[2023] KETAT 136 (KLR)

Market View Chemists Limited v Commissioner of Domestic Taxes (Appeal 290 of 2020) [2023] KETAT 136 (KLR) (Civ) (17 March 2023) (Judgment)

Neutral citation: [2023] KETAT 136 (KLR)

Republic of Kenya

In the Tax Appeal Tribunal

Civil

Appeal 290 of 2020

E.N Wafula, Vice Chair, RM Mutuma, RO Oluoch & EK Cheluget, Members

March 17, 2023

Between

Market View Chemists Limited

Appellant

and

Commissioner of Domestic Taxes

Respondent

Judgment

1. The Appellant is a private limited liability company incorporated in Kenya under the relevant provisions of the companies Act and is a registered taxpayer. Its main form of business is running a pharmacy at Sixty Four Arcade.

2. The Respondent is a principal officer appointed under Section 13 of the Kenya Revenue Authority Act, 1995. Under Section 5 (1) of the Act, the Kenya Revenue Authority is an agency of the Government for the collection and receipt of all 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 & 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 Appellant filed Income tax returns and claimed expenses on advertising in the years 2014, 2015, and 2017 of Kshs. 4,518,258. 00, Kshs. 4,399,385. 00, and Kshs. 2,695,032. 00 respectively, and salaries expense of Kshs.3,288,367. 00 in the year 2016. A letter to carry out a verification exercise was sent to the Appellant by the Respondent on 29th October 2018.

4. The Appellant’s auditor visited the Respondent’s office and stated that the Appellant’s expenses were lumped up under advertising expense in the years 2014, 2015, and 2017 and under salaries expense in the year 2016 and requested for time to do the amendments.

5. The Appellant amended the returns for 2015 and 2016 vide amended returns numbers KRA201901048239 and KRA201901050006, respectively, without the amendments for the year 2014 and leaving the expenses for 2017 lumped under advertising expense in the amended return filed on 16th October 2018.

6. The Respondent therefore issued assessments for 2014 and 2017 with an assessment order sent to the Appellant on 20th March 2019 through the iTax system vide acknowledgement KRA201903165653 and KRA201903175274 with the total tax due being Kshs. 2,365,333. 00.

7. The Appellant objected to the assessment online on the 1st April 2019 which was confirmed by the Respondent through acknowledgement receipt numbers KRA201906780682 and KRA201906780577 on 31st May 2019.

8. The Appellant being dissatisfied with the Respondent’s decision and assessment filed a record of Appeal on 22nd July 2020.

The Appeal 9. The Appeal is premised on the following grounds as listed in the Memorandum of Appeal dated 13th July 2020 and filed on 22nd July 2020:-a.The Commissioner of Domestic Taxes erred in law and in fact in failing to observe that the additional income assessment was excessive and did not agree with the self-assessment filed with the Department.b.The Commissioner of Domestic Taxes erred in law and fact in failing to prove how they arrived at the additional taxes they were adding back as income.c.The Commissioner of Domestic Taxes erred in law and in fact by acting unreasonably, irrationally and contrary to the Income Tax Act.d.The Commissioner of Domestic Taxes erred in the law and fact by conducting itself in a manner that breached the Appellant’s legitimate expectation.e.The Commissioner of Domestic Taxes erred in the law and fact by conducting themselves in a manner that breached the Appellant’s right to fair administrative action that is reasonable and expedient in line with the provisions of Article 47 of the Constitution.f.The Commissioner of Domestic Taxes erred in the law and fact by raising assessment on the Appellant based on fictitious income hence interfering with the Appellant’s right to own property as per Article 40 of the Constitution.g.The Commissioner of Domestic Taxes erred in the law and fact by failing to observe that the Appellant had always filed its monthly returns on time, neither were its returns incorrect or inadequate.h.The Commissioner of Domestic Taxes erred in the law and fact by using an assessment that did not reflect the financial position of the Appellant since the figures stated therein as income were not only exaggerated but were also not supported as income by documentary evidence.i.The Commissioner of Domestic Taxes erred in the law and fact in giving a decision that was generally contrary to the relevant laws and facts before it.

The Appellant’s Case 10. The Appellant’s case is premised on its Statement of Facts dated 15th September 2021 and filed on 16th September 2021 and its written submissions dated 5th August 2022 and filed on 11th August 2022.

11. The Appellant stated that it provided the Respondent with an explanation and reasons why its returns for the years 2014, 2015, and 2017 seemed to have only one single expense item stated as advertising expenses but which were total expenses for the business for the period.

12. It averred that being dissatisfied by the Respondent’s decision, it submitted a detailed Notice of Objection dated the 28th March 2019 which was acknowledged by the Respondent on the 1st April 2019.

13. It stated that an objection decision must have a statement of findings and the reasons behind the findings pursuant to Section 51(10) of the Tax Procedures Act hence the Respondent’s letter confirming the additional assessment without any reasons for their decision is contrary to the law.

14. The Appellant submitted that the Respondent is not exempt from issuing a decision that complies with the law simply because the decision is communicated through a digital system. That to issue a decision simply in the words: “fully reject”, without a statement of findings and reasons for the decision is not only perfunctory but contemptuous of taxpayers who are required to provide massive information and documentation to the Respondent is communicated through.

15. It submitted that such action also denies the taxpayer the opportunity and information the basis upon which they can file an appeal targeted at the issues which the Respondent did not address or resolve. It opined that the decision issued to the Appellant was invalid since it fails to substantively comply with the law. It relied on the Tribunal’s decision in the case of Digital Box V. Commissioner of Domestic Taxes TAT No. 115 of 2017.

16. It opined that only by the Respondent strictly complying with the requirements of Section 51(10) of the Tax Procedures Act can a taxpayer be assured that the information and documents they provide to the Respondent were considered or reviewed during the Objection process.

17. It reiterated that the Objection Decision was issued on the 31st May 2019 which was the 59th day of the period stipulated in Section 51(11) and that clearly the Respondent did not consider the Appellant’s Objection on its merits and failed to provide its findings and reasoning.

18. It asserted that the Respondent did not inform the Appellant that its Objection Decision was invalid as required under Section 51(4) of the Tax Procedures Act, 2015.

19. The Appellant submitted that there is no business without input costs; financial and administrative expenses. It relied on Section 3(2) of the Income Tax Act which provides that only gains are taxable.

20. It opined that it was grossly unfair, unreasonable and illegal for the Respondent to disregard the business expenses and administrative costs of the Appellant simply because of technical difficulties occasioned by non- configuration of the Respondent’s iTax system to accept the second amendment in a return filed by the Appellant.

21. It was the Appellant’s contention that from its letter dated 29th June 2020, it is clear that the Respondent did not consider any of its information provided as evidence of tax compliance for the years under review and solely relied on banking information to make its assessment. That the Respondent treated the entire amount in its bank accounts as changeable income contrary to Section 3(2) of the Income Tax Act that provides that only profits or gains are taxable.

22. It reiterated that the Respondent in its assessment treated the cash deposits from its sister companies as chargeable income thereby arriving at an erroneous figure as additional tax. That these deposits were made to avoid a situation where cheques issued by the Appellant bounced due to lack of funds which elaborate explanations were provided to the Respondent showing movement of funds between the sister companies.

23. It further contended that the Respondent made an assumption that the Appellant’s business did not have any running expenses or depreciation costs for the years in question. That the Respondent ignored the itemised list of expenses for the Appellant’s business indicated in the audited accounts without any legal basis, rationale or justification.

24. It averred that the Respondent also ignored the fact that the main business of the Appellant is the stocking and sale of human and veterinary medicines and related products. These commodities are time-sensitive and delicate. That there is always dead stock, expired medicine, returned precision equipment, breakages, and pilferage. That the business also absorbs direct losses if and when patients without known physical addresses pass on and the debts cannot be collected.

25. It stated that the Respondent further ignored the audited accounts submitted by the Appellant and the Appellant’s financial records and books of accounts which clearly show the total expenses.

26. It asserted that in respect of the year 2014, the Appellant’s auditors filed a return through the Respondent’s iTax system which had just been rolled out. That the fields provided in the new format did not leave space for all heads of expenses for many businesses such as the one for the Appellant, a fact the Respondent is well aware of. That the auditors made errors which were later amended with the help of the Respondent’s officers in Eldoret sometime in late June 2015 and that the iTax system is not configured to accept a second amendment and this is why the Appellant’s auditors provided audited accounts and an itemised list of its administration, establishment and financial expenses for verification. The Respondent rejected these expenses without any rationale, logic, or lawful justification.

27. It asserted that it has visited the Respondent’s office with a view to resolving the issue but has consistently been told that iTax is not configured to accept the second amendment of returns filed after a self-assessment, which technical capacity to resolve challenges in the digital tax systems is within the Respondent’s competency.

28. It reiterated that the actions of the Respondent amount to harassment which has resorted to the directors of the Appellant opting to close its business. It cited the case of Silver Chain Limited V. Respondent Income Tax and 3 Others [2016] eKLR, where Justice SJ Chitembwe stated: “The task of collecting taxes should not lead to discouraging taxpayers from carrying on with their businesses. If the taxpayers close shop, there will be no taxes to be collected. On the other hand, if no taxes are paid, there will be no funds to run government operations. This calls for a balance between the tax collectors and taxpayers whereby the process becomes inclusive as opposed to being unilateral. There must be fairness in the process of tax assessment.”

29. It averred that in respect of the year 2017, the Appellant’s auditors have tried on many occasions to amend the return in the iTax system to reflect the proper amounts under each head of business expenses in vain due to the challenges in the system. That the auditors and the Appellant have written and visited the Respondent’s offices in Eldoret repeatedly but the problem has never been rectified or a written explanation provided to the Appellant.

30. It also averred that the Respondent disregarded the Appellant’s unique business nature of medi-pharm. That the business has inherent risks such as reliance on part-time locum staff, related costs and losses for which the Appellant totally absorbs, and the audited accounts clearly show that it is impossible to make the alleged annual income.

31. It further cited the case of Mount Kenya Bottlers V. Kenya Revenue Authority [2021] eKLR where Korir J stated that: “when the Respondent proceeds to kill businesses in the guise of collecting taxes, it becomes an undertaker wnd will itself eventually die since its survival depends on the existence of income generating businesses that are not operational.” it stated that the Respondenthas been capricious and vindictive in its irrational actions in disregarding audited accounts supplied by the Appellant, illegal and irrational demand for penalties and interest for previous years while their decision on the Appellant’s Application for waiver is still pending.

32. The Appellant submitted that the Section relied on by the Respondent does not apply in the instant case. That having filed its returns, the only issue was the correctness of the Appellant’s returns owing to what the Respondent alleged to be a single item expense and that the Appellant’s explanation for this anomaly was disregarded by the Respondent who failed to consider the audited accounts and use its best judgement in reviewing the objection and documents provided by the Appellant.

33. It cited the case of Raghubar Mandal Harihar Mandal V. The State of Bihar AIR 1952 Pat 235 which was relied on by the Tribunal in the Digital Box (supra) case in holding:“The officer is to make an assessment to the best of his judgment against a person who is in default as regards supplying information. He must not act dishonestly or vindictively or capriciously, because he must exercise judgment in the matter. He must make what he honestly believes to be a fair estimate of the proper figure of assessment, and for this purpose he must, their Lordships think, be able to take into consideration local knowledge and repute in regard to the assessee's circumstances, and his own knowledge of previous returns by & assessments of the assesses, & all other matters which he thinks will assist him in arriving at a fair and proper estimate and though there must necessarily be guess-work in the matter, it must be honest guesswork.”

34. It argued that the Respondent arrived at the wrong conclusion and made an erroneous assessment since it failed to consider the challenges in internet connectivity and limitation in the fields in the iTax system which had made it impossible for the Appellant’s auditors to correctly insert all its business expenses at the time of filing its returns.

35. It posited that the Respondent resorted to relying on the banking method to arrive at its conclusion despite the Appellant supplying audited accounts and supporting documents in various meetings held by the parties.

36. It cited the case of Family Signature Limited v. The Commissioner of Investigations and Enforcement TAT No. 25 of 2016 in buttressing its position on whether the Respondent is justified in employing an alternative and indirect method to assess the Appellant’s estimated tax liability. The court stated:“When the Respondent is prompted to resort to an alternative method of determining the income and in assessing the tax liability of a taxpayer, it has the onerous responsibility to act reasonably by exercising best judgement informed by pragmatic and reasonable considerations that do not in any manner result in a ridiculously high- income margin.”

37. It stated that the Respondent has subjected it to illegal tax demands; malicious and unfair administrative action. That the Appellant paid the entire principle taxes due and owing to the Respondent in the years 2008, 2009, and 2010 and applied for waiver of penalties and that the Appellant has been waiting for a decision on its application for waiver of penalties only to be slapped with a demand for the same without any notice or a written explanation.

38. It further stated that it made its application for waiver of interest and penalties on 27th June 2014 and to date, it has not received any answer from the Respondent. That the Respondent’s action to demand these penalties and interest is therefore illegal, unfair, unreasonable, irrational, and malicious.

39. The Appellant relied on Article 47 of the Constitution to support its position that every person is entitled to administrative action that is expeditious, efficient, lawful, reasonable and procedurally fair. It submitted that an Application for waiver of penalties and interest is a tax decision within the meaning of Section 31(8) of the Tax Procedures Act.

40. It reiterated that it lodged its application for waiver of interest and penalties for the years 2008,2009 and 2010 with the Respondent on 27th June 2014 but the Respondent has never considered the application or provided a reason for the delay, nor has it addressed the issue of the penalties it alleges amount to Kshs. 723,356. 00.

41. It quoted the decision in the case of Vivo Energy Kenya Limited v. The Commissioner of Customs and Border Control Nbi HC JR No. 346 of 2019 on the effect of the Respondent failing to adhere to statutory timelines being that the Respondent’s subsequent decisions will be considered unlawful, irrational and procedurally unfair.

42. It maintained that it has always been tax compliant for the period under review hence the Respondent’s additional assessment is unjustified, malicious and unreasonable, which actions have forced the Appellant to close its medi- pharma line of business with no hope of reopening in the near future.

43. The Appellant asserted that the Respondent has subjected the Appellant to untold harassment and suffering through multiple but separate tax assessments and demands relating to the Appellant’s sister businesses, which move has paralyzed the smooth running of the Appellant’s business. That the businesses share a managing director who is required to simultaneously respond to disparate queries and demands from the Respondent. That the actions of the Respondent are exceptionally unfair, unreasonable, uneconomical, and malicious and that as a consequence, the Appellant has now closed its business to ward off harassment by the Respondent, its servants, and agents.

44. It was the Appellant’s averment that it has been cooperative since the commencement of the compliance audit by the Respondent and paid up to Kshs. 295,123. 00 in taxes until its time of closure in April 2020.

The Appellant’s prayers. 45. The Appellant consequently prayed that:-a.This Appeal be allowed and the decision given by the Commissioner of Domestic Taxes be set aside and substituted by an order dismissing it.b.The Appellant be awarded costs of this Appeal.

The Respondent’s Case 46. The Respondent’s case is premised on its Statement of Facts dated and filed on 17th November 2020.

47. It stated that the Appellant filed Income tax returns and claimed enormous expenses on advertising in the years 2014, 2015, 2017 of Kshs. 4,518,258. 00, Kshs. 4,399,385. 00, Kshs. 2,695,032. 00, respectively, and salaries expense of Kshs. 3,288,367. 00 in the year 2016.

48. It asserted that a letter to carry out a verification exercise was sent to the Appellant by the Respondent on 29th October 2018.

49. It reiterated that the Appellant’s auditor, Mr. Nyaori, visited the Respondent’s office and stated that all the Appellant’s expenses were lumped up under advertising expenses in 2014, 2015, 2017, and under salaries expenses in the year 2016. a.The Appellant after visiting the office requested time to do amendments on the same.b.The Appellant properly amended the 2015 and 2016 returns, vide amended returns number KRA201901048239, and KRA201901050006 respectively.c.The Appellant failed to amend the 2014 return and has also lumped all expenses under ‘advertisement expense’ in the 2017 amended return filed on 16th October 2018

50. It averred that this prompted the Respondent to issue assessments for the years 2014 and 2017; and that an assessment was sent to the Appellant on 20th March 2019 through the iTax system via acknowledgment KRA201903165653 and KRA201903175274.

51. The Respondent issued additional assessments by disallowing advertisement expenses in the year 2014 and 2017 Income tax returns that resulted in the following adjustments in the principal taxes:Tax Head Principal Tax (Kshs.) Penalty (Kshs.) Interest (Kshs.) Total Tax (Kshs.)

Corporation Tax 2014 1,092,736 535,440 1,628,176

Corporation Tax 2017 652,352 84,805 727,157

Total Tax Due 1,745,088 620,245 2,365,333

52. It was stated that the Appellant lodged an objection to the assessment through the iTax System vide objection application acknowledgment receipt numbers KRA201903583360 and KRA201903582512 dated 1st April 2019.

53. It submitted that the assessment was confirmed on 31st May 2019 vide notice numbers KRA201906780682 and KRA201906780577.

54. The Respondent relied on the following provisions from the Sections of the law to support its case:a.Section 24(2) of the Tax Procedures Act— The Commissioner shall not be bound by a tax return or information provided by, or on behalf of, a taxpayer and the Commissioner may assess a taxpayer's tax liability using any information available to the Commissioner.b.Section 29(1)(c) of the Tax Procedures Act- Where a taxpayer has failed to submit a tax return for a reporting period in accordance with the provisions of a tax law, the Commissioner may, based on such information as may be available and to the best of his or her judgement, make an assessment (referred to as a "default assessment") of— (c) the tax (including a nil amount) payable by the taxpayer for the period in any other case.c.Section 51(3) of the Tax Procedures Act— The Respondent’s prayers1. The Respondent prayed for orders that:-a.The Objection Decision be upheld as the true reflection of the Appellant’s tax liabilities;b.The Appeal herein be dismissed with costs to the Respondent.

Issues For Determination 56. After perusing through the pleadings and documentation produced before it, the Tribunal is of the opinion that the following are the main issues for determination:a.Whether the Objection decision dated 31st May 2019 confirming the additional assessment is valid?b.Whether the Respondent erred in confirming the assessment dated 20th March 2019 based on banking deposits.

Analysis And Findings 57. The Tribunal wishes to analyse the issues as herein-under:

a. Whether the Objection decision dated 31st May 2019 confirming the additional expenses is valid? 58. In the instant case, the Respondent found that the Appellant had enormous amounts of expenses under advertisement on its tax returns. The Appellant through meetings and provision of documents provided explanations as to why that was so citing problems with the Respondent’s iTax system which does not allow for more heads under expenses for its type of business.

59. An assessment was issued which was objected to by the Appellant but confirmed by the Respondent online.

60. The Tax Procedures Act provides under Section 51 (3) (b) thereof as follows:“A notice of objection shall be treated as validly lodged by a taxpayer under subsection (2) if—a.the notice of objection states precisely the grounds of objection, the amendments required to be made to correct the decision, and the reasons for the amendments; andb.in relation to an objection to an assessment, the taxpayer has paid the entire amount of tax due under the assessment that is not in dispute, or has applied for an extension of time to pay the tax not in dispute under section 33(1).c.all the relevant documents relating to the objection have been submitted”

61. Further, Section 51 (10) of the Tax Procedures Act states;“An objection decision shall include a statement of findings on the material facts and the reasons for the decision.”

62. From the chronology of events, it is evident that the Respondent did not comply with the provisions of Section 51(10) of the Tax Appeals Procedure Act by not giving a detailed statement of findings and reasons for the findings in its objection decision. This is a hindrance to the Appellant in the sense that it denies it the opportunity to prepare and present its appeal appropriately and comprehensively making it a derogation of the Appellant’s right to fair administrative action and its legitimate expectation.

63. The Tribunal will therefore not belabour this issue too much. We find that the Respondent’s decision which states simply “fully reject” is insufficient as an objection decision and contrary to the provisions of the law.

b. Whether the Respondent erred in confirming the assessment dated 20th March 2019 based on banking deposits. 64. Having established that the Respondent’s Objection Decision was invalid, the Tribunal found that this issue has been rendered moot.

Final Decision 65. The upshot to the foregoing analysis is that the Appeal is merited and the Tribunal accordingly proceeds to make the following Orders;-i.The Appeal be and is hereby allowed;ii.The objection decision dated 31st May, 2019 be and is hereby set asideiii.Each party to bear its own costs.

66. It is so ordered.

DATED AND DELIVERED AT NAIROBI THIS 17TH DAY OF MARCH, 2023. ……………………ERIC N. WAFULACHAIRMAN……………………………ROBERT M. MUTUMA……………………………RODNEY O. OLUOCH……………………………MEMBEREDWIN K. CHELUGETMEMBER