Car & General has been stopped from using profits from its two subsidiaries to lower its tax liability by using the income to calculate its gross earnings hence raising its deductible interest expense.
The law allows a company to deduct interest expense of up to 30 percent of its earnings before interest, tax, depreciation and amortisation (Ebitda), in what is aimed at guarding against a tax avoidance known as base erosion.
On August 23, the Tax Appeal Tribunal agreed with the decision by the Kenya Revenue Authority (KRA) to exclude Sh640,771,000 that Car & General earned in profits from its associate Watu Credit and its joint venture Cummins C& G, as the same income had already been exempted.
Car & General, a diversified trading firm which is listed on the Nairobi Securities Exchange (NSE), has a 29 percent stake in Watu Credit and another 50 percent shareholding in Cummins, a diesel engine distributor.
By including the profit share from Watu Credit and Cummins in its income statement for the financial year ended September 30, 2022, Car & General inflated its Ebitda thus allowing it to deduct additional interest expense which had the overall effect of lowering its tax liability.
However, the KRA had argued that the law does not allow for the inclusion of branch profits or dividend income into the computation of Ebitda as the same income had been treated as non-taxable income.
The five-bench tribunal agreed with the KRA, allowing the taxman to collect an additional Sh49,566,383.28 inclusive of interest and penalties from Car & General.
“Consequently, the Tribunal finds that the respondent’s (KRA) income tax additional assessment was justified,” said the tribunal which was chaired by Eric Nyongesa Wafula.
KRA said it noticed that Car & General had claimed interest expense amounting to Sh323,455,290 arising from a computed Ebitda of Sh1,078,184,300.
“That upon review of the appellant's tax computation of the aforesaid Ebitda, the respondent established that the Appellant (Car & General) included share of profit from associates of Sh623,274,000 and share of profit from the joint venture of Sh17,497,000,” said the tribunal.
The KRA said the firm had in previous reporting excluded the share of profit from its associate and joint venture partners from its profit and loss statement non- taxable income.
Car & General is engaged in the sale and service of motorcycles, household goods, agricultural tractors and implements, marine engines, three-wheeler vehicles, commercial laundry equipment, commercial engines, forklifts, excavators, power equipment and general goods.
In including the share of profits Car & General had argued that Watu Credit was involved in lending and offering credit to the company's customers while its joint venture, Cummins C&G Joint Venture, supplied goods to the company.
“That these entities are integrated into the appellant's operations and are critical to its operation and generation of business income,” said Car & General.
Car & General also argued that the law was ambiguous as it did not define Ebitda, and with such ambiguity, the decision should be made in its favour.
The listed firm had also argued that the KRA, in its assessment, had not given it sufficient reasons to enable it to sufficiently object to the assessment.
The Finance Act 2023 amended the rule on restriction of deduction of interest expenses to apply to loans sourced from foreign entities. This provision, however, exempted several types of businesses including banks.
