Hong Kong: Taxpayers entitled to refund of excessive tax reserve certificates purchased plus interest (court decision)

The Court of First Instance issued a decision in a case allowing taxpayers a refund of excessive tax reserve certificates purchased plus interest in unsettled tax dispute cases.

The case is: Besins Healthcare (Hong Kong) Limited v Commissioner of Inland Revenue

The case concerned a judicial review initiated by the taxpayer because the Commissioner of Inland Revenue refused to refund approximately HK$6 million (excess amount) to the taxpayer. The amount represented excessive tax reserve certificates purchased by the taxpayer as a result of a subsequent downward adjustment made by the Commissioner’s determination of the taxpayer’s objection.

The key issues in dispute are:

• Whether the Commissioner has the power to refund or repurchase tax reserve certificates under section 71(7)(d) of the Inland Revenue Ordinance before the substantive tax appeal is finally determined (the illegality issue).
• Whether it is unreasonable and/or irrational for the Commissioner to retain the excess amount when there is no principled basis to do so and given the Commissioner is empowered to vary the terms of the holdover of tax under section 46 of the Interpretation and General Clauses Ordinance (IGCO) (the irrationality issue).

On the issue of illegality, the court reasoned that:

• The same approach needs to apply to both the principal of the excess tax reserve certificates purchased and any interest accruing on it.
• The phrase “final determination of the objection or appeal” refers to the single endpoint of the process comprising an objection and an appeal under the Inland Revenue Ordinance. This means the single endpoint of the objection (if there is no valid appeal) or the objection and the appeal (if there is a valid appeal). The determination of an objection is not the “final determination” if there is an appeal.
• Therefore, it is not illegal or contrary to the Inland Revenue Ordinance for the Commissioner to refuse redeeming or refunding the excess amount and any accrued interest under section 71(7)(d) of the Inland Revenue Ordinance.
• On the other hand, the Commissioner has a discretionary power to vary the original holdover order (i.e., cancel, suspend, amend or substitute any holdover order made) as required.

On the issue of irrationality, the court reasoned that:

• Although the Commissioner’s determination is not the final position of the case and taxes in excess of the amount demanded in the determination may potentially be raised by the Board of Review, the determination reflected the Commissioner’s view that the excess amount is simply not tax payable at the current stage.
• Section 46 of the IGCO permits the Commissioner to amend the initial holdover order. It is therefore unreasonable and/or irrational for the Commissioner to retain the excess amount given the Commissioner conceded himself that he should never have had those funds. It also seems obviously irrational for the Commissioner not to pay interest at the same time as refunding the principal amount.

The Court of First Instance therefore ordered the Commissioner to: (1) vary the terms of the original holdover order, thus the HK$6 million must be held over unconditionally; and (2) refund the principal sum of HK$6 million together with the accrued interest within 21 days.

This case illustrates that when judicial review proceedings on tax matters are brought to the court, it is not only the proper statutory interpretation of the material provisions in the Inland Revenue Ordinance that matters. Consideration also needs to be given to whether the acts of the Inland Revenue Department result in sufficiently serious “unfairness” or “unreasonableness” to taxpayers, justifying judicial interference.

Another potential unfairness to taxpayers in the current objection and appeal process in Hong Kong highlighted by the Court of First Instance in its judgement is the huge disparity between the interest rate on tax reserve certificates payable by the Commissioner (currently at 0.175% annually) and the interest rate on judgment debts payable by taxpayers (currently at 8%).

Taxpayers with a similar situation—the tax demanded in a notice of assessment under objection is subsequently adjusted downwards by the Commissioner, but tax reserve certificates based on the higher amount demanded in the assessment have been purchased—need to consider whether a request for refund of the excessive tax reserve certificates purchased together with the accrued interest must be made in light of the Court of First Instance judgement in this case.

In addition, taxpayers having long outstanding tax disputes with the Inland Revenue Department need to explore effective strategies for early settlement of the cases to minimise the financial implications arising from the requirement to purchase tax reserve certificates (in case of a conditional holdover) or the interest payable upon withdrawal of or failure in the objection or appeal (in case of an unconditional holdover).

For more information contact a KPMG tax professional:

David Ling | +1 609 874 4381 | davidxling@kpmg.com