[2023] KETAT 279 (KLR)

ICEA General Insurance Co. Ltd v Commissioner of Domestic Taxes (Appeal 392 of 2021) [2023] KETAT 279 (KLR) (19 May 2023) (Judgment)

Neutral citation: [2023] KETAT 279 (KLR)

Republic of Kenya

In the Tax Appeal Tribunal

Appeal 392 of 2021

E.N Wafula, Chair, Cynthia B. Mayaka, AK Kiprotich, Grace Mukuha & Jephthah Njagi, Members

May 19, 2023

Between

ICEA General Insurance Co. Ltd

Appellant

and

Commissioner of Domestic Taxes

Respondent

Judgment

Background 1. The Appellant is a limited liability company incorporated in Kenya and a registered taxpayer. The company focuses on products, services and activities related to general insurance.

2. The Respondent is a principal officer appointed under Section 13 of the Kenya Revenue Authority Act, Cap 469 Laws of Kenya and the Kenya Revenue Authority is mandated to collect and receive all Government revenue in accordance with the various tax statutes.

3. The Respondent carried out a compliance review on the Appellant for the years 2015 to 2018 and made preliminary findings of outstanding tax liability on Corporation tax and VAT owed by the Appellant and this was communicated to the Appellant vide a letter dated 14th May 2020. The Respondent requested the Appellant to respond to the findings within 14 days.

4. The Appellant responded to the preliminary audit findings through a letter dated 5th June 2020 and explained its position on the matter in details and indicated that the Respondent had erred in its findings.

5. The Respondent consequently carried out an audit on the Appellant’s tax records for the period 2015 to 2018 and issued the Appellant with a notice of assessment for Ksh.122,109,291. 00 and Ksh.88,805,225. 00 for Corporate tax and VAT, respectively, inclusive of penalties and interest and communicated this to the Appellant vide a letter dated 5th November 2020.

6. The Appellant lodged its notice of objection and partially objected to the Respondent’s assessment vide a letter dated 4th December 2020.

7. After reviewing the objection the Respondent revised the assessment and the tax payable for the years 2015 and 2016 to the tune of Ksh 201,188,565. 00, inclusive of interest and penalties and covering various heads of taxes.

8. The Appellant objected to the revised assessment and the Appellant was notified via an email on 13th January 2021 that the objection was invalid and that it was required to validate the same by providing records and the Appellant conformed to the requirement by providing the records on 13th January 2021.

9. There consequently followed various correspondence between the parties that culminated with the objection decision being issued by the Commissioner on 28th May 2021 confirming the assessments.

10. The Appellant being dissatisfied with the Objection decision filed a Notice of Appeal on the 25th June, 2021.

The Appeal 11. The appeal is set in the Memorandum of Appeal dated 9th July 2021 and filed on the same date and lays down the following grounds in support of the same:a.That the Respondent erred in law and in fact by assessing principal tax and interest on the bad debts written off in the year 2015 and 2018 as the principal tax had already been paid and acknowledged as received by the Respondentb.That the Respondent erred in law and fact by imposing interest payable on bad debts expensed for the year 2015 and 2016 up to the date of the assessment on 5th November 2020 as opposed to the date the principal tax was settled on 30th April 2020. c.That the Respondent erred in law and in fact by disallowing excise duty expense deducted by the Appellant, yet the expense was wholly and exclusively incurred in the generation of income.d.That the Respondent erred in law and fact by disregarding in its assessment for principal tax, the amount of Ksh.23,056,956. 00 which had been subjected to corporate income tax in its assessment.e.That the Respondent erred in law and in fact by disregarding corporate tax overpayments in the years 2015, 2016 and 2018 by the Appellant.f.That the Respondent erred in law and fact in assessing VAT on the disposal of salvages, yet the disposal of salvages is exempt from VAT.

The Appellant’s Case 12. The Appellant’s case is premised on:a.The Statement of Facts dated 9th July 2021 and filed on the same day.b.The written submissions dated 23rd February 2022 and filed on the same date

13. The Appellant averred that the Respondent audited its records for the period 2015 to 2018 and consequently issued the Appellant, at the conclusion of the process, with a notice of assessment for Corporate income tax and Value Added Tax (VAT) on 5th November 2020.

14. That the assessment was for Ksh.122, 109,291. 00 as Corporation income tax and Ksh.88,805,225. 00 being VAT together with penalties and interest on the two taxes.

15. That the matter proceeded by the way of the Appellant filing a notice of objection, the Respondent replying to the same, several meetings being held and correspondence exchanged as per the statements of facts filed by both parties.

16. That on 28th May 2021 the Respondent issued the Appellant with an objection decision and an additional assessment of Ksh.210,914,516. 00

17. That subsequent to the filing of the Appeal the parties engaged in seeking a resolution to the dispute through ADR, and through an ADR. Agreement dated 26th November 2021, and a Consent dated 4th February 2022 and filed with the Tribunal, the parties were able to resolve the Corporation income tax issue fully .They further agreed to refer the issue on VAT on disposal of salvages of Kshs. 88,808,225. 00 back to the Tribunal for hearing and determination.

18. That the single issue before the Tribunal for determination therefore is whether VAT is chargeable on the disposal of salvage motor vehicles

19. The Appellant submitted that the disposal of salvage motor vehicles is exempt from VAT. It adds that the process involved is part of the insurance business practice.

20. The Appellant averred that upon an accident occurring to an insured motor vehicle, in case the motor vehicle is to be replaced, the Appellant sells the salvaged motor vehicle to cushion itself against the insured risk.

21. That the salvaged property is sold as part of the indemnification process in order to recoup part of the indemnity payment to the insured. That the disposal therefore forms part of the normal business of an insurance company.

22. The Appellant relied on the case of Dane vs Mortgage Ins. Co Ltd [1894]1QB 54 [CA] to show that disposal of salvages is part and parcel of the indemnification process in the general insurance business and is provided for under the Insurance Act, Section 2 thereof.

23. The Appellant also stated that the compensation of an insured person for any loss suffered is guided by the principles of subrogation and indemnity in insurance business. The doctrine of subrogation enables an insurer to recover the value of the salvage .The disposal of the salvage is therefore incidental to the insurance business of the Appellant.

24. The Appellant also averred that the insurance services are exempted under Section 5(1) of the VAT Act, 2013.

25. The Appellant with regard to the exemption also relied on the provisions of Section 2 of the VAT Act and Para. 2 of Part 11 of the First Schedule to the VAT Act which exempts several supplies included therein.

26. The Appellant also averred that the disposal of salvage motor vehicles does not fall within the exceptions in Para 2 of Part 11 of the First Schedule to the VAT Act and in this regard relies on the case of Mount Kenya Bottlers LTD & 3 others vs AG and 3 others [2019] eKLR.

27. The Appellant also averred that the work of disposing salvages is part of the insurance business and is therefore VAT exempt. In this regard the Appellant relied on the cases of Mayfair Insurance LTD vs Commissioner of Domestic Taxes[2018];Madison Insurance LTD vs Commissioner of Domestic Taxes[2018]; and Keroche Industries Ltd vs KRA & 5 others [2007]eKLR.

28. Based on the provision of the VAT Act and the case law cited, the Appellant submitted that the Respondent erred in law and fact in subjecting the disposal of salvages to VAT as the same is legally exempted.

Appellant’s Prayers 29. The Appellant prays for:a.The Appeal to be allowedb.The Respondent’s objection decision dated 28th May 2021 be set aside and be annulledc.Costs

Respondent’s Case 30. The Respondent’s case is grounded on the Statement of Facts dated 6th August 2021 and filed on 8th August 2021 and the written submissions dated 31st March 2022 and filed on the same date.

31. The Respondent contended that the Appellant sells salvages after indemnifying the insured. That “indemnify” refers to the act of financial compensation sufficient to place the insured in the same financial position after a loss as he enjoyed prior to the loss occurring.

32. The Respondent averred that sale of salvages is not exempt from VAT since it does not form part of the insurance service. It states further that the sale of salvages is not different from the sale of any other goods which are taxable at 16%.

33. Salvages, according to the Respondent, do not constitute either exempt supplies or zero rated supplies and do not fall under Part 1 of the 1st Schedule (exempt supplies)or the 2nd Schedule part A (Zero rated supplies) of the VAT Act ,2013.

34. The Respondent submitted that the sale of salvages does not constitute part of the insurance business and is not an incidental business as alleged by the Appellant.

35. The Respondent also averred that the insurance companies are not in the business of selling salvages and the disposal of salvages is not unique to insurance companies.

Respondent’s Prayers 36. The Respondent’s prayers are that:a.The Appeal be dismissed with costsb.The VAT assessment raised by the Respondent amounting to Kshs.208,093,391. 00 be confirmed to be due and payable as per the objection decision rendered by the Respondent.

Issue For Determination 37. The Tribunal upon considering the pleadings of the parties and the submissions filed in the matter has determined that there is only one issue for determination as stated below:

Whether VAT is chargeable on the disposal of salvage motor vehicles Analysis And Findings 38. The Appellant had submitted that the disposal of salvage motor vehicles executed by the sale of the vehicles is part of the practice of the insurance business and since the insurance business is exempt under the law from VAT tax, it follows that the disposal of the motor vehicle salvages is VAT exempt.

39. The Appellant cited the provisions of Sections 2 and 5(1) of the VAT Act, 2013, Paragraph 2 of Part 11 of the First Schedule to the VAT Act, and various authorities to support its case.

40. The Respondent argued on the other hand that the sale of salvages is not exempt from VAT as it does not form part of the insurance service. It goes on to say that sale of salvages is not different from the sale of any other goods which are taxable at the general rate of 16%.

41. The Respondent also argued that the sale in issue is neither VAT exempt nor zero rated.

42. The VAT Act states very clearly what is chargeable to VAT. The charging Section, Section 5 (1) states that:“A tax to be known as Value Added Tax, shall be charged in accordance with the provisions of this Act on-a.a taxable supply made by a registered person in Kenya” 43. Section 2 of the VAT Act defines supply as “supply means a supply of goods or services”

44. The supply of goods has been defined to mean

“a) a sale, exchange or other transfer of the right to dispose of the goods as the owner; orb.the provision of electrical or thermal energy, gas or water;”

45. A taxable supply has been defined under Section 2 of the VAT Act ,2013 as:“taxable supply” means a supply other than an exempt supply, made in Kenya by a person in the course or furtherance of a business carried on by the person, including a supply made in connection with commencement or termination of a business.”

46. The law therefore lays down goods that should not be subjected to taxation where the same are either exempt or zero rated. The Act in Part 11 of the 1st Schedule lists the exempt services while Part A of the same schedule provides for the zero rated supplies.

47. Para.2 of Part 11 of the First Schedule to VAT Act 2013, exempts the following supplies from VAT:“Insurance and reinsurance services excluding the following:a.Management and related insurance consultancy servicesb.Actuarial services andc.Services of insurance assessor and loss adjusters”

48. Taking into consideration the above provision of the VAT, it is clear that insurance services are exempt from VAT other than the three exemptions noted in Paragraph 2 of Part 11 of the First Schedule.

49. The Tribunal found that insurance Companies in covering the insured person of any claim upon a loss incurred rely on the principal of indemnity and the doctrine of subrogation .The Appellant having agreed to indemnify the insured at the time of receiving the insurance premium is under an obligation to reinstate the insured and place them in the same position they were in prior to the claim. The Appellant cannot be discharged from its responsibility as per the insurance contract that is the insurance cover, before it fully applies the doctrine of subrogation which includes the disposal of the salvage.

50. The sale of the salvage is part of the compensation process otherwise the Appellant would have required the insured to first dispose of the salvage and then seek compensation. Since the Appellant wishes to “make it easier” for the insured it compensates the insured then assists in the disposal of the salvage as part of good service to the insured.

51. The Tribunal found that even if the insurer will retain the salvages from the insured to either diminish the costs or reimburse itself, this does not amount to sale, as argued by the Respondent. It is still part of the insurance business which is exempt from VAT.

52. The proceeds collected from the sale of motor vehicle salvages is not treated as income in accounting as this is a mere compensation to the Appellant for indemnifying the insured. It is therefore not a sale of goods as argued by the Respondent.

53. The VAT Act, 2013 lists the exempt supplies and zero rated supplies and though the Act does not mention the supply of salvages as an exception to insurance and reinsurance, the ambiguity created therefore must favor the taxpayer.

54. The Tribunal also took into consideration, with regard to the liability on VAT on the sale of salvages, the holding in TAT NO 10 of 2016 Madison Ins Co Ltd vs Commissioner of Domestic Taxes where it was held in Paragraph 102 thereof that:“The Tribunal finds that it is not in dispute that the Appellant’s primary business as an insurer is to undertake liability on the happening of specified events affecting the insured. By undertaking the liability the Appellant would essentially compensate an insured person for any loss suffered. The compensation of the insured is guided by the well-established doctrines of subrogation and indemnity in insurance. Based on the doctrine of subrogation the insurer then recovers the value of the salvage. The sale of the salvage is therefore clearly incidental to the insurance business carried out by the Appellant. What then this means is that if salvage which alleged by the Respondent to be taxable falls under this category of “any other business incidental to insurance business” then it ceases to be taxable because it will fall under the scope of part 11 of the First Schedule to the VAT Act 2013 and paragraph 2 of the Third Schedule to the repealed VAT Act Cap 476. (emphasis mine)

55. The Tribunal went on to add in Paragraph 106 in the same matter as follows:“Therefore, the Tribunal holds that there is no taxable supply of goods by the insured to the insurer by operation of the doctrine of subrogation and transaction at this stage cannot attract any VAT implications. In any case, as noted earlier this step does not entail any transfer of goods rather it is an application of the doctrine of subrogation. (emphasis mine).

56. A similar holding was made in the case of Mayfair Insurance Co. Ltd vs Commissioner of Domestic Taxes [TAT Appeal No 47 of 2016] where in Paragraph 99 the Tribunal stated that:“The Tribunal finds that under the principle of subrogation, and that of indemnity, the insurer cannot possibly earn any extra value above what was insured and thus be liable to VAT”. It further states in Paragraphs 100 and 101 as follows:“100 That the VAT Act, Cap 476 as amended exempted insurance services from taxation101 That the sale of salvages constitutes part of insurance services as opposed to insurance business, and thus does not constitute supply of goods for the purpose of taxation”

57. The Tribunal, having taken into consideration, the applicable law and the case law cited to buttress the arguments in the matter concludes that the disposal of salvages in the insurance industry and by the Appellant in particular does not attract any VAT liability.

Final Decision 58. The upshot of the foregoing is that the Appeal save for the Consent entered into by the parties on the 4th February, 2022 and recorded as a Partial Judgment on the 9th February, 2022 is merited and the Tribunal proceeds to make the following Orders:-a.The Appeal be and is hereby allowed.b.The objection decision dated 28th May 2021 on the VAT assessment on salvages of ksh.88,805,225 be and is hereby set asidec.Each party to bear its own costs.

DATED AND DELIVERED AT NAIROBI ON THIS 19TH DAY OF MAY, 2023. ……………………….ERIC N. WAFULACHAIRMAN……………………….. ……………………………CYNTHIA B. MAYAKAMEMBER……………………. …………………….ABRAHAM K. KIPROTICHMEMBER……………………. …………………….GRACE MUKUHAMEMBER……………………. …………………….JEPHTHAH NJAGIMEMBER