Tax Update April 2013

Tax Update: April 2013

AQQ's anti avoidance case

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Taxpayer wins appeal due to Comptroller’s failure to exercise his powers fairly and reasonably under the anti-avoidance provision.

AQQ v CIT [2012] SGHC 249

The High Court has handed down its decision on an appeal by AQQ, a Singapore company regarding the application of the general anti-avoidance provision. Whilst the High Court concluded that the financing arrangement fell within the anti-avoidance provision under section 33(1) of the Singapore Income Tax Act (Act), AQQ won the appeal on grounds that the Comptroller did not exercise his powers under section 33(1) fairly and reasonably.

Background of the case1

The appellant (taxpayer), AQQ, part of a Malaysian listed group entered into corporate restructuring and financing arrangements. As a result of the arrangements, the taxpayer was able to claim interest deduction against the franked dividend income from its Singapore subsidiaries, resulting in a refund of the tax credits arising from the then dividend franking credit system.

The Comptroller was not satisfied that there was commercial justification for the financing arrangement and invoked section 33. The Board of Review (BOR) upheld the Comptroller’s decision and the taxpayer then proceeded to appeal to the High Court.

1 Please refer to EY’s Tax Update “Singapore test case on section 33 of the Income Tax Act” dated July 2011 for further details of the case and the Board of Review (BOR) decision.

The High Court decision

In arriving at the decision, the judge applied the following approach to section 33:

(a)  Alter the incidence of any tax which is payable by or which would otherwise have been payable by any person
(b)  Relieve any person from any liability to pay tax or to make a return under this Act (c)  Reduce or avoid any liability imposed or which would otherwise have been imposed on any person by this Act

  • The Comptroller must first be satisfied that the purpose or effect of the financing arrangement fell within any of the three limbs of section 33(1)2 i.e.,
  • If the arrangement fell within any of the three limbs, then it needs to be decided whether the taxpayer is able to avail itself of the statutory exception in section 33(3)(b)3 i.e., that the arrangement was carried out for bona fide commercial reasons and had not as one of its main purposes the avoidance or reduction of tax.
  • If the statutory exception under section 33(3)(b) cannot apply, then to what extent can the Comptroller exercise his powers under section 33(1).

2 Section 33(1) - Where the Comptroller is satisfied that the purpose or effect of any arrangement is directly or indirectly –

(a)  To alter the incidence of any tax which is payable by or which would otherwise have been payable by any person;
(b)  To relieve any person from any liability to pay tax or to make a return under this Act; or
(c)  To reduce or avoid any liability imposed or which would otherwise have been imposed on any person by this Act,

the Comptroller may ….. disregard or vary the arrangement and make such adjustments as he considers appropriate, including the computation or recomputation of gains or profits, or the imposition of liability to tax, so as to counteract any tax advantage obtained or obtainable by that person from or under that arrangement.

3 Section 33(3)- This section shall not apply to –

(a)  Any arrangement made or entered into before 29 January 1988; or
(b)  Any arrangement carried out for bona fide commercial reasons and had not as one of its main purposes the avoidance or reduction of tax.

Application of section 33 of the Act

The Court, on the proper application of section 33 to the facts of the case, concluded that the BOR was not wrong in determining that the financing arrangement fell within section 33(1), at least where section 33(1)(c) was concerned. The Court found that the financing arrangement had the purpose and effect of reducing or avoiding a liability imposed by the Act (i.e., without the interest expenses, there would have been more tax charged on the dividend income).

This conclusion was reached by objectively examining the terms of the arrangement and the manner in which it was implemented, irrespective of the motives of the parties to the arrangement.

The Court then proceeded to determine if the financing arrangement fell within the statutory exception under section 33(3)(b). To avail of the statutory exception, the taxpayer had to show that the financing arrangement was “carried out for bona fide commercial reasons and had not as one of its main purposes the avoidance or reduction of tax”.

After reviewing the evidence, the Court was of the firm view that the BOR was well entitled to find that the financing arrangement was not carried out for bona fide commercial reasons and that it had as one of its main purposes the avoidance or reduction of tax.

Some of the key features of the financing arrangement which failed to qualify for section 33(3)(b) include the over-valuation of the subsidiaries which led to high borrowings, high interest rate for the Notes and no real commercial justification for the loan from the Banks other than to obtain a tax benefit (i.e., ultimately the borrowings came from the Group and the Banks were interposed in the financing arrangement to facilitate the tax refunds). Hence, the taxpayer failed to qualify within the statutory exception under section 33(3)(b).

Whether the Comptroller had exercised his powers fairly and reasonably

As the financing arrangement was caught by section 33(1) and the taxpayer could not avail itself of the statutory exception under section 33(3)(b), the question then was the extent to which the Comptroller could exercise his powers under section 33(1). From a plain reading of section 33, the Court felt that it was clear that the Comptroller’s power to “disregard or vary the arrangement and make such adjustments as he considers appropriate” was to be exercised to “counteract any tax advantage obtained or obtainable by that person from or under that arrangement”.

The Comptroller’s powers in this instance must be exercised in a manner that is fair and reasonable in order to achieve the purpose of counteracting the tax advantage obtained or obtainable from the arrangement. In this case the Comptroller disregarded both the dividend income and the interest expenses. Given that it was the financing arrangement alone that offended section 33, the Court felt that the Comptroller should not have disregarded the dividend income as his power under section 33(1) was to disregard or vary only the impugned arrangement.

The Court’s view was that the Comptroller should not have disregarded the dividend income as the taxpayer was entitled to it. In addition, the Court also held that the Comptroller should not have disregarded the whole interest expenses as one-third of the interest expenses was attributable to an interest-bearing loan that was in substance made by a Malaysian subsidiary. The Comptroller should therefore have allowed the one-third interest expense and should have also at the same time, required the taxpayer to account for the withholding tax on that interest expense.

The Court concluded that the Comptroller did not exercise his powers under section 33(1) fairly and reasonably and in fact had exceeded his statutory power.

For this reason, the Court allowed the taxpayer’s appeal.

Comments

  • The judgment sets out the application of the principles in section 33 which in practice, is seldom easy to apply. It provides taxpayers a glimpse of the principles to consider in any tax planning opportunities.
  • The outcome of the case is interesting – the transaction clearly fell within the anti-avoidance provision. Despite this, the taxpayer won on the basis that the Comptroller did not exercise his statutory powers in a manner that was fair and reasonable in order to achieve the purpose of counteracting the tax advantage obtained or obtainable from the arrangement.
  • This is the first anti-avoidance income tax court case in Singapore. The Comptroller has appealed against the High Court’s decision and it will be interesting to see how the case will develop at the Court of Appeal.