(Tax Update) Exemption of Foreign Source Income

IRB has issued a technical guidelines on “Tax Treatment in Relation to Income received from Abroad (Amendment)” dated 20 June 2024. The Amended Guidelines replace IRB’s Technical Guidelines on Tax Treatment in relation to Income Received from Abroad (Amendment) dated 29 December 2022..

The amendments to the tax guidelines on foreign-sourced income received in Malaysia, which are effective from January 1, 2022, introduce more flexible criteria for taxpayers seeking exemptions on this type of income, specifically dividend income.

Here's a detailed breakdown of the key changes and what they mean:

Previous Guidelines

Under the old rules, to qualify for an exemption on foreign-sourced dividend income, taxpayers had to meet all three of the following conditions:

• Economic Substance Requirement : There needed to be substantial business activities in the country from where the income originated.

• Taxation of Dividend Income : The dividend income must have been subject to tax in that foreign country.

• Headline Tax Rate : The foreign country's corporate tax rate had to be at least 15%.

New Amendments - Eligibility for Tax Exemption

• Applies To : The exemption applies to resident companies, resident limited liability partnerships (LLPs), and resident individual partners involved in a partnership business in Malaysia (IIP).

• Duration : From January 1, 2022, to December 31, 2026.

• Conditions for Exemption :

  • Option A:

    a) The dividend income must have been taxed in the originating country.

    b) The highest tax rate (headline tax) in that country must be at least 15%.

  • Option B:

    Comply with the economic substance requirements, demonstrating significant business activities in the foreign country.

Clarification on Determining the Headline Tax Rate

The guidelines provide additional clarity on when the headline tax rate is determined, which is illustrated in Examples 6 and 7.

This helps in understanding how to evaluate the tax rates applicable at the time the income was earned.

Detailed Economic Substance Requirements

Specified Economic Activities

The guidelines specify what constitutes economic activities for both investment holding entities and non-investment holding entities, clarifying what activities need to be conducted to meet the substance requirements.

Employment of Service Directors

A service director employed under a contract of service is recognized as an employee, which aids in meeting the economic substance criteria.

Outsourcing Permitted

Outsourcing of specified economic activities is permissible, provided certain conditions are met. This allows flexibility in how companies manage and report their business activities in foreign jurisdictions.

Why These Tax Updates Matter

These detailed updates make it clearer for Malaysian entities and individuals who earn foreign-sourced dividend income to understand and comply with the requirements for tax exemptions.

The options provided for meeting the exemption criteria (either through tax status and headline tax rate or through economic substance) offer flexibility, accommodating different business models and international arrangements.

Furthermore, the clarifications on economic substance requirements and the conditions for outsourcing ensure that businesses can plan their operations and tax strategies with greater certainty.

The acknowledgment of service directors and the conditions for outsourcing help in structuring business operations efficiently while complying with tax laws.

Source

IRB’s Technical Guideline Tax Treatment In Relation To Income Received From Abroad https://www.hasil.gov.my/media/fzofh1gz/20240620-guidelines-tax-treatment-in-relation-to-income-received-from-abroad-amendment-june-2024.pdf