DRKLAWTALKS: Service Fee Paid Aboard: The Prime Suspect
This Article will cover a highly disputed issue in corporate income tax, i.e. service fee paid aboard. We will address issues, e.g. tax deductibility, withholding tax, VAT, and customs duty will be touch.
Service Fee Paid aboard: The Prime Suspect
As we all know, companies pay their corporate income tax on net profits, i.e. revenue
– expenses. And, one of the most famous expenses is service fees paid to their offshore parent companies or affiliates. The fee can be in the form of management service fee, technical service fee, royalties, engineering fee, know-how fee, etc.
The most crucial issue between the companies and Thailand’s Revenue Department is whether the paying companies are allowed to treat such fees as tax-deductible expenses. The Revenue Department now tends to go beyond the formal paper and evaluate the substance of the transaction. Where the substance is not clearly supported the tax authority would presume that the service fee is a tool to evade the tax by shifting the profits out of Thailand.
Service Fee, Tax Deductible Expense?
In principle, a company can treat an expense as a tax deductible expense if it is paid exclusively for the business of the company (Revenue Code Section 65 ter (13)).
And, it must not be excessively higher than the normal rate for the service.
Therefore, it would be essential for the paying companies to be able to answer questions, e.g. “Why do I pay a service fee?”, “Is the amount of the fee appropriate?”, or “How do I determine the service fee?” etc. Otherwise, the expense would become non-deductible. In such case, upon tax investigation, the Revenue Department may demand the companies to add back the amount, and that will result that the companies underpaid the income tax. Then the penalty and surcharge are looming.
Withholding Tax
The paying companies need to properly characterize the nature of the service and the type of income payable to the service providers in order to determine whether the service fee is subject to 15% withholding tax.
Under the Japan/Thailand Double Taxation Agreement (“DTA”), a service is considered “royalties” if it is paid for the use or the right to use intellectual properties
(e.g. trademark, patent, copyright, know-how, and secret commercial or industrial information). Royalties are subject to 15% withholding tax. However, if a service fee is paid as remuneration for general service, the fee is considered business profits and
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exempt from withholding tax. Therefore, it is important to know how to characterize the fee to arrive at proper withholding tax treatment.
Currently, the Revenue Department tends to consider a service fee as royalties. To that extent the payer of income is exposed to the tax and surcharge if it believes that the fee is business profits, but the Revenue Department views otherwise. If the company acts conservatively by deducting the tax, the receiving companies abroad may not be allowed to use the Thai withholding at as a tax credit. The latter case occurs often, and we have seen the Japanese Tax Authority visiting Thailand to discuss and resolve this issue.
VAT
In general, the service fee is subject to 7% VAT because it is a service consumed in
Thailand. (Thai VAT is based on place of consumption.) However, as we are unable to force the service provider to charge the VAT, Revenue Code Section 83/6 (reserve charge) requires the payer of income to remit the 7%VAT to the Revenue Department within 7 days of the following month in which the payment is made. Failure to comply with the regulation will result in the payer having to pay the 1.5% monthly
VAT surcharge until the tax is remitted.
Customs Duty
Payment of service fee can also lead the paying companies to violate the customs law.
In principle, the customs value is used as a tax base in determining customs duty and import VAT. It is important to note that some of the service is considered part of the value of the imported goods. For instance, a Thai company purchases finished goods at Baht 100 each and pays royalties on net sale, let’s say, Baht 3 each. The customs value in this case would be Baht 103. Where the importing company declares Baht
100, the import duty will be miscalculated and underpaid.
Most importantly, it is the rule that where a company pays a fee without being able to identify the reason or support the service, the fee will be considered as a subsidy of the imported goods to evade the duty.
In both cases, it will expose the company to severe customs penalties.
Therefore, the company would need to know the customs implications on the service fee, as it would likely become your time bomb.
What should we do?
Companies paying any forms of service fees should check whether they are complying with the Revenue Code and the customs law in order to prevent any violation. Violations will expose the companies to substantial consequences.
In this regard, DRK will arrange a full day seminar “the Many Aspects of Service Fee
Paid Overseas” on 16 March 2006 at the InterContinental Hotel. The seminar will touch on every angels of the service fee, and it should be useful and helpful to the
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attendants. Please see the attach brochure for details and registration or visit our website for more information at www.drklaw.com
*by Ms. Chollada Fuvattanasilp, Partner and Mr. .Monchai Vachirayonstien,
Director of Dherakupt International Law Office Ltd. (“DRK”)
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