Sumeet Hemkar, Arunav Deb and Murali Choudhary consider the evolving landscape of tax in Asia.
Taxation has become an area of intense interest for the world at large. One could say that economic uncertainty has led to fiscal and trade deficits within many countries; in extreme cases, it has even led to bankruptcy, therefore paving the way for more evolutionary thinking around tax policy. Adding complexity to this growing trend is the changing face of businesses (and of business models), not to mention aggressive tax planning by taxpayers in some instances. Asia is no exception to this evolving landscape; and, whilst it houses a number of developing economies, governments across the region are learning fast from experiences around the world.
As a predominantly developing region, governments are generally keen to adopt measures for quick paced development. This has fuelled the demand for capital and technology; and therefore also the need to rely on foreign investment – financial as well as strategic. Tax incentives are one of the many pertinent policy measures to attract such investments. These economic parameters do drive policies to a large extent.
However, there is increasingly a conscious attempt to strike a balance between encouraging investments through initiatives like the rationalisation of tax rates, and also discouraging tax leakages through the implementation of anti-abuse provisions and the disregard of tax motivated structures. This compromise of objectives aims to keep pace with economic development, to boost investor confidence and to provide better tax administrative mechanisms.
In this article, we have examined the evolving position of a few countries in the Asian region on some key areas of evolving tax policy.
Rationalisation of income tax rates
Traditionally, there has been a wide gap in corporate income tax rates applied by countries in the Asian region. Countries like China, Indonesia, Thailand and Vietnam made downward revisions to their corporate tax rates (changed to a range of 20% to 25%). Some other countries continue to levy corporate income tax at higher rates of 30% or so.
Recent changes suggest that, moving forwards, the global range in corporate income tax rates should narrow and become more closely aligned. Countries have taken steps towards rationalising the tax rates that they levy and have introduced proposals to make a downward revision to corporate income tax rates. We take a look at the practice adopted by some countries in the region.
Recent changes suggest that the global range in corporate income tax rates should narrow and become more closely aligned.
Australia: Budget 2015/16 (presented on 12 May 2015) proposes a reduction in the corporate tax rate for small businesses from 30% to 28.5%.
India: The Indian Finance Minister, while presenting the Union Budget 2015/16 (on 28 February 2015), mentioned a phased reduction of the existing corporate tax rate from 30% to 25% over the next four years. This comes at the cost of withdrawing some of the incentives that have been extended to businesses, again in a phased manner.
The levy of wealth tax has been abolished. However, in an encouraging move the rate of surcharge (applied on top of the base tax rate) has been increased by 2%, effectively resulting in an increase in the effective tax rate. The maximum corporate income tax rate for domestic companies is now 34.61%.
Japan: As per the 2015 Tax Reform Bill, the national corporate tax rate has been reduced from 25.5% to 23.9%. Additionally, the local enterprise tax rate has been reduced from 7.2% to 6% and 4.8% for the years 2015 and 2016 respectively. The effective corporate tax rate therefore stands reduced from 34.62% to 32.11% and 31.33% for years 2015 and 2016 respectively.
Furthermore, a proposal is currently under consideration to reduce the effective tax rate to less than 30% in the coming years.
South Korea: The maximum basic corporate tax rate is around 24%. The 2015 Tax Revision Proposal provides a temporary 10% additional levy on large corporations, if wages increase and dividend payments are below the prescribed threshold of corporate earnings.
Malaysia: Budget 2015 has proposed a reduction in the corporate tax rate by 1% to bring it down to 24%.
Sri Lanka: Corporate income tax rate is about 28%. In the Interim Budget for 2015, one-time super gain tax of 25% has been proposed for those companies earning profits over LKR 2 billion for the year 2013/14.
Transfer pricing documentation
Profit shifting is regarded as a grave concern worldwide. As it is internationally recognised that transfer pricing seeks to address issues concerning profit shifting, countries are fast adopting transfer pricing rules in their domestic tax laws. An increase in the volume and variety of intra-group transactions has resulted in an enlarged emphasis on transfer pricing. In line with global practices, tax authorities in the region have also increased the scrutiny of related party transactions. Thereby, countries are generally experiencing a new regime of enhanced transfer pricing interventions and risks. We take a look at the practices adopted in some of the countries within the region.
Australia: The Australian transfer pricing provisions do not mandate the preparation or keeping of transfer pricing documentation; however, the failure to do so prevents a taxpayer from establishing a reasonably arguable position (RAP). Establishing RAP is important to support the transfer pricing position adopted by taxpayers and to lower the risk of administrative penalties.
The Australian Taxation Office has recently released a practice statement on transfer pricing penalties, which gives the Commissioner of Taxation reconstruction powers (ie the ability to reconstruct a transaction and make arm’s length adjustments). Recognising the compliance burden, the new rules also provide simplified guidance, allowing transfer pricing documentation relief to taxpayers satisfying the general eligibility criteria.
China: State Administration Taxation has tightened the review of arm’s length pricing for outbound payments made towards intra-group outbound charges. A recently issued public notice specifically requires the taxpayer to produce documentation which can establish the authenticity of the transactions resulting in outbound payments.
India: As a hotbed for some of the leading recent transfer pricing controversies, India has generally presented a tough environment on transfer pricing. The recent disputes include the taxation of alleged undervalued shares, issued by an Indian subsidiary to its offshore parent; and the alleged excessive spend on advertisement, marketing and promotion (AMP) by Indian subsidiaries of international groups. There is better judicial guidance now available on both the controversies, with rulings issued at the High Court level on both matters.
While the share issuance controversy has been ruled in favour of the taxpayer and the Indian government has decided not to appeal before the Apex Court, the order on the AMP expenditure related controversy is likely to be appealed before the Apex Court by both the Revenue and the taxpayer. Other matters, such as the use of multiple year data and the acceptance of range concept for benchmarking, have found a mention in the Indian Budget 2015/16, but rules relating to these are yet to be notified.
Advance pricing agreements (APA)
In countries where transfer pricing regulations have been adopted, APAs are increasingly being leveraged to seek certainty relating to the transfer price of intra-group transactions. Most Asian countries have provided for APA in their transfer pricing regulations. The Asian tax administrators are showing their strong commitment towards an APA programme by providing operational clarifications, signing APAs (including bilateral APAs) and simplifying the process.
Hong Kong: APA provisions were introduced in Hong Kong in April 2012 and, thus far, two bilateral APAs have been concluded with its treaty partners: Netherlands and Japan.
India: India also introduced APA provisions in 2012. With aggressive transfer pricing adjustments, about 500 applications for APAs have been filed by multinationals. Recently, India has also allowed the rollback of APAs for four years, thereby effectively covering a period of up to nine years under APA. To date, India has signed eight unilateral APAs and one bilateral APA with Japan. Additionally, as per internal guidelines, the Revenue plans to finalise 120 applications by end of March 2016.
Indonesia: Recently, a new regulation applicable to all outstanding and future APA applications has been issued. The regulation provides clarifications on the validity period for APAs (including restrictions on rollback), the stages involved and the timeframe for filing an APA application. Increased clarity on APAs is expected to create a more acceptable environment for APAs in Indonesia.
South Korea: From 2015, a simplified APA programme has been introduced for unilateral APA applications filed by small and medium sized foreign companies. Under the simplified programme, qualifying taxpayers will only be required to submit minimal information at the time of filing an APA and to expect the finalisation of APA within one year. This again is expected to draw traction towards a more certain transfer pricing regime.
In recent years, anti-avoidance measures have become the talk amongst most governments across the world, including Asia. As business models are modernising and increasing in complexity, the tax framework is becoming insufficient to address aggressive tax planning strategies.
While the general preference from a policy standpoint is to have well-defined specific anti-avoidance rules (SAARs), there is an inherent difficulty in being able to accurately define a finite set of SAARs. Most Asian countries have therefore introduced and amended their existing rules to prevent tax leakages through various anti-avoidance measures like thin capitalisation rules, general anti-avoidance rules (GAAR) and closer scrutiny prior to the issuance of tax residency certificates (TRC).
Thin capitalisation rules: Through recent amendments, a tighter thin capitalisation regime has been proposed in jurisdictions like Australia, Korea and New Zealand.
GAAR: The introduction of GAAR in India has been in discussion; however, the recent Indian Budget has further deferred its implementation until 31 March 2017. Budget 2015/16 in Australia proposes to amend existing GAAR provisions targeting multinationals that avoid a taxable presence in Australia.
Tax residency: Hong Kong has introduced new application forms for obtaining a TRC, with increased disclosures on business activities carried and place of management and control. The primary objective of such changes is to prevent treaty abuse. A similar approach has been prevalent in Singapore for some time now. India has recently made obtaining a TRC mandatory as a de minimus condition to avail tax treaty benefits.
Base erosion profit shifting (BEPS)
Internationally, there has been a predominant focus on matters associated with BEPS, a project with a primary objective of ensuring that multinationals pay their ‘fair share’ of tax in countries in which they have operations.
While obtaining international consensus on the implementation of the BEPS project is critical, in the interim some countries have unilaterally initiated measures in their domestic tax laws to deal with BEPS related issues. Such unilateral measures, unless adopted on a multilateral basis, may lead to double taxation and essentially hinder trade.
Australia: There is increased transparency in relation to tax paid by large companies, strengthening of GAAR provisions and tightening of thin capitalisation thresholds.
China: China has set up a BEPS taskforce to study, develop and implement the BEPS initiatives. Unilateral actions like the administrative measures of GAAR, guidance on the overseas indirect transfer of China taxable properties and clarifications on the deductibility of outbound payments to related parties have also been introduced.
India: The introduction of a place of effective management (POEM) concept for determining the tax residency of foreign companies in the Indian Budget 2015/16 proposes to address the shifting of profits to overseas countries through the setting up of shell entities controlled from India.
Japan: The 2015 Tax Reform Proposal includes the taxation of hybrid instruments, a requirement for banks to collect and submit taxpayer information and an ‘exit tax’ for individuals.
A number of other initiatives driven by countries around the world are leading to an incessant change in the Asian tax environment. These changes are aligning Asian tax policy more closely to that of the West, where states continue to push for greater ‘fairness’ in taxation; and rules are being adopted which are more suited to the evolving economic and business scenarios.
Asia, through some of the big economies of tomorrow, is wielding its influence by pushing through the perspectives of developing countries within the UN framework. Economic reforms remain key, however, as the demand for both capital and technology within developing countries remains strong; and the need continues for developed countries to invest in growing economies in order to maximise returns. Therefore, the meeting point for businesses exists. However, it is of primary importance that governments act multilaterally on tax policy in order to alleviate the concern of double taxation and to simplify the tax framework with which companies need to comply.