[2021] KEHC 27 (KLR)

Nakumatt Holdings Limited v Commissioner of Domestic Taxes (Income Tax Appeal 10 of 2017) [2021] KEHC 27 (KLR) (Commercial and Tax) (10 September 2021) (Judgment)

Neutral citation number: [2021] KEHC 27 (KLR)

Republic of Kenya

In the High Court at Nairobi (Milimani Commercial Courts Commercial and Tax Division)

September 10, 2021

A Mabeya, J

Income Tax Appeal No. 10 of 2017

Between

Nakumatt Holdings Limited

Appellant

and

Commissioner of Domestic Taxes

Respondent

(An appeal from the decision of the Tax Appeals Tribunal made on 6/12/2016 in TAT NO. 170/2015)

Judgment

1. By a letter dated 17/4/2015, the respondent raised an assessment against the appellant and demanded withholding tax of Kshs. 63,249,423/= from the appellant. The appellant objected to the assessment vide a letter dated 17/12/2012.

2. Vide a letter dated 17/4/2015, the respondent confirmed its assessment of an amount of Kshs. 61,366,288. 92 and Kshs. 67,315,554/= being the principal corporation tax and withholding tax respectively together with penalty and interest.

3. The appellant appealed against that decision to the then Local Committee, now Tax Appeals Tribunal (“the Tribunal”). By its judgment made on 6/12/2016, the Tribunal dismissed the appeal and upheld the objection decision.

4. Being dissatisfied with that decision, the appellant lodged this appeal setting out 8 grounds of appeal which can be summarized to be that, the Tribunal misapprehended the nature of the transaction entered between the appellant and Cybercash Card Limited (Cybercash) thereby considering the money paid by the appellant to Cybercash to be management service fees whereas it was consideration for the sale of points.

5. The respondent filed its statement of facts dated 8/3/2017 by which he contended that during the audit for the years 2007-2010, it was discovered that the appellant had a Merchant Agreement with CyberCash to provide management services towards its loyalty smart card programme.

6. The respondent established that for every point awarded to a customer, the appellant paid CyberCash limited Kshs. 3 and CyberCash paid out Kshs. 2 for every point redeemed. That the transaction had to be done through electronic point of sale provided by CyberCash for it to be valid.

7. The respondent thus established that the appellant made monthly payments to CyberCash under the Merchant Agreement for the maintenance or management of the system for loyalty points awarded and redeemed from card holders.

8. The respondent concluded that the payments were in respect of management fees chargeable to withholding tax under section 35(3) (f) of Income Tax Act and issued an additional assessment in respect of the years of income 2007-2010 on the 16/11/2012.

9. The respondent filed its written submissions dated 22nd July 2020. It submitted that the nature of business transaction between the appellant and CyberCash could be deduced from the Merchant Agreement dated 20/2/2011 more-so clauses 2, 3, 4, 5, 6, 7 and 11 of the agreement.

10. The respondent contended that the service by Cybercash attracted withholding tax at the rate of 5% as per Section 35 (f) as read with paragraph 3 of the ITA as management service. That the smart card bore the appellant’s name and logo and hence were a marketing tool to attract loyalty customers.

11. The respondent quoted the South African case of ABC (Pty) Ltd vs Commissioner For The South African Revenue Service(13988) (2018) ZATC 5 which explained the nature of a loyalty card contract. That in the case, the court’s conclusion of the first purchase and sale contract resulted in two things; the appellant earns income, and the appellant incurs an obligation to incur future expenditure towards the customer. That the obligation to incur future expenditure arises from the fact that the appellant will in future be obliged to provide goods to the customer when the customer redeems his or her voucher.

12. That the role of CyberCash in the loyalty cards transaction as the agreement was to facilitate the process of awarding and redeeming of loyalty card points. That this was the reason why the appellant paid CyberCash the Kshs. 1 as consideration for the said management.

13. The Court has carefully considered each party’s contention. The existence of the Merchant Agreement between the appellant and Cybercash is not in dispute. That agreement provided that the appellant would award loyalty points on goods and services to any cardholder or redeem points upon presentation of a valid card.

14. In the agreement, the appellant was to pay to Cybercash Kshs. 3/= inclusive of VAT for every loyalty point. Upon redemption of a loyalty point, CyberCash would pay the appellant Kshs. 2/= inclusive of VAT.

15. The appellant’s case in a nutshell is that the respondent and the tribunal misconstrued the nature of the transaction between itself and CyberCash. That the respondent understood it to be a sale of management service to CyberCash, whereas it was but a virtual sale of points.

16. The respondent’s case on the other hand was that the transaction created a management service as provided for by section 35 as read together with paragraph 3 of the ITA. That the Kshs. 1= retained by CyberCash for every redeemed loyalty point was management fee on which withholding tax was payable.

17. As set out in the summarized grounds of appeal, the issue is whether the Tribunal misapprehended the nature of the transaction between the appellant and Cybercash. Put differently, was the Merchant Agreement a managerial service agreement or was it an agreement for sale of loyalty point.

18. I am alive to this Court’s duty as a first appellate court. It has to rehear, re-evaluate and reconsider the parties case as presented before the Tribunal and come to its own findings and conclusions. See Peters v Sunday Post Ltd[1958] EA 424.

19. This court is called upon to interpret the contract between the appellant and CyberCash vis a vis the tax laws applicable, ie section 35 of the Income Tax Act. Section 2 of the Income Tax Act provides that;“management or professional fee” means payment made to a person, other than a payment made to an employee by his employer, as consideration for managerial, technical, agency, contractual, professional or consultancy services however calculated”

20. The Merchant Agreement was clear as to the services provided by CyberCash. Cybercash issued smart cards to the appellant’s customers and provided equipment to the appellant to facilitate the transaction. The appellant was in full control of the technical process of awarding loyalty points as well as redeeming the points.

21. In order to understand the nature of the subject agreement, one has to look at the recital part and clauses 1, 2, 3, 9 and 11. Recital“Together referred to as the ‘Parties’ for the acceptance of Cyber Cash Cards and payment of monies received under the Smart Loyalty Scheme.1. In this agreement ‘Card’ means any card issued by Cyber Cash Limited and ‘Cardholder’ means any person authorized to hold a Card.2. The Merchant shall award loyalty points on goods and services to any Cardholder or redeem loyalty upon presentation of a Card and if necessary evidence of his/her identity.3. ...9. The Merchant shall honour all Cards issued by Cyber Cash Limited.10. …11. The Merchant shall in all transactions use only means and facilities approved and authorized bt Cyber Cash Limited”.

22. It is clear from the foregoing that what was being set up was a Loyalty Scheme for the appellant’s customers. It was a scheme that was to be run using a Card issued by Cybercash. That Card could only be used on the facilities approved and authorized by Cybercash. The Scheme entailed awarding points to the appellant’s customers which could be redeemed at a later date. For running the Scheme, Cybercash was entitled to payment of Kshs.1.

23. Looking at the entire agreement, there is nothing to suggest that Cybercash was selling anything to the appellant. Neither was there any purchase of any goods by the appellant. Rather, it was a service of managing the award of points to the appellant’s customers thereby streamline its Loyalty Scheme. For these services, the appellant paid to Cybercash Kshs.1 per point awarded.

24. The infrastructure that was installed by Cybercash was to facilitate the appellant to award and redeem loyalty points. That infrastructure was installed to enable CyberCash be able to monitor the Scheme or the awarding of points by the appellant for purchases done by its customers.

25. The upshot is that the Merchant Agreement was a management service as envisaged by section 2 of the Income Tax Act and in my view, the Tribunal arrived at a correct decision.

26. I am alive to the decision in Sunmatt Limited v Commissioner of Domestic Taxes [2020] Eklr where the court was of the view that a Merchant Agreement was not a management service agreement. That decision is only persuasive and not binding. The Merchant Agreement cannot be described otherwise than a management service. The Card issued by Cybercash was a service in that it was helping in managing the Loyalty Scheme of the appellant. Never can it be a sale of goods contract.

27. Having found that the Merchant Agreement was in the nature of a management service, it then follows that the transaction was liable to withholding tax under section 35 of the Income Tax Act.

28. In the premises, I find that the appeal has no merit and I dismiss the same with costs.

It is so decreed.DATEDand DELIVEREDat Nairobi this 10th day of September, 2021. A. MABEYA, FCI ArbJUDGE