https://new.kenyalaw.org/akn/ke/judgment/ketat/2026/130

Glosec Systems Ltd v Commissioner of Legal Services and Board Coordination (Tax Appeal E721 of 2025) [2026] KETAT 130 (KLR) (2 June 2026) (Judgment) Neutral citation: [2026] KETAT 130 (KLR) Republic of Kenya In the Tax Appeal Tribunal Tax Appeal E721 of 2025 RM Mutuma, Chair, JM Malla, G Ogaga & T Vikiru, Members June 2, 2026 Between Glosec Systems Limited Appellant and Commissioner of Legal Services And Board Coordination Respondent Judgment Background 1.The Appellant is a limited liability company incorporated in Kenya under the Kenya Companies Act, 2015 and is domiciled in Kenya. 2.The Respondent is a principal officer appointed under Section 13 of the Kenya Revenue Authority Act, CAP 469 of Kenya’s Laws. Under Section 5 (1) of the Act, the Kenya Revenue Authority is an agency of the Government for the collection and receipt of all tax revenue. Further, under Section 5(2) of the Act with respect to the performance of its functions under subsection (1), the Authority is mandated to administer and enforce all provisions of the written laws as set out in Part 1 and 2 of the First Schedule to the Act for the purposes of assessing, collecting and accounting for all revenues in accordance with those laws. 3.The Respondent undertook a tax return review of the Appellant for the periods 2021 to 2022. Consequently, it issued a demand notice dated 30th September 2024 for corporation tax, VAT and PAYE amounting to Kshs 154,636, 570. The basis of the aforementioned assessment was hinged on section 31 of the Tax Procedures Act Cap 469B(TPA) which gives the Respondent leeway to issue additional assessments based on the available information and best of judgement. 4.The Appellant lodged notice of objection dated 29th October, 2022. The Respondent issued its objection decision dated 6th December, 2024 wherein the Responded confirmed the assessment and demanded Kshs 158,171,777 being the principal tax, penalty and interest. 5.Dissatisfied by the decision, the Appellant filed notice of appeal dated 22nd May 2025. The Appeal 6.The Appellant lodged the memorandum of appeal dated 4th July 2025 and filed on 8th July 2025 raising the following grounds of appeal:a.That the Respondent erred in both law and fact by failing to exclude non-revenue cash inflows despite supporting documentation when reconciling the variance between net banking income and declared sales.b.That the Respondent erred in law and fact by disallowing prepaid purchases, disregarding that the classification was an accounting convention and not reflective of actual use or incurrence in the business.c.That the Respondent erred in law and fact by disallowing employee travel allowances on the assumption of double claiming, without considering the nature of the Appellant’s operations which require frequent travel by field and business development staff and the internal controls in place to prevent duplication of claims.d.That the Respondent erred in law and fact by failing to adequately consider the documentation and explanations submitted by the Appellant during the audit, review, and objection processes.e.That the Respondent erred in law and fact by disregarding the detailed reconciliations submitted by the Appellant, which clearly demonstrated the alignment between VAT taxable supplies and accounting sales.f.That the Respondent erred in law and fact by assessing PAYE on gratuity amounts that were neither paid to employees nor incurred, as no actual termination or end-of-contract payments took place. The Appellant’s Case 7.In support of its Appeal, the Appellant relied on its statement of facts dated 4th July 2025 and filed on 8th July 2025. 8.The Appellant stated that it objected to the additional assessments vide a notice of objection dated 29th October 2024 and that in its response, provided the Respondent with documentation/reconciliation to support the objection. 9.The Appellant further stated that the additional assessment was based on a misunderstanding of the operations of the Appellant and misapplication of the law. However, the Respondent confirmed the assessment. The Appellant’s case was as follows: Corporation Tax I. Income Established from Banking Analysis 10.The Appellant stated that the Respondent erred by failing to exclude non-revenue cash inflows despite supporting documentation when reconciling the variance between net banking income and declared sales. 11.It stated that in the objection decision, the Respondent classified certain bank inflows as under-declared sales and consequently subjected to tax. It pointed out that the assessment indicates that amounts totalling to Kshs 181,751,362 (2021) and Kshs 138,845,111 (2022) were deemed to be undeclared turnover for the respective periods. However, the Appellant noted that this treatment did not accurately reflect the substance and character of the transactions recorded in the Appellant’s bank accounts. It stated that these amounts represent total cash and credit inflows during the reviewed period, but they do not all constitute revenue from the sale of goods or provision of services and therefore, should not be taxed as such. 12.The Appellant maintained that the approach overlooks the accounting and tax treatment of non-revenue receipts, which are common in the normal course of business operations. It stated that the Income Tax Act Cap. 470 (ITA) and the Value Added Tax Act Cap 476(VATA) require taxpayers to declare income derived from business operations, but not cash movements or non-taxable receipts that do not result from a supply or trading activity. 13.The Appellant stated that it provided a reconciliation of the underdeclared turnover for the respective periods. 14.It explained the non-sales items as follows:Interbank Transfers - These were movements of funds between the different bank accounts held by the Appellant.Related Party Transactions - These were amounts received from related parties i.e Glosec Solutions Kenya, Energood, Glosec solutions B.V, Glosec Solutions Uganda and Solar Power & Infrastructure Ltd include capital injections, intercompany loans, and reimbursements for shared services.Refund - These transactions related to the return of previously paid funds to suppliers for services paid for but not delivered.Reversal -These were amounts reversed back to the Appellant’s bank account as a result of Mpesa reversals, wrong account number, returned cheque and maintenance fee reversal.Insurance - These was an Insurance claim proceed of Kshs 1,100,000 received by the company.Rent - This pertained to rental income amounting to Kshs 420,000, which was reported separately as a separate source of income in both the financial statements and the tax returns.Petty Cash Refund - These represented unutilised petty cash amounts that were returned and deposited back by employees.Interest capitalization - This represented interest income that was capitalised and was separately reported as a distinct source of income in both the financial statements and the tax returns. II. Overclaimed Purchases 15.During the audit process, the Appellant stated that it submitted a reconciliation explaining the differences between the purchases recorded in the ledgers and those reported in the financial statements. 16.It pointed out that the Respondent determined that the line item labelled "Prepaid expenses" did not qualify as a valid deductible expense on the basis that the amount in question had not been reported as a current asset under the balance sheet, which is the appropriate classification for prepaid expenses. Consequently, the Respondent proceeded to disallow the expense on the grounds that it was not properly accounted for in the financial statements in accordance with standard accounting principles. 17.The Appellant contended that this was a matter of substance over form, arguing that although the account is labelled as "prepaid expenses," the entries recorded under this ledger represent actual expenses that have already been incurred in the course of business operations. The Appellant maintained that the use of the term "prepaid expenses" was purely a naming convention adopted to suit the company's internal accounting structure and did not accurately represent the nature of the transactions. The Appellant further maintained that the expenses recorded under this account were genuine, properly incurred in the course of business, and fully supported by relevant invoices and documentation. It therefore, argued that these costs qualify as deductible expenses for tax purposes. 18.The Appellant asserted that it provided a breakdown of the prepaid expense's ledgers for the years under review and provided actual invoices for items booked in ledgers as proof that the account is an expense account rather than a prepaid account to demonstrate that the account, despite its label, reflects actual business expenses incurred- thus substantiating the Appellant's position that it functions as an expense account rather than a true prepaid account. III. Related Party Expenditure - 2022 Payroll 19.According to the Appellant, the Respondent disallowed expenses incurred in relation to the related entities, Energood and Glosec Solutions, on the basis that no cost recharges were made to these companies. As a result, the Respondent concluded that the expenses were not wholly and exclusively incurred for the purpose of generating income and thus did not qualify as allowable deductions. 20.It contended that the Respondent’s assertions were based on the premise that, in the preceding year (2021), there had been cost recharges between the Appellant and the related parties. However, the Appellant stated that that position was flawed, as it overlooked the fact that in the year under review (2022), there was a notable reduction in joint projects involving the Appellant, Energood, and Glosec Solutions. Consequently, there was no substantial workload necessitating the sharing of employee resources, and therefore, no recharges were made during that period. 21.It noted that the decline in joint projects was primarily driven by the inactivity of Energood, which is evidenced by the NIL tax return indicating that the company had no taxable income or operational activity during the year under review. Additionally, the Appellant argued that Glosec Solutions experienced a general slowdown in business operations, as reflected in the significant drop in revenue shown in its financial statements. 22.According to the Appellant, the availed documents collectively support the Appellant's position that the absence of shared projects and consequently, the lack of resource sharing or cost recharges- was due to a genuine reduction in business activity by the related entities. It therefore stated that the Respondent erred in disallowing the expenses based on the incorrect assumption that the level of business activity during the year under review was consistent with that of the previous year. VAT Sales Declared in the IT2C vs VAT Return 23.According to the Appellant, as part of the audit test, the Respondent compared the turnover reported in the IT2C with the sales declared in the VAT returns and identified certain discrepancies. However, the Appellant stated that it provided a reconciliation of these variances. 24.The Appellant pointed out that the Respondent assessed the VAT on the recharge costs amounting to Kshs 10,104,000 for the year 2021, on the basis that no supporting invoices had been provided to substantiate these costs. It stated that the assessment was made despite the nature of the recharges and their treatment in the Appellant's records, with the key issue being the lack of documentary evidence as per VAT regulations. 25.The Appellant asserted that it has a related party, Glosec Solutions Limited, by virtue of shared directorship, and both entities operate from the same office premises. It averred that the recharge costs in question therefore, pertain to shared overheads, including rent, electricity, water, internet, printing and stationery, as well as office staff welfare expenses incurred in the shared workspace. 26.In support of the recharge transactions, the Appellant stated that it provided, a cost-sharing agreement outlining the terms for allocating shared expenses. It stated that under this agreement, the shared costs were distributed between Glosec Systems and Glosec Solutions in a 60:40 ratio, respectively. Additionally, the Appellant stated that it enclosed the corresponding invoices issued in line with this agreement for reference and verification. C. PAYE 27.The Appellant pointed out that the Respondent compared the salaries and wages expensed in the income tax returns with the PAYE returns and identified certain discrepancies. However, the Appellant stated that it provided a reconciliation of these variances. 28.It argued that based on the reconciliation, the Respondent observed that gratuity payments had not been subjected to tax and consequently proceeded to assess tax on those amounts. 29.The Appellant asserted that no gratuity payments were made during the year under review. It also averred that a detailed review of the gratuity ledger indicates that the recorded movements were merely provisions earmarked for specific employees, rather than actual payments. As such, these amounts did not constitute gratuity payments and were therefore not subject to tax. 30.To support its position, the Appellant relied on the gratuity ledger, which includes detailed narrations for each entry to demonstrate that no gratuity was paid during the period. It also stated that this can further be corroborated by the bank statements, which confirm that no corresponding funds were disbursed from the company's bank account during the year. 31.The Appellant did not file written submissions. The Appellant’s Prayers 32.Based on the foregoing, the Appellant prayed for the following reliefs:i.The Objection Decision dated 6th December 2024 be vacated or varied in such a manner that may appear just and reasonable to the honourable Tribunal;ii.The Appeal be allowed;iii.Costs be awarded to the Appellant; andiv.Any other remedies that the Honourable Tribunal deems just and reasonable. The Respondent’s Case 33.In opposition to the appeal, the Respondent filed statement of facts dated 21st August 2025 and filed on even date. 34.The Respondent averred that the following documents were provided and reviewed in the objection review process;a.Audited financial statements 2021-2022b.Trial balance General ledgers 2021-2022c.Bank reconciliationd.Purchase reconciliatione.Payroll reconciliationf.Shared services agreement. 35.The Respondent responded to the appeal as follows: Corporation Tax I. Income Established from Banking Analysis 36.The Respondent averred that the Appellant did not provide sufficient documentary evidence to clearly substantiate insurance reimbursements, rent income, and that interbank transfers were included in the non-sale items. Consequently, the Respondent classified the unexplained amounts of Kshs 181,751,362 (2021) and Kshs. 138,345,111 (2022) as undeclared sales. 37.The Respondent averred that the Appellant's assertion that non-sale items were recorded as other income in the audited financial statements was not sufficient to address the sales-to-banking variance as the audited financials and other reconciliations must align with declared sales to avoid classification of variances as undeclared sales. It noted that lack of such alignment supports Respondent's conclusion. 38.The Respondent affirmed that while the Appellant stated that the credits in the bank statements reflected interbank transfers, the Appellant failed to provide detailed and verifiable evidence linking specific deposits to corresponding transfers. In particular, the Respondent averred that merely stating that funds were transferred between accounts does not conclusively demonstrate that these amounts are non-revenue transactions. 39.It averred that the Appellant bears the burden of proof to demonstrate that deposits classified as undeclared sales are not taxable revenue. It contended that documentation provided by the Appellant was insufficient to satisfy this observed variance. The Respondent relied on Section 56 of the TPA and 30 of the Tax Appeals Tribunal Act Cap 469A(TATA) to state that the Appellant bears the burden to demonstrate that it has discharged a tax liability. 40.It stated that the burden of proof lies on the Appellant since Kenya is based on a self-assessment regime where the taxpayer is required by the provisions of Section 23 of the TPA to provide documentation and thus since the Appellant failed to avail the same, it has not discharged the burden of proof. 41.In light of the foregoing. the Respondent affirmed the assessment as the Appellant failed to adequately reconcile or substantiate the non-sale items and bank transfers, hence Appellant's ground of objection was rejected. Over Claimed Purchases 42.The Respondent averred that while the Appellant claimed that the prepaid purchase was accounted for as an expense in the profit and loss statement, the explanation did not fully address Respondent's concerns. The Respondent noted that the Appellant did not provide adequate documentation or a detailed reconciliation to substantiate why the prepaid purchases were not appropriately classified as current assets at the year-end. 43.The Respondent averred that Appellant's assertion that the travel allowance was recorded under three distinct accounts for better tracking and that supporting documentation exists was not supported and no such evidence appears to have been provided during the review process. Consequently, the Respondent stated that in the absence of supporting documentation, the Respondent's conclusion of double claiming was justified. 44.It stated that the Appellant bears the burden of proof to demonstrate that the reconciliations provided are accurate and that no double claiming occurred. According to the Respondent, merely asserting the existence of supporting documentation without providing it during the review process does not meet this requirement. 45.The Respondent stated that the Appellant's explanations regarding the prepaid purchase and travel allowance insufficient to resolve the issues identified by the Respondent due to lack of proper reconciliation of the prepaid purchase and the failure to provide supporting documentation to refute the double claiming of the travel allowance and justify Respondent's assessment. Therefore, the Appellant's ground of objection was fully rejected. 46.The Respondent relied on Section 54A (1) of the ITA which requires that any person carrying on a business to keep records of all receipts and expenses, goods purchased and sold and accounts, books, deeds, contracts and vouchers which in the opinion of the Commissioner, are adequate for the purpose of computing tax. Related Party Expenditure-2022 Payroll 47.The Respondent noted that Appellant's claim of a substantial reduction in shared projects with Energood and Glosec Solutions was not substantiated with sufficient documentation to confirm the absence of shared resources. It averred that without evidence demonstrating that the payroll costs were wholly and exclusively incurred in production of Appellant's income, the assessing Commissioner's conclusion is found to be justified. 48.The Respondent maintained that the Appellant failed to provide sufficient evidence to demonstrate that the payroll costs incurred on behalf of related companies were wholly and exclusively for income-generating purposes. It argued that the imposition of Corporation Tax on disallowed payroll expenses was therefore appropriate. It relied on Section 23 and 59(1) of the TPA, which requires the Appellant to produce supporting documents for examination. VAT Sales as declared in the IT2C Vs VAT return. 49.The Respondent averred that the Appellant did not provide the requested supporting invoices for the recharge costs in 2021, which would have substantiated the Appellant's reconciliation. It stated that the variance remained unsupported and the assessing Commissioner's classification of the unsubstantiated amounts as additional turnover was justified. 50.The Respondent noted that while the Appellant explained that Glosec Systems and Glosec Solutions are related parties and that shared costs are allocated based on a 60:40 ratio, no evidence was provided to support the existence or application of this agreement. In the absence of the documentary evidence such as formal agreement, the allocation of shared costs cannot be verified, thus the assessing Commissioner's position remains valid. 51.In light of the above, the Respondent averred that the objection ground should be fully rejected and the Respondent's additional assessment be confirmed since the Appellant failed to provide adequate documentation to support the reconciliation and substantiate the recharge costs. The Respondent further relied on Section 31(1) of TPA which empowers the Respondent to make assessment based on available information and based on best judgment. 52.It cited the case of Greenroad Kenya Limited v Commissioner of Domestic Taxes TAT Appeal No. 538 of 2021 where the Tribunal at paragraph 52 and 53 held that:-52The Tribunal's considered view is that the failure by the Appellant to avail the documents requested granted the Respondent the power to use its best judgement as provided for under Section 31(1) of Tax Procedures Act. PAYE 53.The Respondent noted that although the Appellant contended that PAYE on gratuity was paid, there was a failure to demonstrate that the gratuity was appropriately accounted for in the PAYE returns. According to the Respondent, its review revealed discrepancies in the reconciliation suggesting that the gratuity was not correctly included in the PAYE remittances therefore, the objection on this issue was fully rejected and the additional assessments confirmed as initially issued due to Appellant's failure to provide adequate documentation or resolve the discrepancy related to the taxation of gratuity. 54.The Respondent relied on section 23 (b) of the TPA which provides the Taxpayer is under obligation to keep record and adduce them on demand. Whether the Assessment was Proper in Law 55.The Respondent asserted that whereas section 24 of the TPA allows a taxpayer to submit tax returns in the approved form and manner prescribed by the Respondent, the Respondent is not bound by the information provided therein and can assess for additional taxes based on any other available information and to the best of the Commissioner's judgement. 56.The Respondent stated that pursuant to section 56 of the TPA and 30 of the TATA, the burden of proof lies on the Appellant to demonstrate that it discharged tax liability. The Respondent stated that this burden was never discharged as no satisfactory documentary evidence was availed to the Respondent to enable it render a meritious decision in the circumstances. 57.The Respondent relied on the provisions of section 109 of the Evidence Act Cap 80 which provides thus: ‘The burden of proof as to any particular fact lies on the person who wishes the court to believe in its existence, unless it is provided by any law that the proof of that fact shall lie on any particular person." 58.The Appellant filed written submissions dated filed on 23rd March, 2026 wherein it submitted that the Appellant failed to discharge its burden of proof, and that the assessments were proper in law. 59.It cited the case of the Commissioner for Her Majesty’s Revenue and Customs Tc/2017/02292 Saima Khalid Appellant v The Commissioners for Her Majesty’s Respondents Revenue & Customs to submit that the Respondent is allowed to used available information and best judgment to make a decision. 60.It relied on the case of Mars Logistics Limited v Commissioner of Domestic Taxes [2021] eKLR to submit that one of the fundamental conditions that must be satisfied for an item of expenditure to be deductible, is that it must incurred ‘wholly and exclusively’ for the purposes of the trade, profession or vocation. 61.The Respondent relied on the case of Commissioner for Inland Revenue v Genn & Co (Pty) Ltd, where it was held that:“In deciding how the expenditure should properly be regarded the court has to assess the closeness of the connection between the expenditure and the income earning operations, having regard both to the purpose of the expenditure and to what it actually effects.” Respondent’s Prayers 62.The Respondent prayed that this Honourable Tribunal do find:a.That the objection decision dated 6th December 2024 be upheld.b.That this Appeal be dismissed with costs to the Respondent as the same lack merit. Issues for Determination 63.The Tribunal identified the following issues for determination.a.Whether the Respondent erred in assessing the Appellant for Corporation Tax;b.Whether the Respondent erred in assessing the Appellant for VAT; andc.Whether the Respondent erred in assessing the Appellant for PAYE. Analysis and Findings 64.The Tribunal analysed these issues as hereunder: - a. Whether the Respondent erred in Assessing the Appellant for Corporation Tax 65.The Appellant stated that the Respondent erred in assessing the Appellant for Corporation Tax. Consequently, the Tribunal examined the issue as follows: i) Income established from Banking Analysis 66.The Appellant argued that the Respondent erred by failing to exclude non-revenue cash inflows from its turnover computation despite the supporting documentation provided. The Appellant asserted that it provided reconciliations and the relevant bank statements in which the non-revenue income streams in issue were identified, highlighted, and appropriately classified. 67.On the other hand, the Respondent stated that the Appellant did not provide sufficient documentary evidence to clearly substantiate that insurance reimbursements, rent income, and interbank transfers were included in the non-sale items. 68.The Tribunal notes that the Respondent carried bank analysis to establish sales turnovers declared from the deposits in the bank accounts. Banking analysis method is not a novel method in tax assessment. It has been used before and is applicable in Kenya and in other jurisdictions. 69.In the case of Hole v The Queen, 2016 TCC 55 the court stated as follows about banking analysis method and how the taxpayer can challenge it:“There are two primary ways in which a taxpayer can challenge a bank deposit analysis. The first is to prove that his or her records were adequate and thus that his or her income should have been determined using those records. The second, and more common, method is to challenge the actual determination of income made by the Minister under the bank deposit analysis.” 70.In case of Digital Box Limited v Commissioner, Investigations and Enforcement TAT Appeal No. 115 of 2017 this Tribunal stated as follows in relation to banking analysis method:The Tribunal notes that in disputing the Respondent’s analysis the Appellant did not specify the entries in the bank statement which the Respondent has used wrongly/misapplied or which should not have been included in the assessment and the reasons why the entries should not be included. 71.It is the Tribunal’s view that the Appellant has a duty to specify the entries in the bank statement which the Respondent has used wrongly/misapplied or which should not have been included in the assessment, the reasons why the entries should not be included and support its explanations with documentary evidence. The Tribunal, therefore, sought to find whether the Appellant discharged this obligation. 72.The Appellant asserted that entries such as interbank transfers, insurance reimbursements, rent income, petty cash refund, reversal among other items included were non-revenue items that the Respondent failed to exclude from its analysis. In this regard, the Appellant filed bank statement to demonstrate that theses items were not revenue in nature. 73.The Tribunal reviewed the bank statements submitted by the Appellant and notes that the Appellant highlighted the items that were not revenue in nature. The Tribunal also examined the bank reconciliation summary in Appendix 5 of the bundle of documents filed with the Appellant’s statement of facts and notes as follows: 74.On interbank transfers, the Tribunal notes that the Appellant held multiple bank accounts. The Appellant provided a detailed schedule of interbank movements, which was supported by corresponding bank statements from its accounts for the relevant periods, and the Tribunal verified the same and found that the Appellant proved this explanation. 75.On related party transactions, the Tribunal notes that the Appellant highlighted the transactions in the bank statements however it did not adduce primary documents including intercompany agreements, management services agreements, capital contribution agreements to show the true character of the transaction and that the transactions were non-revenue in nature. Without such primary documents, the Tribunal is unable to verify whether the related party transactions were of revenue nature or not. 76.On cash refunds, the Appellant failed to provide source documents including original invoices, service agreements, proof of original payment, correspondences showing cancellation, credit notes to demonstrated that indeed the amounts highlighted in the bank statements were refunds. 77.On bank reversals, the Tribunal notes that reversals are, by their very nature, corrections of previous transactions and do not represent consideration received from customers for goods or services supplied. The Appellant provided bank statements clearly identifying reversals including salary advance reversals, Mpesa reversals among others. The Respondent did not controvert the authenticity of the bank statements or offer evidence suggesting that the identified reversals wherein fact sales receipts. Accordingly, the Tribunal is satisfied that the Appellant discharged its burden of proof with respect to the bank reversal transactions 78.Regarding rent, and insurance, the Appellant averred that this was reported separately as a separate source of income in both the financial statements and the tax returns. The Tribunal has reviewed the bundle of documents and notes that neither the financial statements nor the tax returns were adduced at the Appeal stage. Without these documents, the Tribunal is unable to confirm the Appellant’s assertions that said incomes were elsewhere separately declared, and cannot fault the Respondent for failing to take the amounts into consideration in adjusting the underdeclared sales. 79.On petty cash refunds, the Tribunal finds that the Appellant failed to discharge its burden of proof. While the Appellant claimed that the deposits represented unutilized petty cash returned by employees, it did not provide adequate supporting documents to substantiate the assertions. The Appellant neither produced any petty cash register records nor petty cash vouchers evidencing the initial disbursements to which these alleged refunds correspond. In the absence of such documents, the Tribunal is unable to trace any of the bank deposits back to a corresponding petty cash advance. 80.Regarding interest capitalisation, the Appellant explained that it was interest income that was capitalised and was separately reported as a distinct source of income in both the financial statements and the tax returns. The Tribunal has reviewed the bundle of documents and notes that neither the financial statements nor the tax returns were adduced at the Appeal stage. Without these documents, the Tribunal is unable to confirm the Appellant’s assertions that said incomes were elsewhere separately declared, and cannot fault the Respondent for failing to take the amounts into consideration in adjusting the underdeclared sales. ii) Overclaimed Purchases 81.On this issue, the Appellant claimed that it provided a reconciliation explaining the differences between the purchases recorded in the ledgers and those reported in the financial statements. It was aggrieved by the Respondent’s determination that the line item labelled "Prepaid expenses" did not qualify as a valid deductible expense. The Appellant also asserted that it provided the "Prepaid Expenses" ledgers for the years under review (2020 to 2022) and supporting invoices for the items recorded as Appendix 6. 82.On the other hand, the Respondent submitted that the Appellant did not provide adequate documentation or a detailed reconciliation to substantiate why the prepaid purchases were not appropriately classified as current assets at the year-end. 83.The Tribunal examined Appendix 6 of the Appellant’s bundle of documents and noted that it contained a ledger as the Appellant claimed however, the invoices that the Appellant sought to rely on were all for the year 2019 and 2020 yet the assessment were for the year 2021 to 2022. Only one (1) proforma invoice was for the year 2021. The Appellant did not explain why it adduced documents that were outside the assessment period. As for the proforma invoice dated 01/02/2021, the Appellant did not demonstrate whether it actually incurred the amounts stated thereon. The Appellant failed to discharge its burden on this issue. Related Party Expenditure 2022 Payroll 84.On this issue, the Respondent disallowed expenses incurred in relation to the related entities, Energood and Glosec Solutions, on the basis that no cost recharges were made to these companies. It was the Respondent’s case that the expenses were not wholly and exclusively incurred for the purpose of generating income and thus did not qualify as allowable deductions. 85.The Appellant contended that for the year under review (2022), there was a notable reduction in joint projects involving the Appellant, Energood, and Glosec Solutions and as a result, there was no substantial workload necessitating the sharing of employee resources, and therefore, no recharges were made during that period. It contended that there was inactivity of Energood, evidenced by the NIL tax return indicating that the company had no taxable income or operational activity during the year under review, while Glosec Solutions experienced a general slowdown in business operations, as reflected in the significant drop in revenue shown in its financial statements. 86.Section 15(1) of the ITA provides for deduction of expenses properly incurred. It provides as follows: 15.Deductions allowed(1)For the purpose of ascertaining the total income of any person for a year of income there shall, subject to section 16 of this Act, be deducted all expenditure incurred in such year of income which is expenditure wholly and exclusively incurred by him in the production of that income… 87.In Leah Njeri Njiru v Commissioner of Investigations and Enforcement Kenya Revenue Authority & another [2021] KEHC 8118 (KLR), the High Court had the following to say about section 15(1) and section 54A(1) of the ITA at paragraph 28 of the judgment:“The only way the Commissioner could have allowed deductions of expenses as per section 15(1) of the ITA is if they were supported to its satisfaction. This is in line with section 54A(1) of ITA which provides as follows:54AKeeping records of receipts, expenses, etc(1)A person carrying on a business shall keep records of all receipts and expenses, goods purchased and sold and accounts, books, deeds, contracts and vouchers which in the opinion of the Commissioner, are adequate for the purpose of computing tax.’’ 88.In the English case of Hancock v General Reversionary and Investment Company [1919] KB 5, 37 Lush J., explained as follows in relation to expenses of a business:“[T]he proper test to apply in tax computation is; was the expenditure incurred in order to meet a continuing business demand, in which case it should be treated as an ordinary business expense and an admissible deduction or was it an expenditure incurred once and for all in which case it should be treated as capital out lay ...’’ 89.The Tribunal agrees with the Appellant in principle that where expenses have been incurred in production of taxable income, the same should be deducted. However, the Appellant has to demonstrate that the expenses were wholly and exclusively incurred in the production of the income. The Court in Income Tax v T Ltd (No 2) EA (1971) 569, held that for expenditure to be deductible, it must have been incurred for the direct purpose of producing profits. Therefore, the Appellant had to demonstrate that the expenses were exclusively incurred in the production of taxable income. 90.The question then is whether the Appellant managed to demonstrate that cost recharges were made. The Tribunal examined the documents that the Appellant filed as Appendix 7. The documents thereunder were one-page Notes to the Annual Financial Statement for Glosec Solutions Limited; and Nil Returns for Energood East Africa LTD. However, the Appellant has not provided the primary documents to prove that the expenses were wholly and exclusively incurred in the production of taxable income. 91.The Tribunal notes that the documents under Appendix 7 of the Appellant’s bundle of documents could not prove that the Appellant incurred expenses within the meaning of Section 15(1) of the ITA. Therefore, the Appellant failed to prove its case on this issue. b. Whether the Respondent erred in Assessing the Appellant for VAT 92.On this issue, the Respondent compared the turnover reported in the IT2C with the sales declared in the VAT returns and identified certain discrepancies it then assessed VAT on the recharge costs amounting to Kshs 10,104,000 for the year 2021 on the basis that the Appellant had not provided supporting invoices to substantiate these costs. 93.The Appellant’s case was that Glosec Solutions Limited was a related entity and therefore, the two entities operated from the same office premises and that the recharge costs in question pertain to shared overheads, including rent, electricity, water, internet, printing and stationery, as well as office staff welfare expenses incurred in the shared workspace. It sought to rely on a cost-sharing agreement filed as Appendix 8. 94.The Tribunal examined the agreement that the Appellant filed and noted that it had nothing to do with sharing expenses. The agreement was for provision of services. Therefore, the Appellant’s assertion that the shared costs are distributed between Glosec Systems and Glosec Solutions in a 60:40 ratio remains unproven. The Appellant failed to discharge its burden on this issue. c. Whether the Respondent erred in Assessing the Appellant for PAYE 95.On this issue, the Respondent’s case was that although the Appellant contended that PAYE on gratuity was paid, there was a failure to demonstrate that the gratuity was appropriately accounted for in the PAYE returns. The review revealed discrepancies/variances in the reconciliation suggesting that the gratuity was not correctly included in the PAYE remittances. Consequently, it assessed tax on those amounts. 96.On the other hand, the Appellant maintained that no gratuity payments were made during the year under review. It asserted that the gratuity ledger indicated that the recorded movements were merely provisions earmarked for specific employees, rather than actual payments and that the amounts did not constitute gratuity payments and are therefore not subject to tax. 97.The Tribunal examined the ledger that the Appellant provided and noted that it made reference to ‘severance pay liability.’ 98.In H. Young & Company EA Limited v Javan Were Mbango 2016 eKLR the Court of appeal stated as follows in relation to severance and gratuity:“This Court in Central Bank of Kenya vs. Davies Kivieko Muteti [2009] eKLR emphasized that there is a difference between severance pay and gratuity. Gratuity as correctly enunciated by this Court in Bamburi Cement Ltd vs Farid Aboud Mohammed [2016] eKLR denotes a gratis payment by an employer in appreciation of service. There is no express provision for gratuity in the Employment Act. It is usually payable under terms set out in a contract of service or collective bargaining agreement. Severance pay on the other hand, is only payable under Section 40(g) of the Employment Act where an employee is terminated on account of redundancy. See Hema Hospital vs Wilson Makongo Marwa [2015] eKLR. In the current appeal before us the respondent was entitled to severance pay at the rate of not less than fifteen days’ pay for each completed year of service.” 99.Severance pay is income and is taxable. Similarly, gratuity was taxable prior to enactment of the Income Tax Act vide Tax Laws (Amendment) Act, 2024. The Said amendment Act commenced on 27th December, 2024 therefore, gratuity earned before 27th December, 2024 was taxable. The Appellant was assessed before enactment of the Income Tax Act vide Tax Laws (Amendment) Act, 2024. The Tribunal observes that whether the Appellant incurred severance pay or gratuity, it was expected to deduct tax thereof. 100.Whereas the Appellant argued that it did not pay gratuity, the Tribunal notes that the ledger that it provided made reference to severance pay liability. However, the Appellant did not indicate whether or not it deducted tax on severance pay. 101.The Tribunal also notes that whereas the Appellant in its statement of facts stated that no gratuity payments were made during the year under review, the Appellant provided a reconciliation of these variances in what it presented as detailed in Table 6. in its statement of facts. The said table 6 indicates that gratuity was Kshs 17,375,781 which begs the question whether the Appellant was correct by stating that it did not incur gratuity. Similarly, in the ledger that the Appellant provided, which makes reference to severance pay liability, the figure provided there is Kshs 17,375,780.93. 102.Regardless of whether the Appellant actually incurred a gratuity or severance pay liability, it remained under a legal obligation to deduct tax 103.Under the circumstances, the Appellant failed to discharge its burden in relation to this issue. Final Determination 104.The upshot to the foregoing is that the Tribunal finds and holds that the Appeal is partially meritorious and makes the following orders:-a.The Appeal be and is hereby partially allowed;b.The Objection decision dated 6th December 2024 be and is hereby varied in the following terms:i.The Corporation tax assessment in respect of related party transactions, cash refunds, insurance, rent, petty cash refunds and interest capitalization be and is hereby upheld;ii.The Corporation tax assessment in respect of interbank transfers and bank reversals be and is hereby set aside.iii.The VAT assessment be and is hereby upheld.iv.The PAYE assessment be and is hereby upheld.c.The Respondent is hereby directed to revise the Objection decision dated 6th December 2024 within thirty (30) days of this judgment, to take into account order b. above; andd.Each party to bear its own cost. 105.It is so ordered. DATED AND DELIVERED AT NAIROBI THIS 2ND DAY OF JUNE 2026.……………………………..….ROBERT M. MUTUMACHAIRMAN……………………………… ……JIMMY M. MALLAMEMBER………………..…………………GLORIA A. OGAGAMEMBER………………..…………………DR. TIMOTHY B. VIKIRUMEMBER