While we don’t know when the Covid-19 pandemic will be over, international tax rules continue to evolve.
On June 5, 2021, the Group of Seven (G7) finance ministers met face to face in London and announced the high-level political agreement on global tax reform.
This included reallocating a share of the overall residual profit of some companies to market countries (pillar one) and a minimum effective tax rate (METR) in each country where a company operates of at least 15%. (pillar two).
The first pillar is necessary to ensure a more equitable distribution of benefits between market jurisdictions.
Traditionally, market jurisdictions have not been able to tax the profits of service providers who do not have a taxable physical presence in the former.
With the advancement of technology, services could be rendered anywhere in the world. Under Pillar 1, US $ 100 billion (RM 411 billion) in taxes would be redistributed and hopefully Malaysia would benefit.
For the second pillar concerning the METR, it is important to note that 15% is not the observed rate. Instead, this is just the starting point. The language used is “at least”, pushed by France which fought for a higher rate. The second pillar will not materialize without the blessing of the United States.
Hope for a global consensus is renewed under the Biden administration. US President Joe Biden envisioned 21%, but revised it to 15%. This is a very smart move by Washington in its efforts to increase low-tax intangible global income, as well as US corporate tax. The impact of the pandemic, coupled with the need to fund the roughly $ 4 trillion (RM16.4 billion) US bipartisan infrastructure plan has accelerated Biden’s plan.
Janet Yellen, the US Treasury Secretary was certainly in the mood to negotiate on her trip to London, and the UK Finance Minister proudly said it was a historic moment, knowing that good companies will pay. the right amount of tax in the right place. .
What does METR mean for Malaysia?
Like some developing and even developed countries, Malaysia offers a wide range of tax incentives to promote investment in selected industrial sectors.
Through tax incentives, Malaysia aims to attract foreign direct investment (FDI) as foreign investors need to be encouraged to relocate or settle in Malaysia.
Companies receiving tax incentives in Malaysia may have a lower effective tax rate (ETR) due to the income tax exemption, additional deductions on capital expenditure incurred, double deduction of expenses, special deduction of expenses and preferential tax treatment for promoted sectors, among others.
Multinational Enterprises (MNEs) operating in Malaysia may have a lower jurisdictional ETR, say 10%, due to the Malaysian tax exemption, although the overall tax rate here is 24%.
Assuming the METR is ultimately agreed to at 15%, it is very likely that the MNE Group would be subject to an additional tax in respect of its activities in Malaysia, which would represent an overall tax increase for the group.
This can be problematic for Malaysia as its attractiveness may be eroded by the additional tax burden on the group. Instead of the Malaysian tax authorities collecting the additional revenue, the tax authorities in another jurisdiction would.
This is likely the headquarters jurisdiction, assuming the jurisdiction has implemented the income inclusion rule (IR) under pillar 2. As a result, multinationals would be subject to this additional tax burden at the same time. ‘regard to Malaysian operations, which may be considered a “penalty” for operating in a tax jurisdiction which offers legitimate tax exemption.
Malaysia could consider strengthening and / or introducing non-tax incentives to attract FDI. It may also need to review and revise Malaysia’s existing tax system, with a view to protecting its tax base.
This is important given that government revenues have been significantly affected by the Covid-19 pandemic.
Since the top-up tax on Malaysian-based transactions would likely be collected by tax authorities in other jurisdictions, we might consider introducing rules that would ensure that such top-up tax is paid in Malaysia.
This should allow the jurisdictional ETR of the relevant MNE group to be increased to the minimum ETR, through payment of tax here, rather than in another jurisdiction. While the additional tax burden for groups investing in Malaysia is inevitable, the introduction of this measure would at least allow us to benefit from the additional income, which could be used to further incentivize investment here.
Malaysia has been competitive due to other X factors such as strategic location, ease of doing business, livability. In terms of political stability, the government is certainly doing its best. In terms of the workforce, Malaysia will need to continue to develop a timely talent pool to ensure a constant supply of skilled workforce and invest in innovation.
I am confident that the various Malaysian government and investment agencies will continue to focus on these areas, including upholding the rule of law and protecting intellectual property.
These efforts must continue and be accelerated because we must not focus only on our tax incentive regime given the development of Pillar Two.
The introduction of the two pillars represents a significant rewrite of international tax systems.
Although the two pillars have not yet gained consensus among the members of the Inclusive Framework, companies should be aware of these changes and their potential impact, including the need to conduct an impact assessment. if necessary. Either way, I am sure Malaysia will continue to support tax transparency and promote tax security.
With the old anti-erosion and profit shifting rules like lowering the taxable presence threshold of companies and anti-treaty buying rules coupled with the latest G7 announcement, international tax planning is coming to an end.
Businesses need to assess how these unprecedented international tax reforms would affect them from a supply chain, compliance and global effective tax rate perspective.
To my beloved Malaysia, I know that we will overcome the pandemic and soon emerge as a top choice for foreign investors, with or without tax incentives!
Tan Hooi Beng is the international tax manager for Deloitte Malaysia. The above views are his.