[2023] KETAT 590 (KLR)

Sea-Tech Limited v Commissioner of Domestic Taxes (Appeal 636 of 2022) [2023] KETAT 590 (KLR) (29 June 2023) (Judgment)

Neutral citation: [2023] KETAT 590 (KLR)

Republic of Kenya

In the Tax Appeal Tribunal

Appeal 636 of 2022

RM Mutuma, Chair, RO Oluoch, EN Njeru & D.K Ngala, Members

June 29, 2023

Between

Sea-Tech Limited

Appellant

and

Commissioner Of Domestic Taxes

Respondent

Judgment

Background 1. The Appellant is a limited liability company duly incorporated under the Companies Act of the laws of Kenya, and is engaged in the business of bulk importation and sale of sugar, and in part time construction projects mainly for the Kenya Ports Authority.

2. The Respondent is a principal officer appointed under Section 13 the Kenya Revenue Authority Act, and is an agency of the Government of Kenya for the collection of all tax revenue. The Respondent is also mandated to administer all the statutes set out in the Schedule to the Act.

3. The Respondent carried out a desktop returns review on the Appellant’s self-assessment tax returns for the year 2018 covering corporation tax.

4. The Respondent vide a letter dated 16th March 2021, issued the Appellant with a notice of assessment on income tax amounting to Kshs 94,682,736. 00 inclusive of penalties and interest for the year of income 2018. The Respondent demanded the Appellant to immediately settle the sum of Kshs 94,682,736. 00.

5. The Appellant vide its letter dated 30th March 2021 lodged its objection notice, through the iTax portal, and was issued with the objection acknowledgement receipt dated 2nd April 2021.

6. The Respondent issued the Appellant with the Objection decision on 18th May 2022 confirming a corporation tax assessment of Kshs 77,608,800. 00.

7. Aggrieved by the Respondent’s decision, the Appellant filed its Notice of Appeal on 8th June 2022 and the Memorandum of Appeal on 17th June 2022.

The Appeal 8. The Appellant filed its Memorandum of Appeal on 17th June 2022 and set out the following grounds of Appeal;i.That the Respondent erred in both law and fact by deeming the variance in stocks as goods sold and not declared by the Appellant.ii.That the Respondent erred in fact by failing to acknowledge the fact that the variance in inventory was because of stock destroyed by fire in the Appellant’s storage facilities.iii.That the Respondent erred in both law and fact by charging corporation tax on alleged undeclared gross sales instead of basing the tax gains or profits as required by law and thus issuing erroneous assessment.iv.That the Respondent erred in both law and fact by failing to consider the cost of sales to ascertain the taxable profit.

9. By reason of the grounds aforesaid, the Appellant prayed that its Appeal be allowed and the Respondent’s Notice of Invalidation be set aside.

The Appellant’s Case 10. The Appellant has grounded its case on the Statement of Facts filed on 17th June 2022, and the Written Submissions filed on 6th February 2023.

11. The Appellant stated that the Respondent carried out a desktop review of its self-assessment tax returns for the year 2018 covering Corporation tax. Consequently, the Respondent issued the Appellant with a Notice of Assessment of tax amounting to Kshs 94,682,736. 00 vide its letter dated 16th March 2021, which amount was inclusive of all penalties and interest.

12. The Appellant stated that it lodged an objection notice on 30th March 2021, in which it contended that the Respondent’s assessment was incorrect as it was based on gross revenue instead of gains or profits as provided for under Section 3(1) of the Income Tax Act. The Appellant stated that it explained to the Respondent that it had based the corporation tax charge on alleged undeclared revenue in which the Respondent through the assessment notice indicated that the opening stock declared by the Appellant in the Income tax returns for the year 2018 of Kshs 257,634,234. 00 was the same as the closing stock declared in the same year, yet the actual opening stock declared in the year of income 2019 by the Appellant was Kshs 18,123,875. 00 occasioning a variance of Kshs 239,510,359. 00 which the Respondent deemed as stock sold in the year 2018 and not declared.

13. The Appellant also stated that whilst maintaining its position, the Respondent in its Statement Facts asserted that the assessment was legally and procedurally issued and that the Appellant’s objection was duly considered and an objection decision made as per the law.

14. The Appellant submitted that the Respondent erred in charging tax against alleged undeclared profits and gains.

15. The Appellant stated that the Respondent contended and assumed that the apparent variance of Kshs 239. 510,359. 00 between the closing stocks of sugar in 2018 year of income and the opening stocks of sugar in 2019 year of income, meant that stocks amounting to Kshs 239,510,359. 00 had been sold and not declared hence its basis of the impugned assessment for the year 2018.

16. The Appellant further stated that the finding on corporation tax as communicated in the Respondent’s notice dated 16th March 2021, was erroneous for the reason that, the Respondent irregularly and erroneously computed the same based on the selling price (gross sales) as opposed to computing the same as against the net gains/profits.

17. The Appellant further stated that whereas it was factual that the cost per bag of sugar was derived from an ADR agreement signed on 8th April 2019, the Respondent was wrong to compute tax against alleged gross sales as it did, thereby giving rise to the impugned tax liability of Kshs 94,682,736. 00.

18. The Appellant submitted that having taken the liberty to compute the applicable tax in accordance with the principle laid out in Section 3(2)(a) of the Income Tax Act, the same would work out as hereunder;KshsGain realizable per bag (3,600 – 3,333) =267 267. 00Total gain (71,860 bags @ Kshs 267 per bag) 19,186,620. 00Total Adjusted Income 19,186,620. 00Principal tax @30% 5,755,986. 00Total (Principal Tax payable)5,755,986. 00

19. The Appellant submitted that from the foregoing computation, it is without a doubt that the discrepancy between the alleged principal tax charged by the Respondent and the Appellant’s computation is noticeably huge. The Appellant, therefore, submitted that the Respondent’s computation of the corporation tax for the year 2018 was not only flawed, but also fundamentally erroneous and not supported under Section 3(2) (a) of the ITA.

20. The Appellant also submitted that the Respondent held a misconception that the variance in stocks meant stocks sold but undeclared. However, the Appellant stated that the variance in stocks was explained as having arisen due to loss /damage of stocks at a fire incident at the Appellant’s storage facility, and the fact was reported to the authorities, and Police OB in that respect was submitted in evidence at the objection hearing.

21. It was further a submission of the Appellant, that it was irregular and improper to rely on the assumed variance in stock which in fact was never sold, and therefore did not result to a profit or a gain for the Appellant, so as to be liable to a tax charge.

22. The Appellant invited the Tribunal to consider the meaning of the provisions of Section 3(2)(a)(i) of the Income Tax Act, which provides as folows: -“(2)Subject to this Act, Income upon which tax is chargeable under this Act is income in respect of –a.Gains or profits from –i.Any business, for whatever period of time carried on;”

23. It was a submission of the Appellant that the import of the foregoing provision is that Income tax can only be charged in respect of gains or profits from any business and not otherwise.

24. The Appellant submitted that the Respondent at paragraphs 26 and 27 of its Statement of Facts dated 15th July 2021 casually makes a reference to the assumptive conclusion that the variance could only have meant stocks were sold but undeclared. The Appellant stated that the Respondent ought to have supported its version of assessment with verifiable proof that it was correct and not by merely placing reliance on a figure plucked from the air, but by sufficiently demonstrating that the tax administered is supported by verified payments.

25. It was a further submission of the Appellant that paragraph 29(a) of the Respondent’s Statement of Facts further demonstrates its casual manner in dealing with the Appellant’s submitted documents, where it only refers to annexure “STL-6”, and decides not to make any reference to the documents in support of the objection and which include the fire incident report produced as “STL-6”, noting all these documents were provided in support of the Appellant’s objection, and were meant to sufficiently disprove the assessment. The Appellant contended that the Respondent’s imposition was without any reasonable justification, and not supported by evidence and the law.

26. The Appellant cited the case of Republic -vs- Kenya Revenue Authority exparte J. Mohamed HCCA 312 of 2011, where the court held that, the taxing authority must be exercised fairly and there ought to be a basis for the exercise of such powers, and that a taxing authority is not entitled to pluck a figure from the air and impose it on a taxpayer.

27. The Appellant submitted further that the Respondent, while demanding revenue, ought to demonstrate sufficiently that a certain payment forms the basis of tax and that tax charge must have a corresponding payment. The Appellant cited the cases of Republic -vs- Commissioner of Income Tax exparte SDV Transami (K) Ltd, where it was held that taxes must be consistent with the Law, and Republic -vs- Commissioner of Domestic Taxes, Large Taxpayers Office, exparte Barclays Bank of Kenya Ltd (2012), where it was held that a decision to tax must have a legal basis.

28. It was therefore the submission of the Appellant that the assumption held and sustained by the Respondent that the variances in stock meant that goods sold but not declared, so as to give rise to a basis for charging income tax, is not only flawed, but also contrary to the principle of certainty in tax administration.

29. The Appellant also submitted that the Respondent erred in excluding the cost of sales when raising the assessment. The Respondent contended that it considered the Appellant’s 2018 income tax return in respect of the cost of sales, but failed to establish and or demonstrate that indeed the cost of sales was accounted for in the tax computation of Kshs 284,060,821. The Appellant further submitted that how inventories are treated in accounting is governed by the International Accounting Standard 2 (IAS 2), which provides guidance for determining the cost of inventories and for subsequently recognizing an expense, including any write-down to net realizable value. Accordingly, the cost of inventory would be;i.Cost of purchase (including taxes, transport, and handling);ii.Costs of conversion (including fixed and variable manufacturing overheads);iii.Other costs incurred in bringing the inventories to their present location and condition.

30. The Appellant submitted further that IAS 18 Revenue, addresses revenue recognition for the sale of goods, i.e. when inventories are sold and revenue recognized, the carrying amount of those inventories is recognized as an expense (cost of goods sold).

31. The Appellant therefore contended that in raising its assessment, the Respondent willfully disregarded the foregoing guidelines as provided for under IAS 2 and IAS 18 by failing to consider the cost of goods sold, which is the inventory for this matter, despite workings on the same being provided in the computations.

32. The Appellant further contended that the Respondent’s assertions that it failed to submit certain documents it required, does not hold any water; and if at all there were certain additional documents that the Appellant failed to furnish, the Respondent would at least have been candid to disclose which of those documents. The Appellant to buttress its submission cited the case of Kenya Revenue Authority -vs – Man Diesel & Turbo Se, Kenya (2021) eKLR, where it was held that, “in auditing a taxpayer, the Commissioner is required to properly consider the documentation provided and to understand the information. That it is not sufficient for the Commissioner to merely request information and then disregard it and to issue assessment as it deems fit.”

33. The Appellant submitted that considering that its main business deals with importation of sugar and selling it in the local market, the attributable taxable income from the business is the gain or loss realized after adjusting the direct and indirect cost wholly and exclusively incurred to generate revenue. It was therefore a submission of the Appellant that the Respondent erred in raising an assessment against the alleged gross revenue and without factoring in the cost of generating the said revenue.

34. The Appellant also submitted that it discharged the burden of proof that the assessment was erroneous by providing the requisite evidence. The Appellant submitted that the Respondent’s assertion that the Appellant has failed to discharge the burden of proof in respect of the instant Appeal, therefore, its claim should fail, is misplaced.

35. That whereas Section 56 of TPA and Section 30 of the TAT Act places the burden of proof in tax cases on the taxpayer, it is critical to understand that the import of the cited provisions is that the party with the obligation of persuasion is said to bear the burden of proof.

36. The Appellant further submitted that noting that it is the Appellant’s duty to demonstrate and prove that indeed the Respondent’s assessment was incorrect, the Appellant wholly relies on the Statement of Facts and attached documentation and the Submissions herein in support of its Appeal against the Respondent’s objection decision.

37. The Appellant submitted that it provided proof that its storage facilities were gutted down by a fire (STL -9), and had the Respondent considered the explanation offered by the Appellant, a different decision would have been arrived at.

38. The Appellant submitted that the Respondent was wrong in its objection decision to uphold and sustain the erroneous assessment, without considering that sufficient documentary proof had been tendered explaining the variance in stocks.

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

The Respondent’s Case 40. The Respondent has set out its case on the Statement of Facts filed on 15th July 2022, and the Written Submissions filed on 9th February 2023.

41. The Respondent has stated that the Appellant imported sugar amounting to Kshs 257,634,234. 00 in the year 2017.

42. The Respondent further stated that it subjected the taxpayer to a review for the year 2017 and on completion of the review, the taxpayer was issued with a VAT assessment amounting to Kshs 37,840,417. 00 inclusive of penalties and interest. This was based on 16 % of the sugar imported in the year 2017 and not declared in VAT returns.

43. The Respondent stated that it requested the Appellant to provide several documents including, stock movement records, audited financial statement and general ledgers among others to corroborate its assertions and support its objection. The Respondent stated that it also utilized customs data and reviewed the taxpayer’s Income tax returns.

44. The Respondent stated that from the review, the Respondent confirmed that the 2018 closing stocks were different from the 2019 opening stocks as stated by the Appellant. It also stated that it noted that the company’s purchases were grossly understated as compared to the customs imports data.

45. The Respondent also stated that the Appellant failed to provide the stocks movement records despite the Respondent’s requests and several reminders to support its position. It also stated that it is worth noting that the stock records are very crucial in arriving at the objective decision since this is a purely stock related assessment.

46. The Respondent stated that on the issue of the allowability of cost of sales raised by the Appellant, it checked the Appellant’s 2018 return and confirmed that it was accounted for in its tax computation at Kshs 284,060,821. 00

47. The Respondent also stated that the Appellant did not provide evidence (stock movement records) to support its objection; imports declared by the Appellant in its financials differed from the customs data report. Further, the Appellant failed to reconcile the variance satisfactorily.

48. The Respondent stated that in the year 2018, the Appellant had declared an opening stock of Kshs 257,634,234. 00, and a closing stock equal to the same figure. It stated that in the subsequent year 2019, the Appellant had only declared an opening stock figure of Kshs 18,123,875. 00, and the declaration meant that stocks amounting to Kshs 239,510,359. 00 had been sold and not declared as income in the year 2018.

49. The Respondent stated that arising therefrom, it raised an assessment for the year 2018, on the discrepancy in stocks of Kshs 239,510,359. 00 and a principal tax at 30% amounting to Kshs 71,853,108. 00

50. The Respondent also stated that with regard to the Appellant’s exhibit “STL-6”, OB police abstract on fire incident at its storage facilities, at the point of objection, the issue of stock damaged by fire or in any way, was never raised by the Appellant. The Respondent stated that this was a new issue at the Appeal, and is contrary to the provisions of the Tax Procedures Act. The Respondent further stated that in fact the Appellant never provided the documentation adduced at the Appeal stage relating to the alleged damage of the stock and as such, the said issue is not an issue on Appeal.

51. It was also a submission of the Respondent that contrary to the assertions by the Appellant that the Respondent considered gross sales in raising the assessments, the Respondent stated that it considered the Appellant’s 2018 income tax return and confirmed that it was accounted for in its tax computation at Kshs 284,060,821. 00. It stated that it requested for further documents which would have supported such an assertion, but the Appellant failed to provide the said documents.

52. The Respondent further stated that the Appellant failed to account for all its sales and this is evident from the adduced correspondence. It stated that the Appellant failed to demonstrate with evidence in the Appeal that it provided evidence to demonstrate the reasons for the variance as requested by the Respondent.

53. The Respondent also submitted that the Appellant did not demonstrate with evidence its allegations that the Respondent considered gross sales, which allegations are erroneous.

54. It was a submission of the Respondent that the burden of proof is on the Appellant to produce the evidence challenging the Respondent’s decision to raise the assessment and confirm the same, which burden has not been discharged, as per the provisions of Section 56(1) of the TPA which provides as follows: -“The burden shall be on the taxpayer to prove that a tax decision is incorrect.”

55. It was a further submission of the Respondent that its assessment was legally and procedurally issued and that the Appellant’s objection was duly considered and the Objection decision made as per the law.

56. By reason of the foregoing submissions, the Respondent prayed that the Appellant’s Appeal be dismissed with costs, and its Objection decision be upheld.

Issues for Determination 57. The Tribunal having carefully considered the pleadings and submissions filed by the parties is of the considered view that the Appeal herein distils into two issues for determination:i.Whether the Respondent’s Objection Decision was erroneously issued against the weight of evidence.ii.Whether the Respondent was justified in issuing its assessment against the Appellant.

Analysis and Determination i. Whether the Respondent’s objection decision was erroneously issued against the weight of evidence. 58. The issue giving rise to the dispute herein is the contention by the Appellant that the Respondent erroneously arrived at its assessment by computing the Corporation tax based on gross sales as opposed to basing the computation on net gains / profits, and that the Respondent assumed that the variance in stocks meant that there were stocks sold but not declared, which the Appellant explained was due to loss and damage arising out of a fire in its storage premises. The Appellant also contended that the Respondent was in error in omitting the cost of sales from its tax computation.

59. The Respondent submitted that in the year 2018, the Appellant had declared an opening stock of Kshs 257,634,234. 00 and a closing stock equal to the same figure, and also stated that in the year 2019, the Appellant had only declared an opening stock of Kshs 18,123,875. 00, and the declaration meant that stocks amounting to Kshs 239,510,359. 00 had been sold and not declared as income in the year 2018.

60. The Respondent issued an assessment for the year 2018, on the discrepancy in stocks of Kshs 239,510,359. 00 and a principal tax at 30% amounting to Kshs 71,853,108. 00 giving rise to the dispute.

61. The Respondent further submitted that the Appellant did not provide evidence of stock (stocks movement records) to support its objection; and imports declared by the Appellant in its financials differed from import as per customs records; and that the Appellant failed to reconcile the variance satisfactorily.

62. On the allowability of the cost of sales raised by the Appellant, the Respondent averred that it checked the Appellant’s 2018 return and confirmed that it was accounted for in its tax computation at Kshs 284,060,821. 00.

63. According to the Respondent, the Appellant lodged its Notice of Objection dated 30th March 2021, and provided grounds without supporting with documentation.

64. The Respondent requested the Appellant to provide documents including the audited financial statements and tax computations for years 2017, 2018, and 2019, sales invoices, stock movement records, debtors and creditors listing, customs documents and general ledger for the financial year 2019.

65. The Respondent averred that despite several reminders to the Appellant, it failed to provide the said documents especially the stock movement records which were crucial to verify the Appellant’s tax declaration and grounds of objection.

66. Though the Appellant has stated in its Statement of Facts that it provided the requested documentation, it has not stated the nature or listed the documents provided, nor attached the same in its Statement of Facts, thus has not satisfactorily rebutted the Respondent’s contention that it failed to support its grounds of objection.

67. Section 51(3) of the TPA enjoins the taxpayer to provide all documentation in support of its objection, and provides as follows: -“(3)A notice of objection shall be treated as validly lodged by a taxpayer under Subsection (2) if –(c)all the relevant documents relating to the objection have been submitted.”

68. With regard to the provision of documents, the Tribunal cites the case of Afya xray Centre Ltd -vs- Commissioner of Domestic Taxes TAT 70 of 2017, where it was stated as follows: -“From the foregoing chain of events, it is our understanding that the Appellant failed in its duty in providing these documents, in order that a comprehensive audit of its affairs be done. Accordingly, the Respondent can hardly be faulted for raising the assessment in accordance with the availed documents. Moreover, the Appellant had an opportunity to counter the Respondent’s findings after the preliminary finding and after the confirmation of the assessment. Both are instances, where the Appellant could have produced its books of accounts to counter the Respondent’s assessment after all the Appellant by law bears the burden of proof.”By failing to provide the requested documents, the Appellant in the instant case, failed to discharge its burden of proof.

69. The Tribunal also cites the case of Commissioner of Domestic Taxes -vs- Structural International Kenya Ltd ITA E089 of 2020 (2021) KEHC 152 (KLR), in regard to the taxpayer’s obligation to produce documents, where the High Court held that: -“For the avoidance of doubt, the Tribunal is reminded that in matters where the supply of goods, be it for VAT purposes or Corporation Tax, the burden is always on the trader / taxpayer to show that, the documentation set out in the statute and in which he relies on arose out of a commercial transaction. Period. If additional documents, which would reasonably be expected to be in his possession is requested for to verify the alleged transactions, he should produce the same to the Commissioner. That is what is expected of a keen and diligent trader.”

70. It has been averred by the Respondent that the Appellant failed to produce particularly, the stock movement records amongst others, which were critical to explain the position of the Appellant’s stocks variance, which was detrimental to its objection.

71. The Appellant also attempted to explain the variance in its stocks and attributed the said variance to a fire incident in its storage premises. The Appellant provided exhibit “STL-6” by way of a Police Abstract OB as evidence. However, this evidence has been discredited by the Respondent in that it was not produced at the objection stage, nor was the Respondent provided with the said document, thus it was a new issue being raised at Appeal contrary to Section 56(3) of the TPA.

72. It is noteworthy that the alleged fire incident occurred on 10th April 2019, whereas the period under review is 2018. Secondly the affected storage facility as per the police abstract belongs to Highrise Commodities Ltd and not to the Appellant and there was no evidence produced to show the relationship between the Appellant and Highrise Commodities Ltd. There is thus no nexus between fire incident and the disputed assessment, and the same therefore cannot offer a credible rebuttal against the issue of the stock variances. The foregoing evidence is further inadmissible.

73. Gleaning the documentation filed, adduced correspondence, and the submissions made thereon, it is evident that the Appellant failed to demonstrate with evidence in the Appeal that it provided evidence to demonstrate the reasons for the variance as sought by the Respondent, and failed to fully account for its sales.

74. In view of the foregoing, the Tribunal reaches a conclusion that though the burden of proof was on the Appellant to prove the assessment by the Respondent wrong or incorrect, the Appellant failed to adduce sufficient evidence or the requested documentation to support its objection, thus failed to discharge its burden of proof.

75. Consequently, the Tribunal finds that the Appellant’s objection Notice was duly considered, and the Objection decision validly issued.

ii. Whether the Respondent was justified in issuing its assessment against the Appellant. 76. The impugned assessment is an additional assessment as confirmed through the objection decision. The Respondent upon noticing inconsistencies in the Appellant’s income tax returns for the year 2018 and 2019 amended the same under Section 31 of the ITA, as the Respondent is not bound by the Appellant’s self-assessment returns (Section 24(2) of the TPA).

77. It has been averred by the Respondent that the inconsistencies in the Appellant’s returns, which occasioned the Respondent’s amendments were;a.The Respondent noted the Appellant’s opening and closing stocks in the income tax returns for the year 2018 were the same, i.e. Kshs 257,634,234. 00b.However, in the year 2019 income tax return, the Appellant claimed opening stock of Kshs 18,123,875 suggesting that stock worth Kshs 239,510,359. 00 was sold in 2018 but was not declared in the income tax returns; and,c.In the notice of objection, the Appellant claimed that its import purchases for the year 2018 were Kshs 57,954,507. 00. However, when the Respondent checked the Appellant’s importation records in the Customs Department, it was established that the Appellant imported purchases amounting to Kshs 138,733,814. 00.

78. The Respondent’s basis for amendment of the Appellant’s returns has therefore been stated to be the undeclared sales for the year 2018 and the undeclared import purchases. The Respondent thus averred that additional VAT assessments were within the purview of Section 31 (1) (c) of the TPA and thus valid.

79. The Respondent further averred that in raising the assessments, it afforded the Appellant a reasonable opportunity to support the allegations and the grounds set out in the Notice of Objection.

80. As highlighted hereinbefore in the first issue, the Appellant did not provide the requested supporting documentation, leaving the Respondent no other option than to confirm the assessments as the Appellant had failed to discharge its burden of proof, in proving the Respondent’s assessment wrong, incorrect or excessive.

81. The Appellant having failed to provide the requisite documentation to rebut the Respondent’s findings, the Respondent was thus justified in issuing its assessment against the Appellant.

82. In light of the foregoing, the Tribunal finds that the Respondent was justified in issuing and upholding its assessment to the Appellant.

Final Decision 83. The upshot of the foregoing is that the Appeal fails and the Tribunal proceeds to issue the following orders.a.The Appellant’s Appeal be and is hereby dismissed.b.The Respondent’s Objection Decision dated 18th May 2022 be and is hereby upheld.c.Each party to bear its own costs.

84. It is so ordered.

DATED AND DELIVERED AT NAIROBI THIS 29TH DAY OF JUNE, 2023. ……………………………ROBERT M. MUTUMACHAIRPERSON………………………………RODNEY O. OLUOCH ELISHA N. NJERUMEMBER MEMBER…………………………DELILAH K. NGALAMEMBER