EXECUTIVE OFFSHORE SHIPPING SDN BHD v Ketua Pengarah Hasil Dalam Negeri (WA-25-388-12/2021)

The applicant company is in the business of chartering offshore support vessels. It is related to another company, one Eagle High (L) Limited (“EHLL”). EHLL is a ship-owning company. Both companies are part of the same group known as Executive Offshore Group.

EHLL had provided (i) charter hire of vessels and (ii) crew management services to the applicant company for the Years of Assessment (“YAs”) 2014 to 2016. In consideration of the services rendered by EHLL, the applicant paid EHLL a cost-plus mark-up rate of 35% as the charter hire and crew management fee.

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On 23.1.2017, the respondent (“DGIR”) conducted an audit on the applicant. The applicants position is that the transaction between the company and EHLL is at arm’s length. The DGIR disputed this. It asserted that the applicant had underreported the company’s income for YAs 2014 to 2016. The Revenue contended that the applicant's benchmarking analysis and selected comparable companies are inaccurate and unsuitable as the applicant companies had more than 20% related-party transactions and that no financial data was provided in relation to the comparable companies. After a series of exchanges of correspondence between the parties, the DGIR rejected the applicant's comparable companies and transfer pricing methods. Eventually, the DGIR decided to exercise his power under s 140A of the Income Tax Act 1967 (“ITA”). The said provision empowers the DGIR to make an adjustment on transaction goods, services or financial assistance carried out between related companies to reflect the arm’s length price or interest rate for that transaction by substituting or imputing the price or interest based on the arm’s length principle. By a letter dated 30.11.2021, the DGIR issued a letter subjecting the applicant to additional tax and penalty (“the Assessments”) amounting to RM19,808,218.39 for YAs 2014 to 2016 (‘the impugned decision’). The Judicial Review

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Aggrieved, the applicant commenced this application for leave for judicial review to quash the impugned decision in the form of the Assessments on the grounds that the impugned decision was inter alia unlawful, irrational or otherwise unreasonable. Leave to commence judicial review was granted by this Court on 27.9.2022. The Revenue filed an appeal to the Court of Appeal on the granting of leave but subsequently withdrew the appeal on 23.12.2022. 2 .

The application is supported by the affidavit of Ling Koi Li (“Ling”) in Encl 2 (“AlS-2”). Ms Ling is the applicant's Account Manager. There are exchanges of affidavits between the parties, which will be referred to in this judgment as and when the need arises.

The grounds of the application, as reflected in AIS-2, can be summarised as follows: (a) (b) The Revenue is required under the law to provide supporting transfer pricing documentation to support the contention that the taxpayer’s transfer pricing documentation is inappropriate. The applicant should not have been kept in the dark about how the Revenue came to its transfer pricing adjustment. In short, according to the applicant, the Revenue should not have acted arbitrarily and should have proffered reasons and evidence to support its decision. The Revenue had merely pointed out to the applicant the suitability of its selected comparable companies but did not provide any reason for rejecting the applicant's comparable companies. Since the Revenue did not proffer any reasons in arriving at the impugned decision the only conclusion that this Court can make is that it was made without any proper basis. The Revenue failed to take into account that EHLL is governed by the Labuan Business Authority Tax Act 1999 (“LBATA"”), in which case the arm’s length principle does not apply prior to the coming into effect of s 17D of LBATA on 1.1.2020. The Revenue had failed to consider the legitimate expectations of the applicant that there was no additional tax liability pursuant to tax clearance from the Revenue’s letter dated 14.5.2020.

In short, according to the applicant, the Revenue’s decision in raising the Assessments is based on the following grounds: (a) The applicant had allegedly engaged in tax avoidance transactions; and 3 . (b)

The comparables and Transfer Pricing Method (“TP Method”) selected by the applicant are inappropriate. In any event, the mark-up rate of 35% for the charter hire fees of vessels and the crew management fees are not at arm’s length. In its affidavit in reply in Encl 55 (“AIR-55”), the Revenue, through Zainal Azam bin Zainal Ratin, referred to ss 140A and 140 of the ITA. Encik Zainal Azam is the Section Head, Special Industry Branch of the Revenue. In para 11(iii) and (iv) of AIR-55, Encik Zainal Azam affirmed as follows: (iii) Responden telah membuat pelarasan harga di bawah seksyen 140A ACP 1967 berdasarkan kepada syarikat perbandingan yang dipilih = oleh Responden dan telah menggunakan kaedah pindahan harga yang pada hemat Responden lebih wajar digunakan bagi mendapatkan harga selengan dalam transaksi yang melibatkan Pemohon dan EHLL. Selain itu, Pemohon bukan entiti Labuan yang tertakluk kepada LBATA sebaliknya hanya EHLL yang merupakan entiti Labuan. Oleh itu, Pemohon adalah tertakluk kepada Seksyen 140 ACP 1967.

S 140(1) of the ITA provides as follows: (1) The Director General, where he has reason to believe that any transaction has the direct or indirect effect of— (a) altering the incidence of tax which is payable or suffered by or which would otherwise have been payable or suffered by any person; relieving any person from any liability which has arisen or which would otherwise have arisen to pay tax or to make a return; (c) evading or avoiding any duty or liability which is imposed or would 4 otherwise have been imposed on any person by this Act; or (d) hindering or preventing the operation of this Act in any respect, may, without prejudice to such validity as it may have in any other respect or for any other purpose, disregard or vary the transaction and make such adjustments as he thinks fit with a view to counteracting the whole or any part of any such direct or indirect effect of the transaction.

Under s 140, the DGIR is given the authority to ignore a certain tax transaction if there is no commercial sense in the arrangement other than to avoid tax. On the other hand, s 140A(3) empowers the DGIR to substitute transfer prices carried out between associated persons if he has reason to believe that they are not based on the arm’s length principle.

The applicant company took exception to the Revenue’s invocation of ss 140 and 140A of the ITA. According to the applicant, ss 140 and 140A were never raised by the Revenue in either the Revenue’s audit findings letter dated 17.9.2021 or the final audit findings dated 26.11.2021.

It is for this reason that the applicant contended that even if ss 140 and 140A were invoked during the tax audit, the Revenue still had failed to specify which limbs under ss 140(1) and 140A(3) of the ITA it relied on when raising the Assessments.

Learned counsel cited a line of authorities and contended that the phrase “reason to believe” is an objective assessment rather than a purely subjective consideration. In short, according to learned counsel for the applicant, it is not a purely subjective satisfaction of the DGIR. According to learned counsel, such belief may not be based on mere suspicion — it must be founded on information; Calcutta Discount Co Ltd v Income Tax Officer AIR [1961] 41 ITR 191 SC. Note : Serial number will be used to verify the originality é this document via eFILING portal

Based on the said proposition, learned counsel submitted that the Revenue bears the burden of proving sufficient cause to believe that the transactions between the applicant and its related party, EHLL, were tax avoidance.

In its letter on the audit findings dated 17.9.2021, the Revenue insisted that there exists a profit imbalance between the applicant and EHLL. According to the Revenue, EHLL earned a substantial portion of the gross income from ship ownership, while the applicant bore the burden of costs. Para 8 of the Finding states as follows: Sedangkan kadar penentuan sewaan kapal dan kru oleh EHLL kepada EOSSB [the applicant] boleh ditentukan pada kadar yang membawa keuntungan dengan lebih saksama kepada kedua-dua pihak memandangkan kedua- duanya adalah syarikat berkaitan. Kadar pendapat kasar dari pemilikan kapal hanya diraih sebahagian besar oleh pemilik, EHLL dengan tanggungan yang ketara dituntut oleh EOSSB, membawa ketidakseimbangan keuntungan di antara dua pihak ini.

For the aforesaid reason, the Revenue was of the view that the transactions had resulted in a tax leakage effect (“memberikan kesan cukai dan ketirisan kepada negara") as the imposition of tax to EHLL is more beneficial under the LBATA than the proper declaration of income by the applicant taxed under the ITA.

In its response by way of a letter dated 5.10.2021, the applicant provided a justification to the Revenue on the reasons for the selection of the mark-up rate of 35% on the charter hire of vessels and crew management services. In the said letter, the applicant referred to its Transfer Pricing Report 2016 (“The TP Report”). The applicant explained that the CPM (Cost Plus Method) was selected as the most appropriate method for evaluating the transactions.

The TP Report goes on to explain as follows: For the application of CPM, a sample of independent companies in Malaysia that engage in functionally comparable activities to those undertaken by EHLL was developed and their cost markup was evaluated... A weighted average for each company over the three-year

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period 2013, 2014 and 2015 was then calculated and subsequently, an interquartile range for the calculated averages was developed and used as indication of an arm’s length return for the services performed by EHLL. According to learned counsel, the applicant had provided all the required information and explanation to the Revenue during the tax audit. In the circumstances, the mere allegations raised by the Revenue do not - learned counsel submitted- constitute “reasons to believe”. In any event, learned counsel for the applicant submitted that the alleged application of s 140 and 140A was first invoked by the Revenue upon the Assessments being challenged in this application for judicial review. It was first raised by Encik Zainal Azam in AIR- 55. Learned counsel then contended that this is patently unfair since the applicant was never informed that they were investigated either under s 140 or s 140A throughout the tax audit conducted by the Revenue. At this stage, allow me to highlight that the Revenue is not agreeable with the CPM employed by the applicant. This is reflected in its Final Audit Finding dated 26.11.2021. According to the Revenue, the Transactional Net Margin Method (“TNMM”) is more appropriate compared to the CPM. The Revenue argued in the letter that CPM only takes into account the direct factors and does not reflect the entire business activities of the tested party, which is EHLL. The Final Audit Finding further made the following observation: Tambahan lagi, pemilihan comparables yang salah di mana di dalam kes ini, syarikat-syarikat perbandingan dipilih bukan sahaja memiliki transaksi dengan pihak berkaitan yang sangat signifikan, malahan dengan kerugian yang besar dan satunya tiada maklumat beroperasi di dalam negara.

At the outset, let me highlight that in addition to this application for judicial review, the applicant has filed an appeal under s 99 of the ITA to the Special Commissioners of Income Tax (“SCIT”) against the Assessments on 27.12.2021. Copies of Form Q, which is the notice of appeal to the SCIT, are shown in Exh A-1 of AIR-55.

This issue was raised by the learned Senior Revenue Counsel (“SRC”) at the leave stage. At the hearing during the leave stage, my attention was drawn to the judgment of the Court of Appeal in Berjaya Times Square Sdn Bhd v. Ketua Pengarah Hasil Dalam Negeri (2021) MSTC 930-454 CA.

According to the Court of Appeal, the taxpayer in that case rightly argued that the existence of domestic remedy is no bar to judicial review. Still, the Court of Appeal further held that where there was another avenue or remedy available to the applicant, it would be exercised only in exceptional circumstances, which would be determined depending on the factual matrix of each case. Thus, the applicant first had to exhaust the remedy provided under the applicable Act and show a clear lack of jurisdiction or a blatant failure to perform some statutory duty or a serious breach of natural justice.

| decided to grant leave since, on the facts of the case, at least at the leave stage, there was an allegation that the DGIR, in raising the Assessments, had ignored the statutory provision under the LBATA. At that stage, | was of the view that the allegation stood unrebutted and therefore, comes within the exceptions outlined in Berjaya Times Square and Government of Malaysia v. Jagdis Singh

2 MLJ 185 SC.

However, this does not mean that the Revenue cannot recanvass the issue at the substantive stage. The law, | believe, can be found in the judgment of the Court of Appeal in QSR Brands Bhd v Suruhanjaya Sekuriti & Anor [2006] 3 MLJ 164 CA, where it was held that the issue of the domestic remedy could only be canvassed at the substantive stage. Gopal Sri Ram JCA (later FCJ) remarked as follows:

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In the light of these weighty authorities, it is manifestly clear that it is only at the hearing of the substantive motion for judicial review that the existence of an alternative remedy becomes relevant. A fortiori, it is a matter which does not fall to be considered on a leave application. Before me, it is therefore not surprising that the learned SRC has taken steps to recanvass the issue that the domestic remedy housed in s 99 of the ITA has to be exhausted first by the applicant. The line of argument of the learned SRC is this. The issue in dispute is whether there was a blatant failure to perform a statutory duty on the part of the DGIR, as alleged by the applicant. Unlike at the leave stage, at this substantive stage, | have the benefit of reading the Revenue’s version of the dispute. In the Final Audit Finding dated 26.11.2021, the Revenue explained in great detail why the TNMM is a more appropriate method than the CPM. This is further explained by Encik Zainal Azam in AIR-55. | do not, with respect, think that by referring ss 140 and 140A for the first time in his affidavit in reply, Encik Zainal Azam has attempted to improvise the Revenue’s reasoning in raising the Assessments. He was merely amplifying it. As contended by the learned SRC, that is a matter of opinion — which may be right or wrong. In essence, it becomes apparent to me that the dispute as to whether CPM or TNMM is a more appropriate method of transfer pricing is highly factual. The same goes for whether the words expressed in the Final Audit Finding are sufficient to conclude that the DGIR was indeed referring to his discretion under ss 140 and 140(A) of the ITA. The issue is, therefore, hinges on the question of facts. What then is the law? The law, | believe, can be found in the judgment of the Federal Court in Ketua Pengarah Hasil Dalam Negeri v Alcatel-Lucent Malaysia Sdn Bhd & Anor [2017] 1 MLJ 563 FC. The Federal Court held that an appeal before the SCIT under s 99 of the ITA would have given the respondents an opportunity to challenge the decision of the Revenue as to whether the payments were indeed royalty or otherwise. The respondents would also have had the chance to rebut s 15A of the ITA, which provides that certain income, including the services rendered by the Note : Serial number will be used to verify the originality & this document via eFILING portal second respondent to the first respondent, shall be deemed derived from Malaysia.

Suriyadi Halim Omar FCJ, in delivering the leading judgment of the Court, held as follows: Had the respondents filed an appeal before the Special Commissioners, where the onus is on the respondents to establish their position, they will be accorded every opportunity to show where the appellant went wrong. The respondents may request for the attendance of witnesses to give evidence on oath and request any witness to produce any books, papers or documents which are in his custody or his control necessary for purposes of the appeal. Therefore, before the Special Commissioners the respondents will have all the opportunity to ventilate his disgruntlement, with every opportunity to undo what the appellant determined (see Director-General of Inland Revenue v. Lahad Datu Timber Sdn Bhd [1977] CLJU 26; [1977] 1 LNS 26; [1978] 1 MLJ 203).

Likewise, in the instant case, since the dispute between the applicant and the Revenue revolves around the appropriate methods of transfer pricing, it is essentially factual in nature. Since the dispute is essentially factual, the SCIT being judges of facts, are the best for hearing and deciding on tax grievances. The said proposition was stated unequivocally by the Court of Appeal in Ketua Pengarah Hasil Dalam Negeri v Mudah.My Sdn Bhd

2 MLJ 197 CA. Findings

In the circumstances, my findings are as follows: (a) Although leave has been granted on the facts available before the Court then, the Revenue can still recanvass the issue of the alternative remedy in the form of an appeal to the SCIT under s 99 of the ITA at the substantive stage. = Note : Serial number will be used to verify the originality bP this document via eFILING portal (b) Unlike at the leave stage, at the substantive stage, this Court has the benefit of reading the affidavits of all parties concerned, including the Revenue's explanation of how it arrived at the impugned decision in raising the Assessments. After having read the affidavit evidence, it is clear to this Court that the dispute between the parties revolves around what is the best method of transfer pricing. While the applicant is of the view that the appropriate method is the CPM, the Revenue insists that based on the facts of the case, the more proper method would be the TNMM. Under the circumstances, the dispute is confined to the issue of facts. This include whether the DGIR has addressed his mind properly on the “reason to believe” before exercising his discretion under ss 140 and 140A of the ITA. On the authority of Alcatel-Lucent and Mudah.My, issues of facts are best addressed by the SCIT being the judges of facts. Since the applicant has commenced its appeal by opening the doors of SCIT, it is best to let the SCIT continue determining the appeal under s 99 of the ITA.

This application for judicial review is dismissed.

Costs is fixed for RM3,000 subject to allocatur. Tarikh: 23 Ogos 2024 |¢ (WAN AHMAD FARID BIN WAN SALLE) Hakim Mahkamah Tinggi Kuala Lumpur. Note : Serial number will be used to verify the originality HH this document via eFILING portal Pihak-pihak: Bagi Pihak Pemohon : S Saravana Kumar, Amira Ahmad Azhar & Tan Jia Hua, Felicia Wong Sie Ying Tetuan Rosli Dahlan Saravana Partnership Bagi Pihak Responden: Mohd Harris Bin Hanapi, Mohamad Asyraf Zakaria RC Azleena Binti Md Khairuddin RC Lembaga Hasil Dalam Negeri (LHDN) Note : Serial number will be used to verify the originality Uyhis document via eFILING portal