Updated: Apr 3
Similar to our previous article, in 2019, the Malaysian Government implemented economic substance regulations for Labuan business entities, requiring compliance and discontinuing the flat tax rate option of RM20,000. Subsequently, the situation has become more stable, and the majority of Labuan entities falling within the scope are diligently adhering to the regulations.
In our article, we take another look at the one business activity that falls within the scope and does not necessitate a financial services licence. The article concentrates on the yearly general expenses associated with up-keeping a Labuan company compared to the potential tax advantages offered by the Labuan tax system. If a Labuan company is engaged in or planning to engage in any of the specified non-financial business activities, it qualifies for the preferential tax rate of 3% as long as it satisfies the minimum ESR requirements -
1. “ Administrative services ” is defined as services pertaining to employee management, payroll management, property management, human resource management, financial planning, contract or subcontract management, facilities management, or proposal management.
2. “ Accounting services ” is defined as services pertaining to recording, analysing, summarising, or classifying financial, commercial and business transactions and information of a person or business.
3. “ Legal services ” means services mean conveyancing services, legal advisory services, litigation or legal representation services in any proceedings before any court, tribunal or other authority, or legal dispute resolution services including alternative dispute resolution.
4. “ Back-office processing services ” are services relating to settlements of receivables and payables, clearance, record maintenance, regulatory compliance or information technology (IT) related services which are usually performed by administration and support personnel who do not deal directly with clients.
5. “ Payroll services ” means services relating to processing, calculation, payment and deduction of remuneration, benefits, tax and statutory payment or issuance of payslip and tax statement.
6. “ Talent management services ” means the provision of human resource services to attract, onboard, develop, motivate, and retain employees.
7. “ Agency services ” means the provision of specific services on behalf of another group, business, or person pursuant to an agency agreement between the agent and its clients.
8. “ Insolvency related services ” are services related to administering company liquidations or winding up or personal bankruptcy.
9. “ Management services ” covers the organisation and coordination of activities of a business in order to provide services to the clients and usually consist of organising, supervising, monitoring, planning, controlling and directing business’s resources such as human, financial and technology.
Your business activity is in scope and complying with the ESR
Your Labuan company must demonstrate economic substance by hiring two "fit and proper" full-time employees based and working in Labuan and spend at least RM50,000.00 of its OPEX in Labuan on an annual basis . Once fulfilled, the company will be eligible for the 3% tax on its audited profit. A 24% flat tax will be charged on the audited profit if it fails to comply with any of the economic substance requirements. However, if the company reports audited loss, there is no tax payable regardless of whether ESR is met.
Is Labuan a suitable choice for you?
Keep in mind that this article discusses our viewpoint on the annual maintenance expenses of a Labuan company and the low tax rate in Labuan. Before opting for Labuan, it's essential to take into account additional factors. Feel free to reach out to us for more details on these factors and their respective costs.
Here's an update on yearly costing as reference -
Most published Labuan quotes cover incorporation and the annual government fee, which together are a small fraction of the real number. The table below is the full picture for a company that actually meets its economic substance obligations — because that is what the 3% rate is conditional on.
Read the two columns separately. The first-year column includes the one-off items: incorporation, bank account opening, payroll setup and staff recruitment. The annual column is what recurs. The largest line in both is not a professional fee at all — it is salary and statutory contributions for the two Labuan-based staff, at roughly USD 17,100 a year, which is over half the total.
The totals come to approximately USD 32,300 in year one and USD 32,350 a year thereafter, converted at RM4.0 to the US dollar. Treat these as an order of magnitude rather than a quote: a company with a low transaction volume will pay less for accounting and audit, and one holding a Labuan FSA licence will pay considerably more. Please note that this estimated amount applies to a Code 23 entity. If your business activity is investment holding, the overall cost will be substantially lower.
| Description of services / items | 1st year cost (USD) | Annual cost (USD) |
|---|---|---|
| Company set up, bank account and annual renewals | 3,950.00 | 3,300.00 |
| One-time payroll set up services | 800.00 | – |
| Payroll services (per annum) for 2 staff | 1,350.00 | 1,350.00 |
| One-time staff recruitment services (USD500.00 per staff) | 1,000.00 | – |
| Salary expense and statutory contributions for 2 staff based in Labuan, with average basic salary of 1 manager (RM3,500.00) and 1 clerical staff (RM1,700.00) | 17,100.00 | 17,100.00 |
| Rental for a basic office to accommodate 2 staff (starts from USD400.00 per month) | 4,800.00 | 4,800.00 |
| Full accounting and tax filing services (starts from) | 3,300.00 | 3,300.00 |
| Audit fee (starts from) | – | 2,500.00 |
| Estimated total cost per year (USD) | 32,300.00 | 32,350.00 |
Is it worthwhile to establish a Labuan company with an annual expense of around USD32,350? Our opinion is that Labuan is well-suited for entrepreneurs engaging in any of the Labuan business activities within its scope, aiming to generate worldwide profits while reducing tax liabilities . With only a 3% tax on audited profits, utilising a Labuan company can safeguard profits, accumulate capital, and expand the business according to your preferences.
Is the tax saving sufficient to offset the yearly expenses of maintaining a Labuan company?
If you’re carrying on one of the business activities listed above and fulfils the ESR, the 3% tax will automatically apply to your Labuan company. Comparatively, Asia’s average regional statutory corporate income tax rate stands at 20% and on average, the corporate secretarial cost usually associated with the company’s annual maintenance in the Asian region hovers around USD10,000.
A low tax rate only helps if the saving is larger than what it costs to qualify for it. The two tables below run that comparison against a jurisdiction taxing at 20% — roughly the average statutory corporate rate across Asia — at two different profit levels.
At USD 150,000 of gross profit the numbers are close. Tax falls from USD 30,000 to USD 4,500, but the estimated cost of running the Labuan structure rises from USD 10,000 to USD 32,350, leaving a net saving of about USD 3,150. Worth having, but not obviously worth the administration.
At USD 250,000 the picture changes sharply. The cost of the structure barely moves — it is largely fixed — while the tax saving grows with profit, producing a net benefit of around USD 20,150. This is why we point to roughly USD 200,000 of gross profit as the level at which a Labuan company starts to make clear financial sense, and why we would rather tell you early if you are below it.
| Other Asian jurisdiction @ average tax of 20% | Labuan @ tax of 3% | |
|---|---|---|
| Assuming gross profit of USD150,000 | ||
| Gross profit | USD150,000.00 | USD150,000.00 |
| Tax | USD30,000.00 | USD4,500.00 |
| Estimated cost | USD10,000.00 | USD32,350.00 |
| Net profit | USD110,000.00 | USD113,150.00 |
| Potential net savings | – | USD3,150.00 |
| Assuming gross profit of USD250,000 | ||
| Gross profit | USD250,000.00 | USD250,000.00 |
| Tax | USD50,000.00 | USD7,500.00 |
| Estimated cost | USD10,000.00 | USD32,350.00 |
| Net profit | USD190,000.00 | USD210,150.00 |
| Potential net savings | – | USD20,150.00 |
As presented above, we believe that utilising a Labuan company can be financially feasible when the business is producing a gross profit of at least USD200K. With increased sales revenue, the tax savings potential will exceed the expenses associated with operating a Labuan company.
Are you interested in establishing a Labuan company?
LASTLY , we believe Labuan company is an efficient tax entity. Furthermore, dividends distributed from a Labuan company to an individual are exempted from personal tax in Malaysia until YA 2027 provided ESR are met, and subject to the shareholder's tax regulations in their home country.
Bottom line is if you’re making USD200,000 and above on audited profit, the tax savings may outweigh the cost of maintaining your Labuan structure. Nevertheless, every situation is different, and it entails proper planning with lots to evaluate before settling for Labuan.
Get in touch with us if you find Labuan is attractive for your business set up. We are here to assist!
Disclaimer : Please note that our article is not an international tax, legal or accounting advice. Readers should consult own tax, legal and accounting advisors before engaging us. This article has been prepared for informational purposes only and is not to be relied upon as a professional opinion whatsoever.
