BML v Comptroller of Income Tax
|Sundaresh Menon CJ
|29 August 2018
| SGCA 53
|Court of Appeal (Singapore)
|06 February 2018
|Civil Appeal No 119 of 2017
|Ong Sim Ho, Keith Brendan Lam Xun-Yu and Khoo Puay Pin Joanne (Ong Sim Ho)
|Foo Hui Min Felicia, Lim Chun Heng Christopher and Lim Weng Kee David (Inland Revenue Authority of Singapore (Law Division))
|Revenue Law,Income taxation,Deduction
|31 August 2018
This appeal deals with the issue of the deductibility of interest paid on bonds issued by a taxpayer to its shareholders in the course of a capital restructuring exercise. The appellant (“the Taxpayer”) is a company which owns and operates a mall in the western region of Singapore (“the Mall”). The Taxpayer’s two shareholder companies (“the Shareholders”) own 50% each of the issued share capital of the Taxpayer. In 2004, the Taxpayer conducted a securitisation exercise (“the Securitisation Exercise”) followed by a capital restructuring exercise which was effected in two steps: (a) a capital reduction exercise (“the Capital Reduction Exercise”) followed by (b) a bond issue to the Shareholders (“the Shareholder Bonds”). This capital restructuring exercise in effect converted the Shareholders’ equity in the Taxpayer into a debt investment.
The issue before us is whether the Shareholder Bonds constitute “capital employed in acquiring the income” of the Taxpayer such that the interest paid on them is deductible under s 14(1)(
On 17 September 2004, [WM] Limited (“WM”) was incorporated by the Taxpayer as a special purpose vehicle. Following from this, a number of transactions took place involving WM, its two Shareholders and the Taxpayer. We attach in the Annexures to this judgment two diagrams tendered by the CIT to the Income Tax Board of Review (“ITBR”) to aid in the understanding of the said transactions and the flow of funds resulting from them.
On 27 October 2004, WM raised $520m by a bond issue. Of the $520m raised, the Shareholders subscribed to $205m of subordinated junior bonds.1 The Shareholders considered it crucial for them to subscribe to these junior bonds because, first, it would have been “practically impossible” to find third party investors willing to subscribe to these bonds at the interest rate of 4.05%, and second, the Shareholders’ subscription would signal confidence in the Mall’s performance to other potential investors.2
Subsequently, WM lent the $520m raised from the bond issue to the Taxpayer under a facility agreement (“the WM Loan”) at an effective interest rate of 3.728% per annum.3 The WM Loan was made in consideration of periodic interest payable by the Taxpayer to WM and was secured by, among other things:4
The amount of the WM Loan,
The Taxpayer applied the $520m obtained from the WM Loan in the following manner:
Following the Securitisation Exercise, the Taxpayer’s primary income-generating assets were (a) the interest income from the Shareholder Advances10 and (b) the rental income from the Mall. For the financial years ending 31 December 2004 through to 2008, the Taxpayer’s total assets ranged between approximately $889m and $996m. During this period, the Mall was valued at between $525m and $614m while the Shareholder Advances remained at a consistent $333m.11
At the same time, the Taxpayer had to pay WM interest on the WM Loan. CIT allowed the Taxpayer to deduct the full amount of interest expense incurred on the WM Loan under s 14(1)(
Following the Securitisation Exercise, the Taxpayer engaged in a two-step restructuring of its capital structure, involving first the Capital Reduction Exercise and thereafter the issuance of the Shareholder Bonds.
Prior to 26 November 2004, the Taxpayer had a paid-up share capital of $10.2m.13 On 26 November 2004, at an extraordinary general meeting of the Taxpayer, the Shareholders resolved to reduce the share capital of the Taxpayer by the following steps:14
On 2 December 2004, the Capital Reduction Exercise was approved by the High Court.15 This brought about two consequences: (a) the Taxpayer was left with a paid-up share capital of only $2.5m and (b) a debt of $333m became immediately due and payable by the Taxpayer to the Shareholders.
On 15 December 2004,16 in place of the debt of $333m immediately due to the Shareholders,17 the Taxpayer decided to issue the Shareholder Bonds, which were fixed rate subordinated bonds for an aggregate amount of $333m. The Shareholder Bonds carried interest of 7.1% per annum and would mature in 2011. Each of the Shareholders subscribed to 50% of the issue.18 The Shareholder Bonds thus formed part of the Taxpayer’s capital19 and they apparently allowed the Taxpayer to meet its capital needs after the Capital Reduction Exercise.20 According to the affidavit of a director of the Taxpayer:21
Further, the Shareholder Bonds apparently provided comfort to the Taxpayer as there would be no danger of the Shareholders calling on the debt so long as interest on the bond was paid in a timely manner.
Collectively, the Capital Reduction Exercise and the issuance of the Shareholder Bonds gave effect to an equity-to-debt restructuring of the Taxpayer’s capital by replacing the Shareholders’ equity in the company with debt in the Shareholder Bonds.22 This capital restructuring exercise was said to serve two purposes:
Between 2005 and 2009, the Taxpayer paid interest of 7.1% per annum to the Shareholders on the Shareholder Bonds (“the Interest Expense”).
The deductibility of the Interest Expense under s 14(1)(
The contested interest expense in each YA is tabulated as follows:27
On 21 November 2013, the Taxpayer filed five Notices of Appeals to the ITBR against the CIT’s decision to disallow the deduction of the Interest Expense.28
On 8 November 2016, the ITBR issued its decision affirming the CIT’s decision (“the ITBR Judgment”).
The ITBR started with the legal premise established by this Court in
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