Case Update: Court of Appeal upholds “deeming” provision for a Real Property Company

In a recently released ground of decision, the Court of Appeal affirmed the High Court decision in Continental Choice Sdn Bhd & CB Ventures Sdn Bhd v Ketua Pengarah Hasil Dalam Negeri in relation to the interpretation of Paragraph 34A Schedule Real Property Gains Tax Act 1967 (“RPGTA”).

Facts:

It is undisputed that one Syarikat Bioford Development Sdn Bhd (“Bioford”) was a controlled company within the context of the RPGTA and Income Tax Act 1967 (“ITA”). Bioford acquired a piece of land in 2004 which represented 99% of Bioford’s total tangible assets. Shortly after the execution of the sale and purchase agreement of the said land, the Appellants acquired Bioford shares. In 2005, the Appellants disposed of their shares in Bioford.

It was contended that Bioford was intending to venture into the property business vide the acquisition of the land. Evidence advanced to prove this included permission to development the land into a mixed development and engaging with professionals to complete the project.

The Director General of Inland Revenue (“DGIR”) then raised Notices of Assessment unto the Appellants which stated the amount of Real Property Gains Tax (“RPGT”) payable by each of the Appellant.

Relevant laws:

Under Paragraph 34A of the RPGTA, a company is deemed to be a real property company if:

  • It is a controlled company:

    1. Controlled by not more than 5 members; and
    2. Has not more than 50 members.
  • Owns real property or shares or both;
  • The defined value is more than 75% of the company’s total tangible assets.

Submissions:

Counsel for the Appellants submitted that as in the case of Binastra Holdings Sdn Bhd v Ketua Pengarah Hasil Dalam Negeri [2001] 5 MLJ 481, Bioford was not a real property company within the spirit of the RPGTA. Bioford is a property development company instead of a “real property company” hence it falls outside the purview of the RPGTA:

‘…RPGT is not payable because the Appellants acquired Bioford’s shares with the intention to be involved in the property development market and Bioford was and is in the business of property development so therefore Bioford is a property development company and not a “real property company” within the ambit of Paragraph 34A Schedule 2 RPGTA 1976’.

Counsel for the Appellants further relied on the explanatory statement in the Finance Bill 1988 which stated that the introduction of Paragraph 34A was to “ensure that individuals do not use companies to acquire land and then dispose of shares in such companies thereby avoiding payment of real property gains tax.” As the land in Bioford was in fact stock in trade and not used as means to avoid paying RPGT, Bioford is a property development company and not a real property company as “the application of paragraph 34A should be limited to real properties that are held as investment properties by the subject company.”

In Binastra, the High Court distinguished the difference between a “chargeable asset” and “chargeable gain”:

“The policy of para 34(6) of Sch 2 of the Act is to bring within the provision of the Act disposal of shares, ‘deemed to be chargeable assets’. The crux of the matter here is that before one treats the shares as deemed to be ‘chargeable assets’, one has to determine whether there is a ‘chargeable asset’ within the meaning of s 3 of the Act. As the ‘chargeable gain’ falls within the ambit of income tax law, the gain does not fall under s 3 of the Act to be treated as ‘chargeable gain’, and hence the asset is not a ‘chargeable asset”

Counsel for the Respondent responded that the distinction between a “real property company” and “property development company” is not provided for under the RPGTA. Bioford is a controlled company that meets the definition of a ‘real property company’ provided under paragraph 34A(6) of Schedule 2 and as such the acquisition of shares in Bioford is ‘deemed’ an acquisition of a ‘chargeable asset’ and their subsequent disposal was clearly a disposal of a ‘chargeable asset’

Counsel for the Respondent held that as Binastra was overturned by the Court of Appeal, Binastra is no longer good law.

Decision

The Court of Appeal dismissed the appeal and upheld the notices of assessment.

The Court of Appeal agreed with the Respondent that nowhere within the RPGTA “, that only a company that is used by its shareholder and intended as a device or means to avoid RPGT may be regarded as a ‘real property company’ falling within the ambit of Paragraph 34A.” The Court held that the object of Paragraph 34A was to deem as chargeable asset something that was not regarded as a chargeable asset prior to the introduction of Paragraph 34A.

In particular, the Court of Appeal found that if the Parliament intended restrict Paragraph 34A to only circumstances where there is alleged avoidance of RPGTA, there is already in place Section 25 for such purposes. Section 25 is the anti-avoidance provision within the RPGTA

However, the Court of Appeal agreed that Bioford, as a property development company, disposes of real property, it would be subjected to the ITA instead of the RPGTA.

Comments

The position of Paragraph 34A within the scheme of the RPGTA is a peculiar one. This is because it deems the disposal of shares within a real property company to be subjected to RPGT whereas disposal of real property by the real property company is subjected to income tax.

Before the introduction of Paragraph 34A, individual taxpayers were using companies as means to acquire and dispose of real property without being subject to any taxes. Instead of selling the land itself, taxpayers would sell the shares within the company holding the land. The introduction of Paragraph 34A was to remedy the loophole under the RPGTA regime.

That being said, it is generally understood that property development companies are not real property companies or else it would lead to confusion as to the application of ITA or RPGTA. The corollary of Paragraph 34A is that although the sale of real property by a property development company is subject to income tax, the sale of real property shares within a property development company is subjected to real property gains tax instead.