COMMISIONER OF INLAND REVENUE v. COUNTY SHIPPING CO. LTD.

Revenue - profits tax - ascertainment of chargeable profits - s.16 of the Inland Revenue Ordinance Cap. 112.

Contrary to a determination by the Board of Review, the Court of Appeal answered the following question, posed in a case stated, in the negative:

"Whether on the true construction of the Inland Revenue Ordinance (Cap. 112), and in particular sections 16(1), 16(1)(a) and 16(2) thereof, the interest in question incurred by the Taxpayer which does not satisfy the conditions set out in section 16(2), is nonetheless deductible under the introductory words of section 16(1)."

BETWEEN

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JUDGMENT

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Fuad, V.-P.:

1. This is an appeal by the Commissioner of Inland Revenue by case stated under section 69 of the Inland Revenue Ordinance, Cap. 112 ("the Ordinance") from a decision dated 7th October 1988 of the Board of Review allowing an appeal by the County Shipping Co. Ltd. ("the Taxpayer") against an assessment to profits tax for the year 1985/1986. The appeal has reached this Court direct by reason of the "leap-frog" order dated 13th September 1989 made by power, J. A. pursuant to section 69A of the Ordinance.

2. The following facts were agreed between the Commissioner and the Taxpayer:

And, the following was common ground:

3. The question of law posed for our opinion is formulated in this way:

"Whether on the true construction of the Inland Revenue Ordinance (Cap.112), and in particular sections 16(1), 16(1)(a) and 16(2) thereof, the interest in question incurred by the Taxpayer which does not satisfy the conditions set out in section 16(2), is nonetheless deductible under the introductory words of section 16(l).

 

Section 16 of the Ordinance begins as follows:

 

"16. (1) In ascertaining the profits in respect of which a person is chargeable to tax under this Part for any year of assessment there shall be deducted all outgoings and expenses to the extent to which they are incurred during the basis period for that year of assessment by such person in the production of profits in respect of which he is chargeable to tax under this Part for any period, including -

Subsection (1) of section 16 has 8 more paragraphs.

4. Subsection (2) of section 16 provides:

"(2) The conditions referred to in subsection (1)(a) are that -"

There then follow 6 paragraphs containing various conditions some of which are explained and defined in subsection (3). We are not concerned with subsections (4) and (5).

5. The opening words of section 17 are:

"17. (1) For the purpose of ascertaining profits in respect of which a person is chargeable to tax under this part no deduction shall be allowed in respect of -"

There are then 10 paragraphs setting out deductions which are not allowed.

6. In the stated case, the Board expressed the view, at the beginning of the reasons they gave for their determination, that the appeal depended entirely upon the interpretation of the word "including" where it appeared in section 16(1) of the Ordinance. The Board said that to interpret the meaning of section 16(1) it was necessary to look at the layout of part IV of the Ordinance which related to profits tax. They summarised the content of sections 14 to 17 and the scheme of the Part as a whole and returned to examine section 16 in more detail. They noted that section 16(1) was in two parts; the first part was a general statement that all outgoings and expenses incurred in producing assessable profits were to be deducted, a provision drafted in the widest terms. The clear intention, they concluded, was that a taxpayer should only pay tax on his net profits after all outgoings and expenses had peen deducted. This was, they felt, a perfectly reasonable approach - profits tax was intended to be a tax on net profits ascertained according to ordinary business and accounting principles.

7. The Board went on to say that it was quite clear from the format of Part IV of the Ordinance that section 16 was originally intended to provide exhaustively for what could be deducted when determining assessable profits. Section 16(1) was drafted in the widest terms and permitted the deduction of all outgoings and expenses which would normally be allowed by good business and accountancy principles. This very wide section was then limited by section 17 which provided that certain items were not to be deducted.

8. The board indicated that in making their determination they had derived great assistance from the decision of the privy council in Lo & Lo v. Commissioner of Inland Revenue (1984) 2 HKTC 34, an authority which bound them. They cited two passages from the opinion of their Lordships given by Lord Brightman, firstly, the passage beginning at p.69 where Lord Brightman reviews and summarises the relevant provisions of the Ordinance, and secondly the following, at p.71:

"         The appellant conceded that under the United Kingdom system of taxation. the sum in question would have been allowable as a deduction for the purpose of computing the amount of profits or gains chargeable to tax. It was submitted, however, that the United Kingdom system was fundamentally different from the Hong Kong system. In the United Kingdom, profits or gains fell to be accounted for on ordinary commercial principles subject to a prohibition against certain specified deductions. Under the Hong Kong system of taxation, the legislative scheme is to provide exhaustively for the_. items which may be deducted from receipts when ascertaining the taxable profit, regardless of good accountancy practice. In this respect the Hong Kong legislation was similar to that of Australia and New Zealand, where comparable sums had been held not to be deductible. The appellant referred in particular to CIR v. Mutual Investment Company Limited [1967] 1 AC 587, where Sir Garfield Barwick, delivering the opinion of the Board, said (page 598):

 

'It is clear enough that sections 16 and 17 provide exhaustively for the deduction side of the account which is to yield the assessable profits.'

 

This observation was made in the context of an earlier, but not significantly different, version of the Inland Revenue Ordinance.

 

        It is perfectly correct to say that sections 16 and 17 provide exhaustively for the deductions which are permissible to be made, but not in the sense that permitted deductions are confined to the particular matters specified in paragraphs (a) to (h) of section 16(1). Sections 16 and 17 provide exhaustively for deductions in the sense that permitted deductions are confined to outgoings and expenses incurred in the production of profits in respect of which tax is chargeable; that such permitted deductions expressly include those specified in (a) to (h) of section 16(i), and expressly exclude those in section 17. In the opinion of their Lordships commercial considerations are not wholly to be disregarded in the course of this process. They are relevant for the purpose of deciding what can properly be treated as 'outgoings and expenses .. incurred during the basis period ... in the production of profits in respect of which' the taxpayer is chargeable to tax."

9. The Board of Review then said that it was quite clear from the decision in Lo & Lo that the first part of section 16 (1) had a meaning on its own and was not restricted to the items following the words "including". If the sub-paragraphs appearing in section 16(1) were exclusive, Lo & Lo would have been decided in favour of the Commissioner. None of the "inclusive" sub-paragraphs (a) to (h) referred to the deduction of long service benefits. Accordingly in the present case they had the clearest interpretation from the highest Court that the first part of section 16(1) stood in its own right and that the sub-paragraphs which followed were no more than items included therein but were not exclusive.

10. The Board stated that the only way that the Commissioner could be successful in the appeal would be for section 16(1) to be given the interpretation that the first part of that section was general and all-embracing in its terms, save and except that if any of the sub-paragraphs following the word "including" covered a particular type of outgoing or expense then that type of outgoing or expense was to be limited to whatever might be included in that sub-paragraph. They were unable to read any such meaning into the words of section 16(1). The "inclusive" sub-paragraphs of section 16(1) were nothing more than that. They were merely matters which were included. They did not, and could not limit the meaning of the main part of section 16(1). Furthermore the Board was not prepared to take section 16(1)(a) on its own apart from the other sub-paragraphs and say that interest must stand apart and only be deductible if it were covered by that sub-paragraph.

11. The Board then referred to section 16A of the Ordinance (which provides that special payments under an approved retirement scheme are allowable as a deduction) and said that they obtained further support for the Taxpayer from the Lo & Lo case because, in the privy Council, it had not been submitted that section 16A was all encompassing with regard to deductions of long service benefits. Notwithstanding the clear wording of that section, their Lordships had allowed further deductions for long service benefits. If the sub-paragraphs of section 16(1) were restrictive in meaning then surely section 16A should likewise limit section 16(1). It was worth noting, the Board said, that following the Lo & Lo case, the Financial Secretary had proposed, and the legislature had passed, a number of amendments to section 17 to limit the effect of that decision. This reinforced the proposition that when the legislature wished to restrict deductions, section 17 was the appropriate section to use.

12. The Board pointed out that where the meaning of the words of a statute were quite clear, it was not open to infer other meanings by looking at what may or may not have been the intention of the legislature or the person introducing the legislation. It was necessary to look at the clear words used in the statute and nothing else. In this appeal they could find nothing ambiguous about the word "including" where it is used in section 16(1). They added:

"If, as the Commissioner's representative has said, the draftsman or the Financial Secretary wished to limit what interest can be deducted then he should have done so by means of Section 17 or by introducing another section or sub-section which makes it quite clear that only the interest defined is allowable as a deduction."

13. Before concluding the reasons for their determination, the Board referred to a number of other matters including "problems inherent in locking beyond the clear words of section 16(1) and trying to import the meaning which the Commissioner submits should be given to the 1984 amendments" which I will not review here.

14. We were taken by Counsel through earlier legislative provisions on the lines of section 16 expressly dealing with the deduction of interest in ascertaining profits tax. From this historical review, going back nearly 50 years, I think it is important only to note the statutory regime in force at the time Lo & Lo came before their Lordships in the privy Council, so that that authority can properly be understood, as well as noting relevant legislative activity since that decision.

15. This is how s.16(1)(a) was formulated when Lo & Lo was decided:

"16. (1) In ascertaining the profits in respect of which a person is chargeable to tax under this Part for any year of assessment there shall be deducted all outgoings and expenses, to the extent to which they are incurred during the basis period for that year of assessment by such person in the production of profits in respect of which he is chargeable to tax under this part for any period, including -

There was no subsection (2) at the time.

16. Section 16 of the Ordinance is in its present form very largely due to the amendments made by the Inland Revenue (Amendment) Ordinance, No. 36 of 1984, although a number of minor amendments have been made to that section by subsequent amending Ordinance. It was the 1984 Ordinance which inserted the words "where the conditions set out in subsection (2) are satisfied" before "sums payable" at the beginning of paragraph (a) of section 16(1) and which added specified conditions for the purposes of section 16(1)(a) by section 16(2).

17. In seeking to uphold the decision of the Board, and to persuade us that the answer to the question of law posed should be "yes", Mr. Horton (who did not appear before the Board) has referred us to a number of authorities end to paragraphs 841, 895 and 912 of Halsbury's Laws of England, 4th Edition Vol. 44. I do not think that it is necessary to refer to any of them for, as I shall endeavour to show, in my judgment (and with very great respect to the Board which took a different view) the provisions we have to construe are so clear and unambiguous that the Court's only duty is to give effect to the words used by the legislature.

18. It seems to me that the fundamental misconception in Mr. Horton's submission supporting the Board's interpretation of the relevant statutory provisions is demonstrated by his formulation, in paragraph 4 of his helpful skeleton arguments, of the nature of the controversy which divides the parties. He says:

"4.         The issue between the parties in this appeal is, shortly, whether an item which comes within the general wards at the commencement of s.16(1) is deductible whether or not it also falls within the specific words in paragraphs (a) to (h) of s.16(1). The respondent contends that, providing an item falls within the preamble to s.16(1), it does not matter whether it falls within the specific provisions of paragraphs (a) to (h) or not."

I do not see how Mr. Horton's formulation takes the matter any further. It begs the question and does not begin to address the issue before the Court. Everything depends, of course, upon what the legislature has said. Neither the privy Council in Lo & Lo nor this court in Banque Nationale de Paris Hong Kong Branch v. Commissioner of Inland Revenue (1984) 2 HKTC 139 was concerned with any of the paragraphs of section 16(1), some of which contain in themselves exceptions, provisos, limitations or restrictions.

19. Mr. Horton contended that if the word "including in section 16(1) were given its ordinary and natural meaning, it was a word of extension and not of limitation. If it were a word of extension then, quite apart from the authorities upon which he relied, anything which was included in the opening words of section 16(1) would not be excluded merely because it fell within paragraphs (a) to (h), or failed to fall within those paragraphs.

20. In my judgment, it is quite wrong to attempt to construe what is meant by the word "including" without looking at the context in which it is used. It may be that this is where the Board went wrong for, as we have seen, they seem to have approached the task before them from the stand that "This appeal depends entirely upon the interpretation of the word 'including' where it appears in section 16(1)" (paragraph 7(i) of the stated case). Moreover, much later in the case (paragraph 7(xx)) the Board said that they could find nothing ambiguous about the word "including" in section 16(1). They noted that the word appeared in other sections of which section 2, the definition section was one. The Board then said: "To hold that the word 'including' in section 16(1) should have a different meaning to the same word in other parts of the same Ordinance would require the plainest possible language."

21. In Commissioner of Customs and Excise v. Savoy Hotel Ltd. [1966] 1 WLR 948, at p.954, Sachs, J. made the point about the importance of the context in which the word is used:

" 'Including' is a word to which parliamentary draftsmen seem considerably addicted: one reason for this may be that in law it can have, according to its context, not only one or other of simple but in essence quite differing effects (for instance, in relation to the words that follow it may be found to have been used simply to enlarge, to limit, to define exhaustively or for the avoidance of doubts to repeat the preceding word or phrase), but it may also be used to secure on one and the same occasion more than one of those effects, thus putting the draftsman, but not necessarily the court, in a happy position."

22. It seems to me, too, that Mr. Horton's submissions do not give effect to the whole of section 16, including, of course, subsection (2).

23. He contends, in effect, that in deciding this appeal we should not look beyond the words in section 16(1) which occur before the word "including" and the paragraphs. He says that if the result of giving what he maintains to be clear words their clear meaning was that section 16(2) had no application, then this was no justification for giving those clear words other than their clear meaning. It might well be, he said, that the legislature had made a mistake as the Board had held. If, however, some meaning had to be given to section 16(2) then this could readily be dune without affecting the clear meaning of the words at the commencement of section 16(1) and without adapting the construction contended for by the Commissioner.

24. The first way, he suggested, was by the application of the decision of the Privy Council in Reynolds v. Commissioner of Income Tax [1967] AC 1 on the effect of provisions on the lines of our paragraphs (a) to (h) in our section 16(1) occuring after the word "including" in an income tax statute, where there was also a provision equivalent to Our section 17. Mr. Horton mounted an ingenious argument which was this, if I understood it. In section 16(1)(a) there were some items referred to which would ordinarily be capital (e.g. legal fees, procuration fees, stamp duties and expenses in connection with borrowing) which, where the borrowing itself was on capital account, would be capital items although the interest would be a revenue item. The effect of section 16 (2) and the amendments to section 16 (1) (a) consistently with the privy Council's decision in the Reynolds case was that these items of otherwise capital expenditure would not be disallowed under section 17 provided the borrowings were of the kind set out in section 16(2). They would be disallowed under section 17 if the borrowings were not of the kind set out in section 16(2). Thus, a meaning could be given to section 16(2) consistently (i) with giving the ordinary meaning to the words in section 16(1), (ii) with the decision of the privy Council in the Lo & Lo case and (iii) with the decision of the privy Council in the Reynolds case. Such a construction did not, he submitted, affect the deductibility of the interest in the present case and it would remain deductible.

25. I mean no disrespect to Mr. Horton when I say that I am not persuaded of the necessity or usefulness of discussing the Reynolds case. I prefer to reject Mr. Horton's elaborate submission in favour of a straightforward explanation for the presence of section 16(2) - because section 16(1)(a) makes it perfectly clear that where interest upon money borrowed fur the purpose of producing profits in respect of which a person is chargeable to tax is sought to be deducted, it may be deducted if the provisions of one of the paragraphs of subsection (2) are satisfied but not otherwise.

26. The Board expressed the view that if they were to decide in favour of the Commissioner they would have to hold that the only deductible interest was that which satisfied the conditions of subsection 16(2). They noted firstly that the conditions of subsection 16(2) were not disjunctive because the word "or" had not been included, and the amendment of section 16(1)(a) required "the condictions" to be satisfied and not any one or more thereof. They asked rhetorically whether this meant that only public utilities which were also financial institutions could deduct interest? They thought not. With profound respect, this is far too narrow an approach. It is absolutely clear that paragraphs (a) to (f) of subsection (2) of section 16 are disjunctive. To take the very examples given by the Board, the same item of interest could not be due both to a financial institution and to one of the three named public utility companies in the Third Schedule. And some of the paragraphs contain more than one condition. The difficulties seen by the Board were, in my respectful view, more apparent than real. Mr. Horton did not seek to support this port of the stated case.

27. Nor does the second way suggested for giving some meaning to section 16(2) attract me. This submission is based an the distinction between the use of the word "payable" and of the word "paid" in section 16(1). "Payable" occurs in section 16(1)(a) whereas "paid" is used in section 16(1)(b) and (c). Mr. Horton argued that it might be that it was only interest that remained payable during the basis period which had to fulfil the conditions in section 16.(2) and nut interest which had been paid during that period. Thus, if the interest had been paid during the basis period so that it was no longer sum payable, it would not have to comply with the conditions in section 16(2). The result of all this was that interest that was still payable might be caught by section 16(1)(a) and (2) but not interest that had been paid under section 16(1).

28. It is true that Lord Brightman in Lo & Lo referred to the use of the words "payable" and "paid" it pp. 71-72 but these references do not assist the taxpayer, in my judgment. In so far as interest is concerned, it seems to me that if the opening words of section 16(1) which occur before the word "including" are satisfied, the outgoing will have been incurred whether it has actually been paid or not. As I understood him, Mr. Horton asked us to accept a proposition that the legislature, by the language that it used, had enacted that if interest had been paid, section 16(1) (a) and (2) could be ignored and  it would be deductible. It would not be deductible if interest were still payable and subsection (2) was not satisfied. I cannot accept such a reading of the previsions before us. I note that this argument was not advanced before the Board and that the word "payable" is used in paragraph (iii) of the agreed facts, with no indication when the interest in question was actually paid.

29. The stated case said that it appeared to the Board that the draftsman, when he introduced the words "where the conditions set out in sub-section (2) are satisfies" and subsections 16(2), (3), (4) and (5) might well have made mistake. It seemed to the Board that at least by 1984, there was no need for subparagraph (a) because interest is and was deductible under the general words of section 16(1) as being an expense incurred in the production of profits. With due respect, I am not able to follow or accept this reasoning.

30. Returning to what the Board said about section 16A, since that section was not referred to in argument before the privy Council in the Lo & Lo case and not mentioned in Lord Brightman's judgment, it would not be right "to obtain further support for the Taxpayer from [that case]" founded on the presence of section 16A in the Ordinance.

31. There may well be problems in construing some of the provisions of the Ordinance, and in reconciling some of its provisions with other provisions, but I am bound to say that I find no difficulty whatever in interpretating section 16 so that a negative answer must be given to the question of law posed for our pinion. I would therefore allow the appeal and restore the assessment in so far as it did not allow the deduction of the sum of US$44, 028 interest payable on a loan from the Taxpayer's parent company.

32. Although I have not been able to agree with the Board's conclusions, I wish to express my appreciation for the admirable clarity with which the case is state.

Penlington, J.A. :

33. I agree.

Liu, J.:

34. I also agree.

Fuad, V.-P.:

35. In handing down these judgments we make an order nisi that the Taxpayer pays the Commissioner's costs.