ARE independent directors’ employees of the company, or are they consultants providing services to the company?
The treatment for e-invoicing, service tax and income tax will be dependent on the answer to this question. At the moment, the treatments adopted for e-invoicing, service tax and income tax do not seem to be aligned.
The common thread running across the treatment of e-invoicing, service tax and income tax is whether the independent director is an employee or a consultant. This will be based on whether the director has entered into a contract of service or a contract for service with the company.
There is no definition of either of the terms in the literature surrounding the above matter. The general understanding from case laws is that contract of service denotes that there is an employee-employer relationship, while a contract for service is for a consultant carrying on his profession or business.
For e-invoicing purposes and service tax purposes, an independent director will be engaged under a contract for service since he will be providing independent views and expert opinion to the board of directors. Effectively, he is earning income as a consultant – therefore it is treated as business income. If this line of thinking is adopted for income tax, and in particular, the monthly deduction of tax (MTD), the independent director should not be subject to any MTD as he is not an employee of the company.
What is happening in practice?
In majority of the cases, companies are applying MTD to director fees and allowances received by independent directors. This is incorrect because independent directors are not employees receiving remuneration from companies for exercising employment. The correct approach should be for the Inland Revenue Board (IRB) to collect advance taxes through the bimonthly deduction mechanism using the CP500 approach instead of deduction through MTD.
Independent directors who have a contract for services with companies should file their tax returns using Form B which is meant for individuals carrying on a business, and the filing deadline for such forms is June 30 every year, but the IRB normally grants a grace period up to July 15 to submit Form B.
Directors who have a contract of service are treated as employees, and their income will be subject to MTD, and they need to file a Form BE by April 30 every year, but there is a grace period of up to May 15.
Independent directors whose income exceeds RM500,000 annually need to issue e-invoices to the companies they serve for their director fees and allowances. They will also need to register for service tax and impose a service tax of 8% on their services provided.
Deciding when the RM500,000 threshold is exceeded is based on reviewing your past 12 months and based on your forecast for the next 12 months. The time at which you register is not based on any tax year, but it is based on a 12-month “rolling basis”.
For e-invoicing purposes, the threshold of exemption has recently increased to RM500,000. This threshold is calculated based on the calendar year. The 2022 revenues are used as a starting point to decide whether the independent director should issue e-invoices. However, if the independent director in the subsequent years exceeds the RM500,000 threshold, then, depending on the level of income, e-invoicing has to commence. If, for example, the income from director fees is more than RM500,000 but less than RM1 million in calendar year 2025, it appears that you need to commence e-invoicing from July 1, 2026.
If you are still in doubt, it is best to seek a written view or a confirmation from the IRB and the Royal Malaysian Customs Department to avoid any future disputes with both authorities.
This article is contributed by Thannees Tax Consulting Services Sdn Bhd managing director SM Thanneermalai (www.thannees.com).
