The Deductibility Of Valuation Fee: CP Sdn Bhd v KPHDN
Recently, the Court of Appeal set aside the Director General of Inland Revenue’s (DGIR) decision in disallowing the taxpayer’s deduction of valuation fee incurred pursuant to Section 33(1) of the Income Tax Act 1967 (ITA). The decision of the High Court which was in favour of the taxpayer was affirmed unanimously by the Court of Appeal.
Our Tax, SST & Customs Partner, S. Saravana Kumar successfully represented the taxpayer in this case. He was assisted by associate, Nur Amira Ahmad Azhar.
Facts Of The Case
The taxpayer’s principal activities were property investment, property development and rental property. The taxpayer had incurred valuation fee in the course of obtaining a valuation report in compliance with the Financial Reporting Standard (FRS 140). The valuation report was commissioned to ascertain the market value of the unsold retail lots and 1007 car park bays within the BJ Megamall shopping complex in Kuantan, Pahang.
The DGIR did not allow the valuation fee to be deducted as a business expense. The taxpayer filed an appeal to the Special Commissioners of Income Tax (SCIT), who ruled in favour of the DGIR. The taxpayer appealed to the High Court against the decision of the SCIT and won. The High Court allowed the taxpayer’s appeal.
The High Court’s Grounds Of Judgment
Upon hearing the arguments of both parties, the High Court ruled in favour of the taxpayer. According to the court, valuation fee is deductible as an expense under Section 33(1) of the ITA as it is an outgoing and expense wholly and exclusively incurred in the production of gross income. It must be appreciated that as the taxpayer’s principal activities being property development, property investment and rental properties, the valuation report was crucial to the taxpayer’s business. The valuation report guided the taxpayer to ascertain the market value of the taxpayer’s properties in order to determine the appropriate rental to be charged for its investment properties and the opening price for its stocks in trade i.e. the inventories for sale.
Further, based on the SCIT’s finding in the case stated, the taxpayer’s witness had explained in detail of the nexus between the expenditure incurred and the taxpayer’s business. It is common for a company that deals with property to incur expenditure of this nature. In fact, the DGIR’s Public Ruling No. 6/2006 at paragraph 5.8 states that professional expenses incurred by a developer or a dealer in property for valuation in land is a deductible expense.
Dissatisfied with the High Court’s ruling, the DGIR appealed to the Court of Appeal.
The DGIR’s Arguments
The DGIR stated that the valuation fee was not incurred wholly and exclusively in the taxpayer’s production of income. Instead, it was incurred for the purpose of the FRS 140 Financial Statement i.e. for the preparation of the audit report. It was incurred specifically for the taxpayer’s auditing purposes.
Additionally, the DGIR submitted that it was not a mandatory requirement under the FRS 140 to engage an independent and professional valuer to determine the value of the taxpayer’s asset.
The Taxpayer’s Argument
The taxpayer highlighted that the preparation of the FRS 140 Financial Statement is specifically allowed as a deduction under the Income Tax (Deduction for Audit Expenditure) Rules 2006.
Even if the valuation fee was incurred solely for the FRS 140 Financial Statement, it is still deductible so long as it fulfils the test under Section 33(1) of the ITA. The FRS 140 permits entities to either adopt the fair value model or a cost model to measure the property. The taxpayer had in the present instance adopted a fair value model to measure its property.
Further, the DGIR’s Public Ruling No. 6/2006 at paragraph 5.8 states that professional expenses incurred by a developer or a dealer in property for valuation in land is a deductible expense. The preparation of the FRS 140 Financial Statement is specifically also allowed as a deduction under the Income Tax (Deduction for Audit Expenditure) Rules 2006.
Finally, the taxpayer highlighted two landmark cases in relation to the issue of the deductibility of valuation fees. Firstly, the case of Comptroller of Income Tax v IA  4 SLR(R) 161, whereby the Singapore’s Court of Appeal held that other borrowing costs (which amongst others includes Property Valuer's fees for valuation of the Land and the Condo Project as required under the Syndicated Loan) incurred to raise funds to construct a property for sale are deductible.
Secondly, the Federal Court of Australia in the case of Eastern Nitrogen Ltd v Commissioner of Taxation (2001) 188 ALR 415 has also held that the valuation fee incurred by the taxpayer is a deductible expense.
The decision of the Court of Appeal is a relief as it gives an assurance to property developers that valuation fee is a deductible expense under Section 33(1) of the ITA. The DGIR had failed to appreciate and consider the taxpayer’s business and principal activities as a whole, i.e. property development, property investment and rental properties in determining whether an expense is deductible under Section 33(1) of the ITA.
Just because the valuation fee benefitted the taxpayer in many other ways does not negate the fact that the valuation fee was incurred so that the taxpayer can ascertain the fair value of its property.
Hence, all expenses attached to the performance of a business operation for the purpose of earning income are deductible whether such expenses are necessary for its performance or attached to it by chance. The courts have taken the view that so long as it is incurred for the more efficient performance of the business and are so closely connected with the business, the expenses should be allowed a deduction.
Authored by Amira Azhar, an associate from the firm’s Tax, SST and Customs practice.
11 November 2021