Transfer Pricing Documentation to Justify LHDN’s Tax Avoidance Claim

Case Detail

KPHDN v Ensco Gerudi (M) Sdn Bhd [W-01 (A)-250-05/2021]. A Court of Appeal decision issued on 10.05.2023.

Brief Fact

The issue arose was related to the pricing of the leasing transactions between the taxpayer company and ELL are not at arm’s length under section 140A of the ITA 1967.

DGIR’s arguments

That the profit earned by ELL should remain with the taxpayer company by reducing the cost of the leasing asset by 20% or equivalent to the margin obtained by ELL.

Taxpayer’s arguments

The taxpayer argued that

• there was an earlier decision decided in the High Court on the same issue which the DGIR failed to follow – Ensco Gerudi (M) Sdn Bhd v Ketua Pengarah Hasil Dalam Negeri (Application for judicial review No: 25-101-05-2013) (‘Ensco Gerudi 2013”);
• the DGIR had acted outside the 7 years period when it issued the notice of assement for year 2012, which had been time barred;
• the DGIR has acted ultra vires when it invokes section 140A of the ITA without any proper justification;
• the Leasing Expenses paid by the taxpayer company to ELL is done at arm length rate as justified under the transfer pricing documentations by using a transactional net margin method

High Court’s decision

The HC Judge had held that:

• the DGIR’s audit has been determined substantively in Ensco Gerudi 2013 case;
• the issue of control has been resolved in 2013, and therefore DGIR cannot invoke section 140A(2);
• there is no evidence shown by DGIR that the taxpayer’s pricing transaction is not at arm’s length as the transfer pricing policy remains the same;
• the DGIR has failed to give its decision in rejecting the taxpayer’s company pricing

Court of Appeal’s decision

The Court of Appeal had held that

• the decision in Ensco Gerudi 2013 is not binding on the present case. The present case, the DGIR relied on the new provision section 140A of the ITA, where the DGIR made adjustment on the rigs lease price paid by the respondent to ELL;
• there is not attempt by the DGIR to circumvent the decision in Ensco Gerudi 2013 decision, since the DGIR is statutorily empowered to collect taxes from the respondent under section 140A of the ITA;
• The new section 140A was passed in 1 January 2009.
• The COA agreed with the taxpayer company that the DGIR cannot invoke section 140A (5A) of the ITA which only took effect on 01.01.2019.
• Under section 139 of ITA, a person is deemed to acquire control over the company affairs upon the occurrence of any one of the two situations:
• If he possesses or is entitled to acquire the greater part of the share capital in the company; or
• If he possesses or is entitled to acquire the voting power in the company
• In the present case, the 51% shareholding belongs to three [3] different local companies, namely Pacific Reward Sdn Bhd [3%], Crimson Bay Sdn Bhd [24%] and Prominent Vision sdn Bhd [24%]. Eventhough the local companies held a total of 51% they still hold shares less than the Ensco group (49%).
• In this case, the COA had accepted that the DGIR’s letters dated 23.10.2019, 30.01.2020 and 22.06.2020, the DGIR had laid down the reason for adjustment.
• The COA had stated that it is not for DGIR to come up with their own TP documents on matters which are absolutely within the knowledge of the respondent.
• Under letter dated 22.06.2020, the DGIR had explained how they have concluded that the respondent and ELL are associated persons within section 140A(2) of the ITA.
• The DGIR had rejected the transactional net margin method used by the taxpayer’s company in its TP documentation and not the traditional transaction method.
• The court acknowledged that the application of the different accounting methodology must be left to the accounting expert to argue before the SCIT. 
• That these essential factual issues must be decided by the SCIT

In conclusion

The matter has to be heard at the SCIT as in involves a complex set of facts with differing application of accounting principle by the taxpayer company and DGIR.

However, the case re-emphasize one thing. Without the transfer pricing documentation, the taxpayer cannot even have his case to be heard at the SCIT. 

This case has shown that LHDN can come after you under second provision within ITA just like how they invoke the second provision of section 140A of ITA.

Contact us for transfer pricing drafting

Let us know if you want to draft a transfer pricing documentation to safeguard your right before you are being challenged by LHDN for tax avoidance under section 140A or section 140.