Thai Supreme Court (Dhika Court) recently ruled that the share premium paid to a company upon its increase of capital for the specific purpose of settlement of debts to its creditors immediately followed by its liquidation was deemed taxable income of the Company.
In 2008, Thai Revenue Department (RD) issued an Advance Ruling No. GorKor 0702/3214 saying that a share premium—the value of share received by a company in excess of its par value—was not principally deemed taxable income. Nonetheless, if the capital increase was not made in accordance with the law or the excess value of share was excessively determined or there was any hidden agenda behind the capital increase, e.g. in order to grant a gratuity, subsidy, or other financial support, the value of share in excess of its actual value might be deemed taxable income of the company.
Later on, Thailand’s Central Tax Court ruled in the case of a US chemical MNC (multinational company) in late 2011 and the case of a Japanese IT MNC in early 2012 that the payment of share premium was not for economic purpose, given the value of shares and the company. The court held that the share premium was deemed a subsidy and hence subjected to income tax.
Supreme Court Judgment No. 5812/2557
In the Supreme Court’s Judgment No. 5812/2557, the Court gave the final judgment on the chemical MNC’s Case, endorsing a certain concept laid down in the RD’s Advance Ruling as well as the Central Tax Court’s judgments.
In this case, the plaintiff has had outstanding debts to various foreign banks, amounting to US$30 million, in 2001. In order to prevent the plaintiff from bankruptcy, which might adversely affect the reputation of its parent company, the plaintiff, the parent company and the banks have executed the Release and Settlement Agreement. According to the Agreement, the creditor banks have agreed to discharge the US$30 million debt, subject to the plaintiff’s settlement of US$20 million of which amount to be injected by the parent company by means of capital increase. Having consulted with one of the biggest international law firm, the plaintiff has not simply issued its capital shares with the par value covering the whole repayable amount but has issued just 1,000 shares, of which par value is THB 100,000, with the tremendous amount of THB 906 million share premium. It has been claimed by the plaintiff that the premium has been issued to keep the 49/51 foreign/Thai shareholding ratio in the company so as to avert the violation of the Foreign Business Act and also overcome the foreigner’s land owning prohibition under the Land Code. Right after the injection of capital, the plaintiff has settled the debts to the creditor banks and in turn dissolved the plaintiff company.
Among other arguable issues, the Court ruled that the premium has not been paid for the same purpose as normal payment of shares by shareholders, i.e. to seek benefits or profits from the operation of the company—which implies that the any increase of capital must be made for profitable or economic reasons only. The payment has been made in order to be used for settlement of the debts to its creditor banks, followed by disposal of assets before dissolution of the plaintiff company, and accordingly deemed gratuity or subsidy to the plaintiff from its shareholder. The plaintiff has not intended to increase its registered capital for their business as usual but has had the hidden agenda, i.e. to avoid the income tax imposable in case of the parent company directly settling the debt on behalf of the plaintiff. As a result, the payment has been considered to be taxable income generated from the plaintiff’s business, which must be counted as income in the calculation of profit and loss for the year of receiving the payment.
Superficially, this judgment seems addressing the receipt of share premium only. Having thoroughly scrutinized, this judgment might extend to any increase of capital in whatever manners if and to the extent it is made for any purpose deemed non-economic by the court.
With all due respect and no offense to the Supreme Court, we completely disagree with the court’s decision given in this judgment for the reasons described below.
The perspectives employed by the court, especially that any increase of capital might be made for profitable or economic reasons only, are too narrow. Any company may in the course of business be required to incur commercial debt, including loan from financial institution. The settlement of any of such incurred debt might be deemed to be made for or even integrated as a part of the business. Consequently, injection of capital for the settlement of the debt, which is deemed a part of the company business, would be deemed made for business purpose and should be permissible, no matter whether it is followed by dissolution of the company or the shareholders obtain any direct or indirect benefits from the capital injection.
Thailand is a Civil Law country in which the courts are bound by the applicable statutes. Moreover, as tax law is a public law, it requires a strict interpretation, which means the exercise of power or application of statutory provision as well as its sanction should be limited to what the statute specifically authorizes or provides regardless of the developing events and circumstances in the meantime. Albeit interpretation of the spirit or purpose of law can be made in conjunction with the letter of law, it should be made only if the letter of law is unclear, not completely absent.
Thailand lacks GAAR (General Anti-Avoidance Rule) statutes enacted by many countries, including France, Canada, Australia, New Zealand, South Africa, Norway and Hong Kong. The tax noncompliance concepts adopted in Thai Revenue Code seems limited to (i) the “illegal” tax evasion, which is deemed a criminal offense, and (ii) the Specific Anti-Avoidance Rule (SAAR) in terms of transfer pricing. The statute does not directly address the “abuse of law”, “substance over form”, “sham transaction” or other similar doctrines which ignore the legal form of an arrangement and took its actual substance in order to prevent artificial structures from being used for tax avoidance purpose. So far, if a transaction can neither be considered as a tax evasion nor fall into the transfer pricing rule, the closest provisions that may be applied by the court appear limited to the "fictious intention" and the “concealed juristic act” under Thai Civil and Commercial Code. The fictitious intention requires a proof that the parties have no geniune intention to be bound by the expressed transaction while the concealed juristic act entails existence of both of the enforceable concealed act and the ab initio void fictitious act. In the contemplated case, it is apparent that the sole juristic act made was the legitimate and binding capital increase. Even the court did not expressly indicate the capital increase was deemed an ab initio fictitious act.
The Court’s decision might leave any business, who faces a similar financial crisis as the plaintiff in the discussed case, no choice but being bankrupt or paying taxes for the increased capital astoundingly deemed taxable income. This will not only affect the debtor, but also their creditors, who may gain nothing but judgment papers, the guarantor of the debt, who may have to be responsible for the debtor’s debt, the parent and any sister companies, who may also be discredited because of the bankruptcy or insolvency of the debtor, etc.
1. In the case of Green Infra Ltd. V. ITO (ITA No. 7762/Mum/2012), the Income-Tax Appellate Tribunal (ITAT) of India held that “share premium” realized from the issue of shares is “capital” in nature and forms part of the share capital of the company and therefore cannot be taxed as revenue receipt. ITAT also held that it is a prerogative of the Board of Directors of a company to decide the premium amount and it is the “wisdom” of the shareholders whether they want to subscribe to shares at premium.
2. In the Vodafone India case, the judgment given by the Bombay High Court (HC)—whose judgment can constitute a law under India’s common law system—features the following rulings:
2.1 Absent express legislation, no amount received, accrued or arising on capital account transaction can be subjected to tax as income
2.2 Income will not in its normal meaning include capital receipts unless it is so specified
3. The US’s Supreme Court ruled in various cases, i.e. United States v. Isham, 17 Wall. 496, 84 U. S. 506; Superior Oil Co. v. Mississippi, 280 U. S. 390, 280 U. S. 395-396; Jones v. Helvering, 63 App.D.C. 204, 71 F.2d 214, 217, that “The legal right of a taxpayer to decrease the amount of what otherwise would be his taxes, or altogether avoid them, by means which the law permits, cannot be doubted.”
In Gregory v. Helvering, 293 U.S. 465 (1935), the US Supreme Court laid down the “business purpose” doctrine and the “sham transaction” doctrine as exception for the said rule. Anyway, it should be noted that in this case it was “obvious” that certain “transactions” have been specially taken in order that the ultimate highly profitable share sale would fall under the tax free corporate reorganization according to the US Revenue Act. Most importantly, the US Supreme Court has the authority to “make” laws, whereas Thai Supreme Court has never been so authorized.
4. In light of the discussed judgments as well as the RD’s Advance Ruling, it is advisable that:
4.1 An in-depth tax analysis should be carried out in every aspects before carrying on any transaction, even though it appears unproblematic;
4.2 To conduct a tax planning, not only the legality but also the commercial justifiability of the transactions should be thoroughly considered and implemented.
Authors: Phongsak Sirirakwongsa, Pakorn Tewkhunthong