The High Court delivered its judgment on 24 June 2024 in the case of Commissioner of Domestic Taxes v Shah & 2 Others (Income Tax Appeal E054 of 2023), settling an important question in Kenya’s capital gains tax (CGT) regime. The Court confirmed that the cost of inherited property, for CGT purposes, is its market value at the date of inheritance.
This decision reinforces the rebasing principle by confirming that, where no consideration is paid, the acquisition cost of a property is deemed to be its market value for purposes of calculating CGT upon disposal.
Background
Elizabeth Rita Shah, Tula Ravindranath Bowry, and Darshak Shantilal Keshavji Shah (‘the Respondents’), inherited two parcels of land (LR/1871/11/404 and LR/1871/11/406) from their late father in 2015 following confirmation of a grant of probate. At the time, they obtained an independent valuation from Knight Frank, which placed the market value of the properties at KShs 389,619,600.
In 2020, they sold the properties to Risun Development Company for KShs 305,584,000 and declared a net loss of KShs 99,485,087, resulting in no CGT liability. However, the Kenya Revenue Authority (‘KRA’ or ‘the Appellant’) issued a CGT assessment of KShs 27,728,475, later revised to KShs 14,406,725 in its objection decision dated 13 June 2021.
The Tax Appeals Tribunal ruled in favour of the taxpayers, prompting KRA to appeal to the High Court.
The Appellant’s Case
KRA argued that since the properties were acquired through inheritance, no purchase price or consideration had been paid. On that basis, it contended that the acquisition cost should be treated as nil, save for minimal incidental costs.
In its view, only actual expenditure incurred by a taxpayer should be deductible in determining the chargeable gain or loss.
The Respondents’ Case
The Respondents argued that inheritance is a recognised form of acquisition under the law, even in the absence of consideration. They maintained that the correct cost base should be the market value of the properties at the time of inheritance.
They relied on Paragraph 9 of the Eighth Schedule to the Income Tax Act, which permits the use of market value in non–arm’s length transactions. They further pointed to the independent valuation as a reliable basis for determining that value and, consequently, the correct CGT position.
High Court Determination
The High Court upheld the Tribunal’s decision and dismissed KRA’s appeal. It confirmed that property acquired through inheritance constitutes an acquisition for CGT purposes, notwithstanding the absence of consideration. Accordingly, such property is deemed to have been acquired at its open market value at the date of inheritance, which becomes the appropriate cost base.
The Court rejected KRA’s position that the acquisition cost should be nil, noting that such an interpretation would be inconsistent with the statutory framework. It also affirmed the evidentiary value of independent valuation reports in establishing the market value of the property.
Since the sale price was below the inherited value, the Court agreed that no CGT was payable.
Key Takeaways
The High Court decision firmly establishes the rebasing principle in Kenyan tax law. It clarifies that where property is acquired through inheritance, the cost base for CGT is the market value at the date of inheritance, not zero.
The case underscores the need for professional valuation at the time of inheritance. Individuals who inherit land should therefore ensure that they establish and properly document the market value of the property at the point of acquisition, together with any related transaction costs. This value forms the cost base for future CGT computations, helps ensure accuracy, and reduces the likelihood of disputes with tax authorities.
That said, the decision should be read alongside Paragraph 8(4A) of the Eighth Schedule. This provision limits the application of the rebasing principle by providing that where property previously exempt from tax is disposed of in a taxable transaction within five years, the cost base is deemed to be the acquisition cost in the first transaction. The rule is aimed at curbing arrangements designed to avoid tax through creative transactions.
In summary, proper valuation and documentation of inherited property at the point of inheritance is essential, as it determines the correct CGT position upon disposal and helps avoid disputes with tax authorities.
If you require further information or clarification on this matter, please do not hesitate to contact CMC Advocates LLP.
