Kenya vs Dominion Petroleum Dkenya Ltd, November 2021, High Court of Kenya, TAX APPEAL NO. E093 OF 2020

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Dominion Petroleum Dkenya’s principal activity was exploration of oil and gas.

The tax authorities carried out an in-depth audit of Dominion’s operations and tax affairs for the years of income 2011 to 2016, which resulted in the following taxes being raised: Withholding Income Tax (WHT) on imported services – KES 114,993,666.00; WHT on deemed interest – KES 504,643,172.00 and; Reverse Value Added Tax(VAT) on imported services– KES 714,258,472.00 all totaling KES 1,333,895,311.00.

An appeal was filed by Dominion with the Tax Appeals Tribunal where, in a judgment dated 24th July 2020, the Tribunal set aside the Commissioner’s Objection decision on Reverse VAT and WHT on Deemed Interest to the extent of the period prior to 1st January 2014. Further, it upheld the Commissioner’s Objection Decision on WHT on local services on condition that the amount of KES 656,892,892.00 paid by Dominion Petroleum to Apache Kenya Limited for seismic data be excluded from the assessment as it was not subject to WHT. In addition, it directed Dominion Petroleum to provide the Commissioner with documentation in support of the errors occasioned by the migration from its Pronto to SUN systems within thirty (30) days of the Tribunal’s ruling to facilitate computation of the WHT payable.

The tax authorities was not satisfied with the decision in regards to VAT and withholding tax on deemed interest and filed an appeal with the High Court.

Judgement of the High Court

The High Court decided partially in favour of the tax authorities and partially in favour of Dominion Petroleum.


WHT on deemed interest
23. WHT is a method of tax collection whereby the payer is responsible for deducting tax at source from payments due to the payee and remitting the tax so deducted to the Commissioner. Under section 10(1) of the ITA, the resident company paying interest and deemed interest is required to pay WHT to the Commissioner as follows:
10. Income from management or professional fees, royalties, interest and rents
(1) For the purposes of this Act, where a resident person or a person having a permanent establishment in Kenya makes a payment to any other person in respect of-
(c) interest and deemed interest
24. Under section 16(3) of the ITA “Deemed Interest” is defined as “….an amount of interest equal to the average ninety-one day Treasury Bill rate, deemed to be payable by a resident person in respect of any outstanding loan provided or secured by the non-resident, where such loans have been provided free of interest.” In essence, it is applicable on interest free borrowing and loans received from foreign-controlled entities in Kenya. Further by section 35(1) of the ITA, a person upon payment of a non-resident person not having a permanent establishment in Kenya in respect of interest which is chargeable to tax is required to deduct withholding tax at the appropriate non-resident rate which is provided for in the Third Schedule to the ITA.
25. Resolution of this issue involves around the nature of financial agreements entered into by the Respondent and its affiliate companies. The Commissioner contends that the agreement between the Respondent and its related companies were interest free outright loan agreements and any payments made to them by the Respondent thereunder fell within the definition of “Deemed Interest”. It observes that all of the Respondent’s related party lenders disclosed in their audited financial statements that the loans were interest free and that the Respondent attempted to introduce a 0.1% rate on one of the loans with Dominion Petroleum Acquisition Limited through contracts dated 5th February 2015 and 10th February 2015 respectively which were backdated to an effective date of 1st January 2014. The Commissioner thus accuses the Respondent of attempting to circumvent provisions of the ITA regarding treatment of interest free loans.
26. The Commissioner faults the Tribunal for holding that the “inter-company loans” do not fit the description of a loan as defined under section 16(3) of the ITA when the parties themselves had decided to call those arrangements ‘loans’ and that there is no such thing as “quasi-equity” from the definition in section 16(3) aforesaid which provides that, ‘’“all loans” means loans, overdrafts, ordinary trade debts, overdrawn current accounts or any other form of indebtedness for which the company is paying a financial charge, interest, discount or premium.” The Commissioner urges the court to take cognizance of the fact that this very chicanery called tax planning is the reason we have an entire body of practice called Transfer Pricing to ensure that related-parties transact at arm’s length as though they are related.
34. I hold that the main factor of consideration is whether there was any interest provided for in the financing agreements amounted to a loan; if there was no interest, then WHT on ‘Deemed Interest’ would apply at the 91-day Treasury Bill rate; if there was interest, WHT would still apply at the rate provided for in the Third Schedule of the ITA. What should be noted is that whichever the case, WHT would still apply.
35. In its judgment, at para. 110, the Tribunal observed that the said agreements were “…all unsecured, interest-free and have no definitive repayment plan…”. Further, at Para. 115, the Tribunal noted that the agreements in question dated 28th March and 24th September 2014 both provided for an earlier effective date and had no interest clause. These agreements were later amended by the contracts dated 5th February 2015 and 10th February 2015 respectively to include an interest clause at the rate of 0.1% with an effective date of 1st January 2014.
36. I am in agreement with the Tribunal that in the absence of any demonstrable fraud or illegality, the parties are free to make amendments to their agreements. I also note that the parties may make an agreement that includes equity and borrowing. In this case, there was clearly a lending transaction and the inclusion of the 0.1% interest rate means that “Deemed Interest” could no longer apply at least from 1st January 2014. However, since there was no interest prior to the effective date, it follows that WHT on “Deemed Interest” would apply to any repayments made by the Respondent to its affiliate companies in this period prior to 1st January 2014.
37. I therefore hold that the Tribunal erred in holding that WHT on Deemed Interest ought to be set aside to the extent of the period prior to 1st January 2014 as it ought to be set aside to the extent of the period from 1st January 2014 when the 0.1% interest rate was introduced. This error though, does not negate the soundness of the Tribunal’s decision which will be rectified in the final orders.”

“40. Second, the Commissioner appears to contest the Tribunal’s direction that the Respondent to provide the Commissioner, “…..with documentation in support of the errors occasioned by the migration from Pronto to SUN systems within thirty (30) days of the date hereof to facilitate computation of the Withholding Tax payable.” I hold that the Tribunal was simply assisting the Commissioner collect the taxes that were truly, properly and lawfully due to it. The Commissioner has not demonstrated what was inconclusive or unclear about this directive because the Tribunal had already found that the Commissioner’s assessment on WHT on local services was justified.”

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Kenya vs Dominion Petro Nov 2021

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