UCHENA
JA: This
is an appeal and cross-appeal against parts of the judgment of the
Special Court (for Income Tax Appeals) dated 11 October 2019
dismissing some of the appellant's objections against the
respondent's amended assessments, and setting aside some of the
respondent's amended assessments. In this judgment I will refer to
the appellant as the main appellant and the respondent as the cross
appellant.
FACTUAL
BACKGROUND
The
detailed facts of the case can be summarised as follows;
The
main appellant is a company registered in terms of the laws of
Zimbabwe and a subsidiary of Delta Corporation (the Holding Company).
The two companies are separate and distinct from each other but
share the same acronym. The holding company carries on business in
the beverages and agro-industrial sectors of the Zimbabwean economy.
The
cross appellant is in terms of the Income Tax Act [Chapter
23:06],
the authority responsible for the collection of taxes in Zimbabwe.
In
1958 the predecessor to the holding company entered into an exclusive
franchise agreement with a Canadian Company, which owned the LL
beverage trademark.
In
1970, two further trademarks, CB and CBL were included in the
franchise agreement.
The
last trademark, EL, was added to the franchise agreement in 2004.
The
franchisee is the owner of four local beverage trademarks CL, BL, ZL
and GPL. The parties interchangeably referred to trademarks as brands
in their franchise agreements.
In
terms of the 1970 agreement, the holding company had the right,
subject to the terms and conditions of each agreement, to transfer,
assign and sub-licence its subsidiaries to manufacture and sell the
trademarked beverages. The holding company was obliged to pay to the
franchisor royalty fees for the trademarks computed against
prescribed sales and technical fees for the technical assistance
provided and calculated on a cost-recovery basis.
Before
the court a
quo,
evidence was led to the effect that in 2002, the Canadian Company was
taken over by the Dutch Company, International Management BV, which
in turn executed an undated and unsigned Technical Support and
Assistance (“TSA”) agreement with the holding company
retrospectively to 1 January 2002.
The
Dutch Company was a subsidiary of SAB Miller International BV an
English public company.
The
Dutch Company undertook to provide, in person or by proxy, to the
local holding company its accumulated international expertise and
know-how in the manufacture, management and distribution of
beverages.
The
group of the holding company was defined as the holding company and
“any existing and future subsidiaries”.
Know-how
was elaborately defined to include all aspects of purchasing raw
materials, product manufacture and brand development, plant and waste
management, packaging and distribution, consumer research, and
performance management systems.
The
term subsidiary carried five different meanings which ranged from
majority shareholder control to majority votes garnered by agreement
with other shareholders in financial policy, management, and
supervision of the holding company by the Dutch Company.
The
term turnover encompassed Group gross sales revenue from all
beverages and malt inclusive of taxes and excise duties.
Clause
3 contemplated the provision of know-how to the Group and “the
relevant company in the Group” under the direction of the board of
the holding company.
The
holding company undertook to do all such things and pass all such
resolutions necessary to effect the terms of the agreement. It also
agreed to ensure that its subsidiaries adopt, ratify or confirm any
lawful support rendered by the Dutch Company to such subsidiaries.
In
terms of clause 5, the holding company was responsible for the
payment of an annual fee equal to 1.5 percent of the total Group
turnover payable quarterly on a pro
rata
basis within 30 days after the end of each quarter.
The
payment was to be in United States dollars at the best available
market rate in Zimbabwe but subject to the necessary exchange control
and other governmental approvals.
In
the absence of foreign currency, the holding company would apply the
fee to purchase its ordinary shares on behalf of the Dutch Company in
the name of an affiliate.
A
new agreement was concluded on 1 September 2006 and renewed on 1
August 2011.
The
Dutch Company continued to provide know-how in the production,
distribution and management of beverages in the Group and the
relevant company in the Group.
In
the interim, on 30 April 2007 the holding company executed a royalty
agreement, with the Dutch Company, International BV which replaced
the royalty agreement of 14 December 2001.
On
1 February 2008, the main appellant's board of directors resolved
to execute an administrative and contractual services agreement with
the holding company authorising the holding company to enter into
administrative, technical and contractual services arrangements with
third parties on its behalf.
It
resolved to be bound by such agreements and to bear the costs and
benefits arising therefrom. The contemplated Administrative Technical
and Contractual Service Agreement, was concluded on 8 February 2008.
The
main appellant bound itself to assume all royalty and exploitation of
user rights and brands and trademarks agreements, services
agreements, lease agreements, bonds, supplier contracts, employment
contracts and any other routine matters authorised for execution by
the board or its management executed by the holding company as its
own.
On
19 August 2011, the exchange control authority granted authority to
the holding company to pay royalties of up to 5 percent to the Dutch
Company less withholding tax.
Again
on 18 March 2013, the exchange control authority granted the main
appellant authority to renew the Technical Services Assistance
agreement and make payment of fees of up to 1.5 percent of the
Group's annual turnover excluding sales of CBL, LL and EL less
withholding tax and an additional 1 percent of the holding company's
turnover less withholding tax on another product, CL in recognition
of the invention, design and know-how of the franchisor.
The
turnover and fees were to be certified by a reputable firm of
auditors.
On
14 April 2016, the cross appellant issued 6 amended Manual Notices of
Assessment for Income Tax to the main appellant. The amended
assessments related to the tax years ending on 31 December 2009,
2010, 2011, 2012, 2013 and 2014. The cross appellant levied a payment
by the main appellant of over US$42 million, including penalty and
interest.
By
letter dated 20 April 2016 the main appellant objected to the
assessments.
In
response, the cross appellant issued revised assessments and sent
these to the main appellant without an explanation.
In
its revised assessments, the cross appellant conceded several issues
raised by the main appellant in its objection and reduced the total
amount claimed to around US$30 million.
By
letter dated 9 May 2016 the main appellant revised and re-lodged
further objections.
The
cross appellant disallowed all grounds of the main appellant's
further objections.
Aggrieved
by that decision, the main appellant appealed to the Special Court
for Income Tax Appeals.
The
issues placed before the court a
quo
for determination as per the joint pre-trial conference minute are as
follows:
“1.
Whether or not the respondent was correct in disallowing royalties
pertaining to the brands/trademarks?
2.
Does the fact that a written technical services agreement exists
between Delta Corporation and SAB Miller Management BV, prevent the
appellant from deducting such fee payments as expenses?
3.
Did the appellant incur technical fees, which it sought to deduct as
expenses?
4.
Was the respondent correct in disallowing technical fees, which are
expressed as a percentage of turnover?
5.
Had Delta's tax affairs relating to the tax year ending 31 December
2009 prescribed as at the date of the assessment?
6.
If not, whether the respondent correctly disallowed the expenditure
apportioned by the holding company as management charges?
7.
Whether or not the respondent was correct in disallowing consumable
stocks claimed by the appellant.
8.
Whether or not the respondent was correct in disallowing prepaid
expenses claimed by the appellant?
9.
Is appellant entitled to deduct the inventory revaluation in
question?
10.
Whether or not the respondent was correct in disallowing expenses
described as computer software cost in the tax computation?
11.
Is respondent's imposition of penalties of 50% justified?
12.
Whether or not interest should be payable by the appellant.”
After
hearing the parties and perusing documents filed of record, the court
a
quo
ordered
that:
“1.
The revised manual assessments numbers 0006754, 0006755, 0006756,
0006757, 0006758 and 0006759 issued by the Commissioner on 5 May 2016
for the tax years ended 31 December 2009, 2010, 2011, 2013 and 2014
respectively be and are hereby set aside.
2.
The Commissioner is directed to issue further revised assessments
that incorporate the contents of this judgment. He shall
specifically:
(a)
Allow in full the deductions claimed by the appellant for royalties
and technical fees in respect of the 2009, 2010, 2011, 2012, 2013 and
2014 tax years.
(b)
Reopen the 2009 assessment and add back the sum of US$150,722.00, in
respect of head office expenses to the appellant's taxable income.
(c)
Add back all the deductions, if any, made by the appellant in respect
of head office expenses to the appellant's taxable income for the
years 2010 to 2014.
(d)
Add back the deductions for consumable stock in their respective
amounts to the appellant's taxable income in respect of each tax
year in issue.
(e)
Add back the prepayments in their respective amounts in each tax year
in issue.
(f)
Allow the deduction in the sum of US$603,792.00 in respect of the
stock revaluation adjustment in the 2010 tax year.
(g)
Add back the computer software deductions of US$2,059,238 in their
respective amounts in the 2013 and 2014 tax years.
(h)
Charge a penalty of 10% on the additional tax payable in each
respective tax year.
(i)
Waive in full any interest from the additional tax.”
Aggrieved
by the decision of the court a
quo,
the main appellant noted an appeal against part of the judgment to
this Court. The cross appellant cross appealed against part of the
same decision. The appeals were noted on the following grounds:
GROUNDS
OF APPEAL (MAIN APPEAL)
“1.
The court a
quo
erred in law by holding that the legislative intent behind the Income
Tax Act [Chapter
23:06]
was clearly to match the expense incurred to the income produced in
the same tax year.
2.
The court a
quo
erred in law by holding that when determining the deductibility of
the expense of unused consumables the relevant question was whether
'the appellant had an unconditional legal obligation to purchase'
them.
3.
The court a
quo
erred in law by finding that the appellant decided to 'purchase
consumables in excess of its annual requirements' in circumstances
where there was no evidence warranting such a finding before the
court.
4.
The court a
quo
erred by disallowing all deductions for consumable stocks in
circumstances where it has found that deductions for consumables are
allowed in the year when they were consumed.
Relating
to issue 5: 'Prepaid expenditure'
5.
The court a
quo
erred in law by apparently expecting opinion evidence on a question
of law relating to the requirement of paying excise duty from a
witness of fact.
6.
The court a
quo
erred in law by appearing to hold, without expressly stating its
finding, that the appellant's obligation to pay excise duty on
clear beer removed from the excise bonded warehouse constituted a
'premature discharge of a contingent liability'.
7.
The court a
quo
erred in law by appearing to hold, without expressly stating its
finding, that the appellant's obligation to pay for an annual
insurance premium that straddled two tax years constituted a
'premature discharge of a contingent liability.'”
GROUNDS
OF APPEAL (CROSS APPEAL)
“1.
The Special Court for Income Tax Appeals erred in allowing as a
deduction in terms of section 15(2)(a) of the Income Tax Act [Chapter
23:06]
expenses relating to royalties in respect of each tax year in issue
when the Cross-Respondent was not a party to the agreement in terms
of which such royalties were payable.
2.
The court a
quo
further erred in finding that payments made in respect of trademarks
or brands were expenditure incurred for the purposes of the
cross-respondent producing income.
3.
The court a
quo
further erred in finding that the cross-respondent was entitled to
pay fees in terms of the technical services agreement which was
concluded between Delta Corporation Limited and SAB Miller Management
BV to which the cross-respondent was not a party.
4.
The court a
quo
erred in finding that the cross-respondent was entitled to pay fees
in terms of the technical services agreement at the rate of 1.5% of
turnover when it was clear that SAB Miller itself was charged fees on
a cost-plus mark-up basis by its South African sub-contractors and
when the group policy was that the cost plus mark-up basis was the
method of charging such fees.
5.
The court a
quo
further erred in finding that the cross-respondent was entitled to
pay and deduct the amount of US$603,792.00 in respect of inventory
revaluation as an expense incurred against its income in terms of
section 15(2)(a) of the Income Tax Act when the value of the stock
adjusted had already been factored into the computation of the gross
profit which was subject to the income tax.
6.
The court a
quo
further grossly erred in finding that the cross-appellant was not
correct in imposing a penalty of 50% of the taxes due upon the
assessments on the cross-respondent.
7.
The court a
quo
further grossly erred in setting aside the interest imposed upon the
cross-respondent when it was not shown that the Commissioner of the
cross-appellant had been grossly unreasonable in imposing such
interest at 10%.”
THE
MAIN APPELLANT'S SUBMISSIONS ON APPEAL AND CROSS APPEAL
Mr
Tivadar
for the main appellant in the main appeal submitted that the
appellant bought consumables which did not run out in the first year
and were carried into the second year. He further submitted that
deductions could only be made in the first year and that the matching
principle did not apply.
Counsel
for the appellant submitted that the matching principle cannot be
used as it apportions costs over two tax years as there were
unutilised consumables carried over from the year of purchase.
He
contended that the cause of action arose when the consumables were
bought and the expense was incurred in year one. To that end, he
argued that the appellant has to deduct the expenses of the purchases
in year one and that there should be no splitting of the expenses
into both years.
Counsel
for the main appellant asserted that the statutory prepaid
expenditure on record, establishes that the expenditure was incurred
in terms of statute and cannot therefore be a prepayment as alleged
by the respondent. He submitted that the court a
quo
was correct in allowing the deductions but it was not clear how it
went on to make a finding in favour of the respondent.
Mr
Tivadar
for
the main appellant submitted that the court a
quo
erred
by disallowing all deductions for consumable stocks in circumstances
where it had found that deductions for consumables are allowed in the
year when they were consumed.
Concerning
the fifth ground of appeal relating to stock and trading stock,
counsel for the main appellant argued that deductions were meant for
stock in general to avoid double deductions.
On
the imposition of penalties Mr Tivadar
averred that the matter would have to be remitted to the court a
quo
for it to determine whether or not section 98 of the Act applies.
In
relating to the cross appellant's grounds of appeal number six and
seven on penalty and interest, counsel for the main appellant argued
that the proceedings were neither an appeal in the strict sense nor a
review as the court a
quo
can consider evidence placed before it and come up with a decision on
penalty and interest based on its own discretion.
On
whether or not brands and trademarks contribute towards the making of
income Mr Tivadar
submitted that they significantly contribute in the making of income.
In
respect of inventory revaluation he submitted that they were
correctly allowed in terms of para 4 of the second Schedule of the
Income Tax Act.
In
respect of the technical services he argued that the court a
quo
correctly found that they were deductible.
THE
CROSS APELLANT'S SUBMISSIONS ON APPEAL AND CROSS APPEAL
Mr
Magwaliba
for the cross appellant submitted that the consumables the main
appellant sought to deduct were not utilised in the year of purchase
therefore in terms of section 15(2)(a) of the Income Tax Act one
cannot interpret the section without taking into consideration the
purpose for which the expense was incurred.
He
argued that the matching principle applied as the purchase of
consumables should be for the purpose of making an income in the tax
year in which the purchases were made.
Counsel
for the cross appellant contended that the consumables were bought in
excess and could not all be deducted in the same tax year. He
submitted that the excess consumables were not consumed and did not
generate income.
He
further submitted that it is by the reasonable interpretation of the
law that the matching principle must be applied.
He
argued that the deduction for payments of royalties should not be
allowed as there is, no nexus between the main appellant and the
holder of the royalties.
Concerning
ground of appeal number two, he submitted that trademarks, brands,
and the know-how generate little money unless advertised.
He
further submitted that the advertising costs are deductible and that
it is the advertising that generates income and that if the products
are not advertised they remain as stock.
Counsel
for the cross appellant asserted that there was no evidence proving
that brands and trademarks contribute towards the making of income.
In
relation to the main appellant's third and fourth grounds of
appeal, he submitted that the court a
quo
found that the main appellant's witness was not a credible witness.
He
contended that it was the SAB Miller policy to pay on a cost-plus
mark-up basis but the court a
quo
found that the appellant was obliged to pay the holding company on a
turnover basis of 1.5 percent.
Concerning
prepayment of excise duty insurance premiums, Mr Magwaliba
averred
that the court a
quo
did not hear evidence on this issue as none was placed before it.
On
technical fees Mr Magwaliba
submitted that the court
a quo
should have determined whether or not the agreement between the Dutch
company and Delta Corporation (Private) Limited and that between the
main appellant and Delta Corporation was not aimed at tax avoidance.
In
respect of inventory revaluation he submitted that the deduction
should not have been allowed as that would amount to a double
deduction.
THE
MAIN APPELLANT'S RESPONSE
Mr
Tivadar
submitted that the question of whether or not the main appellant was
a party to the agreement was a factual finding on which the cross
appellant had made a concession to the effect, that the agreement was
genuine.
He
averred that the cross appellant's case was whether or not a
deduction could be allowed and on the other hand its case was that
deductions were justified if there was an obligation to pay.
He
therefore argued that the cross appellant was approbating and
reprobating.
In
respect of the use of trademarks to make an income, Mr Tivadar
submitted that one can make an income from brands or trademarks,
which is a sign of the quality of the product. He argued that section
8(1) of the Act defines gross income and income in a way which
establish that income can be generated by a brand or a trademark.
Mr
Tivadar
averred that the Exchange Control Act allowed the charging of these
fees and sets an upper limit of 3 percent.
ISSUES
FOR DETERMINATION
The
appeals raise the following issues for determination.
IN
RESPECT OF THE MAIN APPEAL
1.
Whether or not the court a
quo
correctly found that the legislative intent behind the Income Tax Act
was to match the expenses incurred to the income produced in the same
tax year and to allow the deduction of statutory prepayments which
cover a period beyond the year of taxation in the tax year of
payment.
2.
Whether or not the court a
quo
erred in ordering the Commissioner to add back to the main
appellant's taxable income deductions for consumables used to make
an income in the year of taxation.
IN
RESPECT OF THE CROSS APPEAL
1.
Whether or not the court a
quo
erred in allowing the deduction of royalties, by the main appellant
when it was not a party to the agreement between the Dutch Company
and its holding company for the use of the Dutch company's brands
and trademarks.
2.
Whether the court a
quo
erred when it allowed the main appellant's deduction of payments of
technical services without resolving whether or not such deductions
contravened section 98 of the Income Tax Act.
3.
Whether the court a
quo
erred when it allowed the main appellant's deduction of
US$603,792-00 for inventory revaluation.
4.
Whether or not the court a
quo
was correct in reducing to 10 percent the 50 percent penalty imposed
and waiving in full the interest charged.
APPLICATION
OF THE LAW TO THE FACTS
IN
RESPECT OF THE MAIN APPEAL
It
must be stressed that the Special Court for Income Tax Appeals is not
a court of appeal in the strict sense because when it hears these
appeals, it is a rehearing of the matter and it exercises its own
discretion. It can even hear and rely on evidence and submissions
which were not placed before the Commissioner. This position was
stated in Sommer
Ranching (Pvt) Ltd v Commissioner of Taxes
1999
(1) ZLR 438 (SC) at p443 A-B where GUBBAY CJ emphasised that:
“Presently,
it is well settled that in an appeal against a decision where the
Commissioner exercised a discretion the Special Court is called upon
to exercise its own original discretion. Nor is it restricted to the
evidence which the Commissioner had before him. The appeal to the
Special Court is not only a rehearing but can involve the leading of
evidence and the submission of facts and arguments of which the
Commissioner was unaware. See also, Commissioner for Inland Revenue v
da Costa 47 SATC 87 (A) at 95; 1985 (3) SA 768 (A) at 775B-G; K v
Commissioner of Taxes 1993 (1) ZLR 142 (S) at 147B-F; 55 SATC 276
(ZS) at 281.”
The
appeal before the court a
quo
was therefore not merely a review of the correctness of the
Commissioner's determination but the court was required to exercise
its own independent discretion unaffected by that of the
Commissioner.
1.
Whether or not the court a
quo
correctly found that the legislative intent behind the Income Tax Act
was to match the expense incurred to the income produced in the same
tax year and to allow the deduction of statutory prepayments in the
year of payment
The
main appellant's counsel submitted that the court a
quo
erred in law by holding that the legislative intent behind the Income
Tax Act was to match the expense incurred to the income produced in
the same tax year. It is the main appellant's contention that the
court a
quo
used the matching principle which is a principle of accounting and
not of law in its determination.
In
its judgment the court a
quo
commented on this issue as follows:
“I
am satisfied that the Commissioner correctly disallowed the deduction
of the expenses related to the excess consumables that were not
utilised in the tax year in which they were purchased. My finding is
based on two grounds. The first is that the expenditure on the excess
consumables did not constitute necessary expenditure for the
production of income in the particular tax year in which such excess
consumables were purchased. Such expenditure was not required for the
purposes of trade or production of income in the relevant tax year.
The second is that the excess consumables expenditure could not be
matched to any income produced in the tax year of purchase. In my
view, the matching principle constitutes part of our income tax law.”
The
findings of the court a
quo
are supported by section 15(2)(a) of the Income Tax Act which
provides as follows:
“(2)
The deductions allowed shall be -
(a)
Expenditure and losses to the extent to which they are incurred for
the purposes of trade or in the production of the income...”
Section
15(2)(a) of the Act provides for deduction of expenditure incurred
for the purposes of trade or in the production of income during the
income tax year under consideration.
Section
2 of the Act defines trade as anything done for the purposes of
producing income. Section 8(1) of the Act provides as follows:
“'gross
income' means the
total amount received by or accrued to or in favour of a person or
deemed to have been received by or to have accrued to or in favour of
a person in any year of assessment from a source within
or deemed to be within Zimbabwe excluding any amount (not being an
amount included in 'gross income' by virtue of any of the
following paragraphs of this definition) so received or accrued which
is proved by the taxpayer to be of a capital nature and, without
derogation from the generality of the foregoing.” (emphasis added)
It
is apparent that gross income is accrued from a source which is used
in making it.
In
the circumstances of this case it is the expenditure spent on
materials used to make the gross profit which should be deducted in
assessing the tax to be paid by the tax payer in the tax year for the
income raised in that tax year.
Section
8(1) further defines income as follows:
“'income'
means the
amount remaining of the gross income of any person for any such year
after deducting therefrom any amounts exempt from income tax
under this Act”. (emphasis added)
Income
in respect of any tax year is established by deducting allowable
deductions from gross income. It is also apparent that the gross
income, income and deductions are linked to a specific income tax
year.
Sections
15(2)(a) as read with section 8(1) limits whatever amount received or
accrued in favour of a person to “any year of assessment”.
It
is therefore only that which relates to a particular year of
assessment that is taken into account. The inclusion of expenditure
not consumed in the tax year and which does not relate to the
production of income in that particular year is not permissible.
In
this regard, un-utilized consumables should not have been included in
deductions made in the year of purchase. The expenditure not being
linked to the production of income in that tax year could therefore
not be deductible in that year.
The
main appellant further contends that the court a
quo
erred
in determining the deductibility of the expense of unused consumables
by holding that the relevant question was whether “the appellant
had an unconditional legal obligation to purchase” them.
In
my view, these words were stated in orbiter and were not the reason
for the court's determination on the issue of excess consumables.
The
reason for the court's decision is in the interpretation of section
15(2)(a) and section 8(1) of the Act.
I
am therefore satisfied that the court a
quo
correctly determined this issue.
In
determining whether or not statutory prepayments can be deducted in
the year of payment the court a
quo
said:
“The
witness indicated two types of prepayments made by the appellant in
respect of which the claim for the deduction was disallowed. These
were insurance premium payments that straddled the current and
subsequent tax years. The second payments were in respect of excise
duty paid at the time the beverages were removed from the appellant's
factory to its storage warehouses. The
witness did not explain how they came to be treated as prepayments if
it was a legal requirement that the excise duty be paid on removal.
If that was the legal requirement then the excise duty would have
been incurred by operation of the law on the date of removal and
would be deductible as an expense in the tax year in which such
removal took place. In those circumstances it would have been remiss
of the Commissioner to disallow such a deduction. However, if the
excise duty was required by law to be paid on the removal of the
beverages from the appellant's warehouses on a date in a subsequent
tax year, payment of excise duty in the tax year in which the
beverages were removed from the factory would constitute a
prepayment. By operation of law, the payment could only be incurred
on removal from the appellant's storage warehouse and not from the
factory. In both the insurance and excise duty prepayments, the date
on which the appellant was required by law to pay the insurance and
excise duty would be the date on which the appellant had an
unconditional obligation to discharge such a liability.
The premature discharge of a contingent liability in the preceding
tax year simply meant that the appellant was discharging a liability
that had not yet been incurred. In those circumstances, the
Commissioner correctly disallowed the payments in question”.
(emphasis added)
The
determinant words in the quotation are: “The witness did not
explain” and the subsequent use of the words 'if' and 'would'.
What
is apparent is that the court a
quo
was left without information by a party which had the onus to prove
the issue.
The
comment Mr Tivadar
sought to rely on appeared to be a favourable finding by the court a
quo
when it was infact a supposition based on the court commenting on
what would have been the correct legal position if the main
appellant's witness had explained the correct position.
The
court was dealing with two opposed positions.
The
cross appellant's assertion that these were prepayments in terms of
statutory provisions and the main appellant's unclear position on
why it was saying they are not statutory prepayments. This led the
court a
quo
into stating what the correct position at law would have been if the
main appellant had proved that they were indeed statutory
prepayments, and what the correct position would have been if the
payments were at law prematurely made.
Based
on the evidence, placed before it, the court a
quo
held that the Commissioner correctly disallowed the deduction of the
prepayments in question. It therefore did not find in favour of the
main appellant as alleged by Mr Tivadar.
I
am therefore satisfied that, the main appellant's appeal on issue
number one has no merit.
2.
Whether or not the court a
quo
erred in ordering the Commissioner to add back to the main
appellant's taxable income deductions for consumables
Mr
Tivadar
for the main appellant submitted that the court a
quo
erred
by disallowing all deductions for consumable stocks in circumstances
where it had found that deductions for consumables are allowed in the
year when they were consumed.
Mr
Magwaliba
for the cross appellant submitted that the deductions were correctly
disallowed.
The
impugned order 2(d) of the court a
quo
reads as follows:
“2.
The Commissioner is directed to issue further revised assessments
that incorporate
the contents of this judgment. He shall specifically:
(a)------
(b)------
(c)------
(d)
Add back the deductions for consumable stock in their respective
amounts to the appellant's taxable income in respect of each tax
year in issue.”
It
seems to me that the court a
quo
intended to order that deductions for excess consumable stock in
their respective amounts be added back to the appellant's taxable
income in respect of each tax year in issue.
This
is because it had specifically found that what could not be deducted
are excess consumables and had found that consumables used in each
tax year were deductible.
The
order of the court a
quo
will be amended to bring into effect the clear intention of the court
a
quo.
IN
RESPECT OF THE CROSS APPEAL
1.
Whether or not, the court a
quo
erred
in allowing the deduction of royalties, by the main appellant for the
use of the Dutch Company's brands and trademarks when it was not a
party to the agreement
It
is the cross appellant's contention in its first ground of appeal
that the court a
quo
erred in allowing the deduction of royalties paid by the main
appellant in terms of an agreement which did not relate to it but to
Delta Corporation (Private) Limited its holding company.
It
further contented that the brands and trademarks for which royalties
were being paid do not produce income and are therefore not allowable
deductions in terms of section 15(2)(a) of the Act.
Counsel
for the main appellant argued that brands and trademarks produce
income and are deductible in terms of section 15(2)(a).
The
court a
quo
in determining this part of the main issue said:
“Mr
Magwaliba
argued that trademarks without marketing and promotion were worthless
and incapable of producing any income. I agree with Mr Tivadar
that that contention is incorrect for several reasons. The trademark
or brand embodies the appearance, prestige, goodwill, reputation and
taste of the trademarked beverage. In my view, the product and the
trademark are indivisible.”
I
respectfully agree with the reasoning of the court a
quo.
A
product's standing and marketability is enhanced by its trademark
which has acquired a reputation and become desirable on the market.
The
trademarks in issue are of international repute.
They
in my view add value to the main appellant's beverages and make it
possible for the appellant to make an income from the trademarked
products.
It
is apparent from the various agreements entered into between the
franchisors and the holding company that what was being sought was to
benefit from the reputation of the international brands and
trademarks.
In
respect of the royalties the issue is whether or not the main
appellant was a party to the agreements on the royalties, which were
to be paid for or had ratified the agreements entitling it to claim
its payments for them as deductions in its tax returns.
A
reading of the record establishes that the agreements in terms of
which royalties were payable were entered into by Delta Corporation
or its predecessors in title and there is no specific mention of the
appellant.
There
is however mention of Delta Corporation's subsidiaries. It is
common cause that the main appellant is a subsidiary of Delta
Corporation (Private) Limited.
The
main appellant sought to produce minutes of its Board of Directors to
prove that, it had ratified the contract in terms of which royalties
were due.
The
court a
quo
disregarded them as they had not been procedurally produced.
It
was however, the cross appellant's case that if there existed a
resolution to the effect that the appellant ratified the agreement,
such ratification would put the appellant's case beyond doubt.
However, of importance and not refuted by the cross appellant is the
fact that the authenticity of the Administrative, Technical and
Contractual Service Agreement was proved before the court a
quo
through
the evidence of the main appellant's witness.
In
its judgment the court a
quo
commenting on this issue said:
“It
seems to me that the authenticity of the Administrative, Technical
and Contractual Service Agreement of 8 February 2008 was established
by the sole witness's evidence. In that agreement, the appellant
ratified the royalty agreement concluded by the holding company and
accepted the extension of the 'user pays' principle to it. It
accepted that the royalty agreement was contracted on its behalf. It
was agreed that it was the sole user of the know-how and the three
trademarks to which the royalty agreement related. It does not seem
to me that the respondent can properly protest on behalf of the
licensor on the use of the know-how and trademarks and the
concomitant payments arising there from. In my view, the agreement
between the appellant and the holding company was valid and binding.
It was not impugned by the respondent.
The
appellant incurred the unconditional legal obligation to pay the
licensor in terms of the Administrative, Technical and Services
Agreement concluded with the holding company and the Royalty
Agreement concluded between the holding company and the Dutch
company.” (emphasis added)
The
court a
quo
relying on the evidence of the main appellant's witness found the
agreement dated 8 February 2008 valid and binding.
This
finding and the cross appellant's concession proved that the
deduction of royalties was in terms of the law.
In
any event, evidence on record establishes that the cross appellant's
main challenge cannot prevail because the Exchange Control Authority
granted authority for the payment of those royalties.
The
record proves that on 19 August 2011, the exchange control authority
granted authority to the holding company to pay royalties of up to 5
percent to the Dutch Company less withholding tax.
It
is also on record that on 18 March 2013, the exchange control
authority granted the appellant authority to renew the Technical
Services Assistance agreement and make payment of fees of up to 1.5
percent of the Group's annual turnover excluding sales of CBL, LL
and EL less withholding tax and an additional 1 percent of the
holding company's turnover less withholding tax on another product,
CL in recognition of the invention, design and know-how of the
franchisor.
The
turnover and fees were to be certified by a reputable firm of
auditors.
The
court a
quo
also found that it was “common ground that the main appellant and
not the holding company operated the beverages business in the
Group”.
Once
it is established that the main appellant is the one which operated
the beverages business and benefited from the contract between the
Dutch company and the holding company, it follows that it lawfully
deducted the royalties it paid to the Dutch company.
2.
Whether the court a
quo
erred when it allowed the main appellant's deduction of payments of
technical services without resolving whether or not such deductions
contravened section 98 of the Income Tax Act
In
determining this issue the court a
quo
commented on its perception that there might have been tax avoidance
in the manner in which the technical services agreement was concluded
between the parties. It commented that if the Commissioner had
attacked the deduction of these services from the main appellant's
taxable income it would have been fatal to the main appellant's
claim.
In
his heads of argument and submissions before this court Mr Magwaliba
for
the cross appellant argued that the court a
quo
erred when it raised this issue and did not deal with it
conclusively. He argued that the Special Court for Income Tax has
jurisdiction to rehear matters brought before it on appeal. He
submitted that such appeals are not appeals in the strict sense
therefore the court a
quo
should have fully inquired into whether or not there was tax
avoidance in the main appellant's holding company's agreement
with the Dutch company.
He
submitted that the Dutch company, Delta Corporation (Private) Limited
and the main appellant are related companies which could have
colluded to agree on the payment to the Dutch company at the
percentage of 1.5 percent, when services by the Dutch company's
South African subsidiaries to the main appellant were being made at
cost price plus margin. He submitted that this was meant to benefit
the Dutch Company to the prejudice of Zimbabwe's tax collection
system.
Mr
Tivadar
for the main appellant submitted that there was no tax avoidance, but
concentrated on the deductibility of the technical services instead
of the tax avoidance issue.
The
determinant factor is whether or not the court a
quo
inquired
into and determined the issue of tax avoidance. In determining the
issue the court a
quo
said:
“The
witness failed to explain why the Dutch company paid the South
African entity that supplied the technical services to the appellant
on its behalf on a cost plus mark-up basis but charged the local
holding company on a percentage of turnover basis.
Such
a failure may have been fatal to the appellant's case had the
Commissioner disallowed the technical fees in terms of section 98 the
Income Tax Act.
In
the absence of a finding by the Commissioner that the charging of a
percentage of turnover as opposed to a cost plus basis was a
transaction, operation or scheme designed to and which did avoid the
payment of the appropriate tax due as contemplated by section 98 of
the Income Tax Act the contracted choice between the Dutch company
and the local holding company of applying the percentage of turnover
instead of the cost plus mark-up formula cannot be impugned.”
(emphasis added)
It
is apparent from the court a
quo's
comments that it perceived that there might have been a case of tax
avoidance by the main appellant's holding company and the Dutch
company.
It
is also apparent that it took no further steps to inquire into that
possibility but proceeded to determine the appeal on other factors
not connected to tax avoidance as if the appeal before it was an
appeal in the strict sense.
It
thus left the issue of tax avoidance hanging as no further inquiry
into it was made, nor did it make a decision on the issue.
Section
98 provides as follows:
“98
Tax avoidance generally
Where
any transaction, operation or scheme (including a transaction,
operation or scheme involving the alienation of property) has been
entered into or carried out, which has the effect of avoiding or
postponing liability for any tax or of reducing the amount of such
liability, and which in the opinion of the Commissioner, having
regard to the circumstances under which the transaction, operation or
scheme was entered into or carried out -
(a)
Was entered into or carried out by means or in a manner which would
not normally be employed in the entering into or carrying out of a
transaction, operation or scheme of the nature of the transaction,
operation or scheme in question; or
(b)
Has created rights or obligations which would not normally be created
between persons dealing at arm's length under a transaction,
operation or scheme of the nature of the transaction, operation or
scheme in question; and the Commissioner is of the opinion that the
avoidance or postponement of such liability or the reduction of the
amount of such liability was the sole purpose or one of the main
purposes of the transaction, operation or scheme;
The
Commissioner shall determine the liability for any tax and the amount
thereof as if the transaction, operation or scheme had not been
entered into or carried out, or in such manner as in the
circumstances of the case he considers appropriate for the prevention
or diminution of such avoidance, postponement or reduction.”
(emphasis
added)
It
is clear from the underlined part of the quotation that the issue of
avoidance should be determined to enable the Commissioner or as in
this case the Special Court to determine how the tax payer should be
taxed.
The
determination of tax issues require clarity and incisiveness in
decision making.
This
is because the law requires that those who should pay tax should do
so and those who fall outside that requirement should not be taxed.
There should be no room for those within the group which should be
taxed escaping through failure by the Commissioner to net them in and
if he fails the Special Court in the exercise of its full
jurisdiction should net them in.
In
the case of Parkington
v Attorney General,
1869 LR 4 H.L. 100, 122 LORD CAIRNS commenting on interpretation of
fiscal statutes said:
“As
I understand the principle of all fiscal legislation it is this: if a
person sought to be taxed comes within the letter of the law he must
be taxed, however great the hardship may appear to the judicial mind
to be. On the other hand if the Crown, seeking to recover the tax,
cannot bring the subject within the letter of the law, the subject is
free, however apparently within the spirit of the law the case might
otherwise appear to be.”
It
is therefore my view that once the court a
quo
realised that there might be tax avoidance it should have
exhaustively inquired into and made a determination on it. It should
have sought to determine the correct position of the law instead of
identifying a possible error by the Commissioner and allowing it to
pass.
Taxation
is by the law and not official errors or laxity. See also the case of
Commissioner
of Taxes v C W P (Pvt) Ltd
1989 (3) ZLR 361 (SC) at 372D-E.
In
the case of Commissioner
of Taxes v Astra Holdings (Pvt) Ltd
2003
(1) ZLR 417 (S) MALABA JA (as he then was) at pages 427G-H and 428A–E
said:
“The
question must be stated and answered. Can it be said that in writing
the letter of 1 July 1995 which contained the error of law the
Commissioner, by the revenue officer, purported to contract with
Astra Holdings or purported to represent to it that the statement was
true and that thereafter he would not asses it to unpaid tax which
was by law due to revenue. In other words, did the Commissioner bind
himself to accept as valid the actions of Astra Holdings regarding
the non-payment of the sales tax based upon the error of law?
There
is no doubt that the purported contract would have been born out of
the mistake of the law requiring that sales tax be charged and
collected by the motor dealer on all motor vehicles sold locally.
Although unknown to the parties it would have been in contravention
of the law for Astra Holdings not to charge and collect the sales tax
which the statute required it to collect.
In
my view such an arrangement would be null and void ab initio.
It
is a bargain the Commissioner could not make at law because it would
have the effect of being in breach of his statutory duty to collect
tax due to revenue.
It
is one thing for revenue to enter into an arrangement with a taxpayer
on how, in the exercise of its managerial powers, it will collect
tax, but it is another for it to seek to decide that a particular tax
imposed by Parliament is not due from a taxpayer when in fact it is
and in so doing disclaim the right to the tax and abandon the
statutory power to collect it.
In
R v Board of Inland Revenue ex p. MFK Underwriting Agencies Ltd and
Ors [1990] 1 All ER 91 Bingham LJ said at110D-J:
'I
am, however, of opinion that in assessing the meaning, weight and
effect reasonably to be given to statements of the Revenue the
factual context including the position of the Revenue itself, is all
important. Every ordinary sophisticated taxpayer knows that the
Revenue is a tax-collecting agency, not a tax-imposing authority. The
taxpayer's only legitimate expectation is, prima facie, that he
will be taxed according to statute, not concession or a wrong view of
the law (see R v AG ex p. Imperial Chemical Industries plc (1986) 60
TC 1 at 64 per Lord Oliver). Such taxpayers would appreciate, if they
could not so pithily express, the truth of Walton J's aphorism:
'One should be taxed by law, and not be untaxed by concession'”----
I
respectfully agree and would add that where a tax matter has been
placed before the Special Court for adjudication a taxpayer should
not escape liability simply because the Commissioner failed to invoke
the appropriate taxing provision.
In
casu
the omission by the court a
quo
to determine the issue of tax avoidance will have the effect of
allowing the main appellant to get away with tax avoidance, if that
can be proved on inquiry.
That
view is strengthened by the court a
quo's
view
that the failure by the main appellant's witness to explain the
noted anomaly would have been fatal to its case if the Commissioner
had taken into consideration the issue of tax avoidance.
I
am therefore satisfied that the decision of the court a
quo
on this issue should be set aside and the case be referred back to
it, for it to inquire into and determine whether or not the
agreements between the Dutch company, Delta Corporation (Private)
Limited and the main appellant do not constitute tax avoidance.
3.
Whether the court a
quo
erred when it allowed the main appellant's deduction of
US$603,792-00 for inventory revaluation
What
has to be determined in this issue is whether or not inventory
revaluation which will have been taken into consideration in
determining gross income can be deducted from the main appellant's
taxable income.
Mr
Tivadar
for the main appellant argued that it can be deducted because it
takes into consideration that the main appellant's manufactured
goods are valued at cost of direct material and direct labour. He
further submitted that the Income Tax Act allows the deduction of
operating costs, part of which would have been deferred and carried
in closing stock to be deducted at the time the taxpayer prepares its
tax returns.
Mr
Magwaliba
for the cross appellant argued that allowing the deduction without
taking into consideration the operating costs would result in a
double deduction.
The
court a
quo
in determining the issue reasoned as follows:
“The
appellant was entitled by the provisions of para 4 to the 2nd
Schedule of the Income Tax Act to deduct that amount notwithstanding
that there was an original valuation, which had been used to
calculate the gross profit relied upon by the respondent. The
bringing back of that amount to the closing stock did not result in a
double claim for expenditure as contented by Mr Magwaliba.
This
is an instance where an accounting principle, in the lexicon of
Watermeyer
JA in Joffe
and Co Ltd v Commissioner for Inland Revenue
1946 AD 157 at 165 and Hlatshwayo J in
Barclays
Bank Ltd v Zimra
HH9/2006 coincides with the language of the statute.
Accordingly,
I hold that the amount of US$603,792 was wrongly disallowed by the
Commissioner in the 2010 tax year.”
I
agree with the reasoning of the court a
quo.
Its
analysis together with Mr Tivadar's,
explanation of the inventory revaluation means that the cost of
sales figure comprises only the direct manufacturing and labour
costs, leaving out the operating costs to be deducted in the year in
which they are incurred.
In
my view the inclusion of operating costs in the revaluation, is the
determinant factor.
Mr
Tivadar
made it clear that in valuing gross profits only direct material
costs and direct labour costs are taken into consideration.
I
am therefore satisfied that the inventory valuation costs were
correctly allowed.
4.
Whether or not, the court a
quo
was correct in reducing the 50 percent penalty imposed to 10 percent
and waiving in full the interest charged by the cross-appellant
It
was submitted for the cross appellant that the court a
quo
erred
in finding that it had not correctly exercised its discretion in
determining the appropriate penalties on assessing the taxes due from
the appellant.
It
was further submitted that the court a
quo
erred in setting aside the interest imposed against the appellant
when it had not been established that the Commissioner had been
grossly unreasonable in imposing such interest at 10 percent.
In
determining this issue the court a
quo
reasoned as follows:
“A
reading of Mr Magwaliba's
written heads of argument show that the Commissioner penalized this
large conglomerate for the perceived defective tax advice rendered to
it by a bevy of internal accountants, reputable external tax
consultants and legal practitioners. Additionally the appellant was
punished for failing to consult the liaison officer attached to it by
the Commissioner. Apparently the Commissioner also considered the
very substantial outstanding amount in unpaid taxes. It seems to me
that a legitimate difference of opinion between the appellant, its
employees and advisers on the one hand and the Commissioner on the
other can never be regarded as aggravatory.
The
Income Tax Act contemplates such differences.
I
do not think that a taxpayer should be precluded from expressing its
strong and reasoned opinion for fear that if proved wrong it might be
disproportionately penalized.
Fortunately
for the taxpayer, the appeal court exercises its own unrestricted
discretion in determining the appropriate penalties.”
It
is trite that the Special Court for Income Tax Appeals exercises its
own unrestricted discretion in determining the appropriate penalties.
The principles to be taken into consideration in determining the
appropriate penalty are set out in PL
Mines (Pvt) Ltd vs Zimra
2015
(1) ZLR 708 at 730C where the court held that:
“The
principles governing the imposition of a penalty are well developed
in our criminal law. In S v Zinn 1969 (2) SA 537 (A) at 540G
(approved by the Constitutional Court of South Africa in S v M
(Centre for Child Law as Amicus Curie) 2008 (3) SA 232 (CC) para [10]
at page [109] the triad of the crime, the offender and the interests
of society were enunciated and envisaged to holistically embrace all
considerations necessary in the imposition of any penalty. The
principle has been applied in Zimbabwe in such cases as S
v Gondo
1990 (2) ZLR 171 (S) at 173A and S
v Mudzamiri & Anor
1993 (2) ZLR 43 (S) at 48A. Since this appeal constitutes a
rehearing, I
am not restricted by the considerations of the Commissioner. I will
take into account all factors raised by both counsel in their
respective oral and written submissions”.
(emphasis
added)
As
pointed out earlier the court a
quo
justified why the penalty of 50 percent was not warranted in the
circumstances of this case largely relying on the circumstances
leading to the main appellant's objection and the fact that the
figure initially claimed by the cross appellant had dropped
significantly pursuant to the objections the main appellant had made
to the cross appellant.
In
its judgment which I find to be correct the court a
quo
set aside the Commissioner's revised assessments of 5 May 2016 and
directed him to issue further revised assessments allowing the main
appellant's deductions specified in its order. This has the effect
of further reducing the main appellant's liability for tax from the
cross appellant's initial re-assessment of USD42 million which it
on objections being filed reduced to USD30 million.
The
amount owed, and the reasons for the delay in paying tax, has a
bearing on the penalty and interest to be charged. However when tax
is not paid because the taxpayer has legitimate reasons for raising
objections and the objections are upheld, the Special Court for
Income Tax Appeals can use such circumstances to reduce the penalty
and interest imposed by the Commissioner.
The
court a
quo's
findings on the main appellant's culpability and level of success
on appeal before it should also be considered in determining the
penalty and interest it has to pay.
Evasion
of tax also plays a role in determining the interest and penalty to
be charged.
Mr
Tivadar
assuming that the Commissioner's position had been influenced by a
perceived tax evasion submitted that the matter should be remitted to
the court a
quo
for it to determine whether or not section 98 of the Act applies.
Mr
Magwaliba
for the cross appellant argued that the main appellant's argument
in this regard was based on a simulated argument which was not
pleaded and that if it was simulated the Commissioner did not state
anything to that effect. The court a
quo
cannot therefore be faulted in that regard as there was no section 98
case before it. The provision relates to the powers of a Commissioner
when it is established that a taxpayer is evading tax.
In
casu,
no allegations were made entitling the invocation of section 98,
therefore the Commissioner could not make adverse decisions in terms
of that section. It is in fact common cause that the Commissioner did
not act in terms of section 98.
I
am satisfied that the court a
quo
correctly determined the issue of penalty and interest.
DISPOSITION
The
main appellant's appeal partially succeeds, as the court a
quo
clearly erred in ordering the Commissioner to “add back the
deductions for consumable stock in their respective amounts to the
appellant's taxable income in respect of each tax year in issue”
when it had found that consumables which had been used in each tax
year were deductible.
The
cross appellant also succeeded in respect of the deduction of
technical services as the court a
quo
should after finding that the agreement between the Dutch Company and
the appellant's holding company could have been aimed at tax
avoidance have determined that issue but did not. The court a
quo's
decision on that issue will be set aside and the matter will be
remitted to the court a
quo
for it to determine the issue of tax avoidance.
Both
parties have partially succeeded in their appeals and in resisting
the major parts of each other's appeal. Therefore each party shall
bear its own costs.
In
the result it is ordered as follows:
1.
The main appellant's appeal partially succeeds.
2.
The order of the court a
quo
in paragraph 2(d) be and is hereby set aside and is substituted as
follows:
d.
“Add back the deductions for excess consumable stock in their
respective amounts to the appellant's taxable income in respect of
each tax year in issue”.
3.
The cross appellant's appeal partially succeeds.
4.
The decision of the court a
quo
on technical services be and is hereby set aside.
5.
The case is referred back to the court a
quo
for it to determine whether or not the agreement between the Dutch
Company and Delta Corporation (Private) Limited, on the basis of
which the main appellant sought the deduction of technical services
contravenes section 98 of the Income Tax Act.
6.
Each party shall bear its own costs.
GWAUNZA
DCJ: I
agree
CHITAKUNYE
AJA: I
agree
Gill,
Godlonton & Gerrans,
appellant's legal practitioners
Zimbabwe
Revenue Authority,
legal services division for the respondent