THERE is often little attention given to intangibles in tax matters, even though they represent a significant portion of value in many transactions.
The focus generally is on tangibles, services and financing. For example, when purchasing a car, most of the value lies in the intangibles – the brand, know-how, research and development, and patents – rather than in the cost of the physical materials used to make it.
Any transaction that involves intangibles triggers many types of tax issues i.e. the tax treatment of the income and the payments for the use of the intangible, the values associated with the transfer of intangibles, transfer pricing of transactions between related companies, and indirect tax considerations such as sales and service tax locally and on imports.
The full range of taxes that will be considered in transactions involving intangibles are income tax, capital gains tax, transfer pricing, withholding taxes, stamp duty, sales and service tax and it could also be included for custom duty valuation if there is an element of embedded royalties on the goods imported.
What is an intangible?
The definition of intangibles for legal, accounting, income tax, transfer pricing, sales tax and service tax purposes can be different which create issues for taxpayers. A good example would be the definitions of intangibles for tax purposes and accounting purposes.
For accounting purposes, an intangible is recognised only when it meets specific recognition criteria and provides future economic benefits to the entity. However, for tax purposes, an item may still be considered an intangible even if it does not appear on the balance sheet, which can lead to mismatches in reporting and tax treatment.
There is no definition of an intangible in the Income Tax Act. You can seek guidance from the Malaysian TP Rules 2023 which defines an intangible to be an asset which is neither a physical asset nor a financial asset but such asset is capable of being owned or controlled for use in commercial purposes, whose use or transfer would be compensated in a transaction between independent persons, which includes patent, invention, formula, process, design, model, plan, trade secret, know-how or marketing intangible which includes trade names, customer lists, customer relationships and customer data.
Where are the tax issues?
There are two categories of taxpayer – owners of the intangibles and users of the intangibles.
The owner needs to develop the intangibles such as software, patents, copyrights, etc. At the point where the expenditure is incurred, the issue will be whether the expenses are deductible or when it is capitalised, can capital allowance be claimed?
As the law stands, when you develop your own intangibles, you cannot claim capital allowances. If it is not capitalised, such expenditure such expenditure can be claimed if it is revenue in nature or it can be claimed as R&D expenditure. If the R&D is approved by the IRB, you will be entitled to double deduction.
In the course of building the intangible there will be agreements executed in Malaysia that will attract stamp duty and service tax where purchases will be subject to service tax and imported service tax. Any goods or machinery purchased for R&D will attract sales tax and possible customs duty on importation and local purchases from licensed manufacturers.
When the intangible is available for use, the income stream from licensing the intangible will be taxable and in the event it is received from overseas, it may be subject to foreign withholding taxes and value added taxes. If you are involved in R&D you should explore the opportunity for benefitting from tax incentives.
The second category of taxpayers pays for the use of intangibles, such as software or digital advertising, and may claim tax deductions on these payments.
However, a key unresolved issue is whether payments to foreign owners of intangibles are subject to withholding tax under the royalty provisions.
While the Inland Revenue Board’s position is that withholding tax applies, some tax specialists disagree, citing differing interpretations of double tax agreements and case law. This remains an unfinished story until the Malaysian courts provide clarity.
This article is contributed by Thannees Tax Consulting Services Sdn Bhd managing director SM Thanneermalai (www.thannees.com).
