Is Tax Avoidance Legal In Malaysia?
Although paying taxes is a form of contribution to the nation, many companies would choose not to pay tax or pay lesser tax if they have a choice. However, do you know tax avoidance is legal in Malaysia?
In the commercial landscape, “Tax Avoidance” is always used interchangeably with “Tax Evasion”, particularly by those without solid tax foundation. In fact, these terms mean differently in the eyes of law. Despite the government might not welcome tax avoidance arrangements, it is actually a legal arrangement. Unlike tax evasion, it is a criminal activity that is strictly prohibited under the Malaysia laws.
A tax avoidance involved sophisticate arrangements of rearranging or restructuring transactions in an attempt to minimise tax liabilities basing on the provisions set out in the Income Tax Acts, in a way that is not initially intended by the Malaysian tax authority (LHDN). Seasoned business owners are diehard fans of tax avoidance as it is usually designed to fit within the realm of legality (Also see What to expect from your tax agent?).
Contrary, engaging in tax evasion is no different from playing with fire, especially when people always get burnt and it is just a matter of time. It is a criminal offense which is carried out by forgery, falsifying of accounting records (Also see FRS 1 Presentation of Financial Statements) or even reporting expenses that does not exist with the sole aim of reducing tax liabilities.
Although tax avoidance is acceptable in the eyes of law in Malaysia, the tax authority taken an extreme change of stance since 2010 and triggered Section 140 of the Malaysia Income Tax Act more often that it does historically.
Under Section 140 of the Malaysia Income Tax Act, the tax authority have the power to disregard certain man-made transactions with the only intend to minimise tax liabilities and the implication of such shift is that it is more actively used by the authority as a counter measure.
Specifically, honest transactions done with real commercial reason is not within the scope of Section 140. For example, the directors who are also the shareholders of profitable companies decided not to be remunerated more than the market rate as they believe this “surplus” is a reward to the company as a result of taking business risks. Being taxed at company level and distribute tax-free dividend to the shareholders instead of getting higher remuneration as directors that then pay higher personal tax probably result a better tax position but this is more likely to be a legitimate arrangement that is not covered by Section 140.
You probably has noticed that, carrying out proper tax planning by professional are absolutely critical as the line between tax avoidance and tax evasion is really thin. Improper arrangement done in-house solely for the sake of cost saving usually loss out, especially when taking into consideration of the legal risks involved.