REPUBLICOF KENYA APPEALNO.118 OF 2015 ERICSSON(K) … · 3. The Appellant is a wholly owned subsidiary of LM Ericsson Telefonaktiebolaget (Sweden). The Ultimate holding company is

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REPUBLIC OF KENYAIN THE TAX APPEALSTRIBUNAL

APPEAL NO.118 OF 2015

ERICSSON(K) LIMITED APPELLANT

VERSUS

THE COMMISSIONER OF DOMESTIC TAXES RESPONDENT(CONSOLIDATED WITH TAX APPEAL NO. 49 OF 2016)

JUDGMENT

INTRODUCTION

1. There are two different appeals under consideration being 118 of 2015and 49 of 2016 involving same parties and same issues. Appeal No.118of 2015 relates to assessment numbers 1520110000500 and1520130000590 covering the years 2008 and 2009 while AppealNo.49 of 2016 relates to assessmentnumber 1520130000593 coveringthe year 2010.

2. On 24th of June 2016, Appeal No. 49 of 2016 was consolidated withAppeal No. 118 of 2015 by consent of both parties herein as the issuesin both Appeals are common. The parties further confirmed thatAppeal No. 118 of 2015 to be the operational file and that thejudgment in Appeal No. 1180f 2015 to apply in Appeal No. 49 of2016.

BACKGROUND

3. The Appellant is a wholly owned subsidiary of LM EricssonTelefonaktiebolaget (Sweden). The Ultimate holding company isEricsson AB - Sweden (EAB). EAB is engaged in the business of core network equipment and software whereas the Appellant is engaged in thebusiness of provisions of network roll-out and support services to itscustomers in Kenya. The Network rollout includes installation,commissioning and maintenance of mobile telephone equipment.

Judgment Tax Appeals Nos. 118 of2015 and 49 of2016 (consolidated) Page 1

c. 4. During the period 2007 - 2009, the Respondent conducted a postaudit on the Appellant's activities. It found out from the Appellant'sbooks that the Appellant incurred losses in the course of its business,which losses were mainly occasioned by some additional servicesrendered to Telkom (K) Limited (TKL) and Econet Wireless KenyaLimited (EWKL)to which no payment was received.

5. Through an EAB-EKLSPECIALSETTLEMENTAGREEEMENTdated17/7/2009, the parties thereto entered into an understanding asbelow:-

(i)EAB is engaged in the business of supply of 2G GSM equipment andimplementation of the same.

(ii) EKLis engaged in the business of provision of network roll out andsupport services in Kenya.

(iii) EAB and EKLhad entered into contracts with Telkom Kenya Ltdand Econet Wireless Kenya Ltd ("The Customers"), namely MasterServices Agreement Build Operate and Transfer 2008 (MSA)40/2008 and "Equipment Supply Contract and ImplementationServices Contract" ("the Customer Contracts"), relating to the saleof hardware, software and services.

(iv) Under the Customer Contracts, EAB provides hardware andsoftware to the Customers and EKL provides local installationservices and support to the customers.

(v) EAB has determined that the mobile systems market in Kenya wasessential and strategic to its business operations and success inKenya and that the long term strategic interest to maintain a goodrelationship with the Customers is vital and has considerableimpact on EAB's total business operations in Kenya and also hasstrategic impact for capturing market share in Kenya and othercountries.

(vi) EKLhave incurred significant extraordinary costs in providing theagreed services to the Customers.

(vii) EAB has agreed and accepted to assume responsibility for theseextraordinary costs.

Judgment Tax Appeals Nos. 118 of 2015 and 49 of 2016 (consolidated) Page 2

·; 6. Pursuant to the above Special Settlement Agreement, it was agreed bythe parties thereto that the payment shall be made on a preliminarybasis upon invoice from EKLand such payment shall be calculated onthe basis of forecast for the costs to be incurred during the year by EKL.Invoices shall be dispatched on a quarterly basis on the 25th of thesecond month of each calendar quarter.

7. In furtherance to the above Special Settlement Agreement, theAppellant issued the following invoices to EABin settlement of theextraordinary costs incurred by it :-a) Invoice No. 1800000045 dated 20/07/2009 - USD 15,270,363.00b) Invoice No. 1800000046 dated 12/08/2009 - USD 7,785,181.50c) Invoice No. 1800000062 dated 24/11/2009 - USD 7,785,181.50

THE APPELLANT'S ARGUMENTS

8. The Appellant's Appeal dated 6/8/2013 is premised on the followinggrounds:-

i) THAT the Responded erred in law and in its finding that theAppellant and Ericsson AB, a company based in Stockholm,Sweden, had entered into the Master Service Agreement BuildOperate and Transfer, Equipment supply contract andimplementation of Service Contract with both Telkom KenyaLimited and Econet Wireless Kenya Limited.

ii) THAT further to the above, the Respondent erred in law in failingto find that the Appellant exclusively entered into a Master ServiceAgreement with Telkom Kenya Limited and a separate ServiceAgreement with Econet Wireless Kenya Limited.

iii) THAT the Respondent erred in law and in fact in its finding thatthe Corporate Sourcing Contract, between Ericsson AB and FranceTelecom S.A, influenced the terms of the Master Service Agreement- Build Operate and Transfer Contract.

Judgment Tax Appeals Nos. 118 of2015 and 49 of 2016 (consolidated) Page 3

..iv) THAT the Respondent erred in law and in fact in failing to find that

the Appellant incurred ordinary and significant business lossesduring the period between 2008 and 2009.

v) THAT the Respondent erred in law and in fact in failing to find thatthe significant lossesoccasioned on the Appellant from the twoprojects with Telkom Kenya Limited and Econet Wireless KenyaLimited, were normal business losses incurred in thetelecommunication industry.

vi) THAT the Respondent erred in law and in fact in ignoring theevidence adduced by the Appellant to prove that the projectvariations in the two projects with Telkom Kenya Limited andEconet Wireless Kenya Limited caused significant losses to theAppellant's business.

vii) THAT the Respondent erred in law and in fact in failing to find thatthe Appellant had indeed attempted to collect variation in the twoprojects with Telkom Kenya Limited and Econet Wireless KenyaLimited, unsuccessfully.

viii) THAT the Respondent erred in law and in fact in finding that theAppellant did not engage in any form of dispute resolutionmechanism to collect project variations with Telkom Kenya Limitedand EconetWireless Kenya Limited.

ix) THAT the Respondent erred in law and in fact in failing to find thatthe financial assistance by Ericsson AB to the Appellant was adonation and or grant to ensure that the said Appellant remainedafloat and in business.

x) THAT further the Respondent erred in law and in fact in its findingthat the financial assistance in the form of a grant and or adonation was a supply in accordance to the provisions of the VATAct.

xi) THAT the Respondent erred in law and in finding that the SpecialSettlement Agreement between the Appellant and Ericsson AB


xii)

xiii)

xiv)

constituted a business arrangement whereby Ericsson AB assumedresponsibility under the Master Service Agreement for and onbehalf of Telkom Kenya Limited and Econet Wireless KenyaLimited.

THAT the Respondent erred in law and in fact in finding that theAppellant had entered into a business arrangement vide the SpecialAgreement with Ericsson AB which was aimed at depriving theRespondent tax.

THAT the Respondent erred in fact and in law in their finding thatthe Appellant was involved in a deliberate scheme to shift revenuesfor tax purposes thereby depriving the Respondent revenue.

THAT the Respondent erred in law and in fact in finding that themere issuance of invoices constituted evidence of a supply of goodsand or services for VAT purposes subject to 16% VAT amounting tothe sum of Ksh:572,895,133.

xv) THAT the Respondent erred in law and in fact in finding that thefinancial assistance, grant and or donation was not sufficient or

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adequate and therefore the subject of adjustment using the costplus method.

xvi) THAT the Respondent erred in law when it misdirected itself thathad the legal right, obligation, mandate and or powers todetermine the value of a donation or grant between any parties.

xvii) THAT the Respondent erred in law and in fact in finding that it waspossessed of powers to make an adjustment on the donation andor grant given to the Appellant from Ericsson AS at 12% cost plus.

xviii) THAT the Respondent erred in law by adhering or abiding by thelaw in particular Section 32A of the VAT Act by refusing, failingand or ignoring to serve an appropriate notice of assessment to theAppellant (assessment number 1520130000590 for the sum ofKsh:363,388,403).


They prayed for the following Orders:-a) That the decision made by the Respondent on 27th June 2013, be

quashed and or be set aside.

b) A declaration that the donation or grant received by the Appellantfrom Ericsson AB is not subject to the provisions of the VAT Act inits totality.

c) A declaration that the amount received by the Appellant fromEricsson AB was a mere donation or grant and is not subject to taxadjustments.

d) That the Appellant is not liable to pay VAT of Ksh:437,288,049and Ksh:363,388,403 (inclusive of penalties and interests) to theRespondent as per assessment number 1520110000500 and1520130000590 respectively.

e) A declaration that the tax assessment number 1520130000590 isillegal and void ab initio.

f) That the Respondent be restrained and or barred from claimingKsh:437,288,049 and Ksh:363,388,403 (inclusive of penalties andinterest) from the Appellant.

g) Orders declaring that the Respondent acted illegally, arbitrarily andultra vires in applying the cost plus method in determining theappellant's revenue.

h) The cost of this VAT appeal.

i) Orders for any other costs available to the Appellant as thisHonorable Tribunal may deem fit.

9. The Appellant in its pleadings, submissions and documentary evidencecontended that the appeal was merited and argued that it merelyreceived the said amounts as financial assistance as it could not meetits current liabilities as this amount was necessary for the Appellant toremain afloat. The Appellant argued that there was absolutely no


..service provided on its part to EABand that the Respondent's actionin demanding the tax is a fishing expedition.

10. The Appellant further argued that there was no supply of goods orservices as defined and contemplated under the relevant legislation forVAT purposes and therefore the Respondent has no basis for chargingthe same. In so doing, the Appellant argued that the Respondent'sattempt to bring the financial assistance into the realms of VAT andcharge it for VAT purposes is unconstitutional, capricious andarbitrary.

11. The Appellant contended that if there was a supply of service, which itdenies, then the same ought to be treated as an export of service andthe same subjected to VAT at 0%. Moreover, the Appellant states thatthe services provided to and contracts entered into by the Appellantwith TKL and EWKLwere independent and have no connection withEAB.

THE RESPONDENT'S ARGUMENTS12. The Respondent on its part argued that the invoices issued by the

Appellant were treated as income in the Appellant's books of accountsand hence ought to have been treated as taxable income and theyought to have been charged to tax.

13. The Respondent further argued that Section 5 of the VAT Act, Cap476, now repealed, brings to charge, inter alia, supply of servicesmade in Kenya, and that it is not in contention that the Appellantmade supply of service to TKL and EWKL who are domiciled inKenya. Furthermore Section 6(1) of the same Act provides that Vatshall be charged on any supply of service made or provided in Kenyawhere it is a taxable supply made by a taxable person in the course ofor in furtherance of his business.

14. The Respondent further contends that the Appellant is registered forVAT with VAT registration number 0158247X.The supplies by theAppellant to TKL and EWKL were in respect of taxable services toanother person and therefore in conformity with the definition ofsupply under Section 2 of the VAT Act, which states ~~upply"includes


..(a) the sale or provision or delivery of taxable goods to anotherperson; (b) the sale or provision of taxable services to another person

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15. The Respondent further argued that the supply in contention wasquantified as per the Settlement Agreement dated 17/7/2009 andfurther that it is not in contention that the amount the Respondentbrought to charge for VAT in October, 2009 was not tied to the dateof receipt of funds and further that in any event, the amount wasactually received by the Appellant.

16. The Respondent further stated that under the VAT Act it does notmatter who pays for the supply or whether the supply is paid for ornot. What is relevant is the finding that a supply has, in fact, beenmade by a taxable person to another person in Kenya.

17. With regard to the aforesaid Settlement Agreement, the Respondentargued that pursuant to Section 6(1) of the VAT Act, there is norequirement that for services to be Vatable, they must have been paidfor by the person who consumed the services, In fact the requirementunder the said Section it is for the Respondent to demonstrate that theAppellant indeed made a taxable supply to another person in Kenya.VAT will be applicable regardless, of the party who pays for theservices including instances where the service was not paid for at all.

18. The Respondent maintained that the taxpayer is required to accountfor VAT at the time the supply is made and if the value of the samecannot be determined at the time of supply but is determined in theinvoice, then the tax applicability would be the time when the invoiceis issued in respect of the particular supply or when the time thepayment is received.

ANALYSIS AN D FIN DINGS.19. The Tribunal having carefully considered the Memorandum of Appeal,

the Statement of Facts, the Respondent's Response, all pleadings filedtogether with the evidence adduced and submissions by both partiesfinds that the issues for determination are as follows;


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a) Whether the supply made by the appellant to TKL and EWKLshall be treated as supply of taxable services rendered to localparties or export of services as invoiced to EAB.

b)Whether the amount received from EABshall be considered as a

loan or payment

in lieu of dues from TKL and EWKLand shall be considered as

taxable income.

The Tribunal will consider these issues simultaneously

20. During the hearing of the Appeal the Appellant's witnesses adducedevidence to justify what was the variations and additional works itprovided to TKL and EWKL and how the same arose. The Tribunalnotes that the dispute herein did not revolve on whether theAppellant carried out additional work or services to TKLand EWKL.

21. The Tribunal further notes that the Appellant did not agree with TKLand EWKL on the costs applicable for the additional services andvariations before providing such additional services. Had such anagreement been reached before undertaking the additional works,there would be no issue of non-payment by TKLand EWKL.

22. The Appellant issued invoices to its parent company EAB to recoverthe estimated value of the additional works undertaken by theAppellant to TKL and EWKL. This is a clear indication that theAppellant opted to raise the invoices on a third party, who agreed tomake the payment on behalf of TKL and EWKLas EAB did not wishthe relations with these two companies to be jeopardised with a viewto gaining further business. These services, having been rendered tothe local companies, are Vatable and not zero rated. It is a fact thatthe invoices were for the services issued adding up to the value in theschedules under the Settlement Agreement. Invoicing to any partyattracts tax even if it is to a sister company or its associates, providedthe services were rendered locally.

23. Indeed the Appellant and its parent company EABare at liberty not toclaim their dues from TKL& EWKLbut they do not have any right todeprive the Respondent of its appropriate tax revenue.


24. There is a generally accepted accounting principle that has to befollowed before writing off any debt as "a bad debt". The Appellantfailed or was manifestly reluctant to follow due process in writing offsuch debt. It is noted that the Appellant was only corresponding withTKL&EWKLregarding the additional works but no invoice was raisedon TKL&EWKLfor such additional works and when there was noinvoice, there was no debt and the issue relating to writing off thedebt as bad could therefore not arise.

25. It is evident that the amount received from EAB was treated by theAppellant as revenue by crediting the same to their profit and lossaccount and hence the argument that the same was availed to theAppellant as a loan cannot be justifiable. EAB opted to assume theliability of TKL and EWKL for the reason that it did not wish toprejudice its relationship with TKL and EWKL. The Respondent'sargument is that it was not charging VAT on the amounts received bythe Appellant as it was not a loan but the charge was as an incomearising out of the invoices that were issued.

26. The Appellant did not dispute that it provided taxable services to TKLand EWKL.The law as stipulated under the VAT Act is express that thedate of supply of services shall be the date on which the services aretaxable. This has no reference to the fact as to whether the amount isrecovered immediately or at a later date or never. When it becomesimpossible to recover the amount from a debtor, the amount can beclaimed in accordance with the provisions of Section 24A of VAT Act,Cap 476, now repealed. Hence, immediately the taxable serviceswere provided by the Appellant to TKL& EWKLVAT became payableirrespective of whether the invoices were raised or not.

27. Though the Appellant attempted to argue that the amount remitted byEABwas towards a loan, the Tribunal is of the considered view thatthe same was payment made by the said EABto the Appellant in lieuof the consideration for the additional services provided by theAppellant to TKL & EWKL. It is inconceivable that one can raise aninvoice on a loan. The loan ought to be shown as a liability on thebalance sheet. However the Tribunal notes that the amount received


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••,was treated as income under the profit and loss statement in theAppellants books of accounts and is therefore taxable.

28. The Tribunal notes with concern the unusual reluctance on the part ofthe Appellant to recover the cost of additional works that were ofsuch a colossal amount that attracts huge tax implications in spite ofthe fact that the contracts executed by TKL and EWKL provided formechanisms for resolving disputes that included Arbitration.

29. Moreover, the Tribunal notes that in the instant case the supply incontention was quantified in the Appendix A to the EAB-EKLSpecialSettlement Agreement dated 17/7/09 vide the invoices showing thesame. It is worth noting that applicability of tax under the VAT Act isnot tied to the receipt of the money. In the event that a supply hasbeen subjected to VAT and the amount is eventually impossible to

~ recover, the remedy lies in Section 24A, OF Cap 476, now repealed,which provides as hereunder;

"Where a registered person has supplied goods or services and hasaccounted for and paid tax on that supply but has not received anypayment from the person liable to pay the tax, he may, after a periodof three years from the date of that supply or where that person hasbecome legally insolvent, apply to the Commissioner for a refund orremission of the tax involved and subject to the regulations theCommissioner may refund or remit the tax".

30. The Appellant brought to the notice of the Tribunal through itsevidence and submissions that the Respondent had in 2009 recognizedthe Appellant as a distinguished taxpayer. The Tribunal notes that thisdid not absolve the Appellant from its tax obligations and liabilities.

31. The Tribunal, in the circumstances finds that there is no merit in thisAppeal and upholds the Respondent's tax Assessments. The appeal ishereby dismissed with no orders as to the costs and the same ordersalso apply to the Appeal No. 49 of 2016.


DATED and DELIVERED at NAIROBI this 5TH day of December, 2016

In the presenceof:-

VINCENT MUT AI for the Appellant

FIONA KE'RUBOKIYUKA for the Respondent

JOSEP!jIN E K. MAANGICHAIRPERSON -

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PONANGIP I V.R. RAOMEMBER

jOSEPI.i·M:·i;i.:C~···MEMBER

JOLAWI O. OBONDOMEMBE,

NGESA WAFULAEMBER


Documents

REPUBLICOF KENYA APPEALNO.118 OF 2015 ERICSSON(K) … · 3. The Appellant is a wholly owned subsidiary of LM Ericsson Telefonaktiebolaget (Sweden). The Ultimate holding company is