solar heating system as the major operation system. The electric heating system may only be used where the sun power is insufficient which is rare in the Kenya, essentially meaning that the electric heating system is an alternative and indeed may not be used the entire life of the solar heating system.

14. The Appellant contended that there is no dispute that the dual water heating system is majorly and almost exclusively designed to operate on the solar system as its main component. Therefore the Appellant- contended, that there is no basis whatsoever as to why the Respondent chose to classify under HS code 8516. 10, which is intended for electrical components.

15. The Appellant also contended that the EAC/CET does not provide any Tariff HS coding for the dual water heating systems where the solar water systems are both solar and electrical. The Appellant asserted that HS 8516:10:00 is only for electrical water heaters while the Explanatory Notes provide for dual solar heating systems using only electrical and fuel.

16. The Appellant further stated that Chapter 85 of the EAC/CET provides specified codes for electrical only heaters, thus; “Electric instantaneous or storage water heaters and immersion heaters, electric space heating apparatus, and soil heating apparatus, electro-thermic hairdressing apparatus and hand driers, electric smoothing irons, other electro thermic apparatus of a kind used in for thermic purposes, electric heating resistors, other than those of heading 85. 45”, and the products it imported did not fall in that category.

17. The Appellant submitted that even if the Respondent were to use the ejusdem generis rule, the products it imported will still not fit into the category under 8516 because it is not an electric instantaneous or storage water heaters and immersion heaters.

18. The Appellant submitted that the demand is arbitrary and exerts undue expenses to the supplier noting that the goods were imported and sold, and it is common knowledge that in calculating the selling price, the suppliers always take into account among others, the costs of the goods including the taxes imposed and which cost is ordinarily passed to the purchasers.

19. By reason of the foregoing submissions, the Appellant prayed that the Respondent’s review decision be set aside and that its Appeal be allowed.

The Respondent’s Case 20. The Respondent has set out its case on the Statement of Facts filed on 24th March 2022, and the written submissions filed on 24th January 2023.

21. The Respondent stated that the Customs Post Clearance Audit team conducted a desk review of customs entries of the Appellant and other importers of solar water heating systems for the period November 2016 to October 2020 pursuant to Sections 235 and 236 of EACCMA, 2004, indicating that the examination of the entries revealed that the solar water heating systems imported by the companies have an electric component and are therefore dual water heating systems classifiable under tariff code 8516. 10. 00.

22. That consequently, the Appellant was assessed and issued with a demand for Kshs 4,790,929. 52 which was confirmed upon consideration of the Appellant’s application for review.

23. The Respondent stated that the solar water heating system in dispute is for use by both solar and electricity and was classified accordingly under tariff code 8516. 10. 00 according to EAC/CET.

24. It was the Respondent’s submission that the General Interpretation Rules (GIR) as cited in the EAC/CET govern classification of goods, and according to GIR 1, classification shall be determined according to the terms of the headings and any relative sections and chapter notes and, provided the headings or notes do not require otherwise, according to GIR 2 through to 6.

25. The Respondent also submitted that GIR 6 provides that;“For legal purposes, the classification of goods in the subheadings of a heading shall be determined according to the terms of those headings and any related subheading notes and, mutatis mutandis, to the above rules, on the understanding that only subheadings at the same level are comparable. For the purposes of this rule the relative section and chapter notes also apply, unless the context otherwise requires.”

26. It was also a submission of the Respondent that, the Harmonized Commodity Description and Coding System Explanatory Notes as well as the Additional Notes constitute the official interpretation of the Common External Tariff, and provide the scope of each heading under the EAC /CET. And in accordance with the GIR1, 6 and the Explanatory Notes, the items are classified under tariff HS code 8516. 10. 00.

27. The Respondent submitted that Heading 85. 16 covers;-“electric instantaneous or storage water heaters and immersion heaters; electric space heating apparatus and soil heating apparatus; electro-thermic hair dressing apparatus (for example, hair dryers, hair curlers, curling tong heaters) and hand dryers; electric smoothing irons; other electro-thermic appliances of a kind used for domestic purposes; electric heating resistors, other than those of heading 85. 45”.Heading 84. 19 covers;-“Machinery, plant or laboratory equipment, whether or not electrically heated ( excluding furnaces, ovens and other equipment of heading 85. 14) for the treatment of materials by a process involving a change of temperature such as heating, cooking, roasting, distilling, rectifying, sterilizing, pasteurizing, steaming, drying, evaporating, vaporizing, condensing or cooling, other than machinery or plant of a kind used for domestic purposes; instantaneous or storage water heaters, non-electric.”

28. The Respondent also submitted that Note (A) 3 to Heading 85. 16 also classifies dual system heaters in Heading 85. 16, in which the water is heated either electrically or by connection to a to fuel heated hot water system; they are equipped with a thermostatic control to operate them electrically only when the alternative means is insufficient.

29. The Respondent further submitted that Note (1) to Heading 84. 19 concludes that the apparatus described in the Note (i.e. heating or cooling plant and machinery) is essentially used industrially, but the heading also covers non-electric instantaneous water heaters and storage water heaters, including solar water heaters, domestic or not, if electrically heated., such appliances are excluded.

30. The Respondent contended that the Appellant’s products have an electric component and are therefore considered dual water heating systems. It stated that a dual system water heater operates under both solar power and electricity, adding that, the system can operate solely on electricity or on solar energy. Without the electrical element, the system would not be efficient in heating water when the solar energy is inadequate. However, the system would work perfectly without the solar component.

31. The Respondent reiterated that Sections 235 and 236 of EACCMA gives it the powers to call for documents and conduct a PCA on import and export operations of a taxpayer within a period of five years from the date of importation or exportation, and where the PCA reveals that taxes were short levied or erroneously refunded, Section 135 and 249(1) empowers the Respondent to recover any such amount short levied or erroneously refunded with interest at a rate of two percent per month for the period the taxes remain unpaid.

32. In light of the foregoing, the Respondent contended that the Appellant did not produce any material evidence to support the argument that the products under audit were classifiable under the EAC/CET HS code 84. 19, and urged the Tribunal to dismiss the Appellant’s Appeal with costs, and uphold its review decision.

Issues for Determination 33. The Tribunal having carefully reviewed the pleadings filed and the parties’ submissions, is of the considered view that the Appeal herein distils into two issues for determination;i.Whether the Respondent erred in classifying the Appellant’s imported solar water heating systems under tariff code 8516. 10. 00 instead of tariff 8419. 19. 00; andii.Whether the Respondent was justified in assessing and demanding for short levied duties in the sum of Kshs 4,790,929. 52 from the Appellant.

Analysis and Determinationi.Whether the Respondent erred in classifying the Appellant’s imported solar water heating systems under tariff code 8516. 10. 00 instead of tariff code 8419. 19. 00.

34. The dispute herein arose when the Respondent conducted a PCA desk review on the Appellant’s entries of imported solar water heating systems for the period November 2016 to October 2020, pursuant to Sections 235 and 236 of EACCMA, 2004, and indicated that the said products had an electric component and therefore dual water heating appliances classifiable under tariff code 8516. 10. 00 instead of tariff code 8419. 19. 00 which the Appellant had classified under. The Respondent consequently assessed the Appellant for short levied duties and demanded the sum of Kshs 4,790,929. 52 thus precipitating in this Appeal. 35. The Appellant has contended its imported solar water heating system is designed to operate predominantly and almost exclusively on solar energy, as the main and principal component is the solar panels. The electric component is an auxiliary back up to be used only when there is no sun energy which is very rare in the country. Therefore the component is not dual, as the electrical component is an inactive alternative which indeed may not be used for the entire life of the solar heating system, granted there are no defects. The Appellant therefore asserted that an optional component cannot take precedence over the principal component to define the character of the appliance which in the instant case is solar.

36. The Appellant also contended that the EAC/CET does not provide any tariff coding for the dual water heating system, where the solar heater has a dual mechanism of solar and electrical, and asserted that tariff code 85. 16. 00 is only for electrical water heaters, while the Explanatory Notes provided only for dual systems using electrical power and other fuel energy like gas, coal or diesel. The product does also not fit in the description of electric instantaneous or storage water heaters and immersion heaters.

37. On the other hand, the Respondent has contended that the Appellant’s products have an electric component and are therefore considered dual water heating systems, stating that a dual system water heater operates under both solar power and electricity and the system can operate solely on electricity or on solar energy. It asserted that without the electrical element, the system would not be efficient in heating water when the solar energy is inadequate, but would work efficiently even when the solar energy is not sufficient.

38. It is not disputed that the solar water heaters that rely on solar energy to heat water are classifiable under HS code 8419, and water heaters that use electricity or electricity with another fuel are classifiable under HS code 8516. There is also no dispute as to the identity of the subject goods; they are solar water heaters which have been modified by fitting a backup electrical component to use electricity when solar energy is not available.

39. The classification of goods under the HS is guided by rules of interpretation known as the GIRs. In the instant case, the relevant rules of interpretation are as follows;-“The titles of sections, chapters and sub-chapters are provided for ease of reference only; for legal purposes, classification shall be determined according to the terms of the headings and any relative section or chapter notes and, provide such headings or notes do not otherwise require according to the following provisions”.However, the subject water heaters are fitted with auxiliary electrical components to enable them use electricity when- there is no solar energy.

40. According to the EAC/CET classification, the water heaters which use electricity are correctly classifiable under Heading 85. 16, which provides as follows ;“Electric instantaneous or storage water heaters and immersion heaters.”

41. Accordingly therefore, the solar water heating systems with an electrical immersion heating element cannot be deemed as a dual system because according to the explanatory notes to this heading, the dual system heaters of this heading are those in which the water is heated either electrically or by a connection to a fuel heated hot water system ; they are often equipped with a thermostatic control to operate them electrically only when the alternative means which must be of a fuel source is insufficient. In the instant case, the subject water heaters cannot be considered dual in the sense of fuel heated hot water system cum electrical.

42. Based on the submissions herein and the GIRs, the essential characteristics of these heaters that distinguish them are the solar collectors which are fitted to all the solar water heaters. They are as a matter of requirement and fitness for purpose offered for sale as solar water heaters, and must essentially be fitted in a location where they are able to collect solar energy to heat the water. This is their primary function, reverting to electric only when there is no sufficient solar energy. The electric back up component form only an auxiliary role that is significantly diminished as compared to the solar component. The solar electrical backup is fitted more for regulatory compliance other than an engineering innovation or expedience.

43. In view of the foregoing, the Tribunal is of the considered view that the product in dispute has the character of a solar water heating system, which is not an electrical water heating system or dual system as envisaged, but a solar system fitted with a back up to enable perform the function of a water heater in event of there being no solar energy.

44. The Tribunal based on the above evidentiary analysis, and having regard to the respective GIRs persuaded that the Appellant’s imported solar water heating systems is classifiable under Heading 84. 19, as opposed to Heading 85. 16.

45. In light of the foregoing, the Tribunal finds and holds that the Respondent erred in classifying the Appellant’s imported solar water heating systems under tariff code 8516. 10. 00, instead of the tariff code 8419. 19. 00ii.Whether the Respondent was justified in assessing and demanding for short-levied duties in the sum of Kshs 4,790,929. 52 from the Appellant.

46. The Tribunal having made a finding and holding that the correct classification for the Appellant’s products is HS code 8419. 19. 00, as opposed to HS code 8516. 10. 00, which the Respondent applied in assessing the Appellant. The Tribunal considers the second issue moot and thus needless to substantively delve into the same.

Final Decision 47. The upshot of the foregoing is that the Appeal is merited and the Tribunal proceeds to make the following Orders:-a.The Appeal be and is hereby allowed.b.The Respondent’s review decision dated January 12, 2022 be and is hereby set aside.c.Each party to bear its own costs.

48. It is so ordered.

DATED AND DELIVERED AT NAIROBI ON THIS 26TH DAY OF MAY, 2023. ...............................................ROBERT M. MUTUMACHAIRPERSON................................................ELISHAH N. NJERU................................................MEMBERRODNEY O. OLUOCHMEMBER................................................DELILAH K. NGALA................................................MEMBER................................................EDWIN K. CHELUGETMEMBER