Mayadunne Corea J

The Respondent is a company that imports, manufactures, and distributes dairy products. As per the submissions made, the main shareholder is Fonterra Brands Singapore (Pvt) Limited. According to the written submissions of the Respondent the ultimate parent entity of the entire group is the Fonterra Co-Operative Group of New Zealand (herein referred to as “FCG”). The Respondent had entered into a licence agreement with another company, New Zealand Milk Brands Limited (herein referred to as “NZMB”). However, it is the contention of the Appellant that NZMB has instructed Fonterra Brands Lanka (Pvt) Ltd (herein referred to as “FBL”), the Respondent to remit royalties to FCG. This is also borne out by the letter of intimation found on page 51 of the brief. This contention was never challenged by the Respondent but in fact was admitted by the Respondent.

As per the licencing agreement which has come into effect from 01.06.2006, the Licensor has allowed the Licensee to use the “Technical Know How” of the Licensor for the manufacturing of products and also the “Communication Package” for the marketing of the dairy products which included the milk powder. It is pertinent to note that as per the licensing agreement Clause 4.1, a royalty payment should be made for the Respondent to use the said Technical Know How and the Communication Package. The said agreement had been in place from the year 2006.

In the assessment of the Respondent for the year 2010-2011, the Respondent has claimed a royalty payment of Rs. 1,037,513,135 as per the license agreement the Respondent had entered. The Assessor had not accepted the tax return and made an assessment for 2010-2011 disallowing the royalty payment. Being dissatisfied, the Respondent had appealed to the Commissioner General of Inland Revenue (herein referred to as the “CGIR”) who in his determination dated 15.12.2015 confirmed the assessment of the Assessor. Being aggrieved, the Respondent appealed to the Tax Appeal Commission (herein referred to as the “TAC”) which allowed the respondents appeal. Being dissatisfied with the said appeal the Commissioner General of Inland Revenue has sought the opinion of this Court by way of a case stated on the following questions of law:

I. The payments Rs. 1,037,513,135/- as royalty deducted from the profit of the company.

II. The payment has been made to the associate company which shows the arrangement for the purpose of deducting tax.

However, subsequently, the Appellant sought to amend the questions of law to read as follows:

I. Did the Tax Appeal Commission err in law in holding that the Appellant had failed to adduce any acceptable reasons to deny the royalty payments under Section 32 of the Inland Revenue Act as amended?

II. Did the Tax Appeal Commission err in law when it concluded that the sums relevant to this appeal did not fall within the ambit of Section 82(2) of the Inland Revenue Act as amended?

The Respondent objected to the amendments. However, subsequently the said objections were withdrawn, and on the agreement of both parties, the Court was invited to answer the amended questions of law. At the argument stage, both Counsel conceded that the fact in issue is whether the Respondent is entitled to the deduction pertaining to the royalty payment or whether the Appellant disallowing the same by invoking Section 82(2) of the Inland Revenue Act is lawful.

Did the Tax Appeal Commission err in Law in holding that the Appellant had failed to adduce any acceptable reasons to deny the royalty payments under Section 32 of the Inland Revenue Act as amended?

As per the license agreement entered into between the Respondent and NZMB, the Respondent has to pay 4% royalty rate payable in respect of the net sales price of the product. The said 4% consists of 2.5% attributable to the use of the Communication Package and 1.5% attributable to the use of the Technical Know How.

The Respondent submitted that the Technical Know How meant the confidential info