Michael G. Velten (Velten Partners LLP) and
Lian Chuan Yeoh (Rajah & Tann LLP)
October 22, 2009
International Fiscal Association
SINGAPORE
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Tax planning for investments in
Asia
• Tax planning for investments in Asia must take account of the possible trends
in taxation. It is simply not possible to plan an investment based solely on the
tax position as it might stand today
• The past 5 years in Asia taxation provides examples of tax authority challenges
to what had been accepted investment structures:
– South Korea : Labuan and Belgium holding companies (e.g. Lone Star)
– India: The “Mauritius route” (e.g. E Trade case); Sale of an upper tier holding
company (e.g. Vodafone case)
– Indonesia: Conduit financing
– China: Barbados and Singapore holding companies (Chongqing Case and Xinjiang
Case)
There is an understandable tendency to look to the law as it is when planning an
investment in Asia as opposed to how it may be. Experience tells us that what is
thought to be accepted tax planning today may subsequently be viewed very
differently
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A new approach to tax planning for
investments
•
•
Investment planning in Asia needs to reflect as best it can how the law may evolve. This is particularly
true in the case of tax treaty planning and the use of holding company structures.
This can be difficult:
•
•
There may well be a historic acceptance of tax treaty “shopping” in the jurisdiction concerned (e.g. in the case of
India, Union of India v. Azadi Bachao Andolan)
We know though that circumstances may change:
•
•
This is not to say that a currently accepted approach to investment planning in Asia should
not be used:
•
•
In South Korea private equity making large tax free gains on investments made during the Asia economic crisis rankled the public
and led to the investments being audited (and taxes and penalties assessed) and changes in Korean tax law
For instance, the “Mauritius route” should still be considered with respect to investments in India
The possible challenges to that investment structure need however to be weighed as should the
alternatives:
•
•
In the case of India the possible challenges to the “Mauritius” route include a tax treaty override and GAAR in the
Direct Tax Code and/or the introduction of a Limitations of Benefits - or "LOB" article in the Mauritius – India
tax treaty
An alternative to the “Mauritius route” would be Singapore. It too would be impacted by a tax treaty override and
GAAR in the Direct Tax Code and in the near term arguably lacks the certainty that Circular 789 brings to
Mauritius
The result is the need for a shift in approach to Asia tax planning
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Trends in the taxation of foreign
investors in Asia
•
Trends in both international and Asia tax must be identified:
–
Internationally there is a focus on AML, tax havens and EOI
•
OECD:
•
See “Overview of the OECD’s Work on Countering International Tax Evasion” (10 September, 2009)
•
FTA:
International non-compliance and tax evasion (e.g. “structures involving the misuse of tax treaties”: Seoul
Declaration,2006)

“Role of tax intermediaries in aggressive tax planning”: Cape Town Communiqué, 2008
Global Forum on Transparency and Exchange of Information
•
•
12 EOIs
G20: Uncooperative tax havens (2009)
•
•
•
•
•
G20 to use countermeasures against tax havens from March 2010
Financial Action Task force (FATF): 40 + 9 Recommendations
Regionally there is a trend towards substance: E.g. South Korea, China and Indonesia
Tax planning for investments in Asia must take account of relevant developments, and
trends, in the taxation of foreign investors
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An overview of our presentation
 Our presentation will first address some of the current developments
in the taxation of foreign investors in Asia:
 This cannot be a complete discussion and for that we refer to “Taxation of Foreign
Equity Investors in Asia” which appears in TaxViews Asia Issue No. 2 (September,
2009)
 There will then be a discussion of the Prevost case
 We will then set out some of the trends that may be distilled in the area
of the taxation of foreign investors in Asia and what that means for
investment planning and in particular the future of holding company
planning for investments in Asia
 Finally, the possible use of Singapore Fund structures in Asia private
equity will be discussed. Some observations on investment planning by
private equity in Asia will also be made
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Current developments in the
taxation of foreign investors in Asia
 There are a number of important developments in the taxation of
foreign investors in Asia
 China:
 DWT must be withheld on dividends paid to “A”, “B” and “H” shareholders. The
procedure for claiming a reduced rate of DWT under an applicable tax treaty has also
been prescribed
 The taxation of “A” share gains earned by a QFII is yet to be addressed by the SAT.
These gains (as well as those arising on a sale of “B” and “H” shares) may be taxed
under the new EIT Law. At the same time the 1993 capital gains tax exemption for “B”
share gains has been removed. How China proceeds to deal with the taxation of
listed share sale gains is a key open issue. Pending guidance from the SAT there
remains uncertainty for investors in PRC listed company shares
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China
 The notions of economic substance and business purpose are embedded in
the general anti-avoidance rules in Article 47 of the new EIT Law and are
now a part of administrative practice in China
 Circular No. 2 clarifies the general anti-abuse clause. Among other things,
it provides that the tax authorities may initiate a general anti-avoidance
investigation to enterprises with the following tax avoidance arrangements:
(i) abuse of tax incentives; (ii) abuse of tax treaties; (iii) abuse of a
company’s legal form; (iv) tax avoidance through a tax haven; and (v) other
arrangements without bona fide business purpose:


In two recent tax cases - Chongqing Case and Xinjiang Case, China’s tax authorities either
disregarded or denied treaty benefits to an offshore special purpose vehicle - which were
found to lack substance. Although not specifically stated in the cases, tax practitioners
generally believe that the general anti-abuse clause in the new EIT law was the underlying
rationale and legal basis in deciding these two cases
Notice No. 81 (2009) empowers the tax bureaus in China to investigate and to deny treaty
benefits where the main purpose of a transaction or an arrangement is to obtain more
favourable treatment of dividends under a tax treaty
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India
 India:
 The Indian tax authorities have been giving greater scrutiny to cross border
transactions. The ongoing E*Trade case bears this out
 Generally, the use of the “Mauritius route” should mean that the possible
application of India domestic tax law to a share sale gain does not need to
be considered. This, however, may not be the case if shares in a Mauritius
company, which in turn has invested in an Indian company, are sold at a
gain
 The question is whether that share sale gain has a “business connection”
with India and therefore taxable under section 9(1) of the India Income
Tax Act, 1961. If so, a requirement on the purchaser of the shares to
withhold tax for remittance to the India tax authority arises under section
195 of the India Income Tax Act, 1961
 This issue arose in the Vodafone case
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India
 On 12 August 2009 the Finance Minister released a draft of the Direct
Tax Code and a Discussion Paper for public comment. The new Code
aims to replace current India Income-tax Act, 1961 and Wealth Tax
Act, 1957
 The new Direct Tax Code is to introduce provisions to prevent the
misuse of tax treaties. A general anti-avoidance rule (GAAR) is to be
introduced. Importantly, the Direct Tax Code will override tax treaties
which India has entered:
 The Direct Tax Code provides that: “For the purposes of determining the relationship
between a provision of a treaty and this code neither the treaty nor the code shall
have a preferential status by reason of its being a treaty or law; and the provision
which is later in time shall prevail”
 This provision is of particular interest to FII investors in India’s stock
exchanges
 The proposed Direct Tax Code is expected to become law in 2011
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Indonesia
 Indonesia:
 A new definition of “beneficial owner” has been introduced into Article 26 paragraph (1a)
of the Income Tax law: Law No. 36 of 2008. The new law took effect on January 1, 2009:

"The country of domicile of a foreign taxpayer, other than those carrying on business or conducting
business activity through a permanent establishment in Indonesia that receives income from
Indonesia, shall be determined based on the residence or domicile of the taxpayer that actually
receives the benefit of the income (beneficial owner). Accordingly, the country of domicile shall not
only be determined based on the Certificate of Domicile, but also the residence or domicile of the
beneficial owner of the said income. In the event that the beneficial owner is an individual, his/her
country of domicile shall be the country where the individual resides or lives, whereas if the
beneficial owner is a corporate entity, the country of domicile shall be the country where the owner
of more than fifty percent (50%) shares both individually or jointly domiciled or where the effective
management is located“.
 Other relevant developments in Indonesia related to the meaning of “beneficial
ownership” include: Circular Letter No. SE-03/PJ.03/2008 (and the revocation of
Circular Letters No. SE-04/PJ.34/2005 and No. SE-02/PJ.3/2006) and the recent decision
of the Indonesia Tax Court on beneficial ownership.(Interestingly, the Tax Court held that
the term ‘‘beneficial owner’’ is based on a substance-over-form doctrine and an economic
approach)
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South Korea
 South Korea:
An international substance over form principle has been introduced into Korean tax law,
together with a special withholding tax regime and procedures for asserting tax treaty claims
 South Korea is also working to re-negotiate several of its tax treaties to include a LOB article
 The Seoul Administrative Court recently issued judgments in two cases in which private equity
funds had established an investment holding company in Labuan and claimed the benefit of the
Korea–Malaysia tax treaty with respect to the gain that arose on the sale of shares in a Korean
company:
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
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The National Taxation Service (NTS) had denied the application of the tax treaty and assessed
capital gains tax to the foreign private equity funds arguing that the investment holding company
should not be respected as beneficial owner of the gain. Rather, the NTS said that the foreign
investors in each investment holding company should be viewed as the beneficial owner in
substance of the capital gains through an application of the substance over form principle under
Korean domestic law
The Seoul Administrative Court held that the Korean substance over form principle could apply in
the context of a tax treaty (even in the absence of an express beneficial ownership requirement in
that tax treaty with respect to capital gains). The share sale gains in question could thus be taxed in
Korea on the basis that the CGT exemption in the Korea–Malaysia tax treaty was not applicable in
these cases
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Australia and Japan
 Australia:
 Australia has introduced a broad based exemption from domestic
capital gains tax on most share sale gains. In very broad terms only
gains arising on the sale of real property companies are taxed
 Japan:
 Japan has recently relaxed the application of its capital gains tax to
certain Funds. Essentially the 25% tax exemption threshold is now
tested at the Limited Partner level and not that of the Partnership.
The domestic Japan capital gains tax is subject to an applicable tax
treaty capital gains tax exemption available to the Limited Partner
(subject to an assertion of that tax treaty exemption claim by the
Limited Partner)
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Recent case law: Prevost
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Facts:
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Prevost Car Inc. was a corporation resident in Canada and active in bus manufacturing. It was a
wholly-owned subsidiary of Prevost Holding BV, a Dutch resident holding company. The BV was
in its turn owned for 51% by Swedish resident Volvo Bus Corp., and for the other 49% by UK
resident Henly's Group PLC
Volvo Bus Corp. and Henly's Group PLC wanted to expand their business into Canada and the US
and considered doing so through a holding company, preferably -- for logistical reasons – in
Europe. For various reasons, it was decided to set up the holding company in NL
Volvo Bus Corp. and Henly's Group PLC entered into a Shareholders' Agreement, to which the
company (Prevost Holding BV) was not a party, and in which they agreed that not less than 80%
of the original (Canadian) Prevost Car Inc. profits that were received by the BV, were to be
distributed to them
Prevost Holding BV had no employees and no other investments than the shares of Prevost Car
Inc.
When Prevost Car Inc. paid dividends to Prevost Holding BV, it applied the NL-Canada treaty
and withheld only 5% tax. Canada Revenue Agency (CRA) took the position that the BV did not
exist, or that it was an agent or conduit for its shareholders – and that, instead, 15% withholding
tax under the Canada-Sweden treaty was due in respect of 51% of the dividends (for Volvo) and
10% withholding tax rate under the Canada-UK treaty for 49% of the dividends paid to the BV
The taxpayer appealed to the Tax Court of Canada, where the taxpayer won. CRA appealed to the
FCA
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Prevost


FCA (Observations):
 FCA reached the conclusion that “for the purposes of interpreting the Tax Treaty, the OECD Conduit
Companies Report (in 1986) as well as the OECD 2003 Amendments to the 1977 Commentary are a
helpful complement to the earlier Commentaries, insofar as they are eliciting, rather than contradicting,
views previously expressed”
 The "beneficial owner" of dividends is: the person who receives the dividends for his or her own use and
enjoyment and assumes the risk and control of the dividend he or she received. Where an agency or
mandate exists or the property is in the name of a nominee, one looks to find on whose behalf the agent
or mandatory is acting or for whom the nominee has lent his or her name
 When corporate entities are concerned, one does not pierce the corporate veil unless: the corporation is a
conduit for another person and has absolutely no discretion as to the use or application of funds put
through it as conduit OR has agreed to act on someone else's behalf pursuant to that person's
instructions without any right to do other than what that person instructs it, for example, a stockbroker
who is the registered owner of the shares it holds for clients
FCA (Findings):
 Prevost Holding BV was not an agent/mandatory or nominee
 Prevost Holding BV was not a conduit with “absolutely no discretion”, nor agreed to act upon another
person’s instructions
 Prevost Holding BV was: not a party to the Shareholders Agreement, was not obliged to pay dividends to
its shareholders, was the registered owner of the shares, and the dividends it received were its property
and are available to its creditors until it declared itself a dividend
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Trends in the area of the taxation
of foreign investors in Asia
 Certain jurisdictions (e.g. Australia and Japan) have broadened the scope of
the exemption from capital gains tax for non resident investors
 There is an emerging anti-avoidance principle in China that poses challenges
to the use of a holding company structures that seek to achieve a reduced rate
of DWT or a capital gains tax exemption.
 The trend towards substance is seen in South Korea and Indonesia
 The Vodafone case in India has highlighted the possible application of
domestic tax rules to tax an “offshore” gain on the sale of shares where that the
share sale gain has a “business connection” with India. Challenges to the
“Mauritius” route are also evident; most recently the Direct Tax Code and its
inclusion of a tax treaty override and GAAR
 The concept of “beneficial ownership” has been tested in the courts in
Indonesia and outside the region with implications for structuring
investments into Asia
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The future of holding company
structures in Asia tax planning

Tax treaty based planning for South Korea investments is not to be undertaken lightly in view of
recent developments:
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To the extent that tax treaty based planning has continued to be undertaken post 2005 for Korean investments
Ireland and the Netherlands have been used. These structures can be expected to be challenged
In a Fund context certainty of tax outcome is desirable in order to mitigate the risk of a claw back post investment
exit/distribution to investors, and penalties/interest. Query whether this suggests that a holding company other
than in a jurisdiction where the investor is located should be used. (It is noted that there is a domestic exemption
from capital gains tax for certain listed share sales). In a Fund context seeking a “look through” to tax treaty based
investors should be explored
The recently released draft Direct Tax Code that is due to take effect in 2011 and which is currently
subject to a consultation process has the potential to reshape investment planning for India. At first
blush each of the popular investment routes will be impacted. It is important to focus on these
changes and the current consultation process to ascertain what each might mean to India investment
planning in the longer term. In the near term developments in the E-Trade and Vodafone cases will
need to be followed as well as any steps taken by India to negotiate with Mauritius for a LOB Clause
in the India - Mauritius tax treaty
The fact that a jurisdiction has not focused on tax treaty abuse does not mean that is not possible:
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
For instance, in Thailand the focus on the legal registered owner of securities when applying a tax treaty capital
gains tax exemption. It is not inconceivable that this position may be revisited in due course
Given the possibility of penalties and interest being imposed following a change in law and/or practice, obtaining a
ruling is something that might be considered
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Singapore Funds – an alternative
 Enhanced Tier Fund Management Incentive
 Open to fund vehicles in the form of companies, trusts
and limited partnerships
 Minimum fund size: SGD$50m
 No restrictions on residency status of the fund vehicle
or the investors
 Effective: 1 April, 2009 – 31 March, 2014
 Tax treaty entitlements and Singapore funds
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Some observations for private
equity
•
•
•
•
If an investment focus of a Fund is or is to be China the impact of recent regulatory
developments may dictate consideration of the establishment of a RMB Fund as an Alternative
Investment Vehicle. The FVCIE has limitations, but permits the Fund access to deals that will
not otherwise be open to it
The FVCIE would be constituted as a non legal person CJV. (When foreign investment in
partnerships is permitted, FVCIE’s will convert to that legal form). Pass through tax treatment
for the FVCIE is typically confirmed by the Local Tax Bureau that has jurisdiction over the
FVCIE. This means that there is no EIT at the FVCIE “level”. The FVCIE Investors will for PRC
tax purposes be treated as deriving the gain from the sale of an investment in China. This gain
is subject to a 10% tax in China, although is subject to an applicable tax treaty exemption
To date most FVCIE investors have been set up as Hong Kong companies. To the extent that the
private equity investment is less than 25% of the investee, the capital gains tax exemption in
the Hong Kong - China tax treaty may be asserted
The tax treatment of Hong Kong investors in FVCIEs is a nuanced issue. The end result
should be that distributions by the FVCIE to the Hong Kong investor are not subject to Hong
Kong Profits Tax
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Some observations for private
equity (cont)
 “H” shares sale gains may be subject to 10% PRC EIT under the new EIT
Law:

Whether and if so how a tax on “H” share gains would be imposed is open to question
 To the extent that the possibility of tax exists consideration may be given to
a Luxembourg holding company to make this investment:


The Luxembourg vehicle that would be used is a SOPARFI
This is not to say that other jurisdictions (save for Hong Kong) may not be used
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