TPguidelines

IAB Company had deducted fees paid for services to its parent, IAL.

Following an audit the tax authorities denied these deductions as sufficient evidence had not been provided for provision of the services.

An appeal was filed by IAB Company.

Judgement of the High Court.

The Court upheld the assessment of the tax authorities concerning management fees and dismissed the appeal of IAB Company in this regard.

Excerpts from the judgement:

“In a nutshell the issue here is whether or not the appellant received management services from IAL for the tax years 2010 to 2015. ”

(…)

“The authorities must not look at the matter from their own view point but that of a prudent business an – SA Builders Ltd v CIT (2006) 289 ITR 26 (SC).  Further, I agree with what was stated by Australia’s Full Federal Court on the function of the tax authorities and fiscal legislation.  In FC of T v BHP Billion Finance Ltd 2010 ATC 20169 at paragraph [18] the said court quoted with approval from Tweddle v FCT (1942) 180 CLR at 7 where WILLIAMS J staid that:

“it is not suggested that it is the function of the Income Tax Acts or those who administer them to dictate to tax payers in what business they should engage or how to run their business profitably or economically.  The Act must operate upon the result of a tax payer’s activities as it finds them.  If a tax payer is in fact engaged in two businesses, one profitable and the other showing a loss, the Commissioner is not entitled to say he must close down the unprofitable business and cut his losses even if it might be better in his own interests and although it certainly would be better in the interests of the Commissioner if he did as: Toohey’s Ltd v Commissioner of Taxation (NSW) (1922) 22 SR (NSW) 432 at pp 44044,]”

Further, in Income Tax case number (1847) 73 SATC 126 the court reminded the Commissioner of SARS after the latter had disallowed management and marketing fees paid by a subsidiary to its holding company that:

“it is not for the court or the Commissioner to say, with the benefit of hindsight be disallowed on the basis that it was not strictly ‘necessary’, or that it was not as effective as it could have been.  If the purpose of the expenditure was to produce income, in the course of trade, and the expenditure was not of a capital nature, then that is sufficient.  Accordingly, the respondent was wrong in his assessment of these fees.” 

In this said case the court accepted that, many a time a subsidiary is utterly dependent on its holding company for its effective functioning.  The holding company had used its muscle, as a long established public company, to raise capital for the tax payer and from the evidence it was clear the tax payer needed the management input of the holding company and received it.  It need the global vision and strategic advice of the cosmopolitan, internationally experienced team from the holding company.  The management service fees charged by the holding company to the subsidiary were held to be in line with the norm in the industry.

I will now consider the evidence before me in light of the above principles.”

(…)

“Firstly, the determination is whether the conclusion of a contract for service necessarily means that the services had been rendered.  Put differently, the question is whether a payment made pursuant to the conclusion of service level contract amounts to incurring expenditure for purposes of deductions permissible in terms of s15 (2)(a) of the Act.  In my view, the signing of the service level contract is not sufficient for the appellant to incur obligation to pay management fees.  In the circumstances I have to determine the second issue i.e. whether in fact any services were rendered by IAL, and if so, what the services were and how much was charged in respect of services.  This two-stage inquiry is evinced by the splitting of the issues in the joint minute of the parties.  The first issue being the question management services were rendered by IAL and the second being a determination of the extent of such services.

I am in agreement with the contention of the respondent that the execution of a service level agreement between the appellant and its holding company, IAL, does not amount to incurring any legal obligation in respect of management fees.  Like any other contract, the incurrence of a legal obligation depends on the performance by the parties of their obligations in terms of the contract.  There being no evidence that the appellant received specified services from IAL during the tax period under consideration (and if so the extent thereof) no legal obligation was incurred by the appellant in respect of management fees.”

(…)

“The Finance Director for appellant testified and his testimony remarkably contradicted that of the Group Finance Director of IAL on the fundamental premise upon which the notices in issue were raised.  He contended that the invoices were issued on the basis of services rendered and by implication suggested that if services were not rendered for any particular portion of the period concerned, the appellant would not be obliged to pay IAL.  In contradiction the Group Finance Director had testified that the rendering of a service was not a pre-requisite for the charge which IAL raised on a monthly basis to the appellant.  The evidence of these witnesses was therefore, mutually destructive.  The appellant’s Finance Director stated that the yearly fees were registered and agreed upon the commencement of the year.  He, however, had no documents as proof of such negotiations on the fees.  He did not provide any rational basis for the charge which was raised by IAL to the appellant.  He also admitted IAL exists for its own purposes and does not exist to provide service to the subsidiary only.  It was therefore, necessary to separate the functions of the employees, directors and shareholders of IAL in pursuant of the interests of IAL as against the interests of the appellant as a subsidiary.  He conceded that the invoices were not itemizing the services rendered.  The acceptance of an irregular invoice by the respondent does not make the appellant compliant with the law.  S20 (4) of the Value Added Tax Act requires that a tax invoice must contain particulars including –

“(e)      a description of the goods or services supplied;

  (f)      the quantity or volume of the goods, or services supplied.”  These provisions are mandatory and anything done in contravention thereof is a nullity – Schirhout v Minister of Justice 1926 AD 99 at 109; X-tend-A-Home (Pty) Ltd v Hoselaw Investments (Pvt) Ltd 2000 (2) ZLR 348 (S); Manning v Manning 1986 (2) ZLR 1 (S).”

(…)

“Disposition

In light of the foregoing I accordingly order that:

1. The appeal is allowed in part
2. On the issue of management fees, the appeal is dismissed and assessments issued on 17 July 2017 are hereby confirmed.
…”

Click here for translation