Case Updates

Case Update: Clarifying Deductibility in R&D Expenditure Dispute

Share:

Print
29 December 2023

TAX LAW
R&D Expenditure – Special Commissioners of Income Tax – Enduring Benefit Test – Income Tax Act – Appeal

Ketua Pengarah Hasil Dalam Negeri v ABTP Marketing Sdn. Bhd.
Civil Appeal No. W-01(A)-561-09/2021 | Court of Appeal
- see the grounds of judgment here

Facts ABTP Marketing Sdn Bhd (ABTP)(the ‘Respondent’) was appointed as the marketing channel for anti-bacterial triple-layer polymer water pipes for another company, namely ME-Plas (M) Sdn Bhd (ME-Plas). ABTP purchased two PVC mixing machines and placed them in ME-Plas’ premises. ABTP purchased raw materials from a third party for the manufacture of the anti-bacterial compounds. It then supplied the said raw materials to ME-Plas which mixed the same into anti-bacterial triple polymer compounds for ABTP. ME-Plas charged ABTP for mixing the compounds through debit notes. ME-Plas then purchased the compounds from ABTP and manufactured the anti-bacterial polymer pipes. ABTP as the marketing channel company purchased the said pipes from ME-Plas. Arising from the above arrangement, ABTP made a number of claims for deduction for YA 2010, YA 2011 and YA 2012. After an audit made in 2014, the Inland Revenue Board (the ‘Appellant’) raised additional assessment for the same years in respect of the said claims. The Revenue also imposed a penalty under s. 113(3) of the Income Tax Act (ITA). ABTP appealed to the Special Commissioners of Income Tax (SCIT). The appeal was partially allowed as the SCIT allowed the deduction for the R&D expenditure and capital allowance and hire purchase interest for the machinery owned by ABTP. The SCIT did not allow deduction for commission paid for raw materials and banker’s commission. As the appeal was only partially successful, the SCIT upheld the decision to impose penalty under s. 113(1) of the ITA. Both parties subsequently appealed to the High Court. The learned High Court Judge allowed the appeal of ABTP and dismissed the appeal of the Respondent which meant that all the expenses were held to be deductible. The decision of the Respondent to impose the s. 113(2) penalty was also set aside by the High Court. Hence this appeal.

Issues 1. Whether the Research and Development (R&D) expenditure of RM226,651.55 for the YA 2011 and 2012 is an allowable deduction under section 34(7) of the ITA?
2. Whether penalty was correctly imposed on ABTP for making an incorrect return under section 113(2) of the Income Tax Act 1967?

Held In allowing the appeal in part, the Court of Appeal affirmed the SCIT's decision disallowing the R&D expenditures as deductible. It held that the R&D expenses were substantially capital in nature and were caught by s. 39(1)(c) of the ITA. The Court of Appeal acknowledged ABTP's right to expand its business but emphasized that the capital nature of the R&D expenditure was not adequately addressed and that pursuant to the enduring benefit test, if an expenditure is made to bring into existence an asset or advantage for the enduring benefit of a trade, it is treated as capital expenditure. Hence, the R&D expense, aimed at obtaining the formula for manufacturing anti-bacterial compounds, resulted in an enduring benefit and was substantially a capital expenditure. The Court of Appeal however upheld the deductibility of commission paid to raw material suppliers, 5% interest on a loan, and sales commission. The Court of Appeal accepted that these expenses were incurred in the process of generating revenue and were not of a capital nature. With regard to penalty, the Court of Appeal affirmed the decision of the Respondent to impose a penalty in respect of the incorrect return pertaining to the R&D expenditure that they found not to be deductible. In conclusion, the Court of Appeal varied the decision of the High Court in respect of the R&D expense and the penalty imposed under s. 113 of the ITA in and the rest of the decision of the High Court was affirmed.

Zul Rafique & Partners
{29 December 2023}

Please email your details to [email protected] if you would like to subscribe to our Knowledge Centre.

Let's Connect!
➭ LINKEDIN: Zul Rafique & Partners
➭ INSTAGRAM: @zrplaw