Baker mc kenzie dec newsletter 2nd part


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Baker mc kenzie dec newsletter 2nd part

  1. 1. Private Banking NewsletterIndonesiaCreation of HNWI Tax OfficeThe formation of the HNWI Tax Office in 2009 heralds an attempt to increase tax compliance ofIndonesian HNWIs and collect more personal income tax from them. Individuals with assets of atleast US$1 million are pooled in this Tax Office. Currently, there are 1,200 taxpayers registered inthis HNWI Tax Office. All of them reside in Jakarta.This Tax Office serves as an intelligence bureau to monitor HNWI taxpayers’ transactions that havepotential to be taxed. So far, there has been no significant contribution from the HNWI Tax Officetowards tax revenue because most of the HNWI are shareholders of businesses or directors ofcompanies, so their income tax has been withheld from their salaries and dividends.Although the HNWI Tax Office’s contribution towards tax revenue is small, the Indonesian TaxAuthority is considering increasing the number of individual taxpayers whose tax affairs will beadministered in this HNWI Tax Office. The Indonesian Tax Authority is also considering includingother HNWIs who reside outside Jakarta. The Indonesian Tax Authority still considers that the HNWITax Office is the best tool to gather information about HNWI taxpayers and monitor their taxableassets and transactions.Wimbanu Widyatmoko (Jakarta)+62 21 515 4920wimbanu.widyatmoko@bakermckenzie.comNew rules prevent tax treaty abuseIn order to prevent tax treaty abuse, the Director General of Taxation issued two regulations that areknown as PER-61/PJ./2009 (Procedures to Implement Double Tax Avoidance Agreements) and PER-62/PJ./2009 (The Prevention of Misuse of Double Tax Avoidance Agreements). These stipulateprocedures that must be followed before non-residents are entitled to take advantage of reducedwithholding tax rates under Indonesia’s tax treaties.A. PER-61/PJ./2009 (Procedures to Implement Double Tax Avoidance Agreement)Under PER-61/PJ./2009, a party may only be able to benefit from a Double Taxation Agreement(DTA) protection if it satisfies the following requirements: a. the recipient of the income is a non-Indonesian resident taxpayer (eg not having any form of permanent establishment in Indonesia), b. the recipient of the income has submitted a Certificate of Residency validated by the competent authority of the country where the recipient is resident, and c. the recipient of the income is not misusing the DTA Agreement as governed in the regulations concerning prevention of misuse of DTA Agreements.As a further qualification of the above rule, the Certificate of Residency as mentioned above mustfollow a specific form set out by PER-61/PJ./2009, as follows:Baker & McKenzie – December 2010 33
  2. 2. a. Form DGT-1 (attached), to be used by parties other than parties who are specifically required to use Form DGT-2. b. Form DGT-2 which must be used by parties receiving income through a Custodian or Foreign Bank.Administratively, the Certificate of Residency must be: a. completed and signed by the recipient of the income, b. validated by the competent authority of the country where the recipient of the income is resident, and c. provided to the Indonesian tax withholder before the end of the monthly reporting period of the tax payable.The Indonesian tax withholder will then submit a copy of the Certificate of Residency as anattachment of its monthly tax return.Under this regulation, if payment is made to a non-resident tax subject, the Indonesian tax withholdermust submit its monthly tax return even if due to the application of the DTA Agreement, there is nowithholding tax payable.B. PER-62/PJ./2009 (The Prevention of Misuse of Double Tax Avoidance Agreements)PER-62/PJ./2009 specifically deals with the substantive issue of misuse of tax treaties. It sets out thesituations in which a misuse of a tax treaty is deemed to have occurred, and the consequences of suchmisuse.PER-62/PJ./2009 provides that misuse of a tax treaty can be deemed to occur if: a. the transaction has no economic substance and is performed by using a certain structure/scheme with the sole purpose of benefitting from the DTA, b. the transaction is structured in a way that means its legal form will be different from the economic substance for the sole purpose of benefitting from the DTA, or c. the recipient of the income is not the real owner of the economic benefit of the income (not the beneficial owner).If there is a difference between the legal form of a transaction and its economic substance, the taximplication will be determined based on the economic substance rather than the legal form of thetransaction.PER-62/PJ./2009 further elaborates that the term “beneficial owner” as mentioned above means arecipient of income who is not acting as: a. an agent, b. a nominee, or c. a conduit company.34 Baker & McKenzie – December 2010
  3. 3. Private Banking NewsletterMoreover, PER-62/PJ./2009 also states that the following individuals and entities will not beconsidered to be misusing tax treaties: a. an individual who is not acting as an agent or a nominee; b. an institution which has been expressly mentioned in the DTA Agreement or has been agreed by the competent authority in Indonesia and the treaty partner country; c. a non-resident taxpayer which has received income through a custodian from transfer of shares or bonds traded on the Indonesian stock exchange other than interest and dividends, provided that the non-resident taxpayer is not acting as an agent or a nominee; d. a company whose shares are listed and constantly traded on a foreign stock exchange; e. a pension fund that is established under the law of the Indonesian treaty partner country and is a tax resident of that country; f. a bank; or g. a company which has fulfilled the following requirements: i. the establishment of the company in the treaty partner’s jurisdiction or the arrangement of certain transactions entered into by the company not solely to exploit the DTA Agreement’s benefits; ii. the business activity is managed by a management that has authority to conduct transactions, iii. the company has employees; iv. the company has active business operation; v. the income received from Indonesia is taxable in the country of residence; and vi. the company will not use more than 50% of its total income received to fulfil its obligation to other parties in the form of interest, royalties, or other compensation.If the recipient of the income is deemed to have misused a tax treaty, the income received will besubject to the normal withholding tax rate as stated in the Income Tax Law (i.e. 20%).Besides setting out rules to prevent the misuse of DTA Agreements, PER-62/PJ./2009 also provides aform of protection to non-resident taxpayers that are subject to tax thereunder, namely, the non-resident taxpayer may apply to the competent authority where they reside to initiate a MutualAgreement Procedure in accordance with the rules of the applicable tax treaty.Wimbanu Widyatmoko (Jakarta)+62 21 515 4920wimbanu.widyatmoko@bakermckenzie.comBaker & McKenzie – December 2010 35
  4. 4. Indonesia - Hong Kong Tax TreatyOn 23 March 2010, Indonesia and Hong Kong signed a comprehensive tax treaty. The treaty willcome into force after the completion of ratification procedures on both sides. The new tax treatyprovides lower withholding tax rates on, for example, dividends than those under Indonesia’s taxtreaties with other countries.The rates under the new tax treaty for income in the form of dividends are as follows:A. dividends are taxed at a rate of 5% of the gross amount of the dividends if the beneficial owner is a company which holds directly a minimum of 25% of the capital of the company paying the dividends; andB. the maximum rate is 10% of the gross amount of the dividends in all other cases.Withholding tax on interest under the new tax treaty may not exceed 10% and the maximumwithholding tax on royalties is 5% of the gross payment.Further, the new tax treaty also contains an Exchange of Information clause under which the scope ofinformation exchange is restricted to “taxes covered” by the tax treaty, and the information exchangedshall be disclosed only to persons or authorities (including courts and administrative bodies)concerned with the assessment or collection of, the enforcement or prosecution in respect of, or thedetermination of appeals in relation to, the relevant taxes. The information shall not be disclosed toany third jurisdiction for any purposes.Wimbanu Widyatmoko (Jakarta)+62 21 515 4920wimbanu.widyatmoko@bakermckenzie.com36 Baker & McKenzie – December 2010
  5. 5. Private Banking NewsletterIndiaIntroduction of controlled foreign corporations regimeThe Indian Income Tax Act does not contain any provision for taxation of income of offshore foreigncorporations that are controlled by Indian residents. According to the Revised Discussion Paper onthe Direct Taxes Code released by the Ministry of Finance on 15 June 2010, it is proposed tointroduce a provision in the Code that, if the passive income earned by a foreign company that iscontrolled directly or indirectly by persons resident in India is not distributed to the shareholders,resulting in a deferral of taxes, the undistributed income will be deemed to have been distributed andtaxed in India in the hands of resident shareholders as dividends received from the foreign company.O.P. BhardwajAssociated Law Advisers of New Delhiala@ala-india.comRegulation of unit-linked insurance productsOn 9 April 2010, the Indian Securities and Exchange Board of India (SEBI) issued an order directing14 insurance companies not to issue any offer document, advertisement or brochure or raise moneyfrom investors as subscription for any product, including unit-linked insurance policies, having aninvestment component in the nature of mutual funds, without obtaining a certificate of registrationfrom SEBI.However, the Insurance Regulatory and Development Authority (IRDA) took the position that theorder of the SEBI was bad in law and without jurisdiction, and would adversely affect the interests ofinsurers and investors. Hence, by an order dated 10 April 2010, the IRDA directed that the 14insurance companies that could, notwithstanding the order of the SEBI, continue to carry on insurancebusiness as usual, including offering, marketing and servicing unit-linked insurance products inaccordance with the guidelines issued by the IRDA.In order to clear the uncertainty and the difference of opinion relating to the jurisdiction of SEBI andIRDA, an Ordinance was promulgated by the President of India on 18 June 2010 to clarify that “lifeinsurance business” includes any unit linked insurance policy. The Ordinance also provides for thesetting up of a joint mechanism consisting of the Finance Minister, Chairpersons of SEBI and IRDAand other officers for resolving any future differences of opinion as to whether any hybrid orcomposite instrument, having a component of money market investment or securities marketinstrument or a component of insurance or any other instrument, falls within the jurisdiction of IRDAor SEBI or the Reserve Bank of India or the Pension Fund Regulatory ad Development Authority.O.P. BhardwajAssociated Law Advisers of New Delhiala@ala-india.comBaker & McKenzie – December 2010 37
  6. 6. JapanEasing of anti-tax haven rulesJapan’s anti-tax haven rules (also referred to as the controlled foreign corporation (“CFC”) rules) havebeen liberalized as part of the 2010 tax reform program. While the CFC rules apply mainly toJapanese multinational companies, they also apply to foreign owned Japanese companies that controlforeign subsidiaries. Specific amendments are outlined below.A. Applicable foreign tax ratePrior to April 2010, the CFC rules were triggered when a foreign related company was subject to aneffective tax rate of 25% or less. “Foreign related company” is a foreign company, more than 50% ofthe shares of which are held directly or indirectly by Japanese companies, Japanese residentindividuals or Japanese non-residents who have a special relationship with a Japanese company orresident individual.From 1 April 2010, the Japanese CFC rules will only apply to CFCs with an effective tax rate of 20%or less. Thus, under the previous 25% threshold, a foreign related company in China (25% tax rate),South Korea (24.2% tax rate), Vietnam (25% tax rate), Malaysia (25% tax rate) and Taiwan (20% taxrate), would likely trigger the anti-tax haven rule, but under the revised threshold likely would not.B. Treatment of foreign dividend incomeIn calculating the effective tax rate to be used as the Anti-Tax Haven Rule “trigger”, dividend incomereceived by the CFC from related parties may be excluded from the CFC’s tax base. Specifically, thetax rules in effect before the revision allowed non-taxable dividends received from a foreign-relatedparty of the CFC to be excluded in calculating the effective tax rate of the CFC, provided that thecountry in which the CFC is located has minimum share ownership requirements with respect to itsparticipation exemption rules.Under the 2010 revision, the requirements of the Japanese tax rules have been relaxed, allowingforeign dividend income to be excluded from calculating the CFC’s tax base as long as either (i) theforeign country has minimum shareholding requirements with respect to the local participationexemption rules or that a company satisfies “other requirements” under that country’s laws withrespect to the participation exemption rules. Thus, where a CFC receives a dividend from a foreignrelated party that it may exclude from income under the laws of the local country, such dividendincome now may arguably be excluded in calculating the CFC’s effective tax rate for purposes of theJapanese Anti-Tax Haven Rules, regardless of whether a minimum shareholding requirement withrespect to the foreign dividend exclusion rule exists in the foreign country or not.C. Changes to shareholdingWhere a Japanese shareholder owned 5% or more of a CFC prior to 1 April 2010, income derivedfrom the CFC by the Japanese shareholder was deemed to be tainted and was to be included currentlyin the shareholder’s income for Japanese tax purposes. (What constitutes a “shareholder” for thesepurposes includes a Japanese company or a Japanese company belonging to a group which holds therequisite proportion of shares, either directly or indirectly.) From 1 April 2010, the CFC shareholdingthreshold has been increased to 10%, and a threshold test will apply at the end of each of the CFC’sfiscal years.38 Baker & McKenzie – December 2010
  7. 7. Private Banking NewsletterD. New exception to Business Purpose Test for a “Controlling Company”An exception to the provisions of the Tax Haven rules exists for a CFC which passes four tests: thebusiness purpose test (jigyou kijun), the substance test (jitai kijun), the management control test (kanrishihai kijun) and either the unrelated parties test (hikanrensha kijun) or the country of location test(shozaichikoku kijun). Very generally, the requirements of the tests are as follows: for the businesspurpose test, that the CFC engage in a business other than the passive holding of shares, licensing ofintangible rights, or leasing of tangible goods; for the substance test, that the CFC had a fixed place ofbusiness in the local country; and for the management control test, that the CFC engages inmanagement in the country in which it is located. If the CFC’s main business is wholesale, banking,trusts, dealing in securities or sea transportation or air transportation, it must pass the unrelated partiestest, whereby 50% or more of its transactions must be with unrelated parties; if its main business isother than one of the businesses listed above, it must pass the country of location test, such that it’smain business must be conducted in its country of location.Under the 2010 tax revisions, where a CFC is a “controlling company” (a “toukatsu kaisha”), asdefined below, the holding of shares will be disregarded in evaluating whether that CFC satisfies thebusiness purpose test. In order for a CFC to be a controlling company, the requirements are that (i) allthe CFC’s issued shares are held directly or indirectly by a Japanese parent; (ii) the CFC owns two ormore “controlled companies”, as defined below, which the CFC controls and (iii) the CFC has fixedassets and the necessary personnel in the country of its location to engage in the control of thecontrolled companies. For purposes of this provision, “controlled companies” must be at least 25%controlled, through share ownership and voting rights, by the controlling company, and must carry onan actual business in the country in which their head office is located.Additionally, if the other business conducted by the CFC for purposes of the “unrelated parties test” isa wholesale business, transactions with the controlled companies will be disregarded in determiningwhether the 50% threshold for non-related party transactions under the “unrelated party test” is met.E. Inclusion of passive investment incomeCurrently, where a Japanese resident owns less than 10% of the CFC, none of the income of theJapanese shareholder related to the CFC is included in the Japanese shareholder’s income forJapanese tax purposes. The 2010 reforms have changed this situation so that passive income receivedby a CFC from investments that would otherwise satisfy the active business exemption discussedabove will be included in assessable income for a Japanese shareholder. The following types ofpassive income will be included: a. Dividend income on shares, where the Japanese shareholder holds less than 10% of the total shares, and capital gains on the sale of those shares (if sold on an exchange or over the counter); b. Interest income on bonds, and capital gains on the sale of bonds (if sold on an exchange or over the counter); c. Income arising from industrial rights and copyrights; and d. Income derived from leases of aircraft and sea vessels.Where, however, the total passive income received by a Japanese company from a CFC amounts toless than 5% of its pre-tax profits or is less than JPY10 million in a fiscal year, then the new passiveincome inclusion rule will not apply. Further, for income derived by the Japanese company fromBaker & McKenzie – December 2010 39
  8. 8. items (i) and (ii) above, the relevant passive income will be excludable if it was in respect of activitiesof the CFC that are essential to its business.F. Exemption of double taxation on multi-tier companiesWhile dividends paid by a CFC out of previously taxed earnings directly to its Japanese parent aregenerally exempt from tax, this exemption has generally been lost where the dividends were paidindirectly; for example, by the CFC to another subsidiary of the Japanese parent and then onward tothe parent.From 1 April 2010, dividends attributable to previously taxed retained earnings of a lower-tier CFCare now exempt from tax in Japan if those dividends are paid through a non-CFC, but only to theextent of the smaller of either of the following, with respect to the year in which the dividend wasreceived by the CFC and the two years before the first day of the fiscal year in which the dividendwas received (“the three-year period”): a. the proportion of dividends received from the lower tier CFC within the three-year period; or b. the proportion of the lower tier CFC’s income taxed in the hands of the Japanese parent within the three-year period.Edwin T. Whatley (Tokyo)+813 5157 2801edwin.whatley@bakermckenzie.comNew Tax Information and Exchange AgreementsIn addition to new tax treaties, Japan signed its first Tax Information Exchange Agreement (“TIEA”)this year, and is in negotiations to ratify a second.A. Signing of New Japan-Bermuda TIEAJapan signed a TIEA with Bermuda on 1 February 2010 which allows for full exchange ofinformation regarding civil and criminal tax matters between the two countries.The Agreement provides a detailed mechanism for the exchange of tax information, with a view,according to the MOF of “preventing cross-border fiscal evasion and tax avoidance”.Although the main purpose of the agreement is to allow for sharing of fiscal-related information, theagreement also contains tax provisions relevant to pensioners, students, and government workers, “forthe purpose of promoting personal exchange between Japan and Bermuda” and further allows formutual agreement procedures between the two governments.While this was the 19th signed TIEA for Bermuda, it was Japan’s first and, according to the MOF,“will be Japan’s practical contribution in expanding the international information exchange networkaimed at the prevention of cross-border fiscal evasion and tax avoidance”.40 Baker & McKenzie – December 2010
  9. 9. Private Banking NewsletterB. Agreement on New Japan-Cayman TIEAOn 26 May 2010 the MOF announced that Japan and the Cayman Islands had agreed in principle on aan agreement for the exchange of information for the purpose of preventing fiscal evasion, and to setout rights between the country with respect to certain categories of taxation.Although the agreement is expected to include provisions to exempt tax at source for certain types ofindividuals, such as pensioners (similar to the TIEA with Bermuda, discussed above), the main focusof the agreement is expected to be exchange of information, so as to assist Japan in examiningpotential fiscal evasion.Edwin T. Whatley (Tokyo)+813 5157 2801edwin.whatley@bakermckenzie.comNew Social Security Agreement with BrazilOn 29 July 2010, Japan’s Ministry of Foreign Affairs announced it had signed a new Social SecurityAgreement with Brazil. Under the agreement, employees from one country temporarily working in theother country (for five years or less) will be able to join the pension system of the other country, andcount the period of employment in each country.This agreement should promote increased economic relations between the countries, which isparticularly important to Japan in light of Japan’s aging workforce and the perceived need foradditional potential labour sources.Edwin T. Whatley (Tokyo)+813 5157 2801edwin.whatley@bakermckenzie.comBaker & McKenzie – December 2010 41
  10. 10. MalaysiaIslamic Finance incentivesNumerous tax incentives were granted previously to promote Islamic finance in Malaysia. Theseincentives were extended in the government’s last budget in terms of scope and effective period.A. Export of financial services (a) Banking institutions currently enjoy a tax exemption on profits of newly established branches overseas or income remitted by new overseas subsidiaries. This will be extended to insurance and takaful companies too. (b) The current tax exemption is given for a period of 5 years from the commencement of operations of the branches or subsidiaries. This effective period will be given more flexibility to be deferred from the date of commencement of operations to begin not later than the third year of operations. (c) Currently, applications to establish new branches or subsidiaries overseas must be submitted to Bank Negara Malaysia between 2 September 2006 until 31 December 3 2009. This period will be extended until 31 December 2015.B. International Islamic Financial Centre (a) Currently, expenses incurred in the promotion of Malaysia as an International Islamic Financial Centre (“MIFC”) are given a double deduction incentive. This incentive was originally effective between YA 2008 until YA 2010. This has now been extended until YA 2015. (b) The deductible expenses, which need to be verified by the MIFC Secretariat, are: (i) market research and feasibility study; (ii) preparation of technical information relating to type of services offered; (iii) participation in an event to promote MIFC; (iv) maintenance of sales office overseas; and (v) publicity and advertisement in any media outside Malaysia.C. Expenditure to establish Islamic Stock Broking Companies (a) Currently expenditure incurred prior to the commencement of an Islamic stock broking company is deductible. The incentive is subject to the condition that the company must commence its business within a period of 2 years from the date of approval by the Securities Commission. (b) This incentive, which would originally expire on 31 December 2009 has been extended until 31 December 2015.42 Baker & McKenzie – December 2010
  11. 11. Private Banking NewsletterD. Incentives on issuance of Islamic Securities (a) Currently expenses incurred in the issuance of Islamic securities approved by the Securities Commission are deductible. (b) The incentive was originally effective from YA 2003 until YA 2010. It will now be extended until YA 2015. This incentive will be further extended to Islamic securities approved by the Labuan Financial Services Authority (“Labuan FSA”), effective from YA 2010 until YA 2015.E. Profits from non-ringgit sukuk (a) Currently profits from non-Ringgit Sukuk approved by the Securities Commission and issued in Malaysia are tax exempt from YA 2008. However, this tax exemption does not cover profits from sukuk approved by the Labuan FSA. Therefore, profits derived from the issuance of sukuk approved by the Labuan FSA will also be tax exempt effective from YA 2010.F. Standardizing tax assessment system for special purpose vehicles (a) Currently a special purpose vehicle (“SPV”) established under the Companies Act 1965 solely to channel funds for the purpose of issuing Islamic securities approved by the Securities Commission will not be subject to income tax and is not required to comply with administrative procedures under the Income Tax Act 1967. (b) Income received and the costs incurred in the issuance of Islamic securities by the SPV are deemed income and the cost of the company establishing the SPV. Therefore, the company establishing the SPV is subject to tax on that income and given a deduction on such cost incurred. (c) The above will now apply to SPV’s established under the Labuan Companies Act 1990 who elect to be taxed under the Income Tax Act 1967. This will be effective from YA 2010.G. Stamp duty exemption on Sharia Financing Instruments (a) Presently, stamp duty exemption is available on instruments executed pursuant to a scheme of financing which is in accordance with the principles of Sharia approved by the Bank Negara Malaysia and the Securities Commission. The same incentive is now extended to schemes of financing which are in accordance with the principles of Sharia approved by the Labuan FSA.H. Extension on stamp duty exemption on instruments of Islamic Financing (a) Presently, the instruments of Islamic financing approved by the Sharia Advisory Council of Bank Negara Malaysia or the Sharia Advisory Council of the Securities Commission are given additional stamp duty exemption of 20%. The additional exemption is given after ensuring tax neutrality between conventional and Islamic financing. The exemption period is now extended until 31 December 2015.Adeline Wong (Kuala Lumpur) Gladys Chun (Kuala Lumpur)+603 2298 7880 +603 2298 gladys.chun@bakermckenzie.comBaker & McKenzie – December 2010 43
  12. 12. Reforms affecting LabuanOn 2 April 2009, the OECD issued a report on the progress made by offshore jurisdictions in theimplementation of the international tax standard for the exchange of information, which categorizedLabuan IBFC as a jurisdiction on the OECD’s blacklist.Labuan FSA (then known as LOFSA) had issued a statement to the OECD to clarify Labuan’sposition. Labuan stated that it is committed to the international standard for the exchange ofinformation and has cooperated with competent tax authorities from other countries on tax evasionmatters and financial crime, particularly money laundering. As a result, in April 2009, the OECDrecharacterized Labuan as a jurisdiction committed to fighting tax abuse and to implementinginternationally agreed tax standards (that is, it was moved to the OECD’s gray list).In February 2010, the OECD listed Malaysia on the “White List” (that is, a jurisdiction that hassubstantially implemented the internationally agreed tax standards for transparency and exchange ofinformation between countries).Malaysia is committed to these international standards and has been engaging in discussions withMalaysia’s tax treaty partners to remove elements of its treaties that do not conform to the OECDstandards. Malaysia has signed an Exchange of Information (EOI) protocol with several countries aspart of a commitment to implementing the internationally agreed tax standard on transparency andexchange of information. The countries are Belgium, Brunei, France, Ireland, Japan, Netherlands,San Marino, Senegal, Seychelles, Turkey, United Kingdom and Kuwait. The protocols are in linewith the exchange of information provision of Article 26 of the OECD Model Tax Convention. Overthe next few months, Malaysia will be signing a number of other EOI protocols to continue toenhance its Double Taxation Agreements with other countries.This creates a higher platform for Labuan to position itself as a major regional and global offshorefinancial centre.Labuan’s commitment to the international tax standard on EOI is also reflected in the recent revisionsto the Labuan legislative framework on 11 February 2010.Changes to the EOI standards are embodied in amendments to existing legislation as well as in fournew acts. The new laws and amendments to existing legislations governing Labuan offshore entitiescame into effect on 11 February 2010. The four new acts enacted are Labuan Limited Partnershipsand Limited Liability Partnerships Act 2010, Labuan Foundations Act 2010, Labuan Islamic FinancialServices and Securities Act 2010 and Labuan Financial Services and Securities Act 2010.Amendments were made to the Labuan Business Activity Tax Act 1990, the Labuan Companies Act1990, the Labuan Trusts Act 1990 and the Labuan Financial Services Authority Act 1990.The new laws allow for the creation of Labuan Foundations, limited liability partnerships, protectedcell companies (insurance and mutual funds), shipping operations, Labuan Special Trust and financialplanning activities.A. Labuan Financial Services and Securities Act 2010 The new Labuan Financial Services and Securities Act 2010 provides for the registration of Labuan private trust companies to act as trustees for specific trusts where the settlors are family members or connected persons.44 Baker & McKenzie – December 2010
  13. 13. Private Banking NewsletterB. Labuan Foundations Act 2010 The new Labuan Foundations Act 2010 provides for the establishment of foundations based on the concept of contractual duties recognized in civil law countries. The main purpose of a Labuan foundation will be to manage its property and the founder and beneficiaries of a Labuan foundation may be residents or non-residents.C. Labuan Islamic Financial Services and Securities Act 2010 The new Labuan Islamic Financial Services and Securities Act 2010 sets the licensing and regulatory framework for Islamic financial services and securities in Labuan and provides for the establishment of Islamic banking and Takaful businesses including captive Takaful businesses plus Labuan Islamic trusts, foundations, limited partnerships and limited liability partnership. The Labuan Islamic Financial Services and Securities Act 2010 represent a prominent highlight in providing a platform for the establishment of Sharia-compliant entities to promote the continuing growth of the Islamic financial market. The roles and functions of the Sharia Supervisory Council (“SCC”), formerly known as the Sharia Advisory Committee, have been boosted with the enactment of this Act. Moreover, any rulings made by the SSC can now service as the reference point for the court in dispute resolution on Sharia issues related to Islamic banking and finance.D. Labuan Limited Partnerships and Limited Liability Partnerships Act 2010 The new Labuan Limited Partnerships and Limited Liability Partnerships Act 2010 renamed offshore limited partnership as Labuan limited partnership and provide for the establishment and conversion of Labuan companies into Labuan limited liability partnerships.E. Amended Labuan Companies Act 1990 The amended Labuan Companies Act 1990 allows for the incorporation and conversion of an existing Labuan company into a protected cell company (“PCC”) for the conduct of insurance and mutual fund businesses. The PCC remains a single legal entity but may segregate its asset into separate legally independent cells, each of which is ring fenced from the other cells.F. Amended Labuan Trusts Act 1996 The amended Labuan Trusts Act 1996 now allows a Malaysian resident to set up and be the beneficiary of a Labuan trust.The legislative overhaul is aimed at enabling Labuan to offer a wider range of financial products andservices and to become the first common law country to have specific legislation for Islamic financialservices. These complement the existing range of products and services readily available and provideinvestors with a wider choice of financial products to maximise investment opportunities whilstensuring that the business transactions and practices in Labuan IBFC continue to be conducted inaccordance with the internationally accepted standards and best practices.There have been other developments in Labuan that provide flexibility for Labuan banks and to locateits operations outside of Labuan.Baker & McKenzie – December 2010 45
  14. 14. A. On 19 January 2010, Labuan FSA announced that Labuan banks and Labuan investment banks have been accorded the added flexibility of being able to establish their offices in other parts of Malaysia other than Labuan with immediate effect.B. The recently introduced policy is an extension of the initiative that was introduced in May 2009 that allowed Labuan Holding Companies to establish their operational and management offices in Kuala Lumpur.C. This policy is aimed at attracting more international banks to choose Labuan IBFC as a base for their regional operations and leverage on the offerings of first class infrastructure, facilities, human capital and professional services that are available in Malaysia.D. The general criteria for establishing offices outside Labuan include the following: a. An application for approval to set up the co-located office submitted to LOFSA prior to its establishment; b. The applicant must continue to have applications continued holding of an office in Labuan with suitable number of staff to perform the functions assigned to the Labuan office; and c. The applicant is conducting the following business activities at the co-located office: i. banking business as permitted under the Offshore Banking Act 1990 or any other relevant legislation; and ii. any other banking businesses as may be permitted from time to time.Adeline Wong (Kuala Lumpur) Gladys Chun (Kuala Lumpur)+603 2298 7880 +603 2298 gladys.chun@bakermckenzie.com46 Baker & McKenzie – December 2010
  15. 15. Private Banking NewsletterReintroduction of Real Property Gains TaxAlthough Malaysia has a real property gains tax (RPGT) regime on gains from disposal of realproperty as well as shares in real property companies, real property gains were exempted fromMalaysian tax during the period 1 April 2007 to 1 January 2010. The Government has now reinstatedthe real property gains tax beginning 1 January 2010 where the disposal is made within 5 years fromthe date of the acquisition of such chargeable asset. Gains made from the disposal of chargeableassets which are held for more than 5 years will be exempted from the real property gains tax pursuantto the Real Property Gains Tax (Exemption)(No.2) Order 2009.Transfers of property between spouses, parent and child or grandchild as well as the once in a lifetimedisposal of residential property for a Malaysian citizen or a permanent resident of Malaysia willcontinue to be tax exempt.In many respects the RPGT, in its new incarnation, is fairly similar to the old regime but some of themost notable changes include:A. Both the disposer and the acquirer must submit a return on the disposal of real property via the requisite forms (regardless of whether the exemption applies) and the time allowed for doing so is extended to 60 days instead of one month under the old regime;B. An acquirer will be required to withhold 2% of the total consideration for the disposal or the whole amount of the cash consideration if that is less and, whether withheld or not, to pay that amount directly to the Inland Revenue within 60 days of the date of the disposal. Failure to do so causes a 10% increase in the amount payable. This is significantly different from the previous system under which the acquirer was required to retain a part of the disposal proceeds pending tax clearance but with no requirement to make any payment unless required by the Inland Revenue Board; andC. A certificate of non-chargeability will be issued to the disposer where there is no tax liability.A taxpayer who is an individual will normally be entitled in respect of each chargeable gain to anexemption of RM10,000 or 10% of that chargeable gain, whichever is greater.Where the disposal price of an asset is less than the acquisition price, there is an allowable loss.Relief is to be given for such loss by deducting it from the total chargeable gains for the year of theloss (after excluding, in the case of an individual the exemption of RM10,000 or 10% referred toabove). Any amount that cannot be relieved due to an insufficiency of chargeable gains can be carriedforward and offset in future years.This differs from the previous loss relief which required the allowable loss to be multiplied by the rateof tax that would have applied for that year if it had been a chargeable gain. Relief was then givenagainst tax on chargeable gains in the same or a future year. Old losses calculated in this waysustained up 31 March 2007, which have not been relieved, may be carried forward for relief in theperiod commencing 1 January 2010.Adeline Wong (Kuala Lumpur) Gladys Chun (Kuala Lumpur)+603 2298 7880 +603 2298 gladys.chun@bakermckenzie.comBaker & McKenzie – December 2010 47
  16. 16. Liberalization of foreign investment restrictions on real estate acquisitionsFollowing the announcement made by the Government on 30 June 2009 to liberalise propertyacquisition by foreigners, the Economic Planning Unit of one Prime Minister’s Department (“EPU”)has revised the Guidelines on Acquisition of Properties (“Guidelines”) accordingly. The newGuidelines came into effect on 1 January 2010.Those with foreign interests will no longer be required to obtain the approval of the EconomicPlanning Unit for acquisition of commercial, industrial, agricultural land above the value ofRM500,000. The relevant State Government will, however, continue to have authority in respect ofreal property transactions involving foreign interests.Acquisition of residential units by foreign interests will not require the EPU’s approval if the value ofthe residential unit is more than RM500,000. This measure will take effect from 1 January 2010 andwill increase from the previous threshold of RM250,000.Kindly note that those with foreign interests are not allowed to acquire the following:A. properties valued at less than RM500,000 per unit;B. residential units under the category of low and low-medium cost as determined by the State Authority;C. properties built on Malay reserved land; andD. properties allocated to Bumiputra interest in any property development project as determined by the State Authority.EPU approval is required for real property transactions resulting in the dilution of Bumiputras orGovernment interests in real property, as follows:A. Direct acquisitions of real property where (a) there is a dilution of Bumiputra or Government interests in real property; and (b) the real property is valued above RM20 million.B. Indirect acquisitions of real property by those with a foreign interest through acquisition of shares if: a. the transaction results in a change in control of the company owned by Bumiputra interests and/or a Government agency; b. real property makes up more than 50% of the said company’s assets; and c. the real property is valued at more than RM20 million.Where EPU approval is required, the following conditions will be imposed: a. the acquiring company is to have at least 30% Bumiputra shareholding; and b. a Malaysian-incorporated company owned by those with a foreign interest is to have at least a paid-up capital of RM250,000.48 Baker & McKenzie – December 2010
  17. 17. Private Banking NewsletterIn terms of timing for compliance with the above-mentioned conditions, the equity and paid-up capitalconditions for direct acquisition of property must be complied with before the transfer of theproperty’s ownership. For indirect acquisition of property, the equity and paid-up capital conditionsmust be complied with within 1 year after the issuance of written approval.With the liberalization of the new Guidelines, the purchase of real property is less cumbersome andcan be completed faster without the EPU approval. The relevant State Government will thereforecontinue to be the only regulator in respect of real property acquisition by foreign interests. Thiscould effectively mean that there could be varying degrees of liberalized foreign investment policiesbetween states.Adeline Wong (Kuala Lumpur) Gladys Chun (Kuala Lumpur)+603 2298 7880 +603 2298 gladys.chun@bakermckenzie.comBaker & McKenzie – December 2010 49
  18. 18. PhilippinesExchange of informationOn 5 March 2010, the President of the Philippines signed into law the Republic Act No. 10021otherwise known as the “Exchange of Information on Tax Matters Act of 2009” (the “Act”), whichessentially authorizes the Bureau of Internal Revenue (“BIR”) to exchange information on tax matterswith foreign counterparts to help fight international tax evasion.In the past, the government found it difficult to comply with the provisions on the exchange ofinformation set by international organizations due to certain legal restrictions, particularly thePhilippines’ strict bank secrecy laws. The Act, which amended some provisions of the NationalInternal Revenue Code of 1997, seeks to strengthen the government’s capacity to implement thecountry’s commitments under existing tax conventions or agreements. This comes on the back heelsof the Organization for Economic Cooperation and Development’s blacklisting the Philippines as atax haven last year.A common provision found in the tax treaties is exchange of information provisions, mandatingcooperation between the tax administrations of the two Contracting States. Thus, the competentauthorities are required to exchange such information as is necessary for carrying out the provisions ofthe tax treaty, or for the prevention of fraud, or for the administration of statutory provisionsconcerning taxes to which the treaty applies provided the information is of a class that can be obtainedunder the laws and administrative practices of each Contracting State with respect to its own taxes.A. Amendments introducedPrior to the passage of the Act, the authority of the BIR to inquire into bank deposits and other relatedinformation held by financial institutions was limited to investigations pertaining to: a. decedents for estate tax purposes; and b. applications for compromise settlements of taxes on the grounds of financial incapacity.The amendments introduced by the Act authorize the BIR commissioner to inquire into bank depositsand other related information held by financial institutions to supply information to a requestingforeign tax authority. The requesting foreign tax authority must provide the following information todemonstrate the relevance of the information to the request: a. The identity of the person under examination or investigation; b. A statement of the information being sought including its nature and the form in which the said foreign tax authority prefers to receive the information from the Commissioner; c. The tax purpose for which the information is being sought; d. Grounds for believing that the information requested is held in the Philippines or is in the possession or control of a person within the jurisdiction of the Philippines; e. To the extent known, the name and address of any person believed to be in possession of the requested information;50 Baker & McKenzie – December 2010
  19. 19. Private Banking Newsletter f. A statement that the request is in conformity with the law and administrative practices of the said foreign tax authority, such that if the requested information was within the jurisdiction of the said foreign tax authority then it would be able to obtain the information under its laws or in the normal course of administrative practice and that it is in conformity with a convention or international agreement; and g. A statement that the requesting foreign tax authority has exhausted all means available in its own territory to obtain the information, except those that would give rise to disproportionate difficulties.The Commissioner is mandated to forward the information as promptly as possible to the foreign taxauthority. To ensure a prompt response, the Commissioner shall confirm receipt of a request inwriting to the requesting tax authority and shall notify the latter of delinquencies in the request, if any,within sixty (60) days from receipt of the request. If the Commissioner is unable to obtain andprovide the information within ninety (90) days from receipt of the request, due to obstaclesencountered in furnishing the information or when the bank or financial institution refuses to furnishthe information, he shall immediately inform the requesting tax authority of the same, explaining thenature of the obstacles encountered or the reasons for the refusal.The Act likewise allows a requesting foreign tax authority to study the income tax returns oftaxpayers upon order of the President, subject to rules and regulations on necessity and relevance thatmay be promulgated upon enactment of the law.B. Acts penalizedIn order to prevent any potential abuse, the Act penalizes: a. BIR personnel for unlawful divulgence of information obtained from banks to persons other than the requesting foreign tax authority; and b. Bank officers who refuse to supply requested tax information.The requesting foreign tax authority likewise is mandated to maintain confidentiality of theinformation received.Dennis Dimagiba (Manila)+63 2 819 4912dennis.dimagiba@bakermckenzie.comBaker & McKenzie – December 2010 51
  20. 20. Data Warehousing of assets of taxpayer under InvestigationIn a move that perhaps foreshadows a tightening up of tax compliance with respect to HNWIs in thePhilippines, the government promulgated Revenue Memorandum Order No. 26-2010 in order toinstitute a system for the development of a Data Warehouse which will contain information on theassets of taxpayers under investigation that may be utilized in collection enforcement proceedings.The information will include, among others, the type of assets, the location of the assets, the bankaccounts maintained (including the type of account, the account number, and the name and address ofthe bank), Transfer Certificate of Title (TCT) number (in case of real property), name/address ofdebtor and all other necessary information.Dennis Dimagiba (Manila)+63 2 819 4912dennis.dimagiba@bakermckenzie.comSingaporeMental Capacity ActThe Mental Capacity Act (“MCA”) came into effect in 2010. The MCA is based on the UK’s MentalCapacity Act 2005 and introduces lasting (or enduring) powers of attorney in Singapore. A donor inSingapore may now use a lasting power of attorney to appoint a donee/donees to make decisions onbehalf of the donor in the event of the donor suffering mental incapacity. Such decisions may be inrelation to the donor’s personal welfare and/or property and affairs.Edmund Leow (Singapore)+65 6434 2531edmund.leow@bakermckenzie.com52 Baker & McKenzie – December 2010
  21. 21. Private Banking NewsletterSpainSpanish Budget for 2011: tax amendments and measures to stimulate investmentand employmentOn 21 December 2010 the Spanish Parliament approved the General Budget for 2011 which containsa number of tax amendments that are generally applicable as of 1 January 2011 in addition to the taxmeasures to stimulate investment and employment adopted on 3 December 2010 by the SpanishGovernment. The main amendments are outlined here below.1. Personal Income Tax a) Two new tax brackets have been introduced for taxpayers earning more than EUR 120,000: taxable income between Euro 120,000 and Euro 175,000 will be subject to a marginal tax rate of 44% while taxable income in excess of Euro 175,000 will be taxed at d 45%. The Personal Income Tax maximum rate up to now (43%) will continue to be applicable to income between EUR 53,407 and EUR 120,000. It should be noted however that half of the Personal Income Tax collections are attributed to Spanish Autonomous Regions and these have legal competence to modify the correspondent tax rates as well which some of them have also announced for 2011 increasing their tax rates up to 49% even. b) The 40% reduction of the tax base that applies to income generated over a period of more than 2 years has been limited and will apply only to income up to EUR 300,000 as of 1 January 2011. Over such amount non-periodic income will be taxed at the marginal tax rates in full. c) The 15% tax credit for annual costs including interest (up to Euro 9,015) incurred for the purchase or restoration of the taxpayer’s primary residence is virtually eliminated as it will be obly applicable to taxpayers earning less than EUR 24,170. However, those who have purchased their dwellings before 31 December 2010 and already benefit from this tax credit will be able to keep it until they have completely paid their houses. d) Finally, the 50% reduction of taxable income derived from the rental of dwellings will increase to 60% while the current 100% reduction that applies to rental income when the tenant is younger than 35 will only apply when the tenant is younger than 30 from 1 January 2011 onwards.2. Amendment of SICAV tax regimeOver the last years it has been usual that SICAV’s shareholders cashed back a significant part of theirinvestment into the SICAV not via dividends but with capital reductions or share premium returns thatallowed them to drain liquidity from the SICAV avoiding capital gains and deferring tax payment onthe capital gains to the moment the SICAV is transferred or winded-up.Further to the amendment to the SICAV tax regime approved by the Spanish Parliament, as of 23September 2010, income derived by Spanish resident individuals from collective investmentinstitutions (including not only Spanish SICAVs but also collective investment institutions and fundsregistered in other countries) as a result of capital reductions or share premium returns will begenerally taxed at 19%/21%.Baker & McKenzie – December 2010 53
  22. 22. The amendment also establishes that Spanish corporate shareholders of collective investmentinstitutions will be taxed by Corporate Income Tax as well on all income derived from capitalreductions or share premium distributions, without any deductions.3. Corporate Income TaxThe turnover threshold to qualify as a SME for Corporate Income Tax purposes has been raised up toEUR 10,000,000 and the amount of income obtained by SMEs that may be subject to the reduced taxrate of 25% (instead of the general 30% tax rate) has been also increased from EUR 120,000 to EUR300,000.SMEs whose transactions with a related party in a given year do not exceed EUR 100,000 are alsoreleased from preparing transfer pricing documentation unless they carry out transactions with relatedparties that are resident in a tax haven jurisdiction.For all kinds of companies, tax free depreciation of fixed assets and real estate used in businessactivities and acquired between 2011 and2015 has also been approved.4. Stamp Duty1% Stamp Duty that applied to the incorporation of companies and increase of share capital, tocontributions made by the shareholders that do not result in an increase of the share capital and to thetransfer of the registered address or the effective place of management to Spain of a company notresident in the European Union has been abolished as of 23 December 2010.5. Chamber of Commerce feeThis formerly mandatory fee based on the profits of companies has been modified so that it will onlybe paid by those companies that voluntarily choose to do so.Bruno Domínguez (Barcelona)+34 932 06 08 20bruno.dominguez@bakermckenzie.comBerta Rusiñol (Barcelona)+34 932 06 08 20berta.rusinol@bakermckenzie.com54 Baker & McKenzie – December 2010
  23. 23. Private Banking NewsletterTaiwanAlternative Minimum Tax and Tax on Offshore IncomeThe Taiwan Ministry of Finance (“MOF”) has finally issued the long awaited guidelines for taxationof offshore income (including capital gains) earned by individuals.Prior to 1 January 2010, Taiwan individual tax residents were taxed only on their Taiwan sourcedincome. However, offshore income will be subject to another tax regime, generally referred to asAlternative Minimum Tax (“AMT”), as from 1 January 2010.Under the previous system, individuals were required to file regular income tax returns withoutincluding their offshore income and certain other tax-exempted income, and to calculate their taxliability under the existing rates. Under the AMT rules, they are now required to add to such incomecertain tax-exempted income and deduct from this amount NT$6 million. The AMT rate of 20% willbe applied to the resulting figure. They will then be required to pay the higher of these two amounts.Effectively, what this means is that, from 1 January 2010, offshore income, if it exceeds NT$1million, will be included for calculation of an individual’s tax liability under the AMT rules.People have long been sceptical of the Taiwan government’s political willingness to tax offshoreincome. With the release of the guidelines, the MOF has signalled that it will be proceeding with thisplan.The MOF still faces technical hurdles in enforcing taxation of offshore income. First is the difficultyof collecting tax information from other countries, due to Taiwan’s unique political standing in theworld and small number (16 only) of tax treaties. Second is the fact that Taiwan does not have rules totax the income of offshore companies (CFC rules) and trusts that have been established by Taiwanresidents. This offers planning opportunities for individuals to hold their offshore assets through suchoffshore vehicles and thus avoid the application of the AMT rules.Without going into specifics, additional observations are as follows:(a) The definition of a “taxpayer” goes beyond Taiwan citizens. Expatriates who stay in Taiwan more than 183 days during a year will be subject to the AMT and thus will be taxed on their worldwide income. Depending on the facts of each case, employers who operate a tax equalization scheme for their expatriate employees might find this burdensome.(b) Distributions from mutual funds designated for investing in offshore securities will now be taxable. Such funds have been attractive to Taiwanese investors in the past because distributions were tax free until 31 December 2009. Under the new AMT, the market for these products is likely to suffer, and this will particularly affect foreign asset management companies. While capital gains from the redemption/transfer of shares in mutual funds issued by domestic asset management companies will very likely be deemed to be domestic capital gains from security trading and thus will remain tax free, such gains from funds issued by foreign asset management companies will be deemed to be offshore income and thus subject to AMT. This disparity will put foreign asset management companies at a tax disadvantage, and they are already lobbying against this proposal.There are planning opportunities for high net worth individuals who wish to defer the taxation of theiroffshore income. This is because the language of the guidelines and some of the provisions appearBaker & McKenzie – December 2010 55
  24. 24. inconsistent as to when particular types of income will be considered “earned”. The issue in thiscontext is whether repatriation of income and gains to Taiwan will be required for the AMT to apply.Dennis Lee (Taipei)+886 2 2715 7288dennis.lee@bakermckenzie.comUnlicensed financial institutions are not permitted to perform promotional activities inTaiwanOn 25 August 2010, the Taiwan Financial Supervisory Commission (FSC) promulgated anamendment to the existing rules that prohibit a non-Taiwan bank from promoting its services andproducts to Taiwan customers or conducting promotional activities through its onshore (Taiwan)presence.Specifically, the new rules explicitly forbid any Taiwan branch of a foreign bank from conducting anypromotional activities or client solicitation pertaining to opening offshore bank accounts or acceptingdeposits/funds from Taiwan residents for or on behalf of its head office, affiliates, or any other foreigninstitution that is not licensed under Taiwan laws.Illegal activities include (but are not limited to) providing business premises for promotional events,holding seminars, arranging business visits, assisting in verifying identities of clients, or any otherpromotional or client solicitation activity for the purpose of opening offshore bank accounts withunlicensed financial institutions, or accepting deposits/funds from Taiwan residents for unlicensedfinancial institutions.It is also unlawful for any employee of a foreign bank’s Taiwan branch to enter into any agreementwith any unlicensed financial institution to perform any prohibited promotional or client solicitationactivity for or on behalf of any unlicensed institutions.In addition, according to the new rules, Taiwan branches of foreign banks are obliged to inform thechief audit executives of their head office of these forbidden activities in order to prevent theiraffiliates or departments who do not have licence in Taiwan from conducting any promotionalactivities relating to opening offshore bank accounts or accepting deposits/funds from Taiwanresidents in Taiwan.Any violation of these new rules may subject the responsible person of a foreign bank’s Taiwanbranch to imprisonment for between 3-10 years, and/or a fine of between NT$10-200 million.In practice, clients in Taiwan will often need to open offshore bank accounts for the purpose ofaccepting services, or purchasing products, from offshore financial institutions who are likely to beunlicensed in Taiwan. In our view, the new rules simply reaffirm the FSC’s longstanding policy ofdisallowing unlicensed financial institutions from carrying out any direct client solicitation orpromotional activities in Taiwan with respect to unlicensed financial products or services in Taiwan,including offshore asset management and foreign insurance policies. These rules in effect furtherdiscourage the unlicensed promotion of offshore financial services or products in Taiwan. Unlicensedbanks are not permitted to promote their banking services in Taiwan; unlicensed securities firms arenot permitted to advertise their securities services or products in Taiwan; and unlicensed insurancecompanies are forbidden to directly solicit business from Taiwan residents in Taiwan.56 Baker & McKenzie – December 2010
  25. 25. Private Banking NewsletterWhile the content of the new rules is not anything new, their explicitness signals a new boldness bythe FSC to enforce its policies more diligently. In light of this more stringent policy, we anticipate(and have already observed) a growing assertiveness by the FSC to monitor and penalize unauthorizedactivities of unlicensed financial institutions in Taiwan.Michael S Wong+886 2 2715 7246michael.wong@bakermckenzie.comSabine Lin+886 2 2715 7295sabine.lin@bakermckenzie.comBaker & McKenzie – December 2010 57
  26. 26. UkraineCompanies in Ukraine made liable for corrupt practicesStarting from 1 January 2011, a company in Ukraine, other than a state-owned company or aninternational organization, may be subject to liability up to its liquidation for the acts of corruptioncommitted by its individual director, attorney in fact or shareholder (each, the “authorized person”).Such liability of the companies has been introduced by the new anti-corruption legislation of Ukraineconsisting of the Law “On Framework for Prevention of and Counteraction to Corruption” and theLaw “On Liability of Legal Entities for Corruption” (collectively, the “Anti-Corruption Laws”),which were adopted by the Parliament of Ukraine in June 2009.A legal entity may be held liable under the Anti-Corruption Laws only when its authorized person hascommitted a corrupt act which qualifies as a crime under the Criminal Code of Ukraine (e.g., giving abribe or intrusion into the courts’ activities) and provided that it has been made on behalf of acompany and for its benefit. We note that a company would be subject to the foregoing liabilityregardless of whether the authorized person had actually been found guilty and prosecuted for the actof corruption pursuant to legislation of Ukraine. A company would also suffer sanctions if the courtproceeding was not completed, inter alia, due to the authorized person’s death, or adoption of anamnesty law by the Parliament of Ukraine applicable to such authorized person.In addition to the liquidation of a company for corrupt practices such as terrorism financing, under theAnti-Corruption Laws, a company may also be subject to a fine up to approximately USD 32,000 (ifcalculated at the date of this newsletter), a prohibition to engage in certain business for up to a three-year period, or seizure by the state of the company’s property or moneys generated as a result of theauthorized person’s crime. The fine and seizure of properties and moneys may be applied to acompany in combination with liquidation or prohibition to engage into certain business.Finally, according to the Anti-Corruption Laws, a contract entered into as a result of corrupt practicesmay be declared null and void by the court.Andriy Nikiforov (Kyiv) Natalia Vilyavina (Kyiv)+38 44 590 0101 +38 44 590 natalya.vilyavina@bakermckenzie.com58 Baker & McKenzie – December 2010
  27. 27. Private Banking NewsletterUnited StatesIRS creates new taxation regime under the Voluntary Disclosure Penalty Frameworkfor PFICsUnder US tax rules, US-based mutual funds and investment funds are taxed in such a way that thetaxpayer must report income and gains from the fund on an annual basis. Thus, when the fund is sold,very little tax, if any, is owed. The purpose of these rules is to avoid the use of funds in such a waythat taxation, which should otherwise occur on an annual basis, is in some way deferred until a laterdate allowing items that would normally be taxed at ordinary income to be converted into capitalgains. 1Example #1: US mutual fund reflecting application of current tax rules. Investment Sale 1/1/2002 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 TotalsEXAMPLE 1US Mutual Note 1FundCurrent TaxRulesValue of Fund 500,000.00 535,000.00 572,450.00 612,521.50 655,398.01 701,275.87 750,365.18 802,890.74Growth Note 2 4% 20,000.00 21,400.00 22,898.00 24,500.86 26,215.92 28,051.03 30,014.61 173,080.42Income Note 3 3% 15,000.00 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 129,810.32Turnover Note 4 33% 6,600.00 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 9,904.82 57,116.54TaxableIncome:Non-qualified 15,000.00 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 129,810.32dividendShort-term 6,600.00 6,600.00capital gainsLong-term 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 125,868.70 166,480.42capital gainsTax:Dividend Tax 35% 5,250.00 5,617.50 6,010.73 6,431.48 6,881.68 7,363.40 7,878.83 45,433.611 Facts and assumptions used in the examples: 1. Initial investment of $500,000 made on 1 January 2002, which is assumed to be the start date for the mutual fund. This latter assumption eliminates the potential impact of unrealized gains inside the mutual fund at the time the individual invests in the fund. 2. Annual growth of the fund’s assets is assumed to be 7%: 4% growth in the value of the portfolio securities and 3% income attributable to interest and dividends. 3. Assume that no dividends are actually paid from the fund; all earnings on assets are invested inside the fund. 4. To highlight the benefit attributable to investing in a foreign mutual fund before the enactment of the PFIC rules, we assume that the income earned by the fund (3% annually) would constitute nonqualified dividends if distributed annually to the funds shareholders. 5. The voluntary disclosure filing period is assumed to be 2003 through 2008. 6. The entire fund is sold on 31 December 2008. 7. It is assumed that inside the fund one-third of the assets are sold each year producing a short-term capital gain in 2002 and long-term capital gains in each subsequent year. This allows us to demonstrate the required inclusion in income for a shareholder in a US mutual fund for the internal capital gains realized by the fund. 8. In all of the examples, generally, it is assumed that ordinary income and short-term capital gains are subject to tax at the top marginal rate.Baker & McKenzie – December 2010 59
  28. 28. STCG Taxed 35% 2,310.00 - - - - - - 2,310.00as ordinaryincomeLTCG Tax 15% - 1,059.30 1,133.45 1,212.79 1,297.69 1,388.53 18,880.31 24,972.06Total Taxes 7,560.00 6,676.80 7,144.18 7,644.27 8,179.37 8,751.92 26,759.14 72,715.67Note 1 The initial investment occurs at the time the fund is started, on January 1, 2002. All shares sold December 31, 2008. The fund is an income oriented fund with a large concentration in fixed income holdingsNote 2 The annual increase in the value of the portfolio including realized and unrealized gains.Note 3 Income from interest and dividends earned by the fund on its portfolio assets. All dividend income assumed to be nonqualified. All income is reinvested by the fund.Note 4 This is the portion of the increase in value of the fund that is realized each year through the sale of securities. After the first year of the fund, all gains are assumed to be long-term capital gains.In the non-US context, there is no mechanism to force a taxpayer to realise the income on an annualbasis.Example #2: Foreign mutual fund demonstrating the application of the tax rules in effect prior to theenactment of the PFIC rules in 1986. The result is compared to Ex. 1, showing the tax savings fromusing a foreign mutual fund, pre-PFIC rules. Investment Sale 1/1/2002 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 TotalsEXAMPLE 2Foreign Note 1Mutual FundPre-PFICRules 500,000.00 535,000.00 572,450.00 612,521.50 655,398.01 701,275.87 750,365.18 802,890.74Growth Note 2 4% 20,000.00 21,400.00 22,898.00 24,500.86 26,215.92 28,051.03 30,014.61 173,080.42Income Note 3 3% 15,000.00 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 129,810.32Turnover Note 4 33% 6,600.00 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 9,904.82 57,116.54TaxableIncome:Non-qualified -dividendShort-term -capital gainsLong-term 302,890.74 302,890.74capital gainsTax:Dividend Tax 35% - - - - - - - -STCG Tax 35% - - - - - - - -LTCG Tax 15% - - - - - - 45,433.61 45,433.61Total Taxes - - - - - - 45,433.61 45,433.61Tax Savings To Foreign Mutual 7,560.00 6,676.80 7,144.18 7,644.27 8,179.37 8,751.92 (18,674.47) 27,282.06Fund (Pre PFIC Rules)Note 1 The initial investment occurs at the time the fund is started, on January 1, 2002. All shares sold December 31, 2008. The fund is an income oriented fund with a large concentration in fixed income holdingsNote 2 The annual increase in the value of the portfolio including realized and unrealized gains.Note 3 Income from interest and dividends earned by the fund on its portfolio assets. All dividend income assumed to be nonqualified. All income is reinvested by the fund.Note 4 This is the portion of the increase in value of the fund that is realized each year through the sale of securities. After the first year of the fund, all gains are assumed to be long-term capital gains.Using the above example, using a non-US mutual fund creates a net saving of approximatelyUS$28,000. Thus, the US created a set of rules called the Passive Foreign Investment Company, or60 Baker & McKenzie – December 2010
  29. 29. Private Banking NewsletterPFIC rules. The purpose of these rules is to allow a taxpayer to elect to have a fund taxed as if it werea US fund or defer the tax until a later point. However, when it defers, it will be subject to an interestcharge and a conversion of income. Generally, a PFIC is defined as any non-US corporation needingeither an income test or an asset test. 2Example #3: Foreign mutual fund demonstrating application of the look back taxation rulesapplicable to section 1291 funds. The result is compared to Ex. 1 to show the additional tax cost ofusing a foreign mutual fund under the §1291 regime. Investment Sale 1/1/2002 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 TotalsEXAMPLE 3Foreign Note 1Mutual Fund(PFIC)§1291 Fund 500,000.00 Note 5 572,450.00 612,521.50 655,398.01 701,275.87 750,365.18 802,890.74Growth Note 2 4% 21,400.00 22,898.00 24,500.86 26,215.92 28,051.03 30,014.61 153,080.42Income Note 3 3% 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 114,810.32Turnover Note 4 33% 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 9,904.82 50,516.54TaxableIncome:Non-qualified - - - - - -dividendShort-term - - - - - - -capital gainsLong-term - - - - - - -capital gainsPFIC Other Note 6 - - - - - 43,354.72 43,354.72IncomeTax:Dividend Tax 35% - - - - - - -STCG Taxed 35% - - - - - - -LTCG Tax 15% - - - - - - -Tax on PFIC 35% - - - - - 15,174.15 15,174.15Other IncomePFIC Deferred Note 7 - - - - - 92,394.11 92,394.11TaxInterest on Note 8 - - - - - 24,410.93 24,410.93PFIC DeferredTaxTotal Taxes - - - - - - 131,979.19 131,979.19Additional tax vs. (6,676.80) (7,144.18) (7,644.27) (8,179.37) (8,751.92) 105,220.05 66,823.52domestic mutualfundNote 1 The initial investment occurs at the time the fund is started, on January 1, 2002. All shares sold December 31, 2008. The fund is an income oriented fund with a large concentration in fixed income holdingsNote 2 The annual increase in the value of the portfolio including realized and unrealized gains.Note 3 Income from interest and dividends earned by the fund on its portfolio assets. All dividend income assumed to be nonqualified. All income is reinvested by the fund.Note 4 This is the portion of the increase in value of the fund that is realized each year through the sale of securities. After the first year of the fund, all gains are assumed to be long-term capital gains.Note 5 In this example tax returns are filed for the tax years 2003 through 2008 under the VDP.Note 6 This represents the current portion of the gain from sale of the §1291 Fund (the “excess distribution) allocable to 2008 and taxable as ordinary income.2 The threshold on the income test is if 75% of the income is from a non-US source. The asset test is a 50% greater of theassets are subject to these rules. These rules primarily attack investment funds outside of the United States typicallystructured as Luxembourg SICAVs or unit trusts or some other fund vehicle.Baker & McKenzie – December 2010 61
  30. 30. Note 7 This is the tax attributable to the portion of the excess distribution that is allocated to each year in the holding period prior to the year of sale.Note 8 This is the compound interest charge related to the tax determined for each year in the holding period of the section 1291 Fund prior to 2008.Benefit of New ProtocolIncluding Penalty and InterestSale in 2008 2003 2004 2005 2006 2007 2008 TotalsEXAMPLE 3§1291 Fund§1291 tax and Interest - - - - - 131,979.19 131,979.19Interest on deficiency to 4/15/2010 - - - - - 5,385.87 5,385.87Accuracy penalty - - - - - 26,395.84 26,395.84Interest on penalty - - - - - 1,077.17 1,077.17Totals - - - - - 164,838.08 164,838.08Thus, while imperfect, the election to be taxed annually is designed to create “rough justice” with theequivalent onshore fund.There was a further option for taxation being a “mark-to- market”, but this was limited to certainpublicly traded investments and needed to be timely made.Example #4: Foreign mutual fund applying the section 1296 mark-to-market provisions. The result iscompared to Ex. 3, to show the savings from electing mark-to-market taxation (§1296). Investment Sale 1/1/2002 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 TotalsEXAMPLE 4Foreign Note 1Mutual Fund(PFIC)§1296 Markto Market 500,000.00 Note 5 572,450.00 612,521.50 655,398.01 701,275.87 750,365.18 802,890.74Growth Note 2 4% 21,400.00 22,898.00 24,500.86 26,215.92 28,051.03 30,014.61 153,080.42Income Note 3 3% 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 114,810.32Turnover Note 4 33% 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 9,904.82 50,516.54TaxableIncome:Non-qualified - - - - - - -dividendShort-term - - - - - - -capital gainsLong-term - - - - - - -capital gains§1296 Gain / Note 9 37,450.00 40,071.50 42,876.51 45,877.86 49,089.31 52,525.56 267,890.74(Loss)Tax:Dividend Tax 35% - - - - - - -STCG Taxed 35% - - - - - - -LTCG Tax 15% - - - - - - -Tax on §1296 35% 13,107.50 14,025.03 15,006.78 16,057.25 17,181.26 18,383.95 93,761.76IncomeTotal Taxes - 13,107.50 14,025.03 15,006.78 16,057.25 17,181.26 18,383.95 93,761.7662 Baker & McKenzie – December 2010
  31. 31. Private Banking NewsletterTax savings Note (13,107.50) (14,025.03) (15,006.78) (16,057.25) (17,181.26) 113,595.25 38,217.43vs. §1291 10Fund taxationNote 1 The initial investment occurs at the time the fund is started, on January 1, 2002. All shares sold December 31, 2008. The fund is an income oriented fund with a large concentration in fixed income holdingsNote 2 The annual increase in the value of the portfolio including realized and unrealized gains.Note 3 Income from interest and dividends earned by the fund on its portfolio assets. All dividend income assumed to be nonqualified. All income is reinvested by the fund.Note 4 This is the portion of the increase in value of the fund that is realized each year through the sale of securities. After the first year of the fund, all gains are assumed to be long-term capital gains.Note 5 In this example tax returns are filed for the tax years 2003 through 2008 under the VDP.Note 9 The increase in value for years prior to the VDP filing period (2002) is not subject to tax since the initial year of filing in this example is the year 2003.Note 10 The saving is attributable to the compound interest charge component of the §1291 fund tax and the tax on the appreciation in value for years prior to the VDP filing period.Benefit of New ProtocolIncluding Penalty and InterestSale in 2008 2003 2004 2005 2006 2007 2008 TotalsEXAMPLE 4§1296 Mark to MarketTax 13,107.50 14,025.03 15,006.78 16,057.25 17,181.26 18,383.95 93,761.76Interest on deficiency to 4/15/2010 5,717.76 5,177.87 4,239.71 2,992.95 1,694.81 750.22 20,573.33Accuracy penalty 2,621.50 2,805.01 3,001.36 3,211.45 3,436.25 3,676.79 18,752.36Interest on penalty 1,143.55 1,035.58 847.94 598.59 338.96 150.04 4,114.67Totals 22,590.31 23,043.49 23,095.79 22,860.24 22,651.28 22,961.00 137,202.11In the context of banks outside of the US, the use of investment funds is incredibly important,particularly for smaller clients. The reason being that these funds allow for diversification thatotherwise might not be possible in an account. Further, it allows for an additional fee level that mightnot be able to be possibly obtained. In the authors’ experience, some 40% to 50% of most accountsheld by banks outside the US, particularly wealth management institutions, will be in the form ofoffshore investment funds that will be classified as PFICs. As discussed and illustrated above,unfortunately from a US tax perspective, these are incredibly destructive.Because on many occasions the acquisition value of the fund is unknown, the manner in which theyare taxed is extremely onerous, and the valuation structure is highly unfair. Further, in the context ofPFICs, very few taxpayers or their professionals were actually aware of these rules and, as aconsequence, certain practitioners ignored the effect of PFICs treating them all as capital gainsinvestments. Other practitioners were very careful to try and administer as best as possible. Lastly,some practitioners were using a “mark- to-market” approach as if an election that could had beenmade was made allowing for treatment.Unfortunately, this disparate result and lack of knowledge of these rules and their taxation createddisparate results for taxpayers. It also created a situation in which taxpayers not complying with thelaw [found themselves in a better position] than those who made good faith attempts to comply withthe law. In view of this, in early August the IRS created a system designed to be “fair” to alltaxpayers by effectively admitting that the PFIC taxation regime does not work and created asubstitute that was understandable and fair for everyone.Baker & McKenzie – December 2010 63
  32. 32. Economically, the result of this is a substantial saving for many taxpayers. Taking a look at theexample above, and applying it to this new system, the following is gleaned:Example #5: Foreign mutual fund subject to the mark-to-market provisions as modified by the newprotocol. The result is compared to Ex. 4, to show the savings compared to the normal mark-to-market rules under §1296. Investment Sale 1/1/2002 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006 12/31/2007 12/31/2008 TotalsEXAMPLE 5Foreign NoteMutual Fund 1(PFIC)New ProtocolMark toMarket 500,000.00 Note 5 572,450.00 612,521.50 655,398.01 701,275.87 750,365.18 802,890.74Growth Note 4% 21,400.00 22,898.00 24,500.86 26,215.92 28,051.03 30,014.61 153,080.42 2Income Note 3% 16,050.00 17,173.50 18,375.65 19,661.94 21,038.28 22,510.96 114,810.32 3Turnover Note 33% 7,062.00 7,556.34 8,085.28 8,651.25 9,256.84 9,904.82 50,516.54 4TaxableIncome:Non-qualified - - - - - - -dividendShort-term - - - - - - -capital gainsLong-term - - - - - - -capital gainsMark to Market Note 72,450.00 40,071.50 42,876.51 45,877.86 49,089.31 52,525.56 302,890.74Gain / (Loss) 11Tax:Dividend Tax 35% - - - - - - -STCG Taxed 35% - - - - - - -LTCG Tax 15% - - - - - - -Tax on M to M Note 20% 14,490.00 8,014.30 8,575.30 9,175.57 9,817.86 10,505.11 60,578.15Gain / (Loss) 12Interest on 2003 Note 7% 1,014.30 - - - - - 1,014.30tax 13Total Taxes - 15,504.30 8,014.30 8,575.30 9,175.57 9,817.86 10,505.11 61,592.45Tax savings vs. Note (2,396.80) 6,010.73 6,431.48 6,881.68 7,363.40 7,878.83 32,169.31§1296 Mark to 14MarketTax savings vs. Note (15,504.30) (8,014.30) (8,575.30) (9,175.57) (9,817.86) 121,474.08 70,386.74§1291 Fund 15Note 1 The initial investment occurs at the time the fund is started, on January 1, 2002. All shares sold December 31, 2008. The fund is an income oriented fund with a large concentration in fixed income holdingsNote 2 The annual increase in the value of the portfolio including realized and unrealized gains.Note 3 Income from interest and dividends earned by the fund on its portfolio assets. All dividend income assumed to be nonqualified. All income is reinvested by the fund.Note 4 This is the portion of the increase in value of the fund that is realized each year through the sale of securities. After the first year of the fund, all gains are assumed to be long-term capital gains.Note 5 In this example tax returns are filed for the tax years 2003 through 2008 under the VDP.Note 11 Under the new protocol the entire appreciation in the value of the fund is taxable in the first year of the VDP filing period, 2003.Note 12 This is the tax rate mandated by the new protocol applicable to gains reported during the VDP filing period, 2003 through 2008.Note 13 Under the new protocol the tax calculated for the first year of the VDP filing period, 2003, is subject to an interest charge of 7%.Note 14 The saving is attributable to the mandated tax rate for gains on stock subject to mark to market rules under the new protocol. This benefit is offset somewhat by the taxation of the amount of appreciation attributable to years prior to the VDP filing period64 Baker & McKenzie – December 2010