Solomon Islands Plantation Ltd v Commissioner of Inland Revenue [1998] SBHC 107; HCSI-CC 187 of 1997 (17 August 1998)

IN THE HIGH COURT OF SOLOMON ISLANDS

Civil Case No. 187 of 1997

SOLOMON ISLANDS PLANTATION LIMITED

-v-

COMMISSIONER OF INLAND REVENUE

HIGH COURT OF SOLOMON ISLANDS
(Palmer J.)
Civil Case No. 187 of 1997

Hearing: 27th February, 1998
Judgment: 17th August, 1998

A. Radclyffe for the Appellant
Attorney-General for the Respondent

PALMER J.: This is an appeal against the assessment of the Commissioner of Inland Revenue (hereinafter referred to as “The Commissioner”) regarding disallowances of deductions for dividends paid by the Appellant to Commonwealth Development Corporation (“CDC”) and Investment Corporation of Solomon Islands (“ICSI”) for the years ending December 1994 and 1995 under section 14(2)(m) of the Income Tax Act (hereinafter referred to as the “ITA”).

The dispute arose from a disagreement with the interpretation of the Commissioner of the provisions of paragraph 14(2)(m) of the ITA. The Commissioner held that the dividends paid to CDC and ICSI were not deductible under paragraph (m) whilst the Appellant argues the opposite.

Sub-section 14(2) (m) reads as follows:

“Without prejudice to the operation of subsection (1), in computing the gains or profits of any person for any year chargeable to tax under section 3(a), the following amounts shall be deducted-

(m) the amount of any dividends paid in any year by a company resident in Solomon Islands from which tax has been deducted in accordance with section 33.”

Section 33(1) in turn provides:

“To the extent that any dividend is not exempt from tax, every company resident in Solomon Islands shall deduct from the amount of any dividend paid to any shareholder out of any profits whether or not charged to tax under section 3, tax at the rate of twenty cents (20c) in the dollar for persons who are resident in Solomon Islands and at the rate prescribed in section 32(1) for persons who are not resident in Solomon Islands.”

The Commissioner argues that in order for the amount of dividends paid by the Appellant to CDC and ICSI qualify for deductions under paragraph 14(2)(m), tax must necessarily have been deducted in accordance with section 33(1); that is, at the rate of twenty cents or thirty five cents in the dollar, whichever is applicable. The Appellant on the other hand argues that in the case of dividends that are exempt from tax, that is, no tax is deducted therefrom, this also results in the correct amount of tax being deducted, in accordance with section 33(1). The Appellant places emphasis on the words “in accordance with section 33(1)”, whilst the Respondent on the word “deducted”. The interpretation therefore of the phrase “... from which tax has been deducted in accordance with section 33” as read with section 33(1), crucial to this appeal.

SECTION 33(1): “TO THE EXTENT THAT ANY DIVIDEND IS NOT EXEMPT FROM TAX”

What does this phrase mean? The word “extent” is defined inter alia as “length; area; range; scope; magnitude” (Oxford Advanced Learner’s Dictionary). The word “to the extent” therefore means the range, scope, or limit that applies in the circumstances described in section 33(1). That range or limit is the watershed or dividing line. In the circumstances described in section 33(1), the watershed is the exemption granted. If no exemption attaches, tax shall be deducted at either twenty cents or thirty five cents in the dollar, whichever is applicable. If an exemption applies, no deduction of tax is permitted. In other words, the dividend escapes the tax net. It is not that the dividend is not taxable. It is but for the exemption.

It is not in dispute in this case, that the amount of dividends paid to CDC and ICSI are not subject to tax. In the case of CDC, the exemption is by virtue of Article 6(4) of the Arrangement entered into with the United Kingdom in 1950 (hereinafter known as “the DTA”) and given legal effect by section 39(1) of the ITA, and in the case of ICSI, by virtue of section 12(1) as read with paragraph 35 in the First Schedule. In both cases, no tax is deductible from the amount of dividends paid.

THE ISSUE:

The crucial issue is whether the amount of dividends paid fall within the category described in paragraph 14(2)(m) “ ... from which tax has been deducted in accordance with section 33”. In other words, can dividends exempted from tax be regarded as or deemed to have had tax deducted in accordance with section 33?

“TAX DEDUCTED IN ACCORDANCE WITH SECTION 33”:

What does this phrase mean? Is it ambiguous, capable of two meanings, or what? The true meaning of section 33(1) in my respectful view is that tax is deductible only under one condition. That the dividends paid are not exempt from tax. In other words, they are subject to tax. If they are exempt from tax, then no deduction at the rates specified is permitted. It is not so much whether there is another rate of deduction at nil rate, but whether the dividends paid are exempted or not. It is not that the dividends are not taxable. Rather, it is because of the exemption, that is why no deduction is permitted. There is therefore no ambiguity or double meaning in the interpretation of section 33(1). It is capable of only one meaning, that tax is either deductible or it is not.

This construction is entirely consistent with the meanings in the subsequent subsections of section 33. For instance, subsection 33(3) provides that:

“The amount of tax deductible from the payment of dividends in accordance with subsection (1) shall be due and payable by the company to the Commissioner within fifteen days of the date on which the dividend was paid ....”

If nil tax rate is included as tax deductible in accordance with subsection (1), then it doesn’t make sense, for such amount to be payable in fifteen days. In my respectful view, the phrase “tax deducted in accordance with subsection (1)” refers only to the rates prescribed therein.

The fallacy in the argument of the Appellant lies in assuming that there is another category of rates of deduction. The first two being deduction of tax at the rates of twenty cents in the dollar for residents in the country and thirty five cents for non-residents. The third category suggested was nil rate of tax being deducted. Unfortunately, as already stated, tax is either deductible or non-deductible. There is no half-way house. If it is exempt, it is non-deductible. If not exempt, then it is deductible. The effect is this. Dividends which are exempted cannot possibly be regarded as having had tax deducted in accordance with section 33(1), for the reason that it escapes the payment of tax by virtue of that exemption. It is not that it is a non-taxable item. It is a taxable item, but by virtue of the exemption, it escapes the tax net.

ARTICLE 6(4) OF THE DTA:

Article 6(4) of the DTA provides:

“Dividends paid by a company which is a resident of Solomon Islands to a resident of the United Kingdom who is subject to tax in the United Kingdom in respect thereof shall be exempt from any tax in Solomon Islands which is chargeable on dividends in addition to the tax chargeable in respect of the profits or income of the company.”

It is vitally important to appreciate that the exemption granted is in respect of dividends paid to CDC. This must not be confused or mixed up with tax payable on the gains or profits of the Appellant. These are not necessarily one and the same thing, though the ITA recognises that they can be treated together, for purposes of computing chargeable tax, to avoid the situation where the same income can be subject to tax twice; once as income of the earner and the second time as the income of the recipient.

THE STARTING POINT:

The starting point in this case must be section 3 of the ITA. Sub-section 3 (1) (a) reads:

“Tax shall, subject to this Act, be charged for each year upon the income for that year of any person which-

(1) accrued in, was derived from or was received in Solomon Islands in the case of a resident person;

(2) accrued in or was derived from Solomon Islands in the case of a non-resident person,

in respect of-

(a) gains or profits from -

(i) any business, for whatever period of time carried on;

(ii) any employment or service rendered:

(iii) any right granted to any other person for the use or possession of any property;

(b) dividends, interest or discounts;

......................”

Section 3 makes clear that gains or profits and dividends, are separate items for purposes of tax. When it comes to their assessments as income chargeable to tax however, the ITA specifically makes provision for their treatment together. This is reflected in the definition of “total income” in section 2(1) of the ITA. It provides:

“means the aggregate amount of the income, other than income exempted from tax under Part III, of any person chargeable to tax under Part II as ascertained under Part IV”.

Part IV includes the provisions of section 14(2) (m).

THE PURPOSE OF SUB-SECTION 14(2) (m):

Sub-section 14(2) (m) specifically makes provision for dividends which have been subject to tax under section 33(1) to be deducted from chargeable income of the company to avoid the situation where the said income is subject to tax twice. If no deduction is permitted under paragraph (m), then the dividends would be subject to tax as part of the company’s gains or profits, and further subject to tax as income of the recipient when the dividends are paid out. To avoid that situation, the tax deducted from the dividend under section 33(1) is treated both as income tax of the earner and the recipient. Section 36 deems the said tax deducted under section 33(1) to be the tax of the recipient whilst sub-section 14(2) (m) treats the same tax deducted as part of the income tax of the earner. Note how these are treated separately.

THE EFFECT OF THE EXEMPTIONS:

Having identified that the ITA recognises tax on gains or profits and dividends separately, this sets the springboard for understanding in proper context, the effect of the exemptions granted in respect of the dividends paid to CDC and ICSI.

The effect of the exemption granted under the DTA, in respect of the dividends paid to CDC, is to avoid what has been described as double tax being paid on those dividends; tax in the resident country and tax in the recipient country. By this arrangement, tax which is payable in the resident country (Solomon Islands) is exempted. The dividend therefore is only taxable in the recipient country. Note it refers specifically to the tax chargeable on the dividends. It does not refer to tax chargeable on the gains or profits of the Company. The exemption does not apply to that.

Contrast this with the situation where no DTA is in place. The dividends paid would have been subjected to tax in the first place [under section 33(1)], and then further taxed in the recipient country (United Kingdom). So to use the illustration given by Mr. Radclyffe at paragraph 4.3 of his submissions, (where the amount of dividends was $90.0), the amount of dividends paid would be $90.0 less tax @ 35%; this works out to $58.5. The tax withheld would be $31.5. The amount eventually paid out would only be $58.5. It would then be further subject to tax in the United Kingdom.

If the DTA was in place, then the full amount of the dividend ($90.0) is paid out. No tax is deducted. This is exactly what has happened in this case. The amount of dividends has been paid without any tax deductions.

It is vitally important to appreciate in my respectful view that the exemption specifically pertains to tax “ ... chargeable on dividends ....” This must be construed separately from tax chargeable on gains or profits, (as urged by the learned Attorney-General). These are not one and the same thing. The exemption does not apply to tax chargeable on the gains or profits of the company. It follows that income tax is chargeable on the gains or profits of the Appellant. We come full circle back to section 3(1) (a); that tax is chargeable on gains or profits and dividends. That conclusion is entirely consistent with the whole objectives and purposes of the ITA. In taxing the income of the Appellant (its gains or profits), that is not the same as subjecting the dividends paid to CDC or ICSI to tax. The exemption only applies to dividends.

CONTRAVENTION OF THE “DTA” OR EXEMPTION STATUS GRANTED?

One of the submissions sought to be raised by learned Counsel for the Appellant is that the inclusion of the amount of dividends paid to CDC and ICSI for purposes of computing the gains or profits of the company chargeable to tax, is contrary to the intentions and objectives of the exemption granted in the first place. In actual fact, by including the said amount, the Commissioner is subjecting it to tax contrary to the DTA and its exemption under the ITA.

Unfortunately this overlooks the fact that we are dealing with two separate items under the ITA which are chargeable to tax. Income chargeable to tax as gains or profits are specifically provided for under section 14 of the ITA. Tax on dividends is specifically provided for under section 33 (1) of the ITA.

Implicit in paragraph (m) of sub-section 14(2), is the notion that the tax deducted from the dividends paid under section 33(1), is equally accounted for as the tax that would have been payable on the gains or profit of the company. In like manner, the tax that would have been payable on those dividends as part of the income of the recipient is deemed paid under section 36. It is like killing two birds with one stone.

The confusion I think has arisen from the misconception that because tax is exempted from being paid on the dividends, that it follows that the same exemption applies to the tax that would have been chargeable on the gains or profits of the Appellant. That is not so.

In charging tax on the gains or profits of the Appellant, that is entirely consistent with the provisions of section 3(1) (a) of the ITA. It does not in any way penalize the Appellant for something beyond his control. In actual fact, it is the Appellant who determines the amount of dividends to be paid and the profits to be retained. Using the illustration given by Mr. Radclyffe again in paragraph 4.3 of his submissions, in the case where the Appellant decides to pay $90.0 as dividends from the amount of profit before tax of $150.0, tax on the gains or profit of the Company @ 35% is $52.5. The amount of dividends paid remains at $90.0 (no tax is deducted pursuant to the DTA). Retained profit therefore is $7.5. Now if the Appellant feels or thinks that the retained profit is too small, then all it has to do is to adjust the amount of dividends paid. If it wants to retain profit at $39.0, then the amount of dividends that it has to pay will have to be reduced accordingly to $58.5. Company income tax remains at $52.5 @ 35%. No hardship, no penalty is entailed. CDC still gets its dividends at $58.5 (using this example) without any tax deductions. And in the first example above, where the amount of dividends paid is $90.0, that is the amount that CDC will get.

However, if no DTA was in place, then tax at the rate of 35% would have been deducted from $90.0, leaving the amount of $58.5 payable to CDC. Total income tax payable in Solomon Islands would have remained at $52.5. The amount of $58.5 would then have been further subject to tax in the United Kingdom. This is the difference to be compared with the case where a DTA is in place. The amount of dividends as paid is not subject to tax.

Whether a DTA is in place or not, makes no difference to the tax payable on the gains or profit of the Appellant. The difference lies on whether tax is payable on the dividends or not; which in reality is the income of the recipient. Unless there is specific provision under the ITA allowing for such dividends which are exempt from tax to be deductible, no deduction is permissible under section 14(1) or (2).

THE MEMORANDUM OF AGREEMENT DATED 13TH NOVEMBER 1979:

This can be shortly disposed of. The relevant part is Item 5 paragraph (1) (b). It reads:

“The Government confirms that it is its intention-

to ensure that the total rate of any Solomon Islands tax deducted from and/or charged on dividends payable to non-resident persons (including corporations) shall not exceed the rate of tax payable on the chargeable income of a Solomon Islands company and that such dividends shall be deductible from the chargeable income of the paying company;”

First what is stated therein pertains to future matters. There is no evidence to suggest that this has actually been given legal force, either through an amendment of the DTA or the ITA or any order issued under the said Act. Secondly the very fact that it is expressed therein supports the view t that in the absence of any such arrangement such dividends are not deductible from the chargeable income of the paying company.

DIVIDENDS PAID TO ICSI:

The same reasons given above apply to the dividends paid to ICSI. Section 12(1) reads:

“Notwithstanding anything in Part II, the income specified in the First Schedule which accrues in, or is derived from the Solomon Islands shall be exempt from tax to the extent specified;”

Paragraph 35 of the First Schedule to the Income Tax Act reads:

“The income and revenue of the Investment Corporation of Solomon Islands”.

What is exempted therefore is the income and revenue of ICSI, not the gains or profits of the Appellant. It follows that for purposes of computing the gains or profits of the Appellant chargeable to tax, those are not exempted from tax. The dividends paid to ICSI therefore as part of the gains or profits of the Appellant are subject to tax. Their exemption status does not extend to the income of the Appellant which is chargeable to tax.

THE ORDERS OF THE COURT:

1 DISMISS APPEAL

2. UPHOLD ASSESSMENT OF TAX (ASSESSMENT NUMBERS C 130 AND C 131) BY THE COMMISSIONER OF INLAND REVENUE FOR THE YEARS 1994 AND 1995.

3. THE APPELLANT TO BEAR THE COSTS OF THE RESPONDENT.

THE COURT.