Executive summary

The Tax Appeals Tribunal (TAT) recently ruled that an auction sale to recover bad debts is subject to Value Added Tax (VAT) at the applicable rate in line with the provisions of the VAT Act, 2013. This was in a case involving a leading bank, "X Ltd" (Appellant) and the Kenya Revenue Authority (KRA) (Respondent).

Background

The Appellant is a leading financial institution in Kenya. It provides loans to its customers to finance the acquisition of motor vehicles. To mitigate the risk of default, the bank retains special rights to repossess and auction the vehicles in case customers default on their loan repayments agreed to in the loan agreement.

During a tax audit for the period 2018 to 2022, the KRA raised the issue of VAT assessment in relation to auction sales of repossessed motor vehicles. The Appellant objected to the assessment on various grounds.

The Respondent rejected the objection and issued a confirmed assessment. Dissatisfied with this decision, the Appellant filed an appeal at the TAT.

Facts of the case

The Appellant contended that the disposal of repossessed motor vehicles is exempt from VAT because the repossessed vehicles constitute a supply incidental to the provision of credit facilities, which is exempt from VAT as per the VAT Act.

The Appellant further contended that the disposal of the repossessed goods is an integral part of the credit facilities aimed at recovering unpaid loans, rather than to generate a return. The Appellant also contended that an auction sale does not constitute a supply because there is no transfer of the right to dispose the goods from the customer to the bank. In essence, the title of the motor vehicles transfers from the customer to the highest bidder at the auction.

On the other hand, the Respondent argued that because the bank is co-registered with each customer on the motor vehicle record of ownership, the bank possesses the right to dispose of the vehicles as the owner, thereby qualifying the auction sale as a supply for VAT purposes.

The Respondent further asserted that the auction sale represents a separate taxable supply, distinct from the credit facility business, and should be treated as taxable because it is not explicitly exempt under the VAT Act.

Analysis and determination

In making its judgment, the TAT stated that a sale by auction is referred to as "a hostile sale" where the property of the debtor is sold by force. The creditor steps into the shoes of the debtor to affect the sale for the debtor. It then follows that the creditor has to discharge all duties that the debtor would have discharged, which includes paying taxes and levies on the property in issue.

In conclusion, the TAT rejected the Appellant's claim that an auction sale and the provision of credit facilities are interconnected. It stated that the VAT Act exempts loan facilities from VAT, but this exemption does not extend to the process of recovering collateral from the debtor.

The TAT further determined that an auction sale qualified as a supply because the title was co-owned thus granting the Appellant the right to seize the vehicles and recover the unpaid loan.

Implications

Financial institutions and other relevant parties should take into consideration the impact of VAT on the sale of repossessed collateral.