Withholding Tax on Interest Income Paid to a Non-Resident Company in Malaysia
Hi, I’m Yamae, the Finance Director of Mochiko Co. Ltd, a stuff toy manufacturer from Japan and still wondering how the withholding tax payment work in Malaysia. We have incorporated two subsidiaries in Malaysia, they are as follows:
- 1. Mochiko Trading Sdn Bhd (MTSB)
MTSB retails a series of Mochiko-branded stuff toys in 15 stores located in major shopping malls across Malaysia. In 201X, MTSB had received a loan amounting RM 2.5 million from Mochiko Co. Ltd. The sum is meant to be utilised as initial set-up cost and working capital to further expand the network of Mochiko stores to around 25 in Malaysia over the next 2 -3 years. For the year 201X, MTSB has incurred an interest expense of RM 100,000 in respect to this loan.
- 2. Mochiko Manufacturing Sdn Bhd (MMSB)
MMSB operates a factory in Setia Alam where it manufactures selected Mochiko-branded stuff toys and distributes them to MTSB. In 201X, this subsidiary had borrowed RM 5.0 million from Mochiko Co. Ltd. The loan is intended to finance the construction and initial operating expenses of a brand new production facility in Thailand. For the year 201X, the total interest expense incurred on this loan is RM 200,000.
In addition, Mochiko Co. Ltd had invested RM 1.0 million in bonds that had been issued by the Malaysian Government. From it, Mochiko Co. Ltd would receive as much as RM 35,000 in interest income.
Thus, my question is: ‘ How much withholding tax on interest income will Mochiko Co. Ltd incur with respect to the interest income from MTSB, MMSB and the bonds in 201X? ’
Based on the Income Tax Act 1967, a non-resident of Malaysia will be liable to payment of withholding tax on interest income if he derives interest rates from loans in Malaysia. Here, I will share 4 things Yamae needs to know about withholding tax on interest income if Mochiko Co. Ltd (a foreign company) earns interest income from its subsidiary. They are as follow:
1. Tax Residency of Borrowers
The first criteria lie in the borrowers’ tax residency status in Malaysia. For both companies, they are tax residents of Malaysia for their businesses are operative in Malaysia.
Read also: When are you a tax resident in Malaysia?
2. Purpose of Borrowings
The second criteria involve an understanding of the purpose of the borrowings received by the two subsidiaries. If the borrowing is intended to earn income in Malaysia, its interest is subjected to withholding tax payment before it could be repatriated back to the respective country of where the non-resident resides. If the borrowing received by a Malaysian tax resident is intended to make foreign income, its interest will not be subjected to withholding tax payment
Hence, in the case of Mochiko Co. Ltd:
- a. MTSB
Its purpose of borrowings is to expand its retail network in Malaysia. As such, the interest will be subjected to withholding tax payment before it is distributed back to Mochiko Co. Ltd.
- b. MMSB
The purpose of borrowings is to set up a production facility in Thailand. Thus, the interest will not be subjected to withholding tax payment for both criteria of tax residency and purpose of borrowings must be duly met to determine if the interest will be subjected to withholding tax on interest income. As such, the full interest expense of RM 200,000 from MMSB shall be paid to Mochiko Co. Ltd.
- c. Bonds
Despite interest income from bonds being derived in Malaysia, based on Paragraph 35, Schedule 6, the interest income will be exempt from withholding tax payment. Mochiko Co. Ltd will receive the RM 35,000 in interest income in full.
Has your company provided an Employer Share Option Scheme? Read this article: ESOS – What You Need to Declare When Filing Your Income Tax
3. Double Taxation Agreement (DTA)
Typically, the withholding tax on interest income rate is fixed at 15% of the aforesaid.
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With that being said, the government of Malaysia has formed treaties where its withholding tax on interest income can be lower than 15%. In the case of Mochiko Co. Ltd, the withholding tax on interest income rate is 10% of the interest as the company is based in Japan. As such, MTSB is required to first set aside RM 10,000 in withholding tax payment and subsequently, remit the remaining RM 90,000 in interest income back to its parent company, Mochiko Co. Ltd in Japan.
4. When to Pay Withholding Tax on Interest Income?
The withholding tax on interest income mentioned shall be paid within 1 month to the Inland Revenue Board (IRB) of Malaysia after the interest is paid or credited to the non-resident. You may download a copy of the CP37 Withholding Tax Payment Form with the link below:
If MTSB fails to settle the withholding tax on interest income of RM 10,000 within 1 month, the IRB will levy a 10% penalty on any unpaid withholding tax payment onto MTSB. If the unpaid amount is RM 10,000, the penalty of the withholding tax payment will amount to RM 1,000.
Mochiko Co. Ltd will incur RM 10,000 in withholding tax payment from MTSB’s interest of RM 100,000 and thus, receive a net interest income of RM 90,000 in 201X. Inclusive of RM 200,000 in interest income from MMSB and RM 35,000 in interest income from its bonds, Mochiko Co. Ltd will receive RM 325,000 in net interest income from its two subsidiaries and its investment into bonds.
|Source||Interest Income||Withholding Tax||Tax Payable||Net Interest Income|
|MTSB||RM 100,000||Applicable||RM 10,000||RM 90,000|
|MMSB||RM 200,000||Not Applicable||RM 0||RM 200,000|
|Bonds||RM 35,000||Not Applicable||RM 0||RM 35,000|
Here, the next question is: ‘Is it better for MTSB and MMSB to raise borrowings from local financial institutions or from Mochiko Co. Ltd?’
The answer may require competent advisors from qualified professionals. If it is relevant to you, you may use Joolah.my, a platform that quickly refers you to the very best tax, audit and accounting experts in Malaysia.