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 2 full-time employees based in Labuan and spend at least RM50,000.00 (approx. USD11.2K) 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 the economic substance requirements. However, if the company reports audited loss, there is no tax payable regardless ESR is met or not.
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.
Is it worthwhile to establish a Labuan company with an annual expense of around USD27,000.00? 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 USD10,000.00.
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 USD200,000. 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, Labuan follows a single-tier tax policy which means income that has been taxed at the corporate level can be distributed via dividends to the company shareholders, tax free from the Malaysian tax perspective.
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.
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