This article focuses on the recent decision of the commercial court following an appeal by Vivo Energy against URA. The key point of contention was whether rent is a capital or revenue expenditure to which the judge found that it is a revenue expenditure and therefore an allowable deduction. Below I analyze and give my opinion on the decision.
Introduction
For any business, the Income Tax Act [“ITA”] allows the deduction of certain expenses before charging tax. To qualify, these expenses must be of a revenue and not of a capital nature; revenue nature in the sense that the expenses are directly incurred in the production of revenue. However, it is not always easy to determine whether an expense is of a revenue or capital expenditure. This was recently evident in the case of Vivo Energy Uganda Ltd Versus Commissioner General of Uganda Revenue Authority: Civil Appeal No. 1 of 2019 which was decided on the 9th day of March 2020, by Honorable Justice Richard Wejuli Wabwire. This was an appeal arising from a decision of the Tax Appeals Tribunal [“TAT”] vide TAT No. 29 of 2017.
The facts of the case are that Vivo Energy [“Vivo”] acquired several leases for placement of their fuel stations for which they paid Premium and Rent. They had amortized these expenses. However, following a tax audit, URA reversed these expenses.
Vivo went to TAT seeking a determination of whether premium and rent paid in respect of its lease is a deductible expense. TAT ruled against Vivo and found that the payments were incurred towards the acquisition of capital assets and are to be considered as part of the cost base and therefore were not deductible.
Aggrieved, Vivo appealed against the said decision to the commercial court. In the course of the appeal, Vivo conceded to premium being a capital expense but still maintained that rent was a revenue expense for which Vivo could claim a deduction.
The issue for court’s consideration was therefore;
“Whether the payment incurred in respect of rent is a capital or revenue expenditure.”
The Honourable judge found that Rent is a revenue expenditure and as such Vivo was entitled to a deduction.
Ratio Decidendi
To resolve this issue, the honorable judge went on to distinguish capital expenditure from a revenue expenditure. This distinction is very important because under S.22 (1) (a) of the Income Tax Act, expenditures or losses are deductible for purposes of ascertaining chargeable income only if such expenditure or losses were incurred in the production of income included in gross income.
Relatedly, under S.22(2) (b) of the Act, no deduction is allowed for any expenditure or loss of a capital nature or any amount included in the cost base of an asset.
Vivo, therefore, had to prove that rent paid in respect of the leases was of a revenue and not a capital nature. Whereas it seems that rent is obviously a revenue expense, in the instant case, certain facts required further investigation.
“Capital expenditure is a thing that is going to be spent once and for all and income expenditure is a thing that is to recur every year”.
The judge also noted that a capital expenditure brings on board an asset or advantage for the enduring benefit of the business. Typically, capital expenditure is incurred in acquisition, extension or improvement of assets whereas revenue expenditure is a routine business expenditure. He added that, capital expenditure is a non-recurring outlay whereas revenue expenditure is normally a recurring item which is incurred on a regular basis. The judge thus made a distinction between rent and premium by finding that;
“Rent as expenditure is a recurrent expenditure that is periodically paid to maintain occupancy of the leased facilities or premises. It is paid to maintain the revenue generating capacity derived from possession of the lease. In a lease, the appellants acquire an income-earning asset and in paying rent, they sustain the process of earning the income. It is unlike a premium which is incurred to acquire the lease and is therefore not a part of the cost base of the lease stipulated under Section 52(2) ITA and consequently not a capital expenditure”
“The lump sum advance payment does not qualify rent into a capital expenditure”.
Assessing the evidence before him, the Judge therefore reached the conclusion that although Vivo had paid rent in a lumpsum and in some cases done so together with the premium, the premium and the rent had to be segregated. Accordingly, whereas premium is a capital expenditure, rent is a revenue expenditure and as a result, Vivo was allowed to deduct that expense from its chargeable income.
Recommendations and Conclusion.
This case goes to show how uncertainty and ambiguity in the law in most cases prejudices and hurts the taxpayer. Whereas it seems obvious that rent should be classified as a revenue expenditure, the fact that both URA and the Tax Appeals Tribunal had reached a different position, goes to show why certainty is one of the tenets of a good tax law. In that regard, I recommend that;
Disclaimer
This article provides general information only. It is not intended to provide advice concerning any specific set of facts, nor is it intended to be relied on as legal advice.
Damalie Tibugwisa is a commercial law practitioner and is the founder and managing partner of M/s Tibugwisa and Co. Advocates. For comments and inquiries contact her at damalie@tadvocates.com or +256787461139 or for other services by the firm check the firm’s website on www.tadvocates.com