FAQs on matters arising from Section 140A(3C) of the Income Act 1967

On 18 January 2024, the Inland Revenue Board of Malaysia (“IRB”) released FAQs pertaining to the imposition of surcharge on Transfer Pricing (”TP”) adjustments made under Section 140A(3C) of the Income Tax Act 1967 (“ITA”) which results in an increase in income or a reduction of any deduction or loss.

The key points discussed in the FAQ are as follows:

Rationale for imposing a surcharge on loss cases/tax exempt cases

When any taxpayer does not comply with the arm’s length principle, a surcharge will be imposed on that adjustment regardless of whether the taxpayer is in a loss position or a tax-exempt company.

This is to ensure equal tax treatment for all taxpayers that fail to comply with the arm’s length principle regardless whether the TP adjustment made will result in an assessment/ additional assessment or not. Additionally, this is also to encourage compliance with TP legal framework after more than 10 years of its introduction in Malaysia.

Implementation of surcharge

The surcharge will only be applicable for TP audit cases that commence on or after 1 January 2021 regardless of Year of Assessments (“YAs”) covered in those audit exercises.

For audit cases that have been initiated prior to 1 January 2021, imposition of surcharge will not be applicable, even if the audit exercise is concluded after 1 January 2021. However, if that audit resulted in a tax undercharge, the penalty under subsection 113(2) of the ITA will still apply.

Mutual exclusivity: Surcharge under subsection 140A(3C) vs Penalty under subsection 113 (2) of the ITA

The IRB confirms that the surcharge is mutually exclusive with the penalty under subsection 113(2) of the ITA. Therefore, the IRB will only impose a surcharge on any TP adjustments made under Section 140A(3C) of the ITA.

Applicability of surcharge under subsection 140A(3C) to companies with tax incentives

A surcharge is imposed on the TP adjustment and not on the tax undercharge. As long as the audit findings warrant a TP adjustment, it doesn’t matter if the company has been approved for a full tax exemption or a partial tax exemption. Therefore, even companies with tax incentives are exposed to the surcharge if there is any TP adjustment.

Rights of appeal

Taxpayers who are aggrieved with the surcharge imposed can appeal to the Director General (“DG”) for a reduction. Subsection 124(3) of the ITA has given power to the DG to abate or remit any surcharge imposed on a case-by-case basis, provided that the taxpayers have submitted reasonable justification on the appeal.

Since the appeal processes under Section 99 of the ITA are not applicable to surcharges, the taxpayer may make a written appeal application with justification to the IRB offices handling their tax file.

Factors in determining the surcharge rate

The general rate to be applied in imposing the surcharge is 5 % on the TP adjustment made under Section 140A of the ITA. There will be no scale available as a reference. However, a lower surcharge rate will be offered for voluntary disclosure cases. Further details will be incorporated in the amended Transfer Pricing Audit Framework (“TPAF”).

The surcharge rate is imposed on the amount of the TP adjustment. If there is any adjustment to be made under the Mutual Agreement Procedure (“MAP”), the amount of the surcharge for that case will also be adjusted.

Effective 1 January 2021, any audit conducted by the IRB branches that resulted in a TP adjustment will be subject to a surcharge of not more than 5 %. All the IRB branches should follow the processes and procedures as determined under the Malaysia Transfer Pricing Guidelines and TPAF.