As the Covid-19 pandemic’s effect on the global economy is predicted to last for another year, taxpayers may be forced to take extraordinary measures in handling their business affairs during these extraordinary times. When making any financial decisions, taxpayers should take note that there may be tax repercussions arising from these decisions.
This article aims to lay out some applicable principles of deductibility of different types of expenses that a taxpayer may incur during this period. The types of expenses to be explored are compensation for early termination, bad debts, compensation for retrenchment, subsidy received by the government and donations.
Under Section 33(1) of the Income Tax Act 1967 (“the Act”), the conditions in order to qualify for a tax deduction are:
- The expense was incurred in the basis period; and
- The expense is wholly and exclusively for the production of the taxpayer’s gross income.
However, Section 39 of the Act provides that notwithstanding an expense fulfils the conditions under Section 33(1), no deduction is allowed. For example, Section 39(1)(c) provides that expenses incurred which are capital in nature are not tax-deductible.
1.Deductibility of compensation expense for early termination
Parties seeking to put a contract to an end unilaterally may be required to compensate the counterparty for early termination. Before Covid-19, parties may have entered a contract in the course of trade with the vision that the contract would be profitable. If the contract now proves to be more a liability than an income source, any compensation payments made to terminate the contract generally ranks for a deduction.
However, if the early termination compensation is capital in nature, it is not tax-deductible. For example in CH & Co (Perak) Sdn Bhd v DGIR, the taxpayer had claimed a deduction for compensation expense to compensate the ground floor tenant for trade fixtures and fittings and loss of business as the taxpayer had a prospective tenant who wanted to lease the entire building for 14 years. The court found that the compensation was a capital expense. The reason for the court’s finding was twofold:
- The termination was to remove of a disadvantageous asset; and
- To make the building more advantageous and beneficial.
然而如果此赔偿金是资本支出，该赔偿金是不可扣除的。在CH & Co (Perak) Sdn Bhd v DGIR，该纳税人扣除了支付给在一楼的租户与所有固定装置和可拆除设备以及营业亏损所造成的赔偿金。为了提前解约的原因是因为有另一位准租户有意租用纳税人所属的楼宇长达14 年。法庭裁定该支出是中资本支出因为
Generally, if the termination gave the taxpayer an enduring benefit, compensation for the early termination may not be deductible. Courts will scrutinize the surrounding circumstances and events that led to termination to determine the purpose of compensation payment and thereafter decide if it is revenue or capital in nature.
2. Deductibility of bad debt
As demand for goods and services slumps amidst economic uncertainty, many companies may be in a precarious position where they are unable to pay creditors for goods. If parties have a cordial business relationship, it is common to write off debts as a sign of goodwill. However, in doing so, creditors inevitably expose themselves to the risk of being challenged that the bad debt expense is not deductible.
It is trite law that when taxpayers take a deduction for bad debt incurred, he would need to demonstrate that there were efforts to recover the debt and any waiver of debts were based on sound commercial reasoning. The Public Ruling 1/2002 (“Public Ruling”) defines bad debt as “a debt that is considered not recoverable after appropriate steps have been taken to recover it”. The Public Ruling also suggests that reasonable steps taken to recover debts include debt restructuring scheme, legal action or reminder notices. Therefore, reasons such as “goodwill” or “personal relationships” will likely be insufficient.
当纳税人要扣除坏账时，他必须证明他已采取适当努力以追回债务以及任何坏账是基于合理的商业理性。在税务局所发布的公共裁决 1/2002 （“公共裁决”）对于坏账的定义是 “采取合理的步骤后还是无法追回的债务”。公共裁决也提出为了追债的合理步骤包括了债务重组计划，采取法律行动以及提醒同知。因此，理由犹如 “信誉“和”人际关系” 是不足以获取税务扣除。
Based on our body of case law, the Malaysian courts had held along the same tune as the Public Ruling. Taxpayers must take reasonable steps to recover sums owed such as timely legal action, referring matters to dispute resolution and/ or settlement agreements.
3. Deductibility of compensation expense for retrenchment of employees
In efforts to reduce cost, companies may be forced to undergo a retrenchment exercise in endeavours to keep afloat. According to the respective employment contracts, the company may be required to pay compensation to the employees for loss of employment. Taxpayers would need to evaluate whether such payments are deductible or otherwise.
If compensation payments paid to employees are part of the taxpayer’s strategy to reduce cost and sustain business continuity, the payments are deductible. In Kulim Rubber Plantations v DGIR, the Federal Court held that where a taxpayer makes a payment “in order to get rid of … a servant whose continuance in service is undesirable in the company’s interest”, it should be treated as a revenue payment and a deductible expense. Accordingly, compensation payments made to employees pursuant to a restructuring exercise are deductible if the purpose is to keep the company in operation.
如果裁员行动是为了减低营业费用和业务可以持续性发展，相关的赔偿金时可在税前扣除的。在 Kulim Rubber Plantations v DGIR，联邦法院已裁定如果纳税人支付赔偿金“为了摆脱…… 一个从公司的利益的角度想不理想的员工” 该赔偿金是属于公司营运费用和可扣除的。因此，如果裁员的目的是为了确保公司可以继续营业， 因企业重组所致的赔偿金是可扣除如果。
However, if the compensation payments are made due to the cessation of business, such payments are not deductible. The rationale is due to the fact that these payments were not made in the production of the taxpayer’s gross income but were made to put an end to the business. The court in Ampat Tin Dredging Ltd v DGIR held that it was not sufficient that the expense incurred is related to the production of income, but it must be wholly and exclusively incurred in the production of income. In this case, the retrenchment due to closure of business was found to have nothing to with the production of gross income.
然而，如果该赔偿金是为了停业而造成的，该赔偿金是不可扣除。原理是因为这赔偿并不是用于产生收入而招致的费用，而是为了停业的费用。法院已在 Ampat Tin Dredging Ltd v DGIR 指出任何费用不仅必须和产生收入有关系，该费用必须是完全以及专门的产生收入。在该案例里，为了停业而裁员所支付的赔偿金和产生收入毫无关系。
Taxpayers are advised to maintain contemporaneous documentation by stating the purpose and reason of any compensation payment made. Where retrenchment benefits were made to save the taxpayer from extinction, it would qualify for a tax deduction as expenses incurred in the production of gross income.
4. Deductibility of employee wages under the govt grant
On 6 April 2020, the Prime Minister of Malaysia had announced the Additional PRIHATIN SME Economic Stimulus Package (“PRIHATIN SME+”) in efforts to stimulate the Malaysian economy with emphasis placed on maintaining the sustainability of SMEs. In Malaysia, SMEs accounted for more than 98.5% of all business establishments but compared to larger multinationals, they are often strapped for cash and have lower liquidity ratios. With that in mind, the PRIHATIN SME+ had, amongst others, offered a wage subsidy program to assist in maintaining the job security of its employees and reduce the burden on expenses (“Program”).
于 4 月 6 日，马来西亚首相宣布了经济振兴中小企配套（增加版）（“配套”）来协助企业可持续发展。在马来西亚，中小企业占了所有企业的98.5% ，可是与大型企业相比，中小企业通常拥有较为紧张的现金周转压力而且拥较低的流动性比率。考虑到这方面的苦扰，政府在配套里介绍了万众期待的工资补贴计划目以提供雇员的保障以及减低企业开支的消费。
The Program would fall within the scope of the Income Tax (exemption) (No.22) Order 2006 (P.U.(A) 207/2006) (“Exemption Order”). Under the Exemption Order, where eligible persons receive income in the form of a grant or subsidy from the State or Federal Government, such sums received are exempted from tax. In light of the foregoing, the subsidy received by an SME company having fulfilled necessary conditions would be tax-exempted.
该配套应在所得税法令（豁免） （第。22） 2006 (P.U.(A) 207/2006) (“豁免法令”）。在该豁免法令，当有资格的纳税人获得由州政府或联邦政府给予的补助或补贴形式的收入，该收入是免税的的。正因如此，中小企业从配套里收到的工资补贴是，在满足了所有的条件后，将是免税的的。
However, expenses spent using the sums received under the Program is also not deductible. Therefore, if the taxpayer received RM50,000 under the Program, expenses incurred for its employees’ wages to the value of RM50,000 is not deductible.
Taxpayers should be aware that Clause 4 of the Exemption Order imposes an obligation to maintain separate accounts for income received as a grant or subsidy. With this in mind, taxpayers must maintain appropriate records detailing the amount of subsidy received under the Program and amount of deduction claimed in respect of expenses on employee wages.
5. Deduction for donation to Covid-19 fund
In endeavours to raise funds to combat the pandemic, the Malaysian Government has announced that donations to the Covid-19 fund will qualify for a tax deduction. Taxpayers may choose to donate by cash or in-kind to the Covid-19 fund set up by the Prime Ministry Department and Ministry of Health (“Tabung Covid-19”), Organisations with Section 44(6) status or other approved community and charitable projects. The Act has various provisions which allow for deduction hence taxpayers must accurately identify which provision is relevant to their form of donation.
Scenario 1: Cash donations made to Tabung Covid-19
- Treatment: Section 34(6)(h) OR Section 44(6)
- Condition: Approval required if claiming under Section 34(6)(h)
Scenario 2: Donation in kind to Tabung Covid-19
- Treatment: Section 34(6)(h)
- Condition: Approval required
Scenario 3: Cash donation to Organisations with Section 44(6) status
- Treatment: Section 44(6)
Scenario 4: Donation in cash or in-kind to approved community and charitable projects
- Treatment: Section 34(6)(h)
- Condition: Approval required
- 待遇: 第 34(6)(h) 条规 或 44(6) 条规
- 条件: 如果是 第34(6)(h) 条内，纳税者必须获得批准
- 待遇: 第 34(6)(h) 条规
- 条件: 纳税者必须获得批准
- 待遇: 第 44(6) 条规
- 待遇: 第 34(6)(h) 条规
- 条件: 纳税者必须获得批准
Taxpayers would need to reassess whether expenses incurred makes commercial sense, revenue or capital in nature or disallowed for deduction under the Act. Although case laws have been helpful in clarifying rules on deductibility such as which expenses are revenue and capital in nature, the question of whether tax deduction is allowed is often a question of fact as cases on the same facts but with different purposes may have different tax implications.
Note: If there is any inconsistency between the English and Chinese versions, the English version shall for all intent and purposes prevail.