Summary: The Malaysian government removed the tax exemption for foreign-sourced income (FSI) received by Malaysian residents on January 1, 2022, except for foreign dividend income received in Malaysia by a resident company, resident LLP and resident individual in relation to a partnership business in Malaysia.
However, an additional requirement was announced on December 29, 2022, which amended the Guidelines for tax treatment in relation to income received from abroad.
The requirement states that the dividend income must have been subjected to tax in the country of origin where the income arises and the headline tax rate in the country of origin is not less than 15%.
Additionally, the foreign income must comply with the economic substance requirements.
The guidelines provide detailed conditions to determine whether the dividends have been subjected to tax in the country of origin, and the exemption is subject to specific facts of each case.
The interpretation of the guidelines may affect the eligibility for tax exemption.
History
Effective 1 January 2022, the tax exemption for foreign-sourced income ("FSI") received by Malaysian residents provided for under Para 28 was removed following the Budget 2022 made on 29 October 2021.
Hence, Foreign Income received in Malaysia which is eligible for the tax exemptions are as follows:
Foreign dividend income received in Malaysia by a resident company, resident LLP and resident individual in relation to a partnership business in Malaysia [P.U.(A) 235/2022].
All foreign income excludes income from a partnership business received in Malaysia by a resident individual [P.U.(A) 234/2022].
The exemption in paragraph 1.4(a) does not apply to a resident carrying on the business of banking, insurance, or sea or air transport.
On December 29, 2022, the Malaysian Inland Revenue Board (IRB) issued a press release (available only in Bahasa Malaysia) announcing an additional requirement for tax exemption on eligible persons' foreign-source dividend income received in Malaysia.
By this additional requirement, amendments have been made to the Guidelines for tax treatment in relation to income received from abroad, which were uploaded to the official IRBM portal on December 29, 2022.
Foreign dividend income received in Malaysia by a resident company, resident LLP and resident individual in relation to partnership business in Malaysia from 1 January 2022 until 31 December 2026 is exempted from tax subject to the following conditions:
Dividend income has been subjected to tax in the country of origin in which the income arises;
The headline tax rate in the country of origin is not less than 15%; and
Comply with the economic substance requirements.
In determining whether dividends have been subjected to tax in the country of origin in which the income arises [(1) above], the conditions provided in the amended guidelines are as follows:
5.2.1.3 (a) Dividend income is subject to tax in the country of origin in which the income arises
(i) Tax has been imposed in the country of origin on foreign dividend income received in Malaysia as follows:
(A) Tax paid or payable in the country of origin is either income tax or withholding tax; or
(B) Foreign dividend income received has been subjected to underlying tax;
Note:
I. Underlying tax is an income tax paid or payable in the country of origin related to the underlying profit that arises from operating income in the country of origin where the income after tax is used to pay dividends.
II. If the payer company (Company X) pays dividends out of dividends received from another company (Company Y) (either within the country which is the same as Company X or otherwise), the underlying tax paid by Company Y on the dividend cannot be considered as tax paid or payable by Company X for the purpose of this qualifying conditions (refer to the illustration in Appendix 1).
or
(ii) Tax is not imposed in the country of origin because foreign dividends are paid out of underlying profits arising from operating income in the country of origin which is not subjected to tax due to:
(A) Unabsorbed losses or capital allowances;
(B) Arising from capital gains;
(C) Enjoyed tax incentives in compliance with substantive requirements in the country; or
(D) Tax regulations under the tax consolidation regime in the country of origin (refer to the illustration in Appendix 2(a) and 2(b)).
5.2.1.3 (b) The headline tax rate in the country of origin is not less than 15%
The foreign country headline tax rate refers to the highest corporate tax rate in the country of origin in the year the dividend is taxed.
The tax rate shall not be less than 15%.
The headline tax rate is not necessarily the actual tax rate imposed on the foreign dividend income.
The following are comments provided by CTIM, along with feedback given by IRBM.
In regard to dividends received from a company in Country A where the profits arise from substantive business activities via a Permanent Establishment in Country B as illustrated below:-
CTIM Comment 1:
Based on the current reading of the Guideline, it expressly states the underlying tax is limited to the tax paid in the country of origin where the dividend is paid (negara asal).
Hence, it is not necessarily clear whether the dividend received from IA Ltd (located in Country A) is exempted as no tax is paid in Country A.
We are of the view that the dividend income received by Syarikat IA Sdn Bhd from IA Ltd should be eligible for exemption as the profits used for the dividend distribution have been subject to tax under the law of the territory in which the income arises i.e. foreign tax paid in Country B.
IRBM's Feedback:
According to the explanation, IA Sdn. Bhd. is eligible for tax exemption on the dividend received from IA Ltd. However, the exemption is subject to the specific facts of the case.
CTIM Comment 2:
We would like to seek clarification (i.e. additional scenario within the Guideline) for a situation where a company is incorporated in a jurisdiction where the headline tax is less than 15% (e.g. BVI), income is not taxable under BVI’s domestic legislation but the profits used for the dividend distribution has been subject to tax under the law of another jurisdiction which the income arises (e.g. the BVI co. paid tax on rental income derived from properties located in the UK).
Should the BVI Co. pay dividends to its Malaysian corporate shareholders, kindly clarify the interpretation the dividend income received by the Malaysian company is exempt provided there is traceability that the BVI company pays the dividend out of the income wholly derived from the rental income from the properties in the UK.
IRBM's Feedback:
According to the given explanation, the dividend received by Syarikat IA Sdn. Bhd. from IA Ltd. is eligible for tax exemption, but this is subject to the specific facts of the case.
In regard to Investment in a foreign Special Purpose Vehicle (SPV) via a Foreign Limited Partnership
MY Co invests in a foreign SPV via a foreign limited partnership.
In this scenario, the foreign partnership is a tax-transparent entity (i.e. the dividends distributed by the foreign SPV will not be taxed at the level of the foreign partnership, but instead at the level of the partner, i.e. MY Co).
CTIM Comment 3:
We note that the Guideline indicates that “underlying tax” is limited to the tax paid by the entity from which the dividend is received. However, based on the scenario above, the foreign partnership is not a person in law and unlike a company, it is not a separate and assessable entity for tax purposes. Individual partners (like MY Co) are therefore assessed separately on their respective share of income from the partnership.
Please confirm that in such a scenario, MY Co will qualify for the exemption under P.U. (A) 235/2022.
IRBM's Feedback:
Based on the scenario presented, the dividend received by My Co. from the Foreign SPV is eligible for tax exemption. However, this tax exemption is subject to the facts of the case.
In regard to Equity swap arrangements
CTIM Comment 4:
We note that the Guideline indicates that “underlying tax” is limited to the tax paid by the entity from which the dividend is received.
However, based on the scenario above, under an ESA, Co. B is akin to a nominee company (pass-through) that receives the dividend on behalf of Syarikat Alpha Bhd. Kindly confirm that the reference to the country of origin (under Para 5.2.1.3 of the Guideline) in such a scenario should be “CountryX” and not “Country Y”.
IRBM's Feedback:
Based on the scenario presented, the dividends received by Syarikat Alpha Bhd. from Co. A are eligible for tax exemption. However, this tax exemption is subject to the facts contained in the ESA document.
In regard to companies invest in foreign quoted shares via other entities like investment banks
Some companies invest in foreign quoted shares via other entities like investment banks.
They will not receive the original dividend vouchers so we cannot determine whether the conditions in para 5.2.1.3(a)(i) of the Guideline are met or not, especially when no tax is paid (i.e. reason why no tax is paid). Below are 2 sample dividend vouchers.
CTIM Comment 5:
We request HASiL to give a concession that dividends from quoted shares(listed companies) can be considered as the condition of “Dividend income is subject to tax in the country of origin in which the income arises” has been met since it is a legitimate expectation that listed companies would comply with tax laws.
With reference to the example above, there should be simplification on the condition of “Dividend income is subject to tax in the country of origin in which the income arises” in scenarios where the Malaysian shareholder has only non-controlling or non-substantial interest.
IRBM's Feedback:
Referring to the suggestion by CTIM, companies may submit any documents to prove that the dividend income received is subject to underlying tax as stated in paragraphs 5.2.4.1 and 5.2.4.2(f) of the guidelines.
In regard to Para 5.2.1.3(a)(ii)(C) - "Enjoyed tax incentives in compliance with substantive requirements in the country"
CTIM Comment 6:
Guidance is needed from HASiL as to how taxpayers are able to determine whether the requirement of Para 5.2.1.3(a)(ii)(C) above is considered to have been met for the purposes of the P.U. (A) 235/2022. Issues include:
The substantive requirements may not be explicitly spelled out/expressed as a condition in the respective incentive of the source jurisdiction.
The substantive requirements may be imposed on a group basis.
In view of the above, we would request that the following be considered:
Where the substantive requirements are not explicitly spelled out in the condition of the incentive, it is sufficient that the operating company is able to demonstrate that it carries out the underlying operations/investment which generates the tax-exempt income.
Where the substantive requirements are imposed on a group basis [e.g. similar to the case of Labuan Leasing companies under P.U. (A) 423/2021], the substance is considered to have been met by the dividend-paying company.
IRBM's Feedback:
Referring to the suggestion made by CTIM, companies may submit any documents to prove that the dividend income received is subject to tax incentives as stated in paragraph 5.2.1.3(a)(ii)(C) in the guidelines.
In regard to Para 5.2.1.3(b)(i) - "The foreign country headline tax rate refers to the highest corporate tax rate in the country of origin in the year the dividend is taxed"
CTIM Comment 7:
Please confirm whether “in the year the dividend is taxed” refers to:
The year the underlying profit is subjected to income tax in the country of origin; or
The year the dividend is declared to the holding company, and be subjected to foreign withholding tax/income tax (if any).
Please see the illustration as follows:
ABC Ltd, from Jurisdiction X, derived a profit after tax of RM1 million in the year 2021.
ABC Ltd declares a dividend out of the said profit after tax, amounting to RM500,000 to DEF Sdn Bhd in the year 2023.
Kindly advise whether DEF Sdn Bhd should look at the headline tax in Jurisdiction X for the year 2021 or the year 2023 in determining whether such foreign dividend is exempted from Malaysian income tax.
IRBM's Feedback:
Headline tax refers to the year in which the dividend is subject to withholding tax or income tax in its country of origin.
Based on the information provided, "in the year the dividend is taxed" referred to the dividend being subject to withholding tax or income tax in Jurisdiction X, which is in the year 2023.
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