Judgment summary
The Appellant, a supplier of pharmaceutical packing products, was assessed for VAT and income tax after the Commissioner found variances between its declared VAT sales, income tax sales and third party purchase records. The Appellant attributed the variance to zero rated sales made under the Commissioner's own directives to specific pharmaceutical customers.
The Commissioner rejected the objection on the basis that pre-printed literature was not a raw material used directly in manufacturing medicaments and that supporting invoices had not been provided.
The Tribunal found that the Commissioner's construction of the zero rating provision ignored the word "inputs" and failed to engage with the approval letters on record. It held that supplies falling within the customer, invoice, value and validity terms of subsisting approval letters for three named customers were properly zero rated, but that the Appellant had not discharged its burden in respect of the remaining customers and supplies.
Background
The Appellant is a private limited liability company incorporated in Kenya, supplying pharmaceutical packing products, principally pre-printed literature and inserts, to pharmaceutical and allied entities. It is VAT registered [1].
The Respondent carried out a compliance check on the Appellant's operations for January 2020 to December 2024 and found a variance between sales declared in VAT returns, sales declared in income tax returns and sales reflected in purchases claimed from the Appellant's PIN by third parties [3].
By a demand notice dated 11th February 2025, the Respondent brought to charge VAT of Kshs. 4,768,229.00 for 2020 to 2023 and income tax of Kshs. 30,398.00 for 2023, totalling Kshs. 4,798,626.00 [4]. The Appellant conceded and paid the income tax assessment on 11th April 2025 [6].
The Appellant contested the VAT demand by letter dated 12th March 2025, attributing the variance to zero rated sales to ten named customers, supported by a reconciliation, proforma invoices, zero rating approval letters and account statements [5]. Following a grant of extension of time, the Respondent issued an objection decision dated 19th September 2025 rejecting the objection and confirming the assessment, on the basis that the supplies were pre-printed literature rather than raw materials for manufacturing medicaments, and that invoices had not been availed [8]. The Appellant appealed, having been granted leave to file out of time on 13th February 2026 [9].
Core dispute
The Appellant argued that it had relied on numerous directives issued by the Respondent between 17th July 2020 and 10th July 2024, authorising it to charge VAT at zero percent on specified supplies to named pharmaceutical customers, and that the Respondent was estopped from later demanding VAT, penalties and interest on the same supplies [12]-[16].
The Appellant also argued that packaging and pre-printed literature form part of the end pharmaceutical product and cannot be separated from it for VAT purposes [17], and characterised the assessment of Kshs. 4,768,229.00 in principal tax, Kshs. 238,411.00 in penalties and Kshs. 2,074,218.00 in interest as arbitrary [20].
The Respondent maintained that pre-printed literature is not a raw material used directly in the manufacture of medicaments under Paragraph 11 of Part A of the Second Schedule to the VAT Act [30]-[31], that VAT is a consumption tax chargeable on any taxable supply regardless of the relationship between supplier and recipient [34], and that the Appellant had failed to produce invoices and documentation to substantiate its reconciliation, thereby failing to discharge its burden of proof under Section 56(1) of the TPA [32], [39]-[40].
The issues for determination were whether the supplies qualified for zero rating under Paragraph 11, whether the Respondent's approval letters precluded the assessment, and whether the Respondent was justified in confirming the assessment in the Objection Decision [42].
Court findings
The Tribunal held that Paragraph 11 of Part A of the Second Schedule to the VAT Act imposes four cumulative conditions: the supply must be of inputs or raw materials; made to a pharmaceutical manufacturer in Kenya; for the manufacture of medicaments; and approved from time to time by the Cabinet Secretary in consultation with the Cabinet Secretary responsible for health [47].
The Tribunal found that the Respondent's decision addressed only the first condition and did so by reference to dictionary definitions alone, reading the word "inputs" out of the provision and supplying qualifiers not found in the text [48]-[49]. Reliance on Telewest Communications plc was found misplaced, as that case concerned aggregation of supplies from different suppliers, not the present single supply by a single supplier [50].
On the approval letters, the Tribunal found that the Respondent had acknowledged receipt of the zero rating approval letters but failed to engage with them in its objection decision, a course inconsistent with the Wednesbury principle that a decision maker must direct itself properly in law [55]-[56]. The Tribunal held that the Appellant's plea amounted to a legitimate expectation properly understood, and that the Respondent could not treat its own approval letters as irrelevant [57]-[59].
However, the Tribunal found that the approvals in evidence related only to three customers, Laboratory and Allied Limited, Sphinx Pharmaceuticals Limited and Comet Healthcare Limited, and were specific as to customer, proforma invoice, value and validity period [61]-[62]. No approval was produced for the remaining customers, some of whom, such as Kitengela West Hospital and Nairobi West Hospital, were health facilities rather than manufacturers, and others, such as Kenagro Supplies Limited and Agripack, were connected with agricultural products outside the scope of Paragraph 11 [63]-[64].
Even for the three customers with approvals, several claimed zero rated amounts exceeded or predated the scope of the approvals, and the Appellant failed to produce proof of payment or purchaser certificates required by the approval letters themselves [66]-[68].
On the burden of proof, the Tribunal found that against four years of trading and declared turnover exceeding Kshs. 34,000,000.00, the Appellant produced only three proforma invoices, no tax invoices, no sales ledger and no audited financial statements, and so failed to discharge its burden under Section 56(1) of the TPA save to the extent of the approvals produced [70]-[76]. The Tribunal found the Respondent's computation, based on the Appellant's own returns and third party PIN data, was not arbitrary, but found that the Respondent had failed to test the reconciliation and approval letters against its variance computation [74]-[75].
Outcome
The Tribunal held that the Objection Decision dated 19th September 2025 was justified only in part [80].
The Appeal was partially allowed. The Objection Decision was varied so that supplies made to Sphinx Pharmaceuticals Limited, Comet Healthcare Limited and Laboratory and Allied Limited, falling within the customer, proforma invoice, value and validity period specified in the Respondent's zero rating approval letters, are to be treated as zero rated.
The Appellant was directed to furnish the Respondent, within thirty days, with the tax invoices, statements of supply, proof of payment and purchaser certificates contemplated by the approval letters. The Respondent was directed to review and recompute the VAT assessment for 2020 to 2023, together with consequential penalties and interest, within sixty days of receiving those documents.
The balance of the Objection Decision was upheld, and each party was ordered to bear its own costs.
Major issues / areas of contention
- Whether the supplies made by the Appellant qualified for zero rating under Paragraph 11 of Part A of the Second Schedule to the VAT Act
- Whether the Respondent's zero rating approval letters precluded it from raising the impugned assessment
- Whether the Respondent was justified in confirming the assessments in the Objection Decision