BUILDING A CASE FOR INDUSTRIAL BUILDING ALLOWANCES
| Published date | 01 December 2000 |
| Date | 01 December 2000 |
| Author | Moira Khaw Phaik Geok Tan How Teck |
The Income Tax Board of Review and High Court decisions in the case of Mitsui Soko1 challenged certain views hitherto held by the Singapore tax authorities and tax practitioners on the subject of industrial building allowances (“IBA”). Based on the decision in Mitsui Soko, IBA would be available for set off against certain types of income only and not against income from all sources. To appreciate the difficulties brought about by the Mitsui Soko case, it is necessary to examine the case in detail,
The facts of the case may be briefly stated. The taxpayer was incorporated in Singapore as a wholly-owned subsidiary of a Japanese company to construct a warehouse in Singapore. The warehouse was to be leased to a company in the Sony group to be operated as a central distribution facility for distributing Sony products manufactured in South East Asia.
In 1988, the taxpayer obtained a plot of land at Pioneer Road on a 30-year lease from Jurong Town Corporation and commenced construction on the warehouse. The warehouse was completed in February 1989 and let out by the taxpayer to its subsidiary, Mitsui-Soko Singapore Pte Ltd (“MSS”) in March 1989. At the same time, MSS entered into a storage service agreement with a Sony subsidiary under which MSS would provide storage and cargo operation services.
A number of significant points bear highlighting:
1) The taxpayer was a mere lessor letting the central distribution facility to its subsidiary, MSS;
2) It was the lessee, MSS, that engaged in providing storage and cargo operation services to the sub-lessee, the Sony subsidiary; and
3) At no time in 1988 was the taxpayer in a position to let out the warehouse as construction on the warehouse was completed only in 1989.
In 1988, the taxpayer derived net interest income of $37,538. The taxpayer claimed initial allowance on the warehouse in year of assessment (“YA”) 1989 and sought to set this off against the interest income. The taxpayer’s
appeal to the Income Tax Board of Review2 (“the Board”) proceeded on, inter alia, the grounds that the tax authorities erred in:
(1) not treating the taxpayer as being engaged in the business of property investment during the basis period relevant to YA 1989; and
(2) not recognising that the taxpayer’s business commenced when the major part of the expenditure was incurred in the construction of the warehouse in 1988.
Implicit in the taxpayer’s case was that if it had commenced business in 1988, it would have been entitled to initial allowance in respect of capital expenditure incurred in the construction of the warehouse. The basis of the taxpayer’s claim was section 16(1) of the Income Tax Act3 (“the Act”) which reads as follows:
“Where, in or after the basis period …, a person incurs capital expenditure on the construction of a building or structure which is to be an industrial building or structure occupied for the purposes of a trade, there shall be made to the person who incurred the expenditure for the year of assessment in the basis period for which the expenditure was incurred an allowance to be known as an “initial allowance” equal to 25% thereof (“the initial allowance provision”);
Provided further that any capital expenditure incurred for the purposes of a trade by a person about to carry on that trade shall be treated for the purposes of this subsection as if it had been incurred by that person on the first day on which he does carry on that trade (“the proviso”).”4
Other provisions referred to by the taxpayer are paragraphs (d) and (e) of section 18(1) which state that:
“Subject to this section, in sections 16 and 17 “industrial building or structure” means a building or structure in use — (d) for the purposes of a trade which consists in the storage of goods or materials which are to be used in the manufacture of other goods or to be subjected, in the course of trade, to any process; (e) for the purposes of a trade which consists of the storage of goods or materials on their arrival in Singapore;”
If the taxpayer were successful in its appeal, it would be entitled to initial allowance of $2,139,155 in YA 1989 (being 25% of the total cost of $8,556,618 expended in 1988 towards the construction of the warehouse). Based on the tax authorities’ prevailing practice, the initial allowance would have been available for set off against the net interest income, and the resulting unutilised balance of $2,101,617 would be carried forward to the subsequent YA for set off against the taxpayer’s income for that YA.
The tax authorities maintained, however, that the taxpayer was not carrying on a business of letting property and that even if the taxpayer was carrying on such a business, it commenced only in February 1989 when the Temporary Occupation Licence for the warehouse was obtained. As such, the taxpayer would qualify for initial allowance only in YA 1990 but not in YA 1989. If the tax authorities’ view prevailed, the taxpayer would be taxed on the interest income in YA 1989. Counsel for the tax authorities submitted that where rental income is assessed as non-business income, the scheme of the Act contemplates that the taxpayer has begun deriving rental income before initial allowance is to be allowed under section 16(1). The Board was referred to subsections (1) and (1A) of section 23 in support of this interpretation.
Sections 23(1) and 23(1A) read as follows:
“(1) Where, in any year of assessment, full effect cannot, by reason of an insufficiency of gains or profits chargeable for that year of assessment, be given to any allowance falling to be made under section 16, …, then, so long as the person entitled thereto continues to carry on the trade, profession or business in respect of the gains or profits of which the allowance falls to be made, the balance of the allowance shall be added to, and be deemed to form part of, the corresponding allowance, if any …, and so on for subsequent years of assessment.
(1A) Where any person entitled to the allowances under sections 16 and 17 in respect of an industrial building or structure derives income from the letting of that building or structure, subsection (1) shall, in relation to the allowances under those sections, apply to him so long as he continues to derive such income, whether or not he is carrying on a business in respect of the letting of the building or structure.”5
In finding for the tax authorities, the Board noted the use of the word “continues” in these provisions and concluded that on a plain reading of the provisions, “the taxpayer must be in some form of trade or letting before allowances can be carried forward. If there is no such trade or letting, the allowances cannot be carried forward under this provision.”6 The Board hence ruled that the tax authorities had not erred in law in not granting the taxpayer initial allowance with respect to the warehouse for YA 1989 under section 16, read together with section 18(1)(d) and/or (e), of the Act.
On appeal to the High Court,7 the taxpayer argued that it had commenced its business in 1988 by carrying out activities in 1988 in pursuance of the objects set out in its memorandum of association. The taxpayer submitted that it was therefore entitled to deduct its business losses, to claim initial allowance in YA 1989, and to have the allowance set-off against its interest income. The tax authorities however maintained that the taxpayer would be entitled to the initial allowance in YA 1989 only if the taxpayer was carrying on business or was receiving income from the letting of the building in 1988. The tax authorities further argued that even if the taxpayer was entitled to the initial allowance, the allowance could not be set-off against the interest income in question; it could only be set off against business income or rent derived from the letting of the building.
On the issue of whether a business had commenced, the Court upheld the Board’s finding that the taxpayer was not engaged in any business. On the tax authorities’ second submission, the Court held that the initial allowance given under section 16(1) “cannot be applied otherwise than only against either (a) gains or profits from any trade, business or profession involving the use of the building or structure in respect of which the allowance is claimed, or (b) income derived from the letting of the building or structure; in either case, the building or structure must be used for a purpose or purposes set out in section 18.”8 On the point whether the taxpayer was entitled to initial allowances in YA 1989, the Court found that, in 1988, the taxpayer did not derive gains or profits from carrying on business involving the use of the warehouse, or income derived from letting it. As such, “there was nothing against which such an allowance could be applied. That being the case, it would be a meaningless exercise to give the appellant company the allowance, even if, on the face of section 16(1), its entitlement for the year in question were beyond question.”9
The Act has its origins in the Income Tax Ordinance 194710 which...
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