Hongkong International Terminals Ltd V. Commissioner of Inland Revenue (1)

HONGKONG INTERNATIONAL TERMINALS LTD v. COMMISSIONER OF INLAND REVENUE

Court of First Instance

2007.02.13

HCIA15/2005

[2007] 2 HKJC 142, 2006 HKRC 90-186, [2007] 2 HKJR 8

Profits tax — Interest deduction — Artificial or fictitious transaction — One of two appeals —Alleged borrowing by the taxpayer — Acquisition of the Port — Board held that there was no real money — Circularity of funds — Dominant purpose to obtain tax benefit — Merely part of the facade to secure interest deduction — Appeal allowed — Interest payment deductible under sec 16 — Remit matter to the Board for consideration of sec 61A — Inland Revenue Ordinance, sec 16, 61, 61A .

Judge(s):   Robert Tang, Doreen Le Pichon

Catchwords:   Profits tax — Interest deduction — Artificial or fictitious transaction — One of two appeals —Alleged borrowing by the taxpayer — Acquisition of the Port — Board held that there was no real money — Circularity of funds — Dominant purpose to obtain tax benefit — Merely part of the facade to secure interest deduction — Appeal allowed — Interest payment deductible under sec 16 — Remit matter to the Board for consideration of sec 61A — Inland Revenue Ordinance, sec 16, 61, 61A .

Abstract:   

This was an appeal by the taxpayer against the Board of Review’s decision in (2005) HKRC ¶81-105 and the appeal came directly to the Court of Appeal. This appeal was heard together with HIT Finance Limited v Commissioner of Inland Revenue (2006) HKRC ¶90-185.

Under a Sale and Purchase Agreement dated 28 November 1994, the taxpayer purchased from a group company, HIT Holdings Limited (“HIT Holdings”), the assets employed in the business formerly carried on by HIT Holdings at Kwai Chung Container Port Terminals 4, 6 and 7 (“the Port”), together with other assets and subject to liabilities of that business for $23 billion. Among others, the consideration to be paid by the taxpayer to HIT Holdings included a sum of $10,394,275,824. It was the taxpayer’s case that it paid the sum to HIT Holdings by means of a loan of US$1,735 million, made by HIT Finance Ltd (“HIT Finance”), the wholly owned subsidiary of HIT Holdings.

HIT Finance was able to make the loan to the taxpayer as a result of the issuance of guaranteed floating rate notes (“the Notes”) listed on the Luxembourg Stock Exchange with a face value of US$1,735 million. The due and punctual payment of principal and interest in respect of the Notes were unconditionally and irrevocably guaranteed by the taxpayer and irrevocably guaranteed by another associate company, Lunogo Limited. The Notes were arranged by Paribas Asia Limited (“PAL”) and it undertook to subscribe for US1,208,000,000 of the Notes. Another group company, Strategic Investments Ltd (“Strategic”), agreed to buy $1,148 million of the Notes (“Strategic Notes”) from PAL.

The purchase by Strategic of the Strategic Notes was financed by a circular transaction involving the following:

• (i) Strategic only had the money to purchase the Strategic Notes until it was lent the money by HIT Investments Ltd (“HIT Investments”), a related company;

[145542]

• (ii) HIT Investments relied on the dividend of US$1,255,938,818 from HIT Holdings;
• (iii) HIT Holdings paid the dividend out of the part payment of purchase price by the taxpayer;
• (iv) The taxpayer was lent the proceeds of the Notes by HIT Finance which included the payment by Strategic for the Notes.

The taxpayer claimed a deduction for the interest paid to HIT Finance in computing its assessable profits. The Commissioner disallowed the interest deduction. The taxpayer’s appeal to the Board was unsuccessful. The Board held that due to the circularity of the movement of funds, there was no real money involved and the Strategic Notes were never paid for. It also held that the taxpayer did not in fact borrow any money from HIT Finance to the extent of $1,148 million. The alleged borrowing was merely part of the facade to secure an interest deduction.

The Court of Appeal considered that the circularity was not determinative of any issue in this appeal. The Court viewed that it was uncontrovertible that pursuant to the Port Purchase Agreement, the taxpayer had acquired assets from HIT Holdings and that the relevant part of the consideration was paid on 28 November 1994, and that it was able to do with the monies lent to it by HIT Finance. In addition, there was nothing unreal about the Strategic Notes and it was clear that such notes had legal as well as commercial effect.