Chapter 4 Investment Income Investment Income 1. Dividend income [sec 4(c)] 2. Interest income [sec 4(c)] 3. Discount income [sec 4(c)] 4. Rental income [sec 4(d)] 5. Royalties income [sec 4(d)] 6. Pension income [sec 4(e)] 7. Annuity income [sec 4(e)] 8. Other income [sec 4(f)] Dividend Income • Assessable under sec 4(c) of ITA 1967 but may be assessed under sec 4(a) if the stock, share or other source to which the dividend relates forms or has formed part of the stock in trade of a business. • Definition is not stated in the Act, but in general, dividend represents DISTRIBUTION or PAYMENT OUT OF PROFITS or undistributed profits of a company, whether in MONEY or OTHER PROPERTY to its shareholders in accordance with the shareholding ratio. • Dividend would results a reduction of the assets of a company and an increase of wealth of the shareholders. Dividend Income The followings are NOT classified under dividend: – Bonus Shares (no change in percentage of holding) – Capital reduction scheme - require sanction from High Court – Distribution of assets arise from liquidation is not income – Right issues – Shares buyback Derivation of Dividend Income Sec 14: All dividends paid, credited or distributed by resident company are DEEMED TO BE DERIVED from Malaysia (Determination of resident status for company is by establishing the fact that mgt & control of the company are exercised in M’sia - i.e. held at least once director meeting in M’sia) Basis of Assessment • Dividend is taxable in the year of assessment when: – dividend is being paid – dividend is being credit OR – dividend is being distributed Date of declaration/date of approval is IRRELEVANT Imputation vs single tier system • Prior to 1 Jan 2008, dividend is taxable on the hand of individuals because Malaysia applies imputation system (tax at corporate level and shareholder level). • However, commencing from YA 2008, Malaysia decided to switch over to single tier system, where profit will be taxed at company level. This is the final tax. Dividend received by shareholders are exempted. • During transitional period of 6 years (1.1.2008 – 31.12.2013), companies may elect not to switch to single tier system (companies that still have credit sec 108 account on 31.12.2007) If this is the case, the dividend is still taxable on the hand of individuals. Dividend Income Sec 108 stipulates that dividends paid, credited or distributed by resident companies are subject to deduction of tax at source at the current corporate rate. Thus, dividend received by shareholder is NET OF TAX. For the purpose of calculating the taxable income of individuals, dividend should be GROSS UP by current corporate rate (YA 2009: 25%) Gross dividend = Net dividend/ (1 – tax rate) However, the recipient of the dividend would be able to claim a set-off under sec 110 against his/her tax payable If not fully utilised, the excess/balance will be refunded to the taxpayer. Dividend Income Example: • In 2009, Mr Karim received dividend amount RM 7500 from Syarikat Kaya Cepat Bhd. The company did not elect to switch to single tier system. Calculate the taxable dividend income for Mr Karim. • Answer: Gross dividend = RM 7500/(1 – 0.25) = RM 10,000 Dividend Income For dividend in specie (other than money), the dividend value is equal to market value of the property at the TIME OF DISTRIBUTION of the dividend. Dividend Income Example: in 2009, Harimau Sdn Bhd distributed 100,000 GTT shares to its shareholders. The market value of the GTT shares at that time of distribution is RM 3.75 per share. Harimau Sdn Bhd did not elect to switch over to single tier system. Answer: Market value is deemed net dividend (net of 25% tax) and thus the total amount of dividend paid by the company is RM500,000 [tax is deemed to have been deducted at 25% which is RM125,000] Cum-dividend vs Ex-dividend • Cum dividend : purchaser of the shares knows he will receive a dividend that had been declared. Cost of shares include the dividend amount, thus dividend received is NOT TAXABLE • Ex-dividend : purchaser knows he will not receive dividends as it belongs to the seller. Deductions • Only WHOLLY & EXCLUSIVELY expenses – Any excess of expenses over dividend cannot be carried forward to the next year. (e.g. interest on loan used in order to purchase share) – However, with the implementation of single tier system, no expense are allowed to be deducted from dividend income Exemptions Para 12A Schedule 6 of ITA 1967 • Dividend paid, credited or distributed to a member of a co-operative society • Dividend paid out of an exempt income account arising from tax incentives enjoyed by a resident company under • ITA 1967 (e.g. reinvestment allowance, approved service project, venture capital companies) • Promotion of Investment Act 1986 (pioneer status, investment tax allowance, industrial adjustment allowance). • Foreign income received by resident companies (except for companies involved in banking, insurance, sea and air transport) and unit trust. • Dividend income paid by companies with credited balance in the sec 108 account and have made irrevocable option to elect for single tier system Interest Income • In case law, interest is defined as being compensation for delayed payment or payment by reference to time for the use of money. • Interest is different from premium. Premium normally associates with capital risk while fixing the terms of contract. Interest Income • Assessable under sec 4(c) or sec 4(a) of the ITA 1967. Assessable under sec 4(a) business income if – it is received from trading debts – it is received in the ordinary course of the business – it is earned by specialised industries like bank/insurance Derivation of Interest Income • Interest income is taxable if – the income is derived /deemed to be derived from M’sia – the income is received in M’sia from overseas (for resident companies in air or sea transport, insurance or banking) Derivation of Interest Income Interest is deemed to be derived from M’sia when: 1. Payment is made by government /state government 2. Interest charged as outgoing expenses against income accruing/derived from Malaysia 3. Payment by resident person for debt secured by any property or asset situated in Malaysia 4. Payment by resident person for money borrowed to employ/buy assets and that assets is used or held for the production of Malaysian derived income. Basis of assessment – Past interest income: taxable in the year it first becomes receivable when it has been received [sec 27(1)] – Past interest income and overlapping: apportioned according to the relevant period on a time basis [sec 27(2)(a)] – Past interest income, overlapping and part of income accrued > 5 years period: the whole income is taxable on the 5th year [sec 27(2)(b)]. Basis of assessment – Past interest income, whole amount received > 5 years: income is taxable in the 5 years before the beginning of YA when DGIR was made known [sec 27(2)(c)]. – Future interest income: taxable in the year of receipt [sec 27(3)] Interest Non resident: • will be subject to 15% withholding tax on interest income (or any other rate determined by relevant DTA) Resident individuals: • 5% if interest being paid by approved financial institutions (except when the interest is exempted). Deduction • A strict & rigid Sec 33 (Wholly & Exclusively) test applies. Example: If a loan is obtained by a company for the purpose of lending the money to its employees (thus the co will get interest income), then interest expenses incurred on the loan is deductible/allowable against interest income. Exemptions • List of interest income derived from Banks & Financial Institutions that exempted from income tax at page 112 - 114 (Jeyapalan’s book). Exempted Interest on Bond Bond Government Companies Central Bank EXEMPTED Bon Simpanan Malaysia Convertible Non Convertible EXEMPTED TAXABLE Listed co. EXEMPTED Non listed co. Not Rated TAXABLE Rated EXEMPTED Discount Income • Assessable under sec 4(c) • Definition: where a person acquired the bill of exchange ( or promissory notes) before maturity at an amount less than its face value. Profit accrued by holding the bill until maturity or sale before maturity is called as discount. • Does not include : discount allowed by traders on purchase of goods or discount received from creditors for earlier payment Derivation of Discount Income Discount is said to be derived from Malaysia if the bill of exchange is transacted in Malaysia and gives rise to profit. The profits from discounts are taxed only when it is realised (i.e. on maturity date/date of sales, whichever is earlier). Exemptions Discount income received on • Securities or bonds issued or guaranteed by the government • Debentures other than convertible loan stocks approved by the securities commission • Malaysian savings bonds issued by Bank Negara in the hands of individuals, unit trusts and listed closed-end fund Rental Income • Definition: Sec 2 of ITA 1967 – Any sum paid for the use or occupation of any premises or part thereof or for the hiring of any thing. • Rental is assessable under sec 4(a) or 4(d). Based on IRB Ruling, rental income falls under sec 4(a) business income if taxpayer owns minimum unit of properties under any of the following categories: Rental Income No of units owned Factory At least 1 Warehouse At least 1 Commercial building/Office/shopping complex • whole complex At least 1 • std lot At least 3 & total area at least 1000 sq. ft. Shop house 2 & situated in commercial area Resident property (house/condominium/ apartment) At least 4 (not including property rented to employees) Mixture of properties At least 4 Derivation of Rental Income – Movable property: place the property is used OR place where business of lessor is carried on • Examples of movable properties are plant, machinery and motor vehicles – Immovable properties : properties are situated in Malaysia • Examples of immovable properties are land, commercial building and residential properties Basis of Assessment • Rental income is assessed on receipt basis but it will be treated as gross income for the period when it first becomes receivable [ sec 27(1)]. • Past rental income, overlapping, time barred [sec 27(2)(a) to (c)]* • Advanced rental is assessable in the year of receipt, for the period when the income first become receivable [sec 27(3)]. • Not including deposit : deposits are assessable in the year of conversion. * Similar to derivation of interest income Rental Income • Deductible expenses in relation to the rent incurred in a later period are not deductible in the later year period. Such expenses are deductible to basis period in which the income is assessable. Rental Income Example: Ho received rental income of RM 6,000 for the 3 months period on 1/12/09. In the month of Jan 2010, he did some repair works at the cost of RM 2,000 on the rented property. In which Y/A the rental income would be assessable & in which basis period should repair cost be deducted? Rental Income Answer: • Rental income would be assessable in the year of assessment 2009 because advanced rental is taxable in the period when it is received. • Repair cost would be deductible in the year of assessment 2009 although it is incurred in 2010 because that cost is not incurred in production of income in year 2010. Rental Income • Deductible expenses: Wholly & Exclusively test • Examples: – cost of repairs & maintenance – insurance premium on fire/burglary for property – cost of supervision & rental collection – assessment and quit rent for the property – interest on mortgage – cost of renewing tenancy agreement Rental Income • Examples (continue): – cost of obtaining tenant to replace old tenant. Cost of obtaining first tenant is NOT ALLOWABLE, for instance advertising, legal expenses. – Cost incurred for pest control – Sewage charges • Rent from each property is treated as a separate source of income or separate 3 groups (residential properties, commercial properties and vacant land) • Rental payments of moveable property and technical services made to non-resident persons are subjected to 10% withholding tax. This is the final tax. Rental Income • Taxpayer who derives gross rental income from an industrial building that is leased/rented out is eligible for expenses and capital allowances. • If disposal of an industrial building resulted in a balancing charge, the balancing charge is added to adjusted rental income • Rental loss is not allowed to carried forward Premium Income • Definition: a form of once and for all payment made by the lessee as a consideration for the right to enter into a lease agreement or for the grant of the lease on immoveable properties. • Generally, premium is held to be capital receipt. • But it is assessable under sec 4(d), if the premium is received by a persons carrying on business of renting properties. Premium can also be paid by instalments. Premium Income • Derivation of income: immovable properties are located in Malaysia. • Only the landlord is assessable to tax • For tenants, premium paid is not deductible expenses Royalty Income • Royalty is defined in the Act as 1. Any sums paid as consideration for the use, or the right to use: • copyrights, artistic/scientific works, patents, designs or models, plans, secret processes or formulae, or tapes for radio/television broadcasting, films • know-how or information concerning technical, industrial, commercial or scientific knowledge, experience or skill Royalty Income Definition (continue) 2. Income derived from the alienation of any property, know how or information mentioned in para (a) of this definition. • When foreign enterprise derives royalty income from M’sia, the definition will differ according to Double Taxation Agreement. DTA’s royalty definition would prevail. Derivation of Royalty Income • Royalty income is taxable if – the income is derived /deemed to be derived from M’sia – the income is received in M’sia from overseas (for resident individuals) Derivation of Royalty Income • Royalty is deemed to be derived in M’sia for: – payment made by the Government/State Government – payment made during a basis year by an individual who is a resident for the same basis year – if royalty is charged as an outgoing expense against any income accrued in/derived from M’sia Deduction & Exemption Deduction: – The same rules applies (wholly & exclusively test and sec 39) Exemption: – Income RM 6,000 from royalty/payment in respect of publication, the use/right to use any artistic work (other than original painting), or royalty from recording disc/tapes. Exemptions – Income of RM 12,000 from: • officially requested by MOE, MOHE or Attorney General’s Chambers for translation of books or literary works – Income of RM 20,000 from: • royalty/ other payment for the publication, use/right to use any literary work or any original painting • Any musical composition – Full exemption on cultural performances approved by the Minister *Note: No exemption is available in respect of emoluments in the exercise of the individual’s official duties). Annuity Income • Assessable under sec 4(e) • Definition: a definite sum of money payable on a regular basis , either in perpetuity for life/fixed term under a contract, will or settlement – Capital installment is not annuity – Exempt: annuity income receive from Malaysian life insurers & takaful operators( i.e. life insurers & takaful operators whose ownership/membership are held in majority by Malaysian citizens. Basis of assessment • Gross income from annuity will be assessed in the year it first becomes receivable, when it is received. [sec 27(1)] • If a person is entitled to the annuity income accruing in/derived from Malaysia, and is able to obtain receipt thereof on demand, the annuity is deemed to be received by him although it is not physically in his hands [sec 29(1)] Pension Income • Assessable under sec 4(e) • Definition: a periodical payment made to individual who has permanently ceased to exercise an employment, either voluntarily or contractual. • Payment of pension involves two parties: – Recipient: employee, his wife/child/relatives/ dependants. – Payer: employer/successor of the employer Derivation & Exemptions • Pensions are deemed to derived from M’sia if – paid by government/state government [s 17(1)] – paid from pension fund/under pension scheme/ by virtue of membership of a pension society AND the admin of the fund/scheme/ society is in M’sia *s17(2)+ – the person paying the pension is resident in M’sia [s17(3)] • Lump sum withdrawal is not subject to income tax as it is a capital receipt. • Exemption : refer page 127 (Jeyapalan’s book). Other gains of profit • Assessed under sec 4(f) • A catch-all sweeping section with the requirement that the item included in its scope must be income from gains or profits ,which are ejusdem generis (i.e. of the same general class) with the preceding paragraphs [4(a) to (e)] though not falling precisely within any of them • Example: alimony payment and sums payable under a separation order.