The Commissioner of Inland Revenue v. Zim Israel Navigation Co Ltd

IN THE SUPREME COURT OF HONG KONG

(APPELLATE JURISDICTION)

INLAND REVENUE APPEAL NO. 3 OF 1971

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Coram: Hon. Blair-Kerr, S.P.J.

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JUDGMENT

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1.  The respondent company (hereinafter referred to as “the Company”) was incorporated in Israel on 7th July 1945. It operates the business of shipowners - passenger and cargo services - its Hong Kong agents being Sun Hing Co. Since its incorporation, the Government of Israel has supported the Company by massive injections of capital and by annual subventions to cover its operating losses. The Company was unable to repay certain large loans; and in 1966, the Israeli Government decided to invest £27,000,000 in the Company, thus converting part of the outstanding long-term debt into share capital. At present that Government owns 80% of the authorised, issued and fully paid-up voting shares of the Company, and consequently it has 80% of the voting rights as well as the power to appoint 80% of the total number of directors.

2.  As regards the annual subventions, or grants, to cover operating losses of passenger vessels, the Company received the following sums during the three years 1966 - 1968:–

1966     £11,000,000

1967     £11,000,000

1968     £ 2,842,000.

3.  The Company credited these sums in their annual Statements of Income; and in their Statement of Income for the year ending 31st December 1967, they said:–

“Government grant for Passenger Vessels –£11,000,000

To support the company in maintaining passenger operations, the Government of Israel grants the company an annual sum to supplement its current income from passenger vessels.

Management considers this grant as a direct contribution to the income of passenger operations and the amount of the grant is accordingly included among operating income of the company for 1967. The grant received in a like amount in 1966 has been similarly classified.”

4.  The Company being what is known as a non-resident shipowner, s.23C of the Inland Revenue Ordinance, Cap.112, applies. Subsection (1) of this section, so far as relevant to this appeal, reads:–

“23C(1) Where a person ............... carries on a business as an owner of ships and any ship owned or chartered by him calls at the Colony such person shall be deemed to be carrying on that business in the Colony, and the assessable profits from such business for any year of assessment shall be the sum bearing the same ratio to the aggregate of the sums receivable during the basis period for such year of assessment by such person in respect of the carriage of passengers, mails, livestock, and goods shipped in the Colony, in respect of outward towage undertaken from the Colony and in respect of charter-hire attributable to a permanent establishment maintained by such person in the Colony as his total profits for the basis period bear to the aggregate of the total sums receivable by him during that period in respect of the carriage of passengers, mails, livestock, and goods, in respect of towage and in respect of charter-hire.”

The expression “total profits” is defined in sub-s.(5) as meaning

“........... world profits of a person from his business as an owner of ships as shown by his accounts for such period.”

5.  In other words, Hong Kong assessable profits is a notional figure. What sub-s.(1) of s.23C says, in effect, is: For the purpose of computing the assessable profits of a non-resident shipowner, such profits shall bear the same relation to the Hong Kong income of such a shipowner as the total world profits of such a shipowner bears to his total world income. Expressing it as a simple formula:

If	A = Hong Kong assessable profits; and
	B = Hong Kong income; and
	C = World profits; and
	D = World income.

A is to B as C is to D; or, putting it another way:

	A	=	C
	B		D

Therefore A =	B x C
	D

6.  Non-resident shipowners are required to submit to the Commissioner of Inland Revenue figures relating to B, C and D; and, from these figures, A is calculated by the Commissioner by means of the above statutory formula.

7.  The Company credited the Israeli Government grants to its statements of world income; and it is easy to see how this increased its world profits. To take a simple hypothetical example: Supposing the Company’s world income for any year is £100 million and its world expenditure is £105 million, its loss is £5 million. If, however, the Company receives a grant of £10 million and credits is to world income, its world income is increased to £110 million, and the loss of £5 million for that year is now converted into a profit of £5 million for that year, approximately 5%; and whatever the Company’s Hong Kong income may be, whereas, without the Israeli Government grant there would be no Hong Kong assessable profits, there is now an assessable profit of approximately 5%.

8.  Before the Commissioner and the Board of Review, the Company submitted that these annual grants from the Israeli Government to cover operating losses of passenger vessels were not income; but the Board of Review was unanimously of the opinion that the grants were income; and with that view I am in entire agreement.

9.  However, the majority of the members of the Board took the view that the grants were not “sums receivable ....... in respect of the carriage of passengers” within the meaning of those words in sub-s.(1) of s.23C of the Ordinance, nor were they profits as defined by sub-s.(5) of that section.

10.  This is an appeal by the Commissioner, by way of case stated, from the majority decision of the Board; and the questions posed for the opinion of this court are:–

(1)   whether the majority decision of the Board of Review that the grants received by the Company from the Government of Israel did not fall within the total “sums receivable ...... in respect of the carriage of passengers”, was erroneous in law; and

(2)   whether the majority decision of the Board that the grants received by the Company from the Government of Israel did not fall within the total profits of the taxpayer [as defined in sub-s.(5) of s.23C] for the purposes of sub-s.(1) of that section was erroneous in law.

11.  The majority of the Board expressed themselves thus:–

“.......... the income must .... come clearly within the ambit of the world income ............ under sub-s.(1) of s.23C before it can be taken into account for the ascertainment of its assessable profits according to the formula laid down by that section. For income to be taken into consideration for this purpose it must consist of ‘sums receivable by him ........ in respect of the carriage of passengers ........’ In contrast to the amplification of assessable income from any office or employment of profit by s.9 in the case of Salaries Tax, there is no such amplification of sums receivable in respect of the carriage of passengers. In the absence of clear words to the contrary we consider that it is not justified to extend the meaning of those words beyond fares receivable for the carriage of passengers. It would appear that the government grants were paid to the Company as ‘artificial’ .......... operating income because the sums receivable by it in respect of the carriage of passengers were insufficient to cover the cost of operating its passenger service.”

12.  As regards the Board’s reference to s.9 of the Ordinance, I would draw their attention to what I said in C.I.R. v. Humphrey ^([1]), viz.:–

“The section” (i.e. s.9) “is an ‘inclusive’ one. The legislature has enumerated several of the more common kinds of income; but the section does not purport to define income; and it is perhaps not surprising that no attempt has been made to enumerate all the different kinds of payments which might appropriately be described as ‘income’.”

Section 9 is of no assistance in the interpretation of sub-s.(1) of s.23C.

13.  With respect to majority of the Board, I do not agree that the words “sums receivable ...... in respect of the carriage of passengers” mean “fares receivable for the carriage of passengers.” Words such as “fares” and “earnings” do not appear in the section; nor does it say that the sums in question should be such as are receivable “from passengers” or indeed “for” the carriage of passengers. The section says “...... in respect of the carriage of passengers.”

14.  The grants in question were given to the Company to cover its operating losses of passenger vessels. In other words, the grants were given to enable the Company to carry passengers. If it had ceased to carry passengers, no such grants would have been given. On the agreed facts, as it seems to me, it is not too much to say that the Government of Israel has underwritten the Company’s operations, including its passenger services. I see no reason at all why these grants should not be caught by the words “in respect of the carriage of passengers” in sub-s.(1) of s.23C.

15.  As regards the definition of “total profits” in sub-s.(5), the words “from his business” refer not only to such profits as are attributable to sums receivable from passengers. It was “as an owner of ships” that the Government of Israel gave the Company these grants to cover its losses in the business of operating its passenger vessels; and such grants were shown as income in their accounts.

16.  For the above reasons, I answer in the affirmative both questions posed by the Board for the opinion of this Court. The appeal is accordingly allowed with costs.

R.H. Hindmarsh, Crown Counsel for Appellant.

([1]) H.K. Tax Cases p.451 of p.465.